What Is A Fund Of Funds? Should You Invest In It?
A fund of funds, which is also known as a multi-manager investment, is an investment fund pool that helps an individual invest in different types of funds. In simpler words, the portfolio of a fund of funds includes the multiple underlying portfolios of different other funds. These holdings may replace any investing directly in stocks, bonds, and other kinds of securities.
Fund of funds generally invest in other hedge funds or mutual funds. They are generally known as “fettered”. This means they would only be able to invest in funds that are managed by the managing company of the fund of funds. There is another type of FOF, which is the “unfettered,” which means they are able to invest in funds across the markets.
In this article, we shall uncover all of the details about fund of funds and figure out if they are worthy enough as an investment option.
So, let us get started!
Key takeaways
- A fund of funds is a fund pool that invests in different other funds.
- Fund of funds generally invest in other mutual or hedge funds.
- The strategy for the fund of funds looks forward to achieving a wide diversification at minimal risk.
- Fund of funds have a higher expense ratio in comparison to the regular mutual funds.
How Does A Fund Of Funds Work?
The FoF strategy focuses on wide diversification and an appropriate asset allocation with the investments in a number of funding categories. All these categories fall under one portfolio.
There are multiple FOFs, and each of the types acts on a different investing scheme. A fund of funds may have the structure of a mutual fund, a private equity fund, a hedge fund, or an investment trust.
A fund of funds can either be fettered. This means it may only be able to invest in those funds that the investment company manages. On the other hand, you get the unfettered fund of funds. This is where you may be able to invest in those funds as well, which are managed by other companies.
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Types Of Fund Of Funds
There are different types of fund of funds. The differentiation of these types depends on the investment objective of the funds.
Here are the different fund of funds that you may want to invest your money in:
Multi Asset Or Asset Allocator Funds
The multi asset or the asset allocator funds allow the investor to invest in various assets like debt, equities, and other commodities like gold.
These fund of funds would invest in different other funds to be able to diversify their portfolio across various classes of assets. For instance, a fund of funds may invest in only one mutual fund plan, which invests in stocks, one debt fund, which invests in bonds, and another scheme for gold funds.
This is a strategy that aims to offer exposure to a wide variety of asset classes. This may include bonds, stocks, gold, and certain other commodities.
International Fund Of Funds
This is the type of FoF that invests in International Funds, which goes on to invest in the global companies. Therefore, you may see that the investors in these types of funds can get an indirect exposure to the big international companies without going ahead with the whole process of opening a trading account with a broker overseas.
ETF Based FoFs
FOFs that are based on ETFs only invest in the Exchange Traded Funds, a bucket of investment instruments that replicate a wider market index. The movement of the benchmark index would help us understand the sentiment of the overall market. It is also a crucial barometer of the overall sentiment of the market.
Gold FoFs
Investors may buy units of gold ETFs to be able to invest in gold. These kinds of gold ETFs would invest only in gold with a purity of 99.5%. However, there are certain investors who may not be able to invest in gold ETFs as they do not own a trading account. This is where the gold FOFs comes into the play. Gold FOFs would mean that you are investing in a gold ETF.
Advantages Of Fund Of Funds
Generally, FOFs would attract the smaller investors who just need to get a better exposure and lesser risk in comparison to straightaway investing in securities. This may also happen with the individual funds.
When you invest in a fund of funds, it presents the investor with professional wealth management expertise and services.
Investing in a FOFs also provides the investors with limited capital to be able to tap into the diverse portfolios that have multiple underlying assets. Most of these are usually out of reach for any average investor. For instance, a hedge fund would generally require you to invest a six figure amount. It would also need the investors to have a nominal net worth.
Most of the FOFs would need a formal due diligence process for the fund managers. This has to happen for both the types of FoFs. The backgrounds of the applying managers would be checked. This is to make sure that the background of the portfolio manager and all their credentials are within the securities industry.
Disadvantages Of Funds Of Funds
Though the FOFs offers less exposure and diversification to market volatility, these returns may get lessened by the investment fees that are generally higher in comparison to a traditional investment fund. The higher fees originate from the compounding fees over the fees.
Like most of the mutual funds, FoF holds a yearly operating ratio, which is known as the expense ratio. There is also the involvement of operating costs and management costs.
However, the investors of the FOFs generally pay double as the underlying funds within the FOFs all come with yearly fees and costs.
In the previous days, the prospectuses of FoFs did not always include a fee for the underlying funds.
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The Bottom Line
So, if you are a rookie investor, FOFs is something that you may surely consider. It is a pool of funds that helps you invest in multiple funds, which may as well be beneficial for you.
FOFs would provide you with the access to a particular class of assets, like international companies, that may otherwise become difficult for investors to invest with the regular funding schemes.
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