NISM Series XXI-B · Chapter 6: Mutual Funds

L1 · Foundation

Mutual Funds — the ground floor

What a mutual fund is and why people use one, the trust structure and who does what, how an AMC is organised, scheme types including interval funds and the new Specialized Investment Fund, how investing works, and what a factsheet tells you.

14 min read · Worth 3% of the paper · Written from pages 110–123 of the official NISM workbook · Updated 18 September 2026

A vehicle, not a competitor

A mutual fund is a vehicle, in the form of a trust, that collects money from investors and invests it in line with a stated investment objective. Through it, an investor gets access to equities, bonds, money market instruments and other securities, plus professional fund management by an asset management company.

People often think a mutual fund competes with shares, debentures and bonds. The workbook says the opposite: a scheme is channelising investors' money into those traditional instruments.

Each separate pool of money is a scheme. Every scheme has a pre-announced investment objective, and that objective decides its investment universe.

Profits and losses belong to the investors (unitholders). No other entity involved — sponsor, trustee, AMC, custodian — shares in them. They are all paid a fee or commission for their services.

Why invest through a mutual fund

Beyond research and security selection, a fund also handles the administration — collecting interest and dividends, following up on rights issues and buybacks. It publishes NAV daily, which means the whole portfolio is accounted for every day.

Benefit	What the workbook says
Affordable diversification	Proportionate ownership of a diversified portfolio even for ₹500 — "all the eggs are not in the same basket"
Economies of scale	Pooling pays for professional managers; research and office costs are shared; bigger volumes get better terms from brokers and bankers
Transparency	Three sources: scheme documents (SID, SAI, KIM), portfolio disclosures, and NAV — available even to prospective investors
Tax benefits	ELSS gives a deduction of the amount invested, up to ₹1,50,000 in a financial year
Convenient options	Partial withdrawals, additional investments, options to suit liquidity and tax needs
Regulatory comfort	SEBI mandates strict checks and balances

The workbook says the diversification a fund offers is "neither economically viable nor achievable" for an individual, yet available through an investment of less than a thousand rupees.

The legal structure

SEBI (Mutual Fund) Regulations, 1996 define a mutual fund as "a fund established in the form of a trust to raise monies through the sale of units to the public or a section of the public under one or more schemes for investing in securities, money market instruments, gold or gold-related instruments, silver or silver related instruments, real estate assets and such other assets and instruments as specified by SEBI". The firm must set up a separate AMC to run the business.

Who does what:

Entity	Role
Sponsor	Creates the trust; the main person behind the business
Trust	Governed by the Indian Trusts Act, 1882; beneficiaries are the investors
Trust Deed	Executed between sponsors and trustees; SEBI lays down clauses it must contain
Trustees	Protect investors' interests; can be individuals (a Board of Trustees) or a trustee company (acting through its Board of Directors)
AMC	Day-to-day management; appointed by the sponsor or trustees (if authorised by the trust deed), with SEBI approval
Investment management agreement	Executed by trustees with the AMC
Custodian	Holds the scheme's assets; appointed by the trustees
RTA	Keeps investor records — or the AMC may do this itself

Inside an AMC

Compliance. The compliance officer ensures all legal compliance and signs a due-diligence certificate in new scheme documents confirming regulations are complied with and intermediaries are registered. For independence, the compliance officer reports directly to the head of the AMC, works closely with the trustees, and must report any non-compliance directly and immediately to the trustees.

Fund management is the most critical function. Three sub-teams:

Analysts identify opportunities — securities, sectors, markets, the economy, credit, interest rates.
Fund managers evaluate those opportunities and are responsible for scheme performance.
Dealers place orders with brokers on fund managers' instructions.

Operations and customer service includes:

Front office and back office customer service teams (plus call centres and chat bots at many AMCs).
The RTA, a big part of this unit — maintains records, allots and redeems units, processes transactions and dividends, and generates account statements.
Custody team — works with the custodian to settle transactions.
Fund accounting — keeps each scheme's books and calculates NAV daily.
Cash management — links banks and fund managers so purchase money gets invested and redemption money gets paid.

Sales and marketing handles branding, advertising, events, distribution and distributor relationships and training.

Other functions: Accounts (the AMC's own finances — different from fund accounting), Administration (often reports to finance), HR, and Technology.

Types of schemes

By objective: growth funds, income funds, liquid funds.

