What Are Mutual Funds: Everything You Need To Know

Mutual funds is a term familiar to many. In fact, within the last decade, the average assets under management of the Indian mutual fund industry have grown six times to approximately INR 53 trillion (as of January 24)¹. Despite the significant growth in the industry, mutual funds may still present a challenging decision when selecting a suitable fund amid the abundance of choices. You may also wonder if mutual funds are indeed the optimal investment avenue. 

Let us delve into the details of mutual funds, their types, and the advantages and disadvantages of mutual fund investing to help you with your investment journey.

What Are Mutual Funds?

A mutual fund is one of the most sought-after investment options where multiple individuals pool their money. These funds are then invested into bonds and stocks to generate returns, enabling investors to save and earn additional income through such investments. 

Investing in mutual funds diversifies investments, potentially mitigating the risks of investing in individual bonds or stocks. As an investor, your returns depend on the fund's overall performance.

It is crucial to note that a mutual fund's performance is intertwined with its underlying assets' performance. Consequently, an increase in the net value of these assets results in a corresponding increase in the investment's value, while a decline translates to a decrease in the rate of return.

What Are The Types of Mutual Fund Returns?

Mutual fund returns generally materialise in three main forms

• Interest Or Dividend Income: Investors receive interest on bonds and income on stocks within their portfolio, distributed periodically as dividends. Investors have the option to either withdraw or reinvest these funds.
• Portfolio Distributions: Capital gains are realised when securities held by a mutual fund are sold, resulting in a distribution of profits.
• Capital Appreciation: The sale of the units of the mutual fund itself can result in a profit 

Conducting thorough research is imperative for individuals contemplating mutual fund investments. This facilitates informed decision-making and fosters a deeper understanding of concepts such as "total return" and fluctuations in investment value over specific periods.

What Are The Different Types Of Mutual Funds?

According to the Association of Mutual Funds of India (AMFI), mutual funds can be classified as²:

1. Based On Structure– Based on the ease of investment, mutual funds can be 

• Open-ended– They are ongoing schemes open for repurchase and subscription continuously 
• Close-ended– These schemes come with a fixed maturity date
• Interval schemes- These schemes facilitate the redemption and purchase of units during a particular transaction period (intervals)

2. Based On Portfolio Management– The mutual funds of this category are based on how the portfolio is managed. This category has two types. 

• Active Mutual Funds- The fund manager actively manages mutual funds of this category to ensure better returns
• Passive Mutual Funds- The changes in the portfolio are done only in case the index composition changes

3. Based On Investment Objective– The mutual funds of this category are based on various investors’ financial objectives.

• Growth Funds- Ideal for investors looking for high returns in the long run, growth funds entail high-performing stocks
• Income Funds- They are debt mutual funds, usually investing in government and corporate bonds and money market instruments. Income funds aim to deliver good returns regardless of the interest rate regime.
• Liquidity-based Funds- Liquid funds are excellent for receiving short-term returns
• Tax-saving Funds- Tax-saving mutual funds are essentially equity-linked saving schemes (ELSS) which offer tax benefits to investors under Section 80C of the Income Tax Act, 1961. They have a specific lock-in period
• Pension Funds- Pension funds, or retirement funds, manage your pension corpus to help you achieve your retirement goals

4. Thematic/Solution-Oriented- The funds of this category are focused on specific sectors or themes and offer customised investment solutions to leverage the best market opportunities.

5. Exchange Traded Funds- These mutual funds can be traded in real time on the stock exchange.

6. Overseas Funds- Overseas, foreign mutual funds, or International funds are schemes that invest in listed companies in foreign stock exchanges.

7. Funds Of Funds- A fund of funds is a multi-manager investment where a pooled investment fund invests in other types of funds.

Investors can invest in mutual fund investments that suit their financial goals.

Pros And Cons Of Mutual Fund Investing

Understanding mutual funds' significant advantages and disadvantages enables investors to evaluate their suitability for investment.

Pros:

• Liquidity: Mutual funds offer liquidity, allowing investors to access their funds as needed.
• Diversification: Investors can achieve a diversified portfolio through mutual funds, mitigating risk.
• Minimal Investment Requirements: Mutual funds have minimal investment requirements, making them accessible to various investors.
• Professional Management: Professionals manage mutual funds, leveraging their expertise to maximise investors’ returns.

Cons:

• Commissions And Fees: Mutual funds may entail commissions, high fees, and other expenses. Further, the expense ratio keeps changing within the permissible limits.
• Lack Of Transparency: Comparing funds can be challenging due to limited transparency in holdings.

Conclusion

Mutual funds represent a time-tested and reliable investment method for investors. They offer an easier and more diversified investment strategy, especially for stocks. The top large-cap mutual funds with the highest return over ten years have been Mirae Asset Large Cap Fund and Nippon India Large Cap Fund. SBI Bluechip Fund, ICICI Prudential Bluechip Fund, and HDFC Top 100 Fund are other mutual funds with excellent performance history.

Mutual funds, however, have yet to be as successful in offering attractive non-market linked fixed-income investment options. Explore Grip Invest and stay updated on the latest fixed-income investment opportunities to suit your financial needs. 

Frequently Asked Questions On Mutual Funds

1. Are mutual funds a safe investment?

Yes, mutual funds are considered to be safer investment options in the market-linked category due to the diversification they offer. Identifying suitable mutual funds that can provide good returns with minimal risk is crucial.

2. What are some alternatives to mutual fund investment?

While mutual funds are good investment avenues for retail investors, exploring alternative investment opportunities that offer competitive returns without volatility is pivotal. Here are some alternatives to mutual funds worth considering:

• Securitised Debt Instruments (SDIs): SDIs combine multiple underlying assets into interest-bearing instruments, offering potential returns as high as 16%. On Grip Invest, investors have many options based on this model, for example, LeaseX, LoanX, BondX, and InvoiceX. The main USP of these products is that they offer significantly higher returns than other similarly credit-rated fixed-income products. 
• Fractional Commercial Real Estate (CRE): Investing in commercial real estate on a fractional basis allows investors to gain ownership of a portion of the property while reaping proportional profits.

3. Can mutual funds be sold at any time?

Mutual funds can be bought or sold at any time. Trades occur after the current trading session closes or at the start of the next trading session if the order is placed after trading hours.

4. How are mutual funds priced?

The value of a mutual fund is termed the net asset value (NAV). It represents the net value of a fund's assets minus liabilities, divided by the total shares outstanding during the trading session when the market closes.

5. What is the mutual fund fee?

Mutual fund charges include fees related to advisory, fund managers fees, legal fees, operational costs, audit fees, registrar and transfer agent fees, investment management fees, distribution fees, and marketing fees. Mutual fund fees, or mutual fund expense ratios, typically range from 0.25% to 1% annually.

References:

1. Association of Mutual Funds in India <https://www.amfiindia.com/indian-mutual>
2. Association of Mutual Funds in India <https://www.amfiindia.com/investor-corner/knowledge-center/types-of-mutual-fund-schemes.html>

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