A mutual fund is a type of investment vehicle that collects money from the public and invests in different types of securities (bonds, equities). These are professionally managed by a fund manager. The only motto of a mutual fund is to create wealth for its investors. There are various types of mutual funds according to investors’ needs.
These are mainly classified into 3 broad categories
- Equity mutual funds: these MFs invested mainly in the equities. They are further divided into categories based on the market capitalization of the companies. Further classification is like Small Cap, Mid Cap, Large Cap mutual funds.
- Debt/ Income mutual funds: these MFs invest in corporate securities and government bonds. They are further classified based on different risk categories of bonds in which they invest.
- Hybrid mutual funds (Multicap funds): these are hybrid type MFs i.e. they invest in both debt and equity instruments. There are classified according to a percentage of equity and debt.
Some further categories of mutual funds
- Money Market/ Liquid funds: These are debt mutual funds which invest money in short-term markets investment like government securities, call money, treasury bills. These mfs have the least risk and are usually not volatiles. These mfs invest in securities that have maturity up to 91 days. These are recommended for short-term investors who are looking to park money for a short time (30 days- 12 months). An investor can expect better returns than bank fixed deposits. There is no exit load in these funds.
- Ultra-short liquid funds: These funds are another category of short-term debt funds that invest in debt instruments (same as of Liquid funds) having a maturity greater than 91 days or 3 months. There is greater volatility as compared to Money market/ Liquid funds. The returns delivered by these funds are higher and there is no exit load in these funds.
- Gilt funds: These are the mutual funds that invest in government bonds and securities. The returns of Guilt funds are linked to the repo rate which is set by Reserve Bank of India (RBI). These mfs carry some greater amount of risk as compared to other debt funds and an investor should keep an eye on development by RBI after investing in it. These funds could be volatile sometimes and can deliver fewer returns over a longer time.
- Other funds: There are some mfs that don’t fit in any of the above categories. ETF (Electonic traded fund) are mutual funds that closely resemble an index like Nifty 50, S&P Sensex 30, etc. There are some sectoral based funds also which invest in sector-based companies. An investor should be careful when selecting a sector-based mfs as some of them are cyclic and may or may not give a decent return in the 3-5 year of the horizon period.
According to the risk and reward capability of different people, there are a lot of categories of MFs. But unfortunately, most of the categories are created for marketing purposes. Therefore SEBI has directed all AMC to consolidate their schemes. On a broader level, there are the above-mentioned categories.
Growth Vs Dividend Mutual Funds
Every mutual fund scheme has at least 2 plan such as Growth or Dividend. In the dividend plan, an investor gets profit on a monthly/quarterly/ half-yearly basis. Generally, the Dividend plan is not recommended as your total investment gets decreased because of the payment of dividends.
Dividends in mutual funds and stocks are entirely different. In mutual funds, a part of the invested amount is given back to the investor on a regular basis. Which causes a decrease in the total invested amount for the investor. Whereas in stocks, a dividend is paid by the company from its profits.
Direct Vs Regular Plans in Mutual Funds
Most of the investors buy Regular plans in mutual funds from distributors like ICICI Direct, FundsIndia, ScriptBox, etc. These distributors earn their commission based on the amount invested by their customers. After 2013, there exist 2 schemes in every mutual fund plan i.e. Regular and Direct. Most of the investor never know that they can invest in a direct plan of the same mutual fund scheme and earn greater returns.
Direct plans offer greater returns over a longer duration as there is no commission paid to an intermediary. The amount of commission paid varies from 0.1 to 1% which is directly paid from the profits earned by mutual funds. These commissions are only paid at the time of withdrawal of funds by the investor. So it is better to purchase Direct Mutual Fund plans.
How are Mutual Funds managed?
As said earlier MFs are professionally managed by a fund manager. They manage the portfolio regularly according to the MFs category and also keep risk rewards under a certain threshold. Sometimes they also hedge the portfolio using derivatives instruments to prevent the portfolio from extreme loss.
How are Mutual Funds beneficial?
As an investor one has not to worry about the fluctuation of the equity and bond markets. An investor can start a SIP (Systematic Investment Plan) and can focus on other important things in his/her career. SIP helps an investor to negate the extreme downside and upside in markets. Over a long time (more than 5 years) an investor can create a good amount of wealth for himself/herself.
Power of Compounding
Do you how many wonders are there in the world? 7 right?……….WRONG!!!
There are 8 wonders of the world. The 8th one is the Compound Interest.
Do you know if you invest for Rs 5,ooo for 25 years and if it is compounded at just 12% per annum, your amount at the end of 25 years will be 1.38 Crs?
That is the power of compounding. Billionaire investors like Warren buffet have built his entire wealth at just 20-24% earning compounded annually.
You can easily calculate your corpus amount from this compounding tool by MoneyControl
Bonus point
If an investor is investing in equity MFs and remained invested over a long time (more than 1year) then there is only a 10% capital tax gain on his income.
Which MFs one should buy?
There are various AMC which offer different types of MFs. Some of the popular ones are
- SBI
- Birla SL
- Franklin India
- Mirae Asset India
- HDFC
You can start doing some research on mutual funds and select them based on your risk type. There are very good online resources for selecting MFs such as
You can go through ratings given on MoneyControl or Value research. You can also consult a financial advisor regarding your investment goals.
Read: Start investing when the market is all-time High
I hope you find this article helpful.
