Last Updated on May 24, 2022 by Aradhana Gotur

There are different types of investment avenues that pool the investments of different investors and then invest the pooled money into various securities. Hedge funds, insurance companies, mutual funds and Exchange Traded Funds (ETFs) are some of the popular investment avenues where a fund manager pools money from all investors in the product and makes investments in carefully picked out assets for maximizing returns.

The pooled investments create a diversified portfolio and when assessing the value of this portfolio, the concept of AUM is used. In this article, we dive deep into what AUM is and its importance.

## What is AUM?

The AUM full form is Assets Under Management. It represents the total market value of the portfolio that is created using the pooled investments. In other words, the value that the market decides based on the demand and supply of the assets being managed by an entity or fund is collectively called the Assets Under Management or AUM.

## Calculation of AUM

As easy as it is to understand the AUM meaning, its calculation is mildly complex. The calculation of AUM does not follow a standard formula. It varies across funds and financial institutions. The most common method to calculate the AUM is by using the following values:

• The market value of the underlying assets on a particular date
• The returns generated by selling off a part of the assets
• The redemptions from the portfolio
• Investments into the portfolio
• Dividend paid out

Using these factors, the AUM is calculated as follows:

AUM = market value + returns earned from selling assets + inflows into the fund – redemptions – dividend payments

For example, say 100 investors invest Rs 1 lakh each in a fund creating a corpus of Rs 1 cr. The corpus is allocated 40% in security A, 40% in security B, and 20% in security C. After the end of the year, the fund stands as follows:

If we consider that no new investments were made, no dividends were paid, and there was a redemption of Rs 1 lakh from the fund, the AUM becomes Rs 1.10 cr.

## Importance of AUM

The calculation and assessment of the fund’s AUM are important both for the company managing the funds as well as for its investors. Here are some reasons why:

• The size of the AUM depicts the overall size of the fund and its customer base. The larger the AUM, the more the number of customers who have invested in the fund (alternatively, it could mean more money is invested in the fund). Moreover, a larger AUM also indicates that investors trust the fund for their investment goals.
• The size of the AUM also shows how successfully the fund is being managed. The fund manager buys and sells the securities in the portfolio to generate returns. If the portfolio has generated considerable returns, it would be evident in the AUM as returns boost the value of the same.
• If you compare the AUMs across different time periods, you can check whether the fund is growing or contracting. If the AUM is steadily increasing y-o-y, it is a positive sign as it indicates the possible addition of new investors and/or positive returns. On the other hand, if the AUM is contracting, it might signal that the fund is not performing as expected and investors might be cashing out or the fund might be incurring losses.
• The AUM is also used as a metric for measuring the success of the financial institution or the overall fund. Institutions with higher AUMs are viewed favourably compared to those which manage a smaller AUM. The size of the AUM also determines the compensation or pay package of the fund managers managing it.

## AUM in mutual fund

The most common use of the concept of AUM is seen in the case of mutual funds. AUM in a mutual fund is used to denote the value of the portfolio of a particular mutual fund scheme. Alternatively, the aggregate value of AUMs of all the mutual fund schemes can be used to calculate the AUM of the mutual fund house on the whole.

The concept of AUM in a mutual fund is used to determine the maximum Total Expense Ratio (TER) that the fund can charge. The Securities and Exchange Board of India (SEBI) has stipulated the maximum levels of TER based on the AUM of the mutual fund. It is as follows:

## Factors influencing the AUM

The factors that cause a change in the AUM are as follows:

### Inflows and outflows

Investments in and redemptions from the fund affect the AUM. Investments or inflows increase the AUM, and redemptions or outflows decrease it.

### The market value of underlying assets

The AUM changes with a change in the market value of the fund’s underlying assets. If the markets are performing well, the market value of the assets may rise and then, so does the AUM. The opposite is true when the market is in a downtrend.

### Dividend policy

If the AUM pays out dividends to its investors, its value would reduce. On the other hand, if the dividends are reinvested, the value would increase.

### Market volatility

Market volatility impacts the value of the AUM if the fund has been invested in securities that are exposed to such volatilities. If the fund has volatile assets and the markets are volatile, the AUM would also be volatile and would change constantly.

If you are investing in a pooled avenue, like a mutual fund scheme, understand what is AUM. While it may not be the right criteria to use when selecting your fund, it does give some sense of the sentiment of other investors towards the fund. Compare the AUM over the past years as well as with the AUMs of similar schemes. Try and invest in a scheme whose AUM has been increasing steadily and which is higher than its peers. Also consider the historic returns and other aspects of the scheme along with its AUM, to invest with an overall knowledge of the instrument.

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