A detailed overview of the Mutual Fund, Advantages & Disadvantages, type of Mutual fund, which is best to Invest.
What is Mutual Fund :
A mutual fund is a pool of money handle by a professional Fund Manager
Mutual fund is a trust which collects money from many investors who have a common investment objective and invests the same in equities, bonds, money market instruments.
In simple word mutual fund is a company which collect small money from large investors and invests that money in capital market. Profit and loss will be proportionality distributed between all the unitholders. Mutual fund company appoint a fund manager to manage this collected money.
History of Mutual Fund in India.
A healthy financial market with broad participation is necessary for a developed economy. With this broad objective first mutual fund was established in 1963, namely, Unit Trust of India (UTI).
In the year 1993, the first set of SEBI Mutual Fund Regulations came into being for all mutual funds, except UTI.
Kothari Pioneer was the first private sector MF registered on July 1993.
The entry of private sector funds in 1993, a new era began in the mutual fund industry, giving the Indian investors a wider choice of mutual fund products.
Regulator of Mutual Fund in India.
Mutual funds are governed by the Securities and Exchange Board of India(SEBI).
Categories of Mutual Fund in India.
As per SEBI, mutual funds can be broadly classified into 3 categories
- Equity Funds
- Debt Funds
- Hybrid Funds.
How Mutual Fund Work / Process Flow of Mutual Fund :
We can understand the flow of mutual fund by the below chart.
The person who wants to invest their money gives money to mutual fund company and then mutual fund company invest that fund in securities and generate a return for an investor. Generated return are given back to investors.
Advantages & Disadvantages of Mutual Funds
Before investing in mutual fund you must aware about the advantages and disadvantage of mutual fund to take the right investment decision.
A famous quote of Benjamin Franklin is “An investment in knowledge pays the best interest.”
So before investing you must know each and everything like the advantage of that financial products, disadvantages, Risk, Return and other norms like lock-in period, expense ratio, liquidity, etc.
Advantages of Mutual Fund
· Professional Management
Mutual Fund Company appoint well-experienced fund manger, with the help of strong research teams and their own expertise, pick the best options to meet the fund’s objective. This will help you to save time and the stress of regular monitoring your investments.
One of the biggest advantages of mutual funds is diversification. You may not have enough money to investments in varied stocks and sectors but if you invest through mutual fund then your money in diversify in multiple stocks and other securities.
Suppose you have invested Rs. 5000/- in XYZ mutual fund and that mutual fund holds 50 stock in their portfolio then your money will be automatically diversify in 50 stocks.
One of the most benefit of investment in a mutual fund is that you should not take care of diversification or assets allocation, the fund manager will take care of this activity.
Fund manager also ensures and invest money in a sector which will perform in the future.
· Affordability :
One of the biggest advantages of a mutual fund is that it can to start with is low as Rs.500 through SIP. It gives an option to the small investor where they invest a few amounts every month and create wealth for the future.
Example: If your age is 25 years and you started SIP Rs.500 per month in XYZ mutual fund till the age of 60 and if this fund delivered CAGR @15 %, you invest continuity for 35 years and your invested Rs.2.10 Lac then your total value of an investment is Rs.56.41 Lac at the time of your retirement.
SIP calculator, Please note that future return is not certain and it may vary. Return is taken only for example purpose.
· Liquidity :
mutual fund gives an option to you for easy investment and withdraws of money. If you invested in the open ended mutual fund then you can get your money in 2-3 days in your account and if you invested in the liquid fund then you will receive your money on the same day.
· Tax Benefit :
There are many tax benefits if you invest in mutual funds.
For example, investments in Equity Linked Savings Schemes (ELSS) qualify for tax deductions under Section 80C of the Income Tax Act.
There is only a 10% tax on capital gains on units of equity schemes held for more than 12 months.
Short term capital gain is applicable for redemption of debt mutual funds within 3 years. Long term capital gain (more than 3 years) from debt mutual funds is taxable after claiming the benefit of Indexation.
The maximum deduction amount that can be claimed under section 80C for ELSS fund is Rs.1.5 Lac. P.a.
