MUTUAL FUNDS - RISK AND RETURN PERSPECTIVES

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MUTUAL FUNDS RISK AND RETURN PERSPECTIVES (PAKISTAN)

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  • 0 MUTUAL FUNDS RI S K AN D RE T U R N PE R S P E C T I V E S B A S I C R E S E A R C H Instructor DR. SHABIB HAIDER Prepared By: MUSTANSIR SHABBAR ROLL NO. 072264 MPA PREVIOUS FINAL (FINANCE) JANUARY JUNE 2009 DEPARTMENT OF PUBLIC ADMINISTRATION UNIVERSITY OF KARACHI
  • 1 TABLE OF CONTENTS ACKNOWLEDGEMENT..3 CHAPTER I BACKGROUND OF STUDY..4 INTRODUCTION ....................................................................................................... 5 OBJECTIVE ............................................................................................................. 6 SIGNIFICANCE OF THE STUDY................................................................................... 7 SCOPE AND LIMITATIONS ......................................................................................... 7 ASSUMPTIONS ........................................................................................................ 8 DELIMITATION ......................................................................................................... 8 ChapterIILiteratureReview...9 MUTUAL FUNDS AS AN ECONOMIC MOBILIZER ......................................................... 10 MUTUAL FUNDS DISCLAIMER...................................................................................................11 MUTUAL FUNDS CHARACTERISTICS.........................................................................................11 ADVANTAGES AND DISADVANTAGES........................................................................................12 MUTUAL FUNDS CATEGORIES..................................................................................................14 MUTUAL FUNDS FOR HOUSEHOLD INDIVIDUALS.....................................................................16 MUTUAL FUNDS FOR INSTITUTIONS.........................................................................................17 MUTUAL FUNDS IN PAKISTAN ................................................................................. 17 MUTUAL FUNDS YIELD..............................................................................................................19 MUTUAL FUNDS GROWTH AND INCENTIVES............................................................................20 UNDERSTANDING MUTUAL FUNDS RISK .................................................................. 22 RISK CATEGORIES.....................................................................................................................23 KEY STATISTICS FOR SCREENING MUTUAL FUNDS....25 A. MUTUAL FUNDS RETURNS ................................................................................. 26 1. ABSOLUTE RETURNS........................................................................................................26 2. ANNUALIZED RETURNS.....................................................................................................26 3. MONTHLY RETURNS..........................................................................................................27 4. ANNUAL / YEARLY RETURNS............................................................................................28
  • 2 5. PAYOUT OR DISTRIBUTION...............................................................................................29 B. MUTUAL FUNDS RISK ........................................................................................ 29 1. DURATION..........................................................................................................................30 2. STANDARD DEVIATION:.....................................................................................................32 3. ACTIVE RETURN OR ALPHA..............................................................................................33 4. BETA..................................................................................................................................35 5. R-SQUARED.......................................................................................................................36 C. MUTUAL FUNDS PERFORMANCE......................................................................... 37 1. RISK-ADJUSTED RETURN RAR.....................................................................................38 2. COEFFICIENT OF VARIATION CV...................................................................................40 3. SHARPE RATIO..................................................................................................................41 4. TREYNOR RATIO................................................................................................................42 5. JENSENS ALPHA...............................................................................................................44 6. INFORMATION RATIO IR.................................................................................................45 D. NON-QUANTITATIVE RISK ASSESSMENTS ........................................................... 47 1. SELF-ASSESSMENT OF RISK............................................................................................47 2. RISK MANAGEMENT PROCEDURES..................................................................................47 ChapterIIISummary...49 CONCLUSION........................................................................................................ 50 RECOMMENDATIONS ............................................................................................. 52 BIBLIOGRAPHY ..................................................................................................... 54 ABBREVIATIONS ................................................................................................... 57 APPENDICES ........................................................................................................ 59
  • 3 ACKNOWLEDGEMENT I thank to the Almighty Allah for giving me strength, courage, patience and inspiration to complete this Research Report. I am also very sincerely grateful for the efforts of those who have contributed to the successful completion of this piece of work. I am especially thankful to my course coordinator Dr. Shabib Haider for his guidance, help, advice and encouragement that led to the successful completion of this report. I am also very much thankful to my company Dawood Capital Management Limited and its executives and colleagues for their precious time given to me for discussion and research materials provided to me. On the basis of the contributions to this report, it is necessary to list the names of persons who have provided me guidance in completion of this report. I am very much thankful to: 1. Mr. Jamal Tariq, Assistant Manager Research, Alfalah Securities Limited, Mutual Funds Distribution Section. 2. Mr. Adeel Durrani, Mutual Funds Research Analyst, Atlas Capital Markets (Pvt.) Limited. Last but not least, I must appreciate the efforts of all respondents including employees of MUFAP, Asset Management Companies, Research Firms and Investment Facilitators who have supported me in my research. Mustansir Shabbar MPA Previous Final Finance July 2007 June 2009 Evening Program
  • 4 CHAPTER I BACKGROUND OF STUDY
  • 5 INTRODUCTION A mutual fund is a collective investment scheme, which specializes in investing a pool of money collected from many investors for the purpose of investing in securities such as stocks, bonds, money market instruments and similar assets. It is indirect mode of investing. There are two types of mutual funds by structure, open end and closed end. In Pakistan mutual fund is constituted as a trust. It has a Trustee, Sponsor, Asset Management Company (AMC), Registrar and Custodian. Fund is established by Sponsors. Trustee holds the property of the fund in its custody for the benefit of the investors and hence acts as a custodian as well. Registrar keeps the data of all the investors either electronically or on paper. AMC is approved by Securities and Exchange Commission of Pakistan (SECP) being a regulator and all investment will be done in a fund according to the guidelines provided by the SECP. Mutual funds are the most popular method of indirect investing around the globe. Mutual funds have a vital role in the economy of the county. Globally it is considered as a great booster in the capital formation of any country. The history of mutual fund probably began in 1924 when the very first mutual fund was created by three Boston securities executives when they pooled their money together to form Massachusetts Investor Trust. Today in the US there are over 10,000 mutual funds available. These mutual funds are collectively worth more than 10 trillion dollars divided by 93 million investors. Almost every individual in US invests in the mutual funds to utilize his/her idle money to generate healthy returns according to his/her risk appetite. Almost every commercial bank in the western countries provide their account holders to invest in the mutual funds through their accounts in the form of IRAs (Individual Retirement Accounts), in fact, every commercial bank owns a some kind of mutual fund to cater the needs their clients. It shows how much popular and useful tool mutual funds are for the economy of the western countries. Mutual funds have a very important role in the economy of Pakistan as well. In Pakistan mutual fund started in 1966 with the establishment of National Investment Trust (NIT). But actual mutual funds gained its popularity after 2003 and now we have about 28 AMCs offering about 120 different kinds of mutual funds (both open and closed end) depending upon the investors