Team findesh/November 15, 2023
In this article, we will explain what mutual funds are, how they work, what are their benefits and risks, and what are some examples of mutual funds.
What are Mutual Funds?
Mutual funds are a popular and convenient way to invest in the financial markets. They allow investors to pool their money and buy a diversified portfolio of securities, such as stocks, bonds, or other assets. Mutual funds are managed by professional fund managers who try to achieve the fund’s investment objectives and generate returns for the investors. Here, we have explained in a simple way, what exactly mutual fund is:
Like an investor invest 100000 (Rupees, Dollars and Euros and any other currency) in mutual fund scheme. Booked amount will be invested in upto 50 to 70 companies shares maximum, also depends on fund manager strategy of allocation of the funds. It will minimize the risk due to allocation of funds into vast range and also lower the cost of managing the funds for large number of investors.
Net Asset Value: The securities that a mutual fund owns are called its holdings, and the total value of its holdings is called its net asset value (NAV). The NAV per share is the price at which investors can buy or sell shares of the mutual fund.
Each mutual fund has a specific investment objective, such as growth, income, value, or sector focus. The fund manager selects the securities that match the fund’s objective and allocates the fund’s assets accordingly. The fund manager also monitors the performance of the holdings and makes changes when necessary.
Expense Ratio: The fund manager charges a fee for his or her services, which is deducted from the fund’s returns. The fee is usually expressed as a percentage of the fund’s assets, called the expense ratio.
Where, how to buy?
Investors can buy or sell shares of a mutual fund through a broker, a financial advisor, or directly from the fund company. When investors buy shares, they pay the NAV per share plus any sales charge, also known as a load. The load is a commission that compensates the intermediary who sells the fund. Some funds do not charge a load, and are called no-load funds. When investors sell shares, they receive the NAV per share minus any redemption fee. Some funds do not charge a redemption fee, and are called no-redemption-fee funds.
How do mutual funds work?
Mutual funds work by pooling the money of many investors and investing it in a portfolio of securities that matches the fund’s objective. The fund manager is responsible for selecting, buying, and selling the securities, as well as managing the fund’s risk and return. The fund manager reports the fund’s performance and activities to the investors periodically, usually quarterly or annually. Mutual funds generate returns for the investors in two ways:
- Dividends: are the payments that some securities, such as stocks and bonds, make to their owners from their earnings or interest income.
- Growth or Capital Gains: are the profits that the fund makes when it sells a security for a higher price than it bought it. Investors can choose to receive these distributions in cash, or reinvest them in more shares of the fund.
Mutual funds are subject to taxes, depending on the type of returns they generate and the type of account they are held in. Dividends and capital gains are taxed as ordinary income or as long-term capital gains, depending on how long the fund or the investor held the securities. Ordinary income tax rates are usually higher than long-term capital gains tax rates. Investors can reduce their tax liability by holding mutual funds in tax-advantaged accounts, such as Individual Retirement Accounts (IRAs) or ELSS funds (Equity Linked Saving Schemes). These accounts defer or eliminate taxes on the fund’s returns until the investor withdraws the money.
What are the benefits and risks of mutual funds?
Mutual funds offer several benefits to investors, such as:
- Diversification: Mutual funds allow investors to own a variety of securities across different asset classes, sectors, industries, and countries. This reduces the risk of losing money if one or a few securities perform poorly, as the losses can be offset by the gains from other securities.
- Professional management: Mutual funds are managed by experts who have the knowledge, experience, and resources to research and analyze the securities and the markets. They can make informed and timely decisions on behalf of the investors, saving them time and effort.
- Convenience: Mutual funds are easy to buy and sell, as they are widely available and liquid. Investors can access information about the fund’s performance, holdings, fees, and risks online or through reports. Investors can also automate their transactions, such as investing a fixed amount every month or reinvesting the distributions.
- Affordability: Mutual funds have low minimum investment requirements, usually ranging from $100 to $3,000. This makes them accessible to investors with different income levels and goals. Investors can also benefit from economies of scale, as the fund’s expenses are spread over a large number of investors.
