All You Need to Know about Investment in Mutual Funds
Mutual Fund Sahi Hai is the term we are hearing almost every day but is it worth investing in mutual funds? Here is everything you need to know about Investment in Mutual Funds.
There was a time when investing meant only in Fixed Deposits but due to a continuous decline in the return from Fixed Deposits, investors are exploring new options. Mutual Funds were there for a long time but they come with a risk. And, since FDs used to offer handsome returns without any risk, nobody ever tried to consider Mutual Fund as an option. But, the return from FD has come down to as low as 5% which is lower than the inflation rate itself. So, considering a better option becomes the need of time and there we have options like Equity, Mutual Funds, etc. Before we understand the investment in Mutual Funds, let’s understand the basic concepts of Mutual Funds.
What is Mutual Fund?
In order to understand the concept of mutual funds, let’s take an example of a real-life situation. Imagine, you have a car which you are driving by yourself. Now, in this situation, there are a lot of advantages and disadvantages depending upon how you look at it. You being the driver, have complete control over your vehicle, fuel maintenance, almost everything. But, it will depend upon your skills. If you are a bad driver, it won’t be good for you or for the vehicle.
So, now what you do is, hire somebody who can drive your vehicle who is really good with the driving skills and has expert knowledge about the vehicle. But, the disadvantage is that you have to pay him a salary. This is exactly what happens in Mutual Fund.
When you are investing by yourself directly in the market you are having complete control over your investment but when you invest through mutual funds, there comes a fund manager who invests on your behalf.
Types of Mutual Funds
It depends upon where exactly you are investing or your mutual fund is investing. These funds display the class of assets in which they are going to invest.
These are the funds that invest in the equity market. Equity shares represent the ownership of a company and these shares are generally listed on the stock exchange if the company is a public company. There are different funds in the equity-oriented mutual funds themselves based on what kind of companies they are investing in e.g. Large Cap Funds, Small Cap Funds, Flexi Cap Funds, Sector oriented funds, etc.
Equity-oriented funds offer the maximum return on investment but they come with a higher risk as well. These funds perform on the basis of the overall stock market.
Debt is another class of asset that is available to invest which includes Debentures, bonds, etc. For a company, debt is the loan that they have taken, and you as an investor are giving them this loan that is why it is called Debt. And, investing in this debt through mutual funds is nothing but your debt funds. The rate of return on debt is fixed but since a fund is investing in more than one debt instrument and the proportion also keeps on changing so the rate of return fluctuates here also. But, the return is generally constant but lower than the equity funds as the risk is also lower.
These are the mutual funds that invest in both equity and debt markets. proportionately, they allocate their investment in both equity and debt so as to keep it safe and get exposure to the market as well. The risk is relatively lower than the equity funds and the return is also balanced with the safety of debt and exposure of the equity. For those who are not ready to take the risk of the market but want a better return, a hybrid fund is a good option.
Active Fund vs Passive Fund
When you are investing in a mutual, basically you are buying the units of the mutual fund and giving the money to the funds manager. Now, this fund manager is creating a portfolio for investment where he is putting your money. This manager has complete control over the portfolio and he keeps on changing the allocation of different assets based on how they are performing. This is called an Active fund where the fund manager is actively managing the fund.
But, the stock market has its own portfolio of top performers called Nifty and Sensex. Sensex is nothing but a portfolio of the best 30 companies listed on the Bombay Stock Exchange. Similarly, Nifty is a portfolio of the 50 best companies on the National Stock Exchange. The stock Exchanges keep on updating these lists. So, why not invest in these indices directly instead of trusting a fund manager. This kind of fund is called an Index Fund or Passive Fund.
Basic Concepts related to Mutual Funds
AMC – Asset Management Company is the company that manages Mutual Funds
NFO – NFO stands for New Fund Order which is nothing a new fund offered by an AMC.
NAV – Net Asset Value is the value of the units of the mutual fund trading at the current point in time.
SIP – Systematic Investment Plan is investing periodically in a mutual fund.
KYC – Know Your Customer includes the details of the customer like Name, Date of Birth, Adhar, etc.
CAGR – Compounded Annual Growth Rate is the rate of return annually.
Absolute Return – Absolute Return is the exact return apart from the principal invested.
Expense Ratio – This is the ratio of expenditure that is considered as the cost of investing in a mutual fund.