Mutual Funds: Complete guide on mutual fund investment in India

A mutual fund is a way to pool money in a variety of underlying securities to pool money from investors for investment. In ratio to their investment amount, a mutual fund house issues unit of mutual funds to unitholders. The investment objectives of a mutual fund are revealed in the offer document. Profits or losses are proportionately distributed to the unitholders. Before it can collect funds from the public, mutual funds in India must be registered with the Securities and Exchange Board of India (SEBI).

Types of Mutual Funds in India

Mutual funds are categorised into several types based on their maturity period and investment objective. In India, mutual funds are categorised on basis on the type of underlying asset.

Equity schemes: These mutual funds provide capital appreciation for individuals who focus on medium- and long-term investment horizon. According to the Security and Exchange Board of India, equity mutual fund schemes should invest at least 65 per cent of the scheme’s assets in equities and equity-related instruments. These mutual funds are usually considered high-risk, as most of the investments are focused on equity products. These mutual fund schemes are best suited for those who are open to taking a market risk, and those looking for good returns over a long-term investment horizon.

Debt schemes: If you’re someone who invests in debt mutual funds, chances are your money will be distributed in a variety of fixed income instruments such as government and corporate bonds, debt securities, as well as money market instruments. The units of the mutual fund have a fixed rate of interest which allows the investors to be aware of the returns right from the beginning. For investors who don’t want to take huge risks but want constant yields, it’s an excellent investment alternative.

Hybrid schemes: Hybrid schemes invest in a mixture of equity and debt securities. The investment is in the proportion indicated in their offer documents. These mutual funds provide both growth and regular income. It is an excellent option for investors looking for moderate growth. Usually, the investments are made in a 40:60 ratio to keep it safe. However, the equity portfolio of the fund is subject to market volatility.

In addition, mutual funds are also classified based on structure

Open-Ended Funds: Open-ended mutual schemes are continuously available for subscription and repurchase. The important thing about open-ended mutual funds is that there is no set maturity period and investors have the choice of regularly buying and selling units at net asset value (NAV). The previous performance of these funds can be monitored, enabling the investor to make a well-informed choice. These funds are an excellent choice if the investor is looking for liquidity alone.

Close-Ended Funds: A closed-end fund works like a fund traded in exchange. A limited number of units are available for purchase in a close-ended mutual fund. During the New Fund Offer (NFO) period, the units of a closed mutual fund are available to the unitholders. The investors can trade the units on their NAVs at premiums or discounts. However, the redemption of these mutual funds is only permitted after the fund’s maturity, which is typically between 3 to 7 years. These funds are a perfect choice for those investors who are not investing in short-term financial goals of a few months.

Interval Funds: These mutual funds consist of both open-ended and close-ended mutual funds. However, the units of these funds can be purchased only during particular periods, which is determined by the fund house launching the scheme. For the rest of the duration, the fund remains shut and no purchases or sale of units can be made. This operates best for investors, who in a brief span of time, want a lump sum return.

Finally, mutual funds are also classified based on the types of investment strategy
Growth Funds: Growth funds make up a large portion of the investment money in shares. This is a good option for investors who want to invest their surplus money and have a high risk appetite.
Income Funds: These mutual funds invest the investment amount in fixed income securities such as bonds, certificates of deposits and securities among others. It is a great option for risk-averse investors who have a few years of experience in investment.
Liquid Funds: These mutual funds invest in debt instruments and money market instruments with a short tenure of up to 91 days. Each investor is allowed to invest up to Rs 10 lakhs only. The NAV of the liquid fund is calculated for 365 days, whereas the NAV of other funds is calculated only on the basis of business days.
Tax-Saving Funds: One of the most popular investment options which assist in efficient tax plannin are tax saving mutual funds, otherwise known as Equity Linked Savings Scheme or ELSS. The majority of the corpus in ELSS is invested in equity. ELSS has a mandatory lock-in period of 3 years. ELSS is the only pure equity investment that offers tax benefits up to RS 1.5 lakh in a financial year under Section 80C.
Aggressive Growth Funds: These mutual funds help you make tremendous returns from equity market investments. Using a beta tool, you can gauge the movement of the fund. This fund is, however, highly vulnerable to market volatility.
Capital Protection Funds: These mutual funds invest much of the money in bonds and deposit certificates and equity balance. The fund does offer small returns, however. This scheme can give your capital full protection.
Fixed Maturity Funds: These mutual funds invest for a maturity period which is usually between 1 month to 5 years. The investment is primarily in bonds, securities, money market etc.

Pension Funds: A pension fund are a category of mutual funds that enables you to build a retirement corpus. The pooled in money is invested through the pension fund in a variety of assets. Some of India’s common pension plans are unit-linked, investing in equity and debt instruments. The government has also launched the National Pension Scheme that invests either 100% of the investment amount in government securities or 100% of the investment amount in debt securities (other than government securities), or up to 75% in equity.

