How to Invest in Mutual Funds

A mutual fund is a type of financial product which draws money from a pool of investors. The common fund will be invested by a fund manager in …

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A mutual fund is a type of financial product which draws money from a pool of investors. The common fund will be invested by a fund manager in various kinds of assets and securities. The losses or gains out of the investment will be shared by all the stakeholders. The sharing will take place as per the investment proportion. You can choose mutual fund scheme as per the risk appetite and targeted financial goals. Mutual funds are registered with the regulator, SEBI (Securities Exchange Board of India) and they will conduct operations as per the rules and regulations.

Types of mutual funds

Before understanding how to invest in mutual funds, you should be aware of the type of mutual funds. There are different kinds of investment options for mutual fund investors which are based on the class, investment objective and structure.

Based on the asset class, the following types of funds are available:

  • Equity funds – The money will be invested in various kinds of stocks and bonds of reputed companies. The risk proportion is high and the returns will be high. Investors with a long-term perspective should go for equity funds.
  • Debt funds – Most of the investment goes into fixed income instruments, government bonds and company debentures. Hence, the principal amount is protected and there will be moderate returns. Senior citizens and customers who do not want to take the risk should choose debt funds.
  • Balanced funds – The investment goes into high risk as well as low-risk asset classes. The balanced funds are also called as hybrid funds. Hence, a mix of equity as well as debt investment will be made to offer better returns to customers.
  • Money market funds – The money will be invested in treasury bills and other kinds of liquid asset classes so that there will not be any risk to customers. There will be very quick and moderate returns with money market funds.
  • Tax- saving funds – The funds are invested in the equity market and they are intended to offer income tax exemption. ELSS (Equity Linked Savings Scheme) will deliver best returns and they are available with a minimum of 3-year lock-in period. There is no tax on the principal amount up to Rs. 1.5 lakh in a financial year. The returns are exempted from the tax.
  • Fund of funds – The funds are invested in other mutual funds. If the targeted funds perform well, the fund delivers good returns.

Based on the structure, the following types of funds are available:

  • Open-ended funds – You can purchase and redeem funds at any time. There will not be any restriction on exiting the fund. The money equivalent to the unit value will be credited into the investor’s bank account after deducting the exit load (if any).
  • Close-ended funds – The funds can be purchased during the initial offer period. As the units will be locked, the funds can be redeemed after the maturity date. Some funds will be listed on stock exchanges so that there will be liquidity.

Based on investment objective, the following types of funds are available:

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  • Growth funds – The growth funds are designed to deliver higher returns in the shortest possible time. The fund comprises of small, medium and large-cap stocks. The fund manager will pick up the growth stocks to maximize the returns for the investor. When you choose growth funds, the profits made will be reinvested and the maturity amount will be higher than the dividend fund.
  • Money market funds – Money market funds offer high liquidity and the capital will be safe. It is possible to make better returns than bank deposits by investing in money market funds.
  • Balanced funds – The balanced fund is a combination of income fund and growth fund. It will achieve multiple investment objectives in a very efficient manner. Investors will fulfill short-term income objectives as well as long-term gains by choosing balanced funds.
  • Income funds – The investment will go into fixed income government securities and company debentures. Retired employees and risk-averse individuals should go for the income funds so that there will be moderate returns on a consistent basis.

Investment in mutual funds

Lump sum vs. SIP

There are options to invest in lump sum or installments. If you have a certain sum of money at your disposal, you can go for lump sum investment. On the other hand, you can invest through SIP (Systematic Investment Plan) mode on the monthly or quarterly basis.

The mutual fund unit price will go up or down as per the demand. The unit rate will climb if the stocks’ performance is good. It will come down when the stock market crashes. The variation in unit value will be high when you choose small-cap based mutual fund schemes. On the other hand, the variation in day-to-day NAV (Net Asset Value) will be nominal when you choose large-cap based mutual funds.

When the market is in bullish, it is possible to reap quick benefits by investing in small-cap based funds. However, there are many other factors which influence the growth or fall of a fund. By choosing SIP mode of investment, you can buy units at an average price. It is possible to earn huge returns by investing in mutual funds on a long-term basis.

Direct vs. Regular

You can invest in mutual funds directly by using the online facility. It is possible to register on the website of the fund house and the investment can be made directly. When you choose the direct mode of investment, you will avoid the brokerage charges. As the expenses will come down, the returns will be high. On the other hand, the returns of a regular fund are less than the returns of a direct fund.

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Conclusion

Mutual funds are great means to participate in the equity market. New, as well as experienced investors can participate in various kinds of funds as per their risk appetite and financial goals. You can choose funds to fulfill your short-term and long-term financial goals in an effortless manner.

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