A Fund of Funds (FoF) is a pool of funds brought together to invest in other funds, generally mutual and hedge funds, rather than directly investing in securities. In simpler terms, FOF is a mutual fund scheme that invests in other mutual funds. This has multiple benefits and is most suited to risk-averse investors with small capital.
Let us take a look at some of their key features:
Attractive and beneficial for small investors with lower capital
FoFs particularly attract investors with small capital willing to invest for a long term. Investing in FoF also gives the investor exposure to professionally managed portfolios handled by ‘Fund managers.’
However, an important point to note is that FoFs have a substantially higher expense ratio than typical mutual fund investments. This is because FoFs have their own expense ratio on top of the expense of further investing in an asset.
Diversification and Minimal risk
FoF has the benefit of achieving greater diversification with limited funds since the money is invested in multiple assets. This reduces the investor’s exposure to risk but at the same time, this can also potentially reduce the returns from investments.
Taxation feature
It is considered a non-equity fund and is therefore taxed. For investments held for a time period of fewer than 36 months (Short term capital gain), returns are added to the taxable income of the investors. Long-term capital gains (more than 36 months) are taxed 20% with benefits of indexation.
How to invest?
An individual can invest both online, by registering on the site of an FoF platform. Alternatively, one can also register offline by visiting the branch of a fund house that offers this service.
There are various types of FoF based on investment and financial goals. These include Gold funds, international funds, ETF funds among many others. It is recommended to meticulously go through the terms and conditions of all the securities involved before investing to efficiently achieve financial objectives.