Mutual Funds

What is Mutual Funds ?

Mutual fund is a mechanism for pooling the resources by issuing units to the investors and investing funds in securities in accordance with objectives as disclosed in offer document.
Investments in securities are spread across a wide cross-section of industries and sectors and thus the risk is reduced. Diversification reduces the risk because all stocks may not move in the same direction in the same proportion at the same time. Mutual fund issues units to the investors in accordance with quantum of money invested by them. Investors of mutual funds are known as unitholders.
Mutual Funds can be classified into various categories under the following heads:-

(A) According to the types of investment

While launching a new scheme, every Mutual Fund is supposed to declare in the prospectus the kind of instruments in which it will make investments of the funds collected under that scheme. Thus, the various kinds of Mutual Fund schemes as categorized according to the type of investments are as follows :-

• EQUITY FUNDS / SCHEME
• DEBT FUNDS / SCHEMES (also called Income Funds)
• DIVERSIFIED FUNDS / SCHEMES (Also called Balanced Funds)
• GILT FUNDS / SCHEMES
• MONEY MARKET FUNDS / SCHEMES
• SECTOR SPECIFIC FUNDS
• INDEX FUNDS

(B) According to the time of closure of the scheme

At the time of launch of new schemes, Mutual funds will declare the tenure of the scheme which may be open-ended (i.e no specific end date) or with a fixed end date. Thus, based on the tenure, schemes can be classified into 2 categories:
• OPEN-ENDED SCHEMES
Open-ended funds are allowed to issue and redeem units any time during the life of the scheme, but close-ended funds cannot issue new units except in case of bonus or rights issue. Therefore, unit capital of open-ended funds can fluctuate on daily basis (as new investors may purchase fresh units), but that is not the case for close-ended schemes. In other words, we can say that new investors can join the scheme by directly applying to the mutual fund at applicable net asset value related prices in case of open-ended schemes but not in case of close-ended schemes. In the case of close-ended schemes, new investors can buy the units only from secondary markets.
• CLOSE ENDED SCHEMES
The profits or losses are shared by the investors in proportion to their investments. The mutual funds normally come out with a number of schemes with different investment objectives which are launched from time to time. A mutual fund is required to be registered with Securities and Exchange Board of India (SEBI) which regulates securities markets before it can collect funds from the public.

(B) According to the time of closure of the scheme

At the time of launch of new schemes, Mutual funds will declare the tenure of the scheme which may be open-ended (i.e no specific end date) or with a fixed end date. Thus, based on the tenure, schemes can be classified into 2 categories:
• OPEN-ENDED SCHEMES
Open-ended funds are allowed to issue and redeem units any time during the life of the scheme, but close-ended funds cannot issue new units except in case of bonus or rights issue. Therefore, unit capital of open-ended funds can fluctuate on daily basis (as new investors may purchase fresh units), but that is not the case for close-ended schemes. In other words, we can say that new investors can join the scheme by directly applying to the mutual fund at applicable net asset value related prices in case of open-ended schemes but not in case of close-ended schemes. In the case of close-ended schemes, new investors can buy the units only from secondary markets.
• CLOSE ENDED SCHEMES
The profits or losses are shared by the investors in proportion to their investments. The mutual funds normally come out with a number of schemes with different investment objectives which are launched from time to time. A mutual fund is required to be registered with Securities and Exchange Board of India (SEBI) which regulates securities markets before it can collect funds from the public.

What are Important Benefits of Mutual Funds?

1. Diversification
One of the most prominent advantages of investing in mutual funds is diversification. It is the process of spreading a given investment over multiple assets classes. Diversification helps us create an assorted portfolio that segregates the headwinds experienced in various sectors. Money is invested in a mixture of assets according to one’s risk appetite.
For e.g., an equity-oriented mutual fund would generally comprise of 60-70% investments in equities, and the remaining 30-40% in debt securities.
As mentioned earlier, diversification helps us reduce the risk associated with different asset classes. This proves to be beneficial when an underlying component of a given mutual fund experiences market headwinds. With diversification, the risk associated with one asset class is countered by the others. This way, you don’t lose out on the entire value of your investment if a particular compenent of your portfolio goes through a turbulent period.
2. Professional Management
A lot of investors do not have the time or resources to conduct their research and purchase individual stocks. This is where professional management becomes quite useful. Several people invest in mutual funds for the professional expertise it provides to one’s investments. A fund manager continuously monitors investments and adjusts the portfolio accordingly to meet its objectives. This professional management is one of the most important advantage of a mutual fund.
3. Tax Benefits
The tax benefits associated with a particular kind of mutual fund is perhaps what draws most investors to this investment vehicle. To encourage investments in mutual funds, the Government of India offers several tax benefits.
For e.g., investments in Equity-Linked Saving Schemes (ELSS) qualify for tax deduction under Section 80C of the Income Tax Act. One can invest up to Rs1.5 lakh in this instrument to avail a tax saving of approximately Rs46,800 (assuming the highest slab of income tax i.e. @30% plus health & education cess 4% excluding surcharge as applicable) on their taxable income. The only caveat here is that the instrument comes with a lock-in period of 3 years, which means that you would not be able to access the invested funds during this period.
4. Highly Liquid
One can easily sell mutual funds to meet their financial needs. Upon liquidation, the money is deposited in your bank account in few days. Additionally, there are mutual funds that provide faster disbursal. They are called funds having instant redemption facuility , wherein the money is transferred to your bankon the same day.
5. Higher Return on Investment (ROI)
All investors aim to achieve a higher RoI by investing in financial instruments such as mutual funds to beat inflation and increase their wealth of the long-term. Mutual funds have greater prospects of potentially providing highreturns over time as one can invest in a diverse range of sectors and industries.
6. Well-regulated
All mutual funds are regulated by the capital markets watchdog Securities and Exchange Board of India (SEBI). This means that all mutual fund houses are required to follow the various mandates as laid down by SEBI. This, in turn, protects the interests of the investors. Moreover, SEBI makes it mandatory for all mutual funds to disclose their portfolios every month.
7. Easy Investment
It is very easy to invest in mutual funds, i.e. you can do this either online or offline. This ease of investment makes mutual funds are preferable avenue.

SIP and Lumpsum

Most importantly, investing in mutual funds is very affordable. For those who cannot earmark a significant portion of their earnings towards mutual funds, they can start investing with amounts as low as Rs500 at predefined intervals. This is known as a Systematic Investment Plan or SIP. On the contrary, if you have a significant chunk of money to invest, you can even make a lumpsum investment in a mutual fund. Many investors are confused which is better between to above two investment methods. Here is an article on SIP vs Lumpsum which will help you understand which is a better of the two.
Mutual funds aid you in realizing your life’s superior goals quite easily. In this video, we go through the different benefits of mutual funds that investors can capitalize on to grow their corpus and meet their financial goals.