Fund of Funds has some key advantages such as High Diversification, Low volatility, High accessibility, etc. On the other hand, it also has some drawbacks which include a High Expense ratio, low transparency, and Mediocre returns.
Funds of Funds can be considered as a mutual fund, which is managed by multiple professional managers. A Fund of Fund generally collects the money from investors and invests the pool of money into different other funds.
This makes FoFs highly diversified as well as safe. Retail investors can get access to abroad funds as well as some other complex investment option through these funds easily. Let's know some of the advantages and disadvantages of 'Funds of Funds' here.
FoFs provide quite many advantages, let's go through some of their key advantages.
1. Highly Diversified
Fund of Funds invests in other professionally managed portfolios which makes it highly diversified. These portfolios have many stocks and other assets in them which makes them an attractive option for low-risk investors. Risk-averse investors can also invest in FoFs as the overall risk is low.
2. Lower Volatility
A well-diversified portfolio helps investors to beat market volatility and give good returns. Diversification also comes into play when some of the stocks in the portfolio don’t perform well, the remaining stocks can make up for them. FoFs have an adequate number of high-quality stocks in them, therefore the Beta (a metric to measure volatility) is low.
3. High Accessibility
Fund of Funds offers great products at a great price to small investors. These funds are managed by highly skilled professionals who bundle good quality assets under one fund. In this way, you can enjoy high-quality and well-diversified assets at an affordable price.
4. High-quality Investments
These funds are managed by well-trained and highly qualified fund managers. Therefore, your can stay assured of the quality of these funds. The assets included in these funds are derived through research and screening.
Now that we have examined some of the key advantages of Funds of Funds, let's look at some of the disadvantages.
1. Higher Fees and Expense Ratio
More than one fund manager is involved in these types of funds. This results in higher management fees and other expenses. The investors have to bear these expenses in the form of an expense ratio. Because of this, some FoFs can get expensive in terms of expenses, when compared to normal equity mutual funds.
2. Average returns
As Fund of Funds is highly diversified, the returns provided are somewhat average. If you are expecting extraordinary returns then these funds might not be for you as these are geared towards safety and not for superior returns.
3. Low transparency
FoFs are not so transparent as Mutual Funds. This is because the fund manager invests in multiple mutual funds and keeping a track of all of them can be sometimes difficult. You on top don’t get to see the detailed percentage of the holding in specific funds which makes it further difficult to track the underlying investments.
These were some of the prime advantages and disadvantages of Fund of Funds. Currently looking at the advantages and disadvantages, you must decide whether to invest in them or not. Although if you are a low-risk investor, then FoFs can be a good addition to your portfolio.