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Mutual Funds: Things you need to know!

A Mutual Fund is basically investment of many investors clubbed together and invested by a professional on their behalf in different securities like short-term money market instruments, stocks, precious metals and bonds. The money gets invested in various assets classes as per the fund’s investment objective.

The best thing about a mutual fund is, as it has many investors’ money put together, even small amounts per investor is enough. The investments and monies pooled are managed by professional fund managers in exchange for a small fee. The funds are normally well diversified to control any potential losses. Mutual funds are a smart way to save money without having to pay high fees or requiring constant attention from individual investors.

Types of Mutual Funds in India

Benefits of Investing in a Mutual Fund

  • Professional Management: One of the best advantages of investing in the mutual fund is that you don’t have to break your head on research and analysis required to find lucrative investments. All this work is done by professionals on your behalf and you get to enjoy the fruitful results of your investments.

  • Diversification of Risks: The famous quote, “Never put all your eggs in one basket” is applicable with mutual funds. With mutual funds you can diversify your investment so underperformance of one fund can be managed by the performance of other fund making your investment safe.

  • Affordable Investment Option: It is not difficult to invest in mutual fund these days. You can invest in SIP for as low as INR 500 a month making it more affordable to the masses.

  • Focused Investments: In mutual funds you can allot your investment as per your investment objective. Equity, Income, balanced, money market all are individual focussed investments. This helps the investor in streamlining their investments as per the different options available.

  • Choice of Assets: Mutual funds give you the investment option of choosing funds which are invested in different multiple business sectors. This wide choice of asset selection helps the investor’s investment to grow as per the selection available and risk appetite of the investor.

  • Easy Purchase and Redemption: Today it is easy to purchase mutual funds and also redeem the invested funds online. The whole process can be done online by logging to the online portal of the fund house you have invested in by yourself.

  • Tax Benefits: Only ELSS (Equity Linked Saving Scheme) mutual funds give you tax rebate on investment of up to INR 1.50 lakh under section 80C of the Income Tax Act, 1961.

  • High Returns: You can achieve high returns through mutual funds’ investments by investing in growth funds aka equity funds.

  • Regulated Investments: All mutual funds in India are regulated by SEBI, Securities Exchange Board of India- (Mutual Fund) Regulations 1996.

  • Easy to Track: Today all mutual funds house give you online access to view, track and redeem your investments. On the offline platform, you will need to provide a folio number and scheme details which is given to the investor for his mutual fund units. This folio number helps an investor track his investments through the newsletters published by the fund houses and daily newspapers.

  • SIP Options: SIP is a Systematic Investment Plan. this plan helps the investor to invest the money in instalments for a period of time in mutual funds. SIP takes the burden out of the investor to make lump sum money available in one shot.

Advantages of Mutual Funds

In the last few years, more and more people are keen to invest their money in mutual funds. Mutual funds are strategically placed to mitigate the risk of the investors. Long-term investments in mutual funds have turned out to be very fruitful for the investors over the years, giving them one of the highest returns in comparison to traditional investments.

  • Professional Management: Mutual funds are managed by professional fund managers who are considered experts in their field. Fund managers run an analysis on the value of the stock, the invested company product and its current and future market position, past performance of the stock etc. They are also responsible for investing in stocks which are in sync with the fund’s strategy and goals of the investor. Mutual fund houses or Fund managers have access to resources that are above and beyond the reach of the individual or retail investor.

  • Liquidity: Liquidity is one of the major advantages of the mutual fund. It gives you the freedom to take your money in and out without any hassle. Money market fund gives you the opportunity to have your money invested for as short a duration as a day. However, do look out for the fees associated with the selling of the mutual funds.

  • Easy Process: Thanks to the online technology today, buying, managing, selling of mutual funds has become a hassle-free convenient task for the investors. You can just log in to the mutual fund house website and purchase mutual funds by following simple steps of instructions. Through online mode, you can also manage your investment by getting updates on the performance of your mutual fund on a daily basis. Net Asset Value (NAV) gives you simple understanding of how your mutual fund is performing.

  • Smart Investment: Anything we buy for money, we try to do research which can be time-consuming if the required data is not available. If the information is available on hand easily with simple parameters for comparison, it becomes an easy task for the investor. Investing in mutual funds is a smart investment option as the research and performance data collection is done by the mutual fund houses themselves. All you have to do is check the ratings and review the mutual funds. You can also compare the mutual funds basis the easy parameters for comparisons like the level of risk, past performance, returns, and price. As all the information is easily available, it becomes easy for the investor to make smart decisions based on their investment goals strategy.

  • More Choices for Selection: Another big advantage of a mutual fund is that they come in different types suiting the needs of wider requirements of various kinds of investors. Depending upon your financial goals, you can choose to invest in the appropriate category of mutual funds available.