Mutual funds based on the risk factor

Mutual funds are subject to various risk factors. On the basis of the level of risk involved, here are the various types of mutual funds in India:

High-risk Funds

The majority of equity plans are at high risk. These operate best for investors who want enormous yields with enormous risk appetite. These funds need to be managed actively. These mutual funds are subject to the volatility of the industry. An investor can get returns of 15%, although in some other instances most high-risk funds usually provide yields of 20% to 30%.

Medium-risk Funds

This category includes most debt mutual funds. The risk factor is average since the bulk of the investment is in debt and the remainder is in equity. The NAV isn’t so volatile compared to high-risk funds. The average yields range from 9-12 %. For investors who do not have a high-risk appetite and want constant yields, these funds are the best option.

Low-Risk Funds

If the investor is uncertain of the investment decision or the industry is in a sudden crisis, low-risk mutual funds such as liquid, ultra-short-term or arbitrage assets or a mixture of these is a good option. The yields provided are smaller compared to the other funds. However, the risk factor is very low.

Very Low-Risk Funds

These investments are not risky at all. Examples of this category of mutual funds are liquid funds and ultra-short-term funds. However, the returns from this scheme are very low. These work best when the investor needs to fulfill a short term financial goal and does not want to take a risk.

Features of Mutual Funds in India

Here are the important features of mutual funds:

    • Mutual funds are actively managed by a fund manager. These managers are skilled experts who ensure that the investment goals of the investor are met. There is a thorough assessment and analysis before any investment decision is taken by the fund house. This ensures that your investment gains greater yields.

    • Open-ended mutual funds allow the investors to redeem all or part of the investments to be liquidated at any moment. The redemption is done at the prevailing net asset value.

    • There is always a mutual fund for everyone. With the right investment advice, it is possible to find the mutual fund suited to your investment objectives and horizon. The investor can gain maximum out of any mutual fund investment, irrespective of the investment amount.

    • Most mutual funds in India invest in a wide variety of assets, which are determined based on market capitalization and the industry. It is an excellent investment avenue if an investor wants to diversify their portfolio. It is an impossible feat to actively manage investments made in a broad variety of schemes. However, professionally managed mutual funds are just the solution you need, if you are keen to test the waters.

Benefits of mutual funds in India

Mutual funds are one of the most popular investment options currently. Here are the key benefits of mutual funds:

No fixed amount of investment

The biggest advantage of mutual funds is that it does not require a minimum amount to be invested in the fund. You are free to invest as per your financial status. Some of the funds can be started with as low as RS 500. This makes it a great opportunity for new investors who do not have a huge corpus, to begin with.

Good returns

Every investment is made with the key objective of getting the maximum returns. People shy away from investing directly in the share market because the returns are unpredictable. However, mutual funds are a safe bet. Most mutual funds offer returns between 7%-15%. The returns offered are much higher than what a fixed deposit would get you. If you are a new investor and do not have a large-risk appetite, you can always opt for the very-low risk funds that offer steady returns. Some of the mutual funds in India have a long investment period and can be the perfect solution for anyone with a long-term investment horizon.

The investor does not have to actively manage the fund

One of the chief worries on the mind of the investor is how to take the right investment decision. After all, you are saving up for a rainy day. This is where mutual funds can help. All mutual funds are managed by a fund manager. The fund manager has expertise and experience of investing across sectors and will ensure that your investments reap benefits. So once you make an investment in a mutual fund, you don’t have to sit and monitor the performance of the market. Fund managers make investments hassle-free.

Several ways to invest

At the end of the day, the goal of any investment is to make an investor financially disciplined. Mutual funds can come to your aid here as well. There are a number of ways in which you can invest in a mutual fund. You can choose between lumpsum and SIP, depending on what feels most comfortable. SIPs reduce the risk of investment as you can monitor the progress of the fund and make tweaks to your investment amount. There are also various frequencies of SIP investment. You can also choose systematic withdrawal plans at the time of redeeming the units. Overall, mutual funds are exactly tailored to all the needs of an investor.

Helps you to diversify your portfolio

Mutual funds in India invest across a class of assets. Even equity-oriented mutual funds invest in the shares of various industries. It would be impossible for an investor to make so many individual investments and track their performance. Mutual funds help you to add a variety of securities in your basket lowering your risk. As an added advantage, you also have the professional advice of a mutual fund manager.

Tax-efficient 

Who doesn’t prefer an investment which also offers tax benefits? One of the most popular investment options to help efficient tax planning is a tax saving mutual fund, otherwise known as Equity Linked Savings Scheme (ELSS). The majority of the corpus in ELSS is invested in equity.

You can start investing in ELSS with as little as RS 500. There is no upper limit of investment. Investments can be made directly or through one of the mutual fund advisors who are registered with SEBI. ELSS is the only pure equity investment that offers tax benefits up to RS 1.5 lakh in a financial year under Section 80C. However, be mindful that ELSS has a mandatory lock-in period of three years. You cannot redeem or transfer the units till the expiry of the lock-in.

Eligibility to invest in mutual funds in India

As per the current regulations of SEBI, the investor should meet the standard eligibility criteria.

