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What is Mutual Fund?

Mutual funds are financial investment tools that draw money from a number of investors. These funds are formed by the mutual contribution of many investors in various assets and securities such as equities, debts, government securities, liquid assets including bonds, funds, and others. As all the profits, risks, rewards, losses and gains resulting from or concerning this kind of fund is distributed among the contributors.

In simple words, one can describe mutual funds investment as a trust that has its own benefactor. These kinds of funds are registered with the SEBI – Securities Exchange Board of India, which is responsible for Asset Management Company’s (AMC) approval managing the funds. The trustees make sure that the fund complies with all the SEBI regulations.

Mutual funds are the appropriate investment options for all individuals who wish to minimize the potential risk-exposure and return on their investment. Regulated by Securities and Exchange Board of India, they were introduced in the money market in 1963.

The process of investing in mutual funds is very simple. They give an option to invest money in the money market instruments such as equity, commodity, bonds, debt funds etc. Money invested in these funds are allocated by money managers who have expertise in investing in diverse securities in the security exchange market. This reduces the risk by great leaps and bounds.

Types of Mutual Funds in India

The types of mutual funds investment can be differentiated on the basis of expected returns, capital investment, risk exposure and tenure for investment. A list of various classifications of mutual fund types is listed as below. The broad classification is done in accordance with the following:

  1. Structure of the investment
  2. The objective of Investment
  3. Class of the Asset

Types of Mutual Funds Based on Structure

Based on the structure of investment, it can be classified into two major categories.

  1. Open-Ended Funds

    This is one of the types of mutual fund in which the investor has the flexibility to invest and reclaim his/her investment. The value at which a potential investor can invest in an open-ended fund, as well as the returns on investment, is ascertained as per the prevailing Net Asset Value of the fund. The major Mutual Fund Benefits offered by the open-ended mutual funds is that investment liquidity. This makes open-ended fund a sought-after mutual funds option.

  2. Close-Ended Funds

    Under these funds, the initial Mutual Funds investment made at the time an initial public offer made by the company, cannot be modified. The value of the invested amount can only be reclaimed at the time of maturity. In case the investor wants investment liquidity, he/she can do so by trading the invested amount on the stock exchange at the prevailing rate.

Objective Based Mutual Funds Investment

The 5 major categories of mutual funds based on the investment objective of the investor are:

  1. Aggressive Growth Funds

    True to its name, these funds offer highly lucrative investment options. The rate at which the investment grows is fast and has the ability to yield high returns. Although, the risk inflicted on the investor is extremely high, as the investment option is opted by many investors in order to earn a good return on investment. The potential investor should be very careful while choosing the investment fund as its value could deteriorate in case of unfavorable market conditions.

  2. Money Market Funds

    This is a low cost, short-term type of mutual funds investment which offers a higher return on in comparison to other short-term mutual funds. This fund only invests in highly liquid instruments such as a certificate of deposits, government deposits etc.

  3. Growth Funds

    These are the safe mutual funds investment option for potential investors looking for an option for wealth creation. It is a well-structured fund, which invests in the small, medium and large business entities. This provides the investors with a better return on investment. After meticulous research on the growth projections of various companies, the most feasible mix is chosen and all the funds are allotted towards it.

  4. Income Funds

    With the help of income funds, the investors can receive a fixed income as the funds capitalize on various fixed income securities. These funds further invest in fixed income funds such as company fixed deposits, debentures etc. These funds carry only a moderate risk value as they are affected only by the change in market stability and the general sentiment of the money market.

  5. Balanced Funds

    These funds act as a source of regular income to the investor as well as a chance to increase the returns on investment amount. Thus, they are the perfect blend of income and growth funds. The risk borne by investors in balanced funds is quite moderate.

Types of Mutual Funds Investment Based on the Class of Assets

The 8 major categories of mutual funds based on the class of assets are:

  1. Equity Funds

    These are high-risk funds which offer high returns. These funds invest in the shares of public and private limited companies.

  2. Debt Funds

    These funds offer the investor a fixed return on investment. As a result, it is exposed to low risk. This fund invests in safe mutual funds investment options such as government bonds and schemes, company debentures etc

  3. Money Market Funds

    These are safe investment options which offer instant returns at favorable rates. These funds invest in assets that offer liquidity such as treasury bills, commercial papers etc.