    • Liquid mutual funds: If you want to only invest your money for a short term, then you can invest in liquid mutual funds.

    • Short term mutual funds: If you don't want to give a commitment towards your investment for a short period which is something like 1 to 3 years, then short-term mutual funds will serve the purpose for you.

    • ELSS tax saving mutual funds: For all your tax saving needs, ELSS scheme in mutual funds will be an ideal selection for you.

    • Long-term mutual funds: For investors who are willing to keep their money invested in the long term, for them, equity funds are the best selection.

  • Choice of Risk: In equity funds, depending on the risk appetite of investors, they can choose high-risk mid cap or small cap funds or less risky large-cap or diversified funds. For investors who want a balance between mid-cap and large-cap, balanced funds are the ideal choice.

  • Can I invest in Instalments or lump sums: You can invest in instalments through SIP (Systematic Investment Plan). Today, there are funds in which you can start a SIP for as low as INR 100 a month. SIP scheme is just like a recurring bank deposit scheme of a bank which makes saving easy and does not put a financial burden on the investor.

  • No big investment required: Different from other investments like investing in real estate, stocks, gold etc., mutual funds don’t require a big investment. As discussed above, you can start investing in mutual funds for as low as INR 100 a month through SIP (Systematic Investment Plan) scheme.

  • Tax Benefits: Mutual funds are considered to be more tax efficient than other types of financial instruments available in the market. ELSS, which is a specific class of mutual funds, are exempt from taxation under section 80C of Income Tax Act 1961 for a limit of INR 1.5 lakhs. The following are the advantages of ELSS:

    • Substitute route to invest in the stock market
    • Only 3-year lock-in period
    • A tax benefit of up to INR 1.5 lakh
    • Best returns over a longer period of time
  • Well Regulated: Mutual funds are regulated by SEBI (Securities and Exchange Board of India). All mutual funds houses need to make the necessary disclosure. The past performance of the mutual fund is available for view to all. The NAV (Net Asset Value) gets updated daily and you can view the details about the mutual fund which make it a very transparent investment for an investor.

  • Low Cost of Asset Management: Mutual funds have money from many investors clubbed together in one fund. This way the asset management cost gets divided amongst all the investors and there is no burden felt by the investors for the asset management cost. For example – If you buy something in bulk, then you get discount and the price works out cheaper than a single product. The same applies to stocks - if you buy just one, the transaction fees works out expensive in comparison to the stock than if you buy multiple stocks in one shot. Mutual funds help to make the transaction on a larger scale ensuring the transaction charges don’t have much effect on the income of the mutual fund.

  • Taking Advantage of a Growing Economy: As the mutual funds have a direct relation to the stock market, the invested money will grow if the economy is growing and doing well. This growth is difficult to get into the traditional savings like bank fixed deposit, postal schemes, and other financial instruments.

Disadvantages of Mutual Funds

Similar to most financial investment products available in the market today, mutual funds have up side and down side to them. It is equally important to know the disadvantages of any product along with advantages, which will help in making an informed decision. Let's have a look at some of the disadvantages of mutual fund which should be evaluated before you consider to put your hard-earned money in mutual funds.

  • Costs: Value of the mutual fund will keep changing as per the volatile market conditions. There are many costs and expenditures involved in professionally managing the mutual fund. The investor may have to pay an entry load when purchasing a mutual fund and may also have to pay an exit load during exit process depending on your chosen fund. Hence, there are a lot of costs involved for the investor to bear over and above those of buying a mutual fund.

  • No Control: Mutual fund houses hire fund managers to manage the mutual fund portfolio. As an investor, he/she will have no control over their investment. All the important decisions are taken by the fund managers basis the analysis and researching done by them or their team. All you can do is scrutinize and examine the strategies followed by the Asset Management Team (AMC).

  • Fund Managers: As an investor is important to note that you should not go with the hype of "Star Fund Manager". No matter how talented the manager is, his/her skills can have a positive impact on the fund in the short term but cannot have a huge impact on the fund performance in the long run. Chances are the fund manager can join another company after some time. Hence it is important to see the strategies and goals of the mutual fund house and just not get appealed or judge the mutual fund house on one factor, that is, the "Fund Manager".

  • Fund Evaluation: Although it is said the fund value can be ascertained on the NAV (Net Asset Value) which is published daily by the fund house, in reality, there are also various other parameters such as standard deviation, sharp ratio, etc. that one needs to review to get a proper picture of how the fund has performed in the past and how it might perform in the future. A layman might find it difficult to understand the jargon terms of the ratio and find it difficult to come to a fair evaluation of the fund.

