Fund of funds

A fund of funds is a collective investment institution that invests the capital of its participants in various investment funds .

An investment fund can invest directly in financial products such as stocks, bonds, commodities, etc. The funds of funds what they do is, instead of investing directly in those assets, they invest in other investment funds. And those investment funds normally invest in financial assets such as those mentioned above.

Requirements to be fund of funds

For an investment fund to be considered a fund of funds, it is essential that the investment in other funds be a majority. That is, to invest more in other funds than in anything else.

In addition, the law requires that for a fund of this type to be considered as such, you must invest a minimum amount in two different investment funds. Without this investment exceeding 45% of the fund’s initial assets in any of them. If by law, a fund is considered a fund of funds, it will be exempt from the tax penalty of leaving an investment fund.

Advantages of fund funds

Fund funds are created with the intention of optimizing the results. On the one hand, reduce costs. When it comes to reducing costs, it is not only about monetary costs, but about costs in time and effort. It is much easier to analyze the behavior of a fund, than to analyze the evolution of the set of assets that make up its portfolio. On the other hand, increase profits. If time and costs are saved on the one hand, this time can be devoted to in-depth analysis of assets that the manager considers more attractive.

Apart from these two advantages for management, reducing costs and increasing profits, fund funds also have advantages for investors.

  • It allows the investment of individuals in different funds:If we have limited capital, we may not be able to make adequate diversification. For example, we only have 1,000 dollars. And the minimum entrance to the investment funds that we have analyzed is 500 dollars. We can only invest in two funds. However, if the investor hires a fund of funds, the fund will be responsible for carrying out that diversification.
  • Less conflicts of interest:As a general rule, fund funds tend to be more independent than normal investment funds. For example, an investment fund owned by a bank may invest in assets that benefit the bank even if they harm the fund. The funds of funds, have funds of different entities and of different types, therefore it is more difficult for conflicts of interest to exist.
  • Specialist manager in analysis and selection of funds:In addition, it is common for the manager of a fund to be a specialist in selecting and analyzing funds. They are not normal investment fund managers, but are experts in working in that dynamic.
  • Administrative advantages:Since when you invest through a fund of funds, administrative procedures are greatly simplified, compared to a portfolio management contract and, above all, in the face of direct investment in various funds.

Disadvantages of fund funds

In the same way that there are advantages for managers and investors, there are also disadvantages. In these cases, the investor must make a balance between advantages and disadvantages. Not everything is good, not everything is bad. Therefore, a fund of funds will not adapt to some types of investors. Among the disadvantages we find:

  • Higher commissions:Investing in different funds has a number of advantages, but it also means paying more commissions.
  • They may not be independent:What a priori is an advantage, can become a disadvantage. In the event that a fund of funds only invests in funds of the same financial group, this would increase the risk.
  • The investor does not control what assets he invests in: Heknows what type of funds he invests in, but he cannot control which assets those funds operate. In this sense, it is a totally depersonalized investment.
  • Lack of transparency in the information:The funds may have different managers and 
  • Less management power:The different dates that take net asset value of the different funds that make up the portfolio can cause the manager to lose management power.

Difference between umbrella funds, fund of funds and principal / subordinate funds

The funds of funds, have a purely contractual relationship with the other funds. That is, they invest in other funds and cannot influence them. However, in umbrella funds it happens that the compartments control the central fund.

Likewise, the structure of an umbrella fund is also different from that of a principal / subordinate fund . That is, a principal / subordinate fund acts inversely to a fund of funds. The flow of money instead of going from one fund to several funds (fund of funds), goes from several funds (subordinates) to a central (main) fund. Where appropriate, the umbrella fund feeds the compartments through a central fund.

by Abdullah Sam
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