What is assets under management (AUM)? – Definition, calculation, and importance

Assets under management (AUM) refers to the total market value of all the investments that a financial institution, fund manager, or wealth management firm oversees on behalf of its clients. It represents the overall size and financial strength of a fund and fluctuates based on market conditions, investor deposits, and withdrawals.

AUM is an essential metric for evaluating a fund’s credibility and its ability to generate returns. It provides insights into how much capital investors have entrusted to the fund, reflecting investor confidence and the fund's market reputation.

In mutual funds, AUM includes the combined value of stocks, bonds, and other securities managed within a fund. A higher AUM is often associated with greater stability, more diversified investment strategies, and a lower expense ratio due to economies of scale. However, a larger AUM does not always guarantee higher returns.

Impact of high AUM on mutual funds

1.Economy of scale

A higher AUM allows mutual funds to distribute operational costs across a larger asset base, reducing expenses for individual investors. This improves efficiency and can contribute to long-term financial growth.

2.Fund performance

A large AUM does not necessarily mean better returns. While a high AUM can indicate investor confidence and stability, fund performance ultimately depends on the expertise of the fund manager, investment strategy, and market conditions. Some large funds may struggle to deploy capital effectively, limiting their ability to generate high returns.

3.Indicator of fund size and success

AUM serves as a key indicator of a mutual fund’s market presence, credibility, and investor trust. A growing AUM signals strong investor confidence, while a declining AUM may indicate poor performance or high withdrawals.

4.Liquidity

Mutual funds with a high AUM generally offer better liquidity, making it easier for investors to buy or sell units without significantly impacting the fund’s value. Liquidity is an important factor in ensuring smooth transactions for investors.

5.Fee structure

Larger funds can spread their expenses across a greater number of investors, leading to a more competitive fee structure. Regulatory guidelines also mandate lower expense ratios for funds with higher AUM, benefiting investors.

6.Market impact

Mutual funds with significant AUM can influence market trends, particularly in sectors where they hold large positions. When such funds buy or sell large quantities of securities, they can impact stock prices, sometimes creating market volatility.

Importance of asset retention for mutual funds

1.Long-term investment stability

Mutual funds are typically structured as long-term investment vehicles that aim to withstand short-term market fluctuations. Frequent changes in a fund’s asset composition can raise concerns about whether the fund manager conducted proper research before making investment decisions.

2.Transaction costs and expense ratio

Frequent buying and selling of assets within a mutual fund can increase transaction costs, leading to a higher expense ratio. Funds that hold assets for the long term can maintain lower costs, benefiting investors.

3.Investor trust and fund consistency

Stable asset retention helps maintain investor confidence in a mutual fund. If a fund constantly changes its portfolio, investors may hesitate to stay invested due to uncertainty about the fund’s strategy.

Importance of AUM for mutual funds

1.Shows the size of a fund

AUM provides a clear indication of a mutual fund’s size. A higher AUM reflects strong investor confidence and suggests that the fund is well-established and capable of attracting more investors.

2.Impacts mutual fund performance

The size of a mutual fund can influence its performance. Larger funds may struggle to generate high returns as they have to deploy large sums of money, which can limit their investment opportunities. On the other hand, smaller funds have more flexibility to invest in niche opportunities that could yield higher returns.

3.Affects mutual fund fees

The AUM of a mutual fund directly affects the fees investors pay. SEBI has implemented a tiered structure for expense ratios, where larger funds have lower fees and smaller funds can charge higher fees. However, some large funds may also have high minimum investment requirements, limiting accessibility for smaller investors.

AUM and expense ratio

The expense ratio represents the cost of managing a mutual fund, expressed as a percentage of the AUM. It includes administrative costs, management fees, and operational expenses.

A larger AUM allows funds to spread these costs over a bigger asset base, leading to a lower expense ratio. However, funds with a very high AUM might still charge high fees if they require extensive management efforts.

SEBI regulations ensure that expense ratios decrease as AUM increases, preventing large funds from charging excessive fees. This ensures fair cost distribution among investors.

Calculating AUM

AUM is calculated using the following formula:

AUM = Total units or shares held × Market price per unit or share

For example, if a mutual fund holds 1,00,000 shares and each share is valued at ₹50, the AUM is:

AUM = 1,00,000 × ₹50 = ₹50,00,000

This calculation helps investors assess the fund’s size and overall value.

Difference between AUM and NAV

Although AUM and net asset value (NAV) are related, they represent different financial aspects of a mutual fund.

AUM is a broad measure of a mutual fund’s total value, while NAV helps investors track the per-unit price of their investment.

Conclusion

AUM is a crucial metric for evaluating mutual funds. It reflects the total value of assets managed by a fund and provides insights into its size, credibility, and investor trust.

While a higher AUM can indicate stability, liquidity, and lower fees, it does not necessarily guarantee higher returns. Fund performance depends on investment strategies, market conditions, and fund manager expertise. Investors should consider multiple factors, including AUM, expense ratio, and past performance, before choosing a mutual fund.

Understanding AUM helps investors make informed decisions and assess whether a fund aligns with their financial goals.