Fund Of Funds (FoF): Meaning, Benefits, And How To Invest
Introduction: What Is A Fund of Funds (FoF)?
A Fund of Funds (FoF) is a type of mutual fund that does not invest directly in stocks, bonds, or market instruments. Instead, it allocates your money into a portfolio of other mutual funds, creating a multi-layered, diversified investment strategy.
Unlike regular mutual funds, which invest in a mix of equities, debt, or hybrid assets, FoFs spread your capital across multiple mutual funds, each already diversified. This double diversification can help manage risk more effectively while offering exposure to different fund strategies.
Think of it as hiring a fund manager who, in turn, selects a team of expert managers. More brains, more strategies, potentially better outcomes. For investors looking for broad market exposure, low effort diversification, and professional fund selection, FoFs offer an attractive route.
Types Of Fund Of Funds In India
Not every FoF operates according to the same set of rules. Depending on where and how they invest, they are categorised into four broad categories:
1. Domestic FoFs: They follow Indian mutual funds. Your money remains in the country, divided between equity, debt, or hybrid schemes managed by Indian fund houses. It is a default option if you want to diversify within known markets.
2. International FoFs: It is suitable if you want international exposure without the hassle of doing it yourself. Global FoFs put money into international mutual funds. They provide access to global brands, technology giants, and overseas markets, all via a domestic platform.
3. ETF-based FoFs: These invest in Exchange Traded Funds (ETFs). They are suitable if you like a passive, low-cost strategy. Rather than tracking a single index, your investment gets split across several ETFs, providing diversity with simplicity.
4. Asset Allocation FoFs: These FoFs maintain a balance of asset allocation. Depending on market conditions, these FoFs divide your money between equity, debt, gold, or other investments. The fund manager varies the proportion, so you do not have to.
Different types serve different purposes. What suits one investor may not suit another. The idea is to know your objective first. The inherent aspect of FoF is to provide diversification and take advantage of the expertise of different fund managers.
Advantages Of Investing In FoFs
FoFs provide more than convenience1. In essence, FoFs deliver diversification, international scope, and expert management all in one package. Some of the benefits of investing in FoFs are:
1. Built-in Diversification
FoFs invest several funds of different classes. The investments are frequently distributed across asset classes, such as equity, debt, gold, and so on. This layered diversification protects you from market fluctuations. If one fund declines, another could stay stable. This allows you to earn better returns.
2. Simple Global Access
Investing globally is complicated, but FoFs make it easy. With one investment, you can access US technology stocks, European giants, or Asian markets without dealing with forex, tax regulations, or foreign accounts. Moreover, professional fund managers make the choice for you. So, you can invest in foreign markets even if you have no knowledge of them.
3. Expertly Managed
You are not putting your trust in one fund manager. With a FoF, you are getting several layers of professional judgment. The chief manager selects funds. Each fund is managed by its own specialist. More brains, more planning, less trouble for you.
Risks And Limitations Of Funds Of Funds
FoFs are not perfect mutual funds. They provide comfort and protection, but with compromises you must be aware of.
1. Double Expense Ratio
You incur the cost of two layers of management in one go at the FoF level, and then again according to the underlying fund. These fees come out of your returns over time. It may not appear significant at the beginning, but they accumulate, particularly in long-term investing2.
2. Less Transparency
Tracking where your money actually goes can be tricky. You are investing in a fund that invests in other funds. That extra layer makes it harder to see the full picture of what is inside each underlying fund, how it's performing, or how often the mix changes.
Though these problems do not necessarily make FoFs undesirable, they do mean you'll have to consider the advantages versus the price tag. Choosing the right investment is not all about returns; it is also about understanding what you are getting yourself into.
How To Invest In Fund Of Funds In India
FoFs are simple. Just like the way you invest in any other mutual fund, you can invest in an FoF. The steps are3:
1. Select the Best Platform: You can invest through any of the available mutual fund websites, online brokers, or fintech apps. Most platforms allow you to compare FoFs side-by-side based on returns, expense ratios, and risk levels in one view.
2. Select a FoF Matching Your Goal: Desire international exposure? Opt for an international FoF. Need low expenses? Opt for ETF-based ones. Not sure? Find asset allocation FoFs that reallocate according to market circumstances.
3. Begin with SIP or Lump Sum: You may invest a fixed amount periodically (SIP) or invest once. SIPs build discipline and smooth market fluctuations.
4. Monitor and Review Periodically: FoFs must also be monitored. Watch what the underlying funds are doing. If something changes or you want to alter your goals, you can change them.
Like any other investment option, choose FoFs that match your requirements. Make sure that the FoF invests in varied funds with diverse portfolios. Some FoFs may invest in similar mutual funds that limit diversification.
Conclusion
Fund of Funds offer a smart, hands-off approach to diversification, ideal for investors who want broad exposure without the hassle of managing multiple mutual funds. Whether you are eyeing global markets, thematic strategies, or professional fund management, FoFs provide access with built-in expertise. But like any investment, understanding the structure, costs, and risks is key to making it work for your goals.
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FAQs On Funds Of Funds
1. What are the tax implications of investing in Fund of Funds in India?
FoFs (both domestic and international) are taxed like debt mutual funds in India:
- Short-Term Capital Gains (STCG): If held for less than 3 years, gains are added to your income and taxed as per your slab.
- Long-Term Capital Gains (LTCG): If held for over 3 years, taxed at 20% with indexation benefit.
2. Can NRIs invest in Fund of Funds in India?
Yes, NRIs can invest in most Fund of Funds in India, subject to KYC compliance and FEMA regulations. However, NRIs from the US and Canada may face restrictions due to compliance requirements, so always check with the AMC.
3. How are FoFs taxed differently from equity and debt mutual funds?
Even if a Fund of Funds invests only in equity mutual funds, it is not taxed like an equity fund.
FoFs are taxed as debt funds, regardless of the underlying holdings, meaning higher taxation for short-term gains and 20% with indexation for long-term gains.
4. Is it safe to invest in Fund of Funds?
Yes, FoFs are generally considered safe from a diversification standpoint, as they spread risk across multiple funds. However, risks like double expense ratio, market volatility, and underlying fund performance still apply. Choose based on your goals and risk appetite.
References:
1. Groww, accessed from: https://groww.in/mutual-funds/other-schemes/fund-of-funds
2. Mirae asset, accessed from: https://www.miraeassetmf.co.in/knowledge-center/fund-of-funds_bkup
3. 5 Paisa, accessed from: https://www.5paisa.com/stock-market-guide/mutual-funds/guide-to-invest-in-fund-of-funds#Stock5
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