All You Need To Know About Mutual Funds

  • Jan 19, 2020 AEDT
  • Team Kalkine
All You Need To Know About Mutual Funds

A mutual fund is an investment vehicle which includes the money provided by various investors with a mutual financial goal. This pool of money is further invested into bonds, stocks, money market instruments and various other types of securities. An asset management company manages this pooled money.

Each mutual fund has a defined objective which is cited in the prospectus of that mutual fund. The prospectus also acts as a legal document that contains information about the funds, its history, its officers, along with the performance of the fund.

  • Mutual funds with the objective of Equity (Growth) would invest the pooled amount into the equity stocks.
  • Mutual funds which aim investment in Debt (Income) would invest the pooled amount in fixed income securities like bonds.
  • Mutual funds which aim investment in Money Market instrument would invest in government securities and
  • Balanced mutual funds would invest partly in equity and partly in debt. It is also a common example of a hybrid mutual fund.

When an investor invests his or her money, there are four important things he keeps in mind:

  • Risk

There is always a certain amount of risk in any type of investment made by an investor. However, the extent of risk may vary.

  • Return

When we talk about return, ideally, a long-term return, say 5 years and beyond is usually considered. Another important thing which needs attention is whether the return on the investment can beat inflation or not. If the return on investment is less than the inflation or it is not able to reach the inflation rate, then investors consider it to be a bad investment as they look at it as a means of making losses.

  • Volatility

Volatility tells about the fluctuation seen in the return. Precisely, volatility expresses how high or low is the return during the period. This is important while making an investment decision because in case the investment generates a very low return during the period and the investor requires the money, then it would be a dicey case.

  • Liquidity

Liquidity tells how easily an investor can get money from the investment. In other words, how quickly the investment can get converted to cash.

Now, in case of a mutual fund, we know that an asset management company invests the money either in stocks or bonds or a mix of both or any other instrument. They behave in a similar way like stocks, but the risk is between moderate to high. Mutual funds are highly volatile. But on average, it provides its investor with an average return in between 13% to 15% (may vary from country to country). Mutual funds are highly liquid. It means that it can be sold at any point of time. Because of these reasons, mutual funds are the best option for investment.

Advantage of investing in mutual funds:

  • Mutual funds give investors the opportunity to earn a higher return.
  • For those investors who do not have time to solely invest in stocks or those who do not have complete knowledge of the stock market can opt for mutual funds to earn potential returns.
  • Risk gets minimised as mutual funds invest in multiple stocks.
  • Another benefit of investing in mutual funds is that mutual funds are managed by a fund manager who uses his expertise in designing the mutual fund i.e. which stocks or bonds or other securities to be included in the mutual funds.
  • When an investor invests in mutual funds for a long period, then he/she can beat the inflation.

Types and Features of Mutual funds:

There are basically three types of mutual funds:

  • Equity Mutual Funds: Invests in various stocks.
  • Debt Mutual Funds: Invests in fixed income securities.
  • Hybrid Mutual Funds: Invests in stocks and fixed income securities.

Now, it depends on the risk appetite of an investor to invest in any types of mutual funds. Those investors who have higher risk appetite opt for equity mutual funds. Investors conservative in nature go for debt mutual funds and those investors who prefer moderate risk consider hybrid mutual funds.

Features:

  • Smart, practical, and strategic investment instrument.
  • Professionally managed by competent & experienced fund managers.
  • Risk mitigation by investing in a diverse portfolio of securities.
  • More liquid than other investment options in deposits, shares, and bonds.
  • Relatively lower expenses & fees, irrespective of the performance of the fund.
  • Consistent in performance over a short, medium to long term period.
  • Highly flexible in terms of financial objectives, liquidity, and tenures.
  • Plenty of investment options available to meet the diverse needs of investors.
  • Ease of trading & transacting the units on all the working days.
  • Provides tax benefits.

Categories of mutual funds based on Market cap:

  • Large Cap Funds: Large-cap funds invests in big companies. Investment in the large-cap is less risky, so there is less return.
  • Mid Cap Funds: Invests in those companies which are established but are not as big as companies under large-cap funds. They provide a moderate return.
  • Small-Cap Funds: Invests is very small companies. Investment in small-cap funds are comparatively risky than large-cap and mid-cap, but there are chances of availing better return.

Categories of mutual funds based on sector:

Mutual funds can also be categorised based on their sector- technology sector fund, automobile sector funds, banking sector funds, FMCG sector funds, agricultural sector funds, and so on.

In case an investor feels that any particular sector is likely to perform well in the future, then the investor can opt for that particular sector fund.

Other categories of mutual funds:

  • Growth Funds

Growth funds invest in those companies where a larger portion of the funds is being used for buying the stocks of those companies which have above-average growth. These funds provide a relatively higher return, but at the same time, the risk is also high.

  • Income Funds

Income funds aim to provide its investor with a regular income and impressive returns for more than 2 years. These funds invest the funds in the stock of the companies generating high dividend and government securities.

  • Liquid Funds

Liquid funds invest in money market & debt securities.

  • Tax-saving Funds

These funds provide tax benefits to its investors and also supports in wealth generation. Equity-Linked Saving Schemes invest in equity and equity-related instruments. These funds have a certain lock-in period.

  • Aggressive Growth Funds

Aggressive Growth Funds has a relatively high level of risk and provide high monetary returns. These funds are highly volatile in nature and have the potential to deliver high returns.

  • Pension Funds

Pension funds are for those investors who save money for retirement. These funds provide the investor with a regular income and can be used for any emergency situations.

  • Fixed Maturity Funds

Fixed maturity fund invests in money markets, securities, bonds and are closed-ended in nature and have fixed maturity periods.


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