· Well Regulated :
In India, all mutual funds are regulated by the Securities and Exchange Board of India (SEBI). All mutual fund has to follow SEBI guidelines. SEBI protect the interest of a small investor.
· Suit your financial goals :
You can select mutual fund and link that mutual fund with your financial goal like a retirement plan, child education, etc.
· SIP or one-time investment option :
You can plan your mutual fund investment as per your requirement. you can choose SIP option where you many some amount on every month or you can choose a one-time investment option.
· Safety of Investment :
Since mutual funds are regulated by SEBI in India so there is a change of default in payment and also diversification, proper asset allocation and professional management ensure the safety of your investment.
· High return :
The equity-linked mutual fund invested in the share market so a return is also high in the mutual fund.
Disadvantages of Mutual Fund
Before investing in mutual fund you should also know the disadvantages of mutual to take the right investment decision .
Following are disadvantages of Mutual fund :
High Expense Ratio
There is expense ratio on the mutual fund which is not the case for buying stocks or securities directly in the market. Entry load which has to be borne by an investor when buying a mutual fund and Exit cost as well when an investor chooses to exit from a mutual fund.
Mutual fund return is subject to market volatility and Risk :
Return on a mutual fund is subject to market risk if the market perform well then your return will be high and vice versa , there is also chances of capital loss in case high volatility on the lower side.
Diversification of portfolio reduce return :
A mutual fund is diversified their portfolio in different assets, this over-diversification results lower return compare to direct investment in shares.
Loss of control :
Mutual funds manager take all of the decisions about which securities to buy and sell and when to do so. If you have choose the wrong fund manger then he can jeopardize your money.
Cash Drag :
Mutual funds maintain large cash reserves for manage of large number of simultaneous withdrawals. This high cash ratio provides investors with liquidity, it means that some of the fund’s money is invested in cash instead of market, which tends to lower the investor’s potential return
Different Type of Mutual Funds
Equity Funds / Growth Funds
Mutual Funds that invest in shares are called equity funds. Objective of an equity fund is a capital appreciation of the investment over a medium to long-term.
Equity Funds in nature high risk funds and their returns are linked to the share markets. Equity oriented fund is good for investors who are looking for long term growth.
There are many types of equity funds such as Diversified funds, Sector specific funds and Index based funds.
Tax on equity oriented fund :
1. Mutual funds which invest greater than or equal to 65% of their corpus in equity and equity related securities at all times are called equity oriented mutual funds.
2. If you hold mutual fund less than one year then short term capital gain applicable which is 15%
3. Mutual funds held for a year or more are treated as long-term capital gains and taxed at 10% for gains exceeding Rs 1 lakh in a year if gain arises from equity oriented mutual fund.
Diversified funds provide you the benefit of diversification by investing in companies across sectors and market capitalization. Diversify mutual fund generally meant for investors who seek exposure across the market and do not want to be restricted to any particular sector.
A diversified fund has the flexibility to increase or decrease its exposure to large cap, mid-cap, and small cap investment depending on the fund manager’s perception of the market conditions and future market expectations,
Multicap funds are an example of diversified funds in India.
Investment return is higher in a diversified mutual fund.
Sector funds invest primarily in equity shares of companies in a particular business sector or industry.
These funds are high Risk high return as compared to diversified funds. Investors should track the performance of those sectors/industries and must exit at an appropriate time.
An investor who has knowledge about economy and the particular sector should only to invest in this fund because of if particular sector is not performed or face any cycle problems then your return will turn in negative.
There are many sector funds are available in India areas:
- Pharma fund
- Banking and financial services fund.
- Technology oriented fund
- Consumer sector fund
- Infrastructure fund
- MNC fund
Index funds invest in the same pattern as stock market indices like the CNX Nifty Index and S&P BSE Sensex.
The value of the index fund changes in proportion to the benchmark index. NAV of such schemes rise and fall with the rise and fall in the index.
Index funds have lower expense ratio . Index funds follow a passive investment strategy
Below is some example of an index fund, only for knowledge and not investment advice :
- Reliance IndexFund – Sensex Plan.