By structure:

	Open-ended	Close-ended	Interval
Buy from fund	Any time after NFO	Only during NFO	During transaction periods
Sell back to fund	Any time	Only at maturity	During transaction periods
Maturity	None	Fixed	Largely close-ended
Listing	Not stated as compulsory	Compulsory	Compulsory

Interval funds become open-ended at pre-set intervals — the workbook's example is January 1 to 15 and July 1 to 15 each year. The open windows are transaction periods; the gaps between them are interval periods. The workbook states: minimum transaction period 2 days, and "maximum duration of interval period is 15 days". No redemption is allowed outside transaction periods.

By management:

Active funds — the manager chooses the portfolio within the objective. Higher expenses. Investors expect them to beat the market.
Passive funds (index schemes) — copy a specified index in the same proportions. Not designed to beat the market. The manager has no role in choosing investments, so running costs are low.

By investment universe: equity, fixed income, money market, gold, international — narrowing further to large-cap, mid-cap, government securities funds, corporate debt funds and so on.

Specialized Investment Fund (SIF)

A new product line under the Mutual Fund Regulations, introduced by the SEBI (Mutual Funds) (Third Amendment) Regulations, 2024, effective December 16, 2024. Minimum investment: ₹10 lakh across all investment strategies. It sits between mutual funds and PMS, to allow more flexibility in investment style.

How investing works

Who can invest: resident individuals, NRIs, PIOs, foreign nationals, institutions and trusts — all after KYC.

PAN is mandatory. The only exception: an individual whose investments (lump sum or SIP) do not exceed ₹50,000 per annum per mutual fund.

NFO. Units are first offered in a New Fund Offer, which the workbook says is open for 15 days. Payment only through approved modes — cheque, NEFT, RTGS, ASBA and similar. After the NFO, an open-ended fund sells units through a continuous offer at NAV-based prices declared every business day.

Stock exchange channel. Close-ended units are mandatorily listed. Purchase and redemption of both close-ended and open-ended schemes can be done through the exchange, but units must be in demat form.

Redemption. Open-ended: any time at applicable NAV. Close-ended: with the fund only at maturity, or sell on the exchange.

Systematic transactions: SIP (purchases), SWP (withdrawals), STP (transfers between schemes). You specify type, period, periodicity, day, and amount.

Regulation in brief

SEBI is the primary regulator; only entities registered under the 1996 Regulations can run a mutual fund. Key features:

Fund is a trust; investor money is not on the AMC's balance sheet.
Regulations define the track record and capital of AMC promoters and the roles of trustees and AMC.
No scheme to the public without approval of the trustees and SEBI.
Portfolios must follow the objective, be diversified, and respect investment limits; valuation and accounting follow SEBI rules.
Expenses and their limits are regulated.
Periodic reporting to investors — e.g., equity fund returns shown with benchmark returns.
AMC reports to SEBI, trustees and the AMC board.

The factsheet

The monthly factsheet is widely used, but it is not a regulatory requirement — AMCs publish it voluntarily. Because it is a marketing and information document, SEBI disclosure rules still apply.

It shows inception date, AUM, NAV, benchmark, style, performance versus benchmark over different periods, SIP returns, sector and security allocation (some show only the top 10 holdings), derivative exposure, and for debt funds the rating profile. Portfolio measures: PE ratio, beta, standard deviation, Sharpe ratio (equity) and credit rating profile, average maturity, duration (debt). Plus minimum investment, plans and options, loads and expenses, and systematic facilities.

NAV, pricing and expenses

NAV = (market value of securities + income earned − expenses) ÷ units outstanding. It is declared every day.

Pricing: open-ended transactions are priced at NAV to keep parity between investors entering, staying and leaving. Close-ended units trade on the exchange at prices set by demand and supply, influenced by NAV.

Total expense ratio: all expenses must be identified and appropriated to schemes. The most important expense is the investment and advisory fee paid to the AMC.

What drives performance

The portfolio is the main driver. Equity funds: market risk, sector risk and company risk. Debt funds: interest rate risk and credit risk. Return is driven by the underlying risk.

Advertising performance (SEBI guidelines):

Scheme in existence more than three years: CAGR for 1, 3 and 5 years and since inception, with benchmarks, plus point-to-point returns on a standard ₹10,000 investment.
Money market / cash / liquid schemes: simple annualisation of yields, if performance is available for at least 7 days, 15 days and 30 days — and not misleading.

Risk is measured by variance, standard deviation, beta and tracking error. Factsheets also show the Sharpe ratio, Treynor ratio, Information ratio, Alpha, and tracking error (for index funds).

Think of it like this

The housing society water tank

Fifty flats cannot each afford a borewell, a pump and a plumber. So the society builds one tank, hires one operator, and every flat gets water in proportion to its share of the cost.