Mutual funds also have some risks that investors should be aware of, such as:
- Market risk: Mutual funds are subject to the fluctuations of the securities and the markets they invest in. The value of the fund can go up or down depending on the supply and demand, the economic and political conditions, the interest rates, the inflation, and other factors. Investors can lose some or all of their money if the fund performs poorly.
- Manager risk: Mutual funds are dependent on the skill and judgment of the fund manager. The fund manager may make wrong or unfavourable decisions, such as buying or selling securities at the wrong time, missing opportunities, or taking excessive risks. The fund manager may also change the fund’s strategy or style, which may not suit the investors’ preferences or expectations.
- Fee risk: Mutual funds charge fees for their services, which reduce the fund’s returns. The fees can vary widely among different funds, and can have a significant impact on the fund’s performance over time. Investors should compare the fees and the returns of different funds before investing, and look for funds with low fees and high returns.
- Tax risk: Mutual funds are subject to taxes on their distributions, which can reduce the investors’ net returns. The taxes can vary depending on the type of returns, the type of account, and the investor’s tax bracket. Investors should consider the tax implications of investing in mutual funds, and look for tax-efficient funds or tax-advantaged accounts.
Major Types of Mutual Funds?
There are many types and categories of mutual funds, each with different characteristics, objectives, and risks. Some of the common types of mutual funds are:
- Equity funds: These funds invest mainly in stocks, which are shares of ownership in companies. Equity funds can be further classified by the size, style, sector, or geography of the stocks they invest in. For example, there are large-cap, growth, technology, or international equity funds. Equity funds tend to have higher returns and higher risks than other types of funds, as stocks are volatile and sensitive to market conditions.
- Debt or Fixed-income funds: These funds invest mainly in bonds, which are loans to governments or corporations that pay interest. Fixed-income funds can be further classified by the maturity, credit quality, issuer, or type of the bonds they invest in. For example, there are short-term, high-yield, or corporate bond funds. Fixed-income funds tend to have lower returns and lower risks than equity funds, as bonds are stable and predictable, but they are also affected by interest rate changes.
- Money Market funds: These funds invest mainly in short-term debt instruments, such as treasury bills, certificates of deposit, or commercial paper. Money market funds are considered the safest and most liquid type of mutual funds, as they have low volatility and high liquidity. Money market funds are suitable for investors who need a safe place to park their money for a short period of time.
- Balanced or Hybrid funds: These funds invest in a mix of stocks, bonds, and other assets, such as commodities or real estate. Balanced or hybrid funds can have different proportions of the asset classes, depending on the fund’s objective and risk tolerance. For example, there are conservative, moderate, or aggressive balanced funds. Balanced or hybrid funds aim to provide a balance of growth and income, as well as diversification and stability.
Here are some examples of mutual funds, along with their NAV and returns, as of November 15, 2023:
| Scheme Name | NAV Date | NAV Regular | Return 1 Year (%) Regular | Return 3 Year (%) Regular | Return 5 Year (%) Regular |
| Aditya Birla Sun Life Frontline Equity Fund | 2023-11-15 | 394.90 | 10.70 | 17.91 | 13.34 |
| Axis Bluechip Fund | 2023-11-15 | 46.82 | 4.51 | 10.48 | 12.53 |
| Baroda BNP Paribas Large Cap Fund | 2023-11-15 | 163.43 | 11.07 | 16.21 | 15.05 |
| Canara Robeco Bluechip Equity Fund | 2023-11-15 | 46.72 | 9.62 | 15.36 | 15.23 |
| Edelweiss Large Cap Fund | 2023-11-15 | 64.73 | 13.48 | 17.20 | 14.58 |
| HDFC Top 100 Fund | 2023-11-15 | 882.87 | 16.28 | 22.48 | 13.94 |
Conclusion
Mutual funds are a convenient and accessible way to invest in the financial markets. They offer diversification, professional management, convenience, and affordability to investors.
However, they also have market risk, manager risk, fee risk, and tax risk that investors should consider. There are many types and categories of mutual funds, each with different characteristics, objectives, and risks. Investors should choose the mutual funds that suit their goals, preferences, and risk tolerance.
Note: We are sharing our update for knowledge and education purpose. Please, Consult your financial advisor prior investing.