- LIC MF IndexFund
- ICICI Prudential Nifty IndexFund.
- UTI Nifty index fund.
- Franklin IndiaIndex Fund Nifty Plan.
- SBI Nifty index fund.
- IDBI Nifty IndexFund.
- Reliance IndexFund – Nifty Plan
Tax Saving Funds(ELSS)
Equity Linked Savings Scheme (ELSS) is an open-ended Equity Mutual Fund that doesn’t just help you save tax, but also gives you an opportunity to grow your money. This fund gives you tax exemptions under section (u/s) 80C of the Indian Income Tax Act.
ELSS gives tax-efficient returns with a lock-in period of just 3 years.
You can not withdraw your investment before 3 years in this scheme.
Investments in ELSS eligible for deductions of up to Rs 1.5 lakh under Section 80C of the Income Tax Act. If you are looking to save taxes under Section 80C, you may consider investing in these schemes to claim tax deductions.
Debt Fund / Fixed Income Funds
Debt mutual fund invest in the debt of fixed income securities.
Debt mutual fund is best for the medium to long-term investors who are averse to risk and seeking regular and steady income.
Please note that debt fund is not risk-free there is risk associated with debts fund are interest rate risk and credit risk
When interest goes down return on debt fund will be increased and if the interest rate increase then returns on debt fund will decrease.
Credit risk is also associate with debt fund, debt mutual fund invests money in a corporate bond, debentures, and other debt instrument and if company default in payment then mutual fund NAV also decrease due to adjustment of default loss.
Liquid Funds / Money Market Funds
Liquid mutual funds invest in highly liquid money market instruments and provide easy liquidity.
They are ideal for Corporates, institutional investors and business houses who invest their funds for very short periods.
Liquid fund and money market fund has very less risk.
Return in liquid and money market fund are equal to your FD return or 1-2% higher than your FD return.
This mutual fund is low Risk low return category.
Gilt Funds :
Gilt mutual funds invest in Central and State Government securities and are best suited for the medium to long-term investors who are averse to risk. Government securities have no default risk.
Gilt funds are invested in government securities so there is no credit risk associated with them but one of the major risk associated with gilt fund is Interest rate risk.
Performance of gilt fund depends on the interest rate, if the interest rate is increased then gilt fund return will reduce and vice versa.
Balance mutual funds invest both in equity shares and debt (fixed income) instruments and strive to provide both growth and regular income. This fund is good for an investor who willing to take moderate risks.
Balance fund has to invested 65% portion in equity and remaining in debt or other securities.
Exchange Traded Funds (ETFs)
Exchange-Traded Funds are Index Funds which are listed and traded on exchanges like stocks. The ETFs trading value is based on the net asset value of the underlying share that it represents.
Direct plan: All mutual fund scheme offers two plan direct and regular plan. In direct plan investor himself to invest in scheme, before investing in direct plan he has to research which fund is best for him. There is no broker involved in a direct plan.
Therefor in direct plan low expense ratio since no distribution fees involved.
You can purchase direct plan directly through AMC.
Regular Plan: You buy this fund through a broker or distributor. Mutual fund company pays a commission to the broker or distributor.
In regular plan expense ratio is higher than the direct plan. But here one of the benefits is that broker or distributors are available to help and advice you. If you are new in market then you should invest after consulting your financial advisors.
How to Invest in Mutual Fund
There is two way to invest in a mutual fund are offline mode and online mode.
In offline method that is, find a mutual fund advisor in your locality and invest through him. The broker would help you with the formalities and buy units of mutual fund.
The second method is to invest online. If you are well informed about mutual funds and investing you should choose this option.
You have to take care of your mutual fund investments on your own.
Mutual fund is the best financial instrument for retail investor for creating wealth in long terms.
For investing in mutual fund your investment horizon should be long terms. There will be short term volatility and return are not straight . Your return will be link to market that’s why it is called subject to market Risk.
You should do research before investing and take professional financial advisor advice before investing.
This article is only for education purpose . Please take your financial advisior advice before investing.
Thanks for Reading ….
Disclaimer: This article is for education purpose only. Please take your financial advisor advice before investing.