  4. Hybrid or Balanced Funds

    As the name suggests, this fund is a mix of low and high-risk mutual funds investment. This fund invests more in equity than in debt instruments, enabling an investor to keep the risk element and return on investment.

  5. Index Market Funds

    This is a very volatile mutual funds investment in terms of risk exposure. The return on investment for these funds is based on the movement of the various financial indexes which calculate the value of the various limited companies such as National Stock Exchange, Bombay Stock Exchange etc.

  6. Tax Saving Funds

    This investment option is most feasible for investors looking for a tax benefit from their investment. The investors investing in tax-saving funds are eligible for tax deduction under the Income Tax Act. Tax Saving mutual funds investment carries a high-risk factor along with an opportunity to earn higher returns.

  7. Funds of Funds

    This type of investment caters majorly other mutual funds types. The risk and return on investment are decided by the performance of the target funds of the concerned mutual fund.

  8. Sector Funds

    These funds are offered based on various market segments of various companies. This restricts the investment made to a particular division of the market such as the infrastructure sector, finance sector, banking sector etc. The risk factor and returns on the investment largely depend on the feasibility and market scenario pertaining to the specific sector.

Benefits of Mutual Funds Investment

Typically, investors look out for investment instruments which provide a perfect balance between the return on investment and the associated risk element. Mutual funds act as a safety net for investors who do not have the time as well as the expertise to invest directly in money market instruments. With the help of professional money managers, the investor is less prone to make any mistakes while investing.

Here are the various benefits of mutual funds investment:

  1. Economical– Mutual funds investment allows investors to start investing with as low as INR 500 per month. Due to constraints in the amount of capital investment, most investors are unable to invest in shares which offer lucrative returns. Mutual funds pool money from various investors and allow an investor to reap handsome returns by investment in big company funds.
  1. Diversification– All investments made towards the money market bear certain risks. Mutual Funds Investment helps an investor to neutralize the exposed risk across multiple investment instruments. In case an investment option doesn’t offer the expected returns, returns offered by other investment will balance it out. Thus, diversification reduces the risk of wealth deterioration.
  1. Skillful Handling of Investment– The value invested in mutual funds is further allocated to various investment instruments which are carefully selected by professional money managers. This safeguards the investment and reduces the risk of losing money in an individual investment. Along with reducing the risk exposure, money managers ensure that the investor enjoys best returns on investment.
  1. Well-Characterized Investment– Before the investor makes an investment in the mutual fund, he/she is clearly notified about where his fund will be allotted. Thus, there is no ambiguity in where the money is invested.
  1. Small Investment Option-Investors who wish to invest small amounts of money instead of a lump sum amount, mutual funds investment provide an opportunity via systematic investment plans(SIP).  A SIP provides the investor an option to invest only a small sum of money at a fixed interval of time.
  1. Quick Purchase and Sale Option – Open-ended funds provide investors with an option to invest and sell their funds at the prevailing Net Asset Value as and when they, please.
  1. Tax Benefit – Few mutual funds investment options such as ELSS provide a tax rebate on the income earned from the invested amount.
  1. No Limit on Investmen– It offers the investor a convenient way of investing in multiple funds ranging between index funds, equity funds, debt funds, sector funds, money market funds, funds of funds, tax-saving funds, regional funds etc.
  1. Favorable Returns – The performance of mutual funds is based on the market This allows the investor a better chance of earning higher returns than other investment instruments.
  1. Government Regulated– In India, SEBI (Securities Exchange Board of India) regulates and manages mutual funds. This makes mutual funds a safe investment option that is guarded by a regulatory body.
  1. Transparency – At the time of investing in mutual funds, the investor is provided with a written copy of the detailed funds in which their money has been allotted so that they themselves can track their investment with an ease.
  2. Switching FacilityVarious types of funds offer the investors with a transfer option. With the help of this option, the investor can switch among various funds to get maximum benefit and higher returns.

Mutual Fund Investment Process

A potential investor has an option to purchase mutual fund instruments in two ways- either through an agent or directly.

  1. Directly Mutual Funds

    An investor who wants to invest in a particular mutual fund can do so simply by either visiting the nearest branch office or by logging to its website. Investors who have already invested in funds and have investment knowledge can apply for funds directly.

  2. Investing Through Agents

    A mutual fund agent is well-versed with the rules and regulations of various types of fund options. The investors who wish to safeguard their investment value or need a second opinion before investing generally can apply for fund options through a broker or agent. In return for the assistance and end to end help during the investment process, the agent charges a fixed or variable commission decided at the time of making the investment.