  • Diversification: Diversification is always seen as one of the advantages of a mutual fund investment but it can also be a disadvantage. Diversification may increase the expenses of managing the fund and require more work on the research and analysis resulting in more people to support the process. Diversification may also reduce the focus on the actual goal of the fund.

  • Fluctuating Returns: Like fixed deposit or PPF investment, mutual funds do not promise you a fixed guarantee of returns. Fluctuations can also result in depreciation of the overall value of the mutual fund. A mutual fund is based on the health of the market conditions so where you can expect good returns, you can also incur a loss on your investment. You don't get spared from the bad performance of the fund managers leading to loss of the mutual fund.

  • Past Performance: Previous rating and performance do not guarantee a good performance of the fund in the future. It is crucial to properly analyze the compliance, ethics, transparency, service process, investment philosophy of the mutual fund house. Only the detailed review and looking at all the other parameters will help in getting a somewhat fair view of the mutual fund performance.

  • CAGR: Compound Annual Growth Rate (CAGR) helps in getting the compounded annualised growth rate of a mutual fund over the past years. The issue is that the CAGR does not give information of risk involved in a mutual fund investment nor the process of investment. Although, CAGR is used to measure the performance of the mutual fund, it is far from being a comprehensive one and does not give a complete analysis picture to the investor.

Mutual Funds FAQ

What are the risks involved in investing in Mutual Funds?

Mutual funds are dependent on the market returns and thus possess the risks of volatile market conditions.

How is a Mutual Fund set-up?

Mutual fund is set up in the form which includes trustees, sponsor, custodian and asset management company (AMC).

How to Choose the Right Mutual Fund?

Open Ended

  • Debt/Income: If your objective is to get a stable income from your mutual fund investment, then debt/income mutual funds are an ideal choice for you.

  • Money market/liquid: If you want to invest your money for a shorter duration, then money market/liquid mutual funds are the ones for you.

  • Equity/growth: If your financial goal is to make good returns over a long-term period and a good appetite for risk taking, then equity/growth mutual funds are the best choices for you.

  • Balanced: If you want a balance of equity and debt-related investment in your portfolio, then you should go for balanced mutual funds, which give you moderate capital growth and decent returns on your investment.

Close Ended

  • Capital Protection: As the name suggested, the objective of these mutual funds is to safeguard the investor's capital during the downtime of the market.

  • Fixed Maturity Plans: Fixed maturity mutual funds plan are closed-ended debt funds having fixed maturity period. These are like conventional bank FDs. The fixed maturity plans are not open for subscription on a continuous basis like open-ended mutual funds plans.

Disadvantages of Mutual Funds

Cost, Taxes, and Fees

A mutual fund has a cost associated with the returns it produces. There are prices charged not only for the price of the fund but also for additional fees depending on the commission charges. A fee also goes towards the fund management charges.

Mutual funds returns get taxed by the government. The investor also has to pay for transaction charges plus the cost incurred towards maintaining the fund. Some riskier mutual funds can have more management fee levied on them.

Unpredictability

Mutual funds returns can be quoted hypothetically but it is impossible to give a written guarantee on the returns as they are linked to the performance of an industry. Some mutual funds carry a high amount of risk, some others carry a moderate amount of risk. It all depends on how well the mutual fund portfolio is diversified.

Who Can Invest in Mutual Funds in India?

  • Indian residents
  • Non-resident Indians (NRI)
  • People of Indian Origin
  • Parents/Guardians on behalf of minors
  • Indian Public Sector Undertakings
  • Indian Private Sector Undertakings
  • Cooperative Societies
  • Charitable or Religious Trusts
  • Trustee, AMC or Sponsor of their associates
  • Endowment or Registered Societies
  • Scientific and/or industrial research organizations
  • Wakf Boards
  • Hindu Undivided Family
  • Sole Proprietorship Firms
  • Partnership Firms
  • Other associations, institutions, bodies, etc., authorized to invest in mutual funds

How to Invest in Mutual Funds?

  • Agents: You can buy mutual funds through an agent/broker. The agent/broker will get his commission from the fund house on your purchase. They will also receive a percentage of your portfolio value which is created by them as commission.

  • Direct: Mutual fund companies offer mutual funds online for purchase and you can directly purchase them from their websites. Why to Apply for Mutual Funds Online?

  • Convenience: Online platform gives you ease of investing the mutual funds at the convenience of your home at any time.

  • Easy Comparison: You can compare features of different mutual funds online and review the fund performance and its current value.

  • Affordable: As you buy the mutual funds directly, agent commission is saved. This makes it cheaper to buy mutual funds online.

  • Independence: Online platform gives you the independence to login to the portal and review your mutual funds anytime. You can also redeem or buy new mutual funds at your convenience.

Know more about How to Invest in Mutual Funds

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