That is economies of scale and affordable diversification. Each flat owner gets professional service they could never pay for alone. And notice who owns the water — the residents, not the operator. The operator gets a fixed fee. Likewise in a mutual fund, profits and losses belong only to unitholders; the AMC and everyone else just earn fees.

The temple trust and the hired manager

A family sets up a temple trust (the sponsor). Respected elders are named as trustees to protect the devotees' interest. The trustees hire a professional manager to run daily affairs (the AMC), under a written agreement. But the temple jewellery sits in a bank locker controlled by someone the trustees appoint — not with the manager (the custodian).

The devotees are the beneficiaries. The manager runs things but cannot walk off with the gold. That split — manager separate from keeper, both answerable to trustees — is the mutual fund structure.

The Sunday market versus the ticket counter

An open-ended fund is like a ticket counter that never closes: walk up any day, buy or return a ticket at the fixed rate (NAV).

A close-ended fund is like a concert with advance booking only. Once booking closes, the counter shuts until the event ends. If you need to get out early, you must find someone at the gate willing to buy your ticket — that is the stock exchange, and the price depends on demand, not on face value.

An interval fund is a counter that opens for a few days twice a year. Between those windows, the gate buyers are your only option — which is why its units must also be listed.

Following the recipe card

A cook in a restaurant chain that sells "standard thali" must follow the recipe card exactly — same ingredients, same proportions. Nobody pays a star chef for that, so it is cheap to run.

A speciality restaurant hires a chef who chooses the menu each day. Diners pay more and expect something better than the standard thali.

An index fund follows the recipe card — the index. It is not designed to beat the market, and costs are low. An active fund pays for the chef, charges more, and investors expect it to beat the market.

Key terms in this chapter

Asset Management Company (AMC): The company that handles day-to-day management of the schemes; appointed by the sponsor or authorised trustees with SEBI approval.
Close-ended fund: A scheme with a fixed maturity, where units can be bought from the fund only during the NFO and must be listed on a stock exchange.
Continuous offer: Sale of units on an ongoing basis by an open-ended fund after the NFO, at NAV-based prices.
Custodian: The entity, appointed by the trustees, that holds the scheme's assets.
Due-diligence certificate: A certificate signed by the AMC compliance officer in new scheme documents confirming regulations are complied with and intermediaries are registered.
ELSS: Equity Linked Savings Scheme — a scheme whose investment qualifies for a deduction from taxable income.
Fund factsheet: A monthly document published voluntarily by AMCs with scheme details, performance, portfolio and risk measures; SEBI disclosure rules apply to it.
Index scheme (passive fund): A fund that copies a specified index in the same proportions; low cost and not designed to beat the market.
Interval fund: A largely close-ended scheme that becomes open-ended during pre-specified transaction periods; its units must be listed.
Mutual fund: A fund established as a trust to raise money through the sale of units under one or more schemes and invest it as per stated objectives.
Net Asset Value (NAV): Net assets of a scheme (market value of securities plus income, minus expenses) divided by units outstanding; declared daily.
New Fund Offer (NFO): The initial offer of a scheme's units at launch.
Open-ended fund: A scheme open for purchase and redemption on a continuing basis after the NFO, with no fixed maturity.
Registrar and Transfer Agent (RTA): The agency that maintains investor records, processes transactions and generates account statements.
Scheme: A separate pool of money within a mutual fund with its own pre-announced investment objective.
Specialized Investment Fund (SIF): A product line under the Mutual Fund Regulations, positioned between mutual funds and PMS, with a minimum investment of ₹10 lakh.
Sponsor: The person or entity that creates the mutual fund trust — the main person behind the mutual fund business.
Systematic Investment Plan (SIP): A facility for automated periodic purchases; SWP automates withdrawals and STP automates transfers between schemes.
Total expense ratio: The expenses appropriated to a scheme, of which the investment and advisory fee charged by the AMC is the most important.
Transaction period: The window in which an interval fund accepts subscriptions and redemptions; minimum 2 days as per the workbook.
Trust deed: The document governing the mutual fund trust, executed between the sponsors and the trustees.
Trustees: Individuals (Board of Trustees) or a trustee company who protect unitholders' interests, appoint the custodian and sign the investment management agreement with the AMC.
Unitholder: An investor in a mutual fund scheme, whose holding is represented by units; unitholders alone share the scheme's profits and losses.

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Original explanatory writing based on the official NISM workbook for Series XXI-B, which is published and copyrighted by NISM. Check figures against the current edition at nism.ac.in.

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