Mutual Funds Investment – Key Points

Portfolio Diversification

It is an age-old saying that it is not advisable to put all your eggs in one basket.

Inflation

In any developing nation, inflation keeps consequently rising every subsequent year.

Investment Tenure

It is very important to understand the functionalities of mutual funds before making an investment.

Investor Age

As mentioned above, investing in mutual funds for a long duration of time offers maximum returns.

Risk-bearing Capacity

In order to enjoy the highest ROI, the investor tends to challenge his/her risk-appetite.

Expected Returns

An investor should pay the maximum attention to the returns he expects from his investment.

Mutual Fund FAQs

Q. What is a Mutual Fund?

A. Mutual Fund is an investment tool created by a pool of money accumulated from a plethora of investors investing in securities such as money-market instruments, bonds, stocks, and other assets.

Q. What is Mutual Funds NAV (Net Asset Value) of any MF scheme?

A. The value of the assets of a mutual funds scheme subtracted from the value of the liabilities per unit is termed as the Net Asset Value (NAV) of any MF scheme. NAV is the price at which the investor can buy the unit of a plan.

Q. What are tax saving mutual funds schemes?

A. Tax-saving mutual funds schemes come with an added benefit of saving Income Tax on Investor’s Income. The investor investing in the tax-saving mutual funds can avail tax benefits u/s 80C of the Income Tax Act, 1961. Most of these schemes are ELSS plans and invest in equity markets.

Q. How to invest in Mutual Funds Scheme?

A. Before deciding to invest in mutual funds, it is vital to keep the following points in mind. This will aid the investor to select the best fund scheme.

  • Identifying the purpose of investing
  • Fulfilling the KYC requirements
  • Knowing about the available schemes
  • Considering the risk factors

Q. What is direct mutual funds plan?

A. Direct mutual funds are what the investor buys directly from the mutual fund’s company. The investor can invest in direct mutual funds through a fund house, without any involvement of an agent, distributor, or a broker.

Q. What is Systematic Investment Plan (SIP)?

A. Systematic Investment Plan is an investment option where the investor can invest a particular amount of money at regular intervals namely, quarterly, monthly or weekly. These are the most convenient and smartest means of investing in Mutual Funds.

Q. Can a non-resident Indian (NRI) invest in a Mutual Funds?

A.  Non-resident Indians (NRIs) can invest in the mutual funds in India, as long as they hold on to Foreign Exchange Management Act (FEMA). A Mutual funds scheme in the home country can provide a diversified portfolio with a blend of equity securities and debts.

Q. How to know the mutual funds performance of any scheme?

A. In order to track the performance of mutual funds, the investor must know how to conduct its analysis. Many beginners consider looking at the returns, ratings, and riskiness of an MF before they invest.

Q. How to choose a best mutual funds to invest?

A. In order to choose best Mutual Fund Plan to Invest, the investor must consider the following points:

  • The objective of the investment
  • The outlook for the Economy
  • Mutual fund rankings
  • Assets under Management (AUM)
  • Consistency in performance
  • Expense ratio

Q. What is an Asset Management Company (AMC)?

A. Asset Management Company (AMC) is a company, which invests the pooled funds of its clients into securities matching their declared financial objectives. There are several asset classes namely, stocks, equities, bonds, shares, cash equivalents and securities, etc.

Q. When Mutual Funds NAV is declared?

A. According to SEBI rules, the Net Asset Value (NAV) of mutual funds has to be calculated and published in at least two daily newspapers weekly.

Q. What is entry and exit Load?

A. Entry Load of Mutual Funds: The fee charged or the amount charged from the investor while joining the company or entering the mutual funds scheme as an investor is referred to as entry load.  

Exit Load of Mutual Funds: The exit load is just the opposite of the entry load. This is an amount or fee charged by the investor for leaving the company or exiting the mutual fund scheme.

Q. What is the Mutual Funds redemption price?

A. The redemption price of Mutual Fund is the price at which the share of a mutual fund is redeemed by the fund. This price is generally equal to the existing NAV per share.

Q. What are the factors that influence the performance of Mutual Funds?

A. The factors affecting the performance of mutual fund schemes are:

  • Stock selection
  • Market trend
  • Portfolio reshuffle
  • Fund size
  • Cash flow

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