An investor of a mutual fund can be Indian residents above the age of 18, Non-resident Indians (NRIs) and Persons of Indian Origin (PIOs) residing abroad, Companies (including public sector undertakings), corporate bodies, trusts (through trustees) and cooperative societies, religious and charitable trusts (through trustees), and private trusts, which are allowed to invest in mutual fund schemes under their trust deeds, foreign institutional investors registered with SEBI, and other individuals or institutions, as approved by asset management companies, so long they conform to SEBI regulations.

The eligibility criteria are also specified in the offer document.

Investing in mutual funds in India

Investors can invest directly or contact mutual fund agents for the necessary application forms that are needed. Investors need to put in their money into investments through distributors who are associated with the Association of Mutual Funds in India (AMFI). Furthermore, these distributors need to have a valid AMFI Registration Number (ARN).Investors can also invest in index funds directly without a distributor. For investments through the direct plan, the investor needs a financial adviser but does not have to pay any commissions to the distributors. This maximizes the returns as there is no commission paid.

Investors can also invest directly in mutual funds by visiting a registered branch of the company offering the mutual fund, or an online portal run by the bank or the non-banking financial company (NBFC) that sells the mutual fund.

Before making an investment, the investor should take into account the track record of the index fund. As per SEBI regulations, all the mutual funds are required to label their schemes on the following parameters:

    1. a) Nature of scheme – Irrespective of whether you want to create wealth over a period or are investing for generate regular income over a short time.

    1. b) The mutual fund company is required to create a brief about the investment product and the objective behind it. This brief is usually one line, followed by the kind of product i.e. an equity fund or a debt fund

    1. c) Risk-level depicted by a pictoral meter. This is categorised in the following way:

    • Low: where the principal is low-risk

    • Moderately low:- Principal at a moderately low-risk

    • Moderate: Where the principal is moderately risky

    • Moderately high: In these cases, the principal is at a moderately high-risk

    • High: where the principal is high-risk

An investor should take into account the product labeling before investing in index funds.

Fees, charges and expenses of mutual funds in India

There are several charges, expenses, and fees associated with mutual funds in India. Let’s take a look:

Mutual Fund Loads: These loads are levied as a one-time charge when an investor starts investing in a mutual fund scheme or exits a mutual fund scheme. The charges are referred to as entry load and exit load. Entry load is levied at the time of investing in a mutual fund scheme. It is deducted from the fund’s Net Asset Value (NAV). SEBI has not prescribed any upper limit of the entry load be levied. As per current SEBI regulations, mutual funds in India are not permitted to charge an entry load.

On the other hand, an exit load is paid by an investor who exits from a mutual fund scheme within a short period of time. One can view the exit load as a form of penalizing the investor to quit prematuredly. There is no maximum exit load which can be levied as SEBI has not regulated on this aspect. As a result, different fund houses charge different entry load fees, depending on the holding period.

Transaction Charges: Investors have to pay a nominal charge as transaction fees, which is a one-time charge during investment. Usually, new investors are charged Rs 150, while existing invetors are charged Rs 100 for investment worth Rs 10,000 and above. In case you’re the type who invests in monthly SIPs, then you are charged Rs 100 as transaction fee, which is charged only if the SIP committment is Rs 10,000 or above. You aren’t charged in case the SIP commitment is below Rs 10,000.

Indirect costs may be incurred by investors during the investment tenure. Typically, these charges pertain to opening a demat account, maintaining it, the brokerage charges for the demat account, etc. In addition, you need to remember that while when you buy or sell a stock, you will be levied a security transaction tax that you are required to pay.

In addition to the above, the asset management company and the fund manager also charge their fees. It takes skill and expertise to manage funds of this scale and nature. The fees include advisory fees, operational costs, investment management fees, registrar and transfer agent fees, legal and audit fees, agent/ sales commissions, ongoing service charges, etc. These expenses add up as the total expense ratio of the mutual fund. The expense ratio is charged annually and is expressed as a percentage and the reporting of the NAV (Net Asset Value).

Objectives of a mutual fund in India

Objective of a mutual fund is to invest money in assets and generate returns for the investor. The goal and investment objective of a mutual fund affect the scheme and investment decisions made by the fund house. The investments are done as per the specified objective. It is also mentioned in the offering documents. If we consider an equity mutual fund, the main objective of such a fund would be to invest in equity shares for long term capital growth. The risk profile and returns from mutual funds also depend on the objectives of the fund. It is important for every investor to carefully assess the objective of a mutual fund before deciding to invest in it.

FAQs

What is the difference between the NAV of a mutual fund and share price?

The share price represents the value of equity of a company as quoted on the stock exchange. The demand-supply and company’s projected performance has a bearing on the share price. This is why the market value and book value of shares matter. Book value represents the value of the company according to its balance sheet. On the other hand, the market value is the value of a stock or a bond, based on the traded prices in the financial markets. That’s why the stock market price of a share is different from its book value.

However, in the case of a mutual fund, there is no market value for the mutual fund unit. Therefore, if the units of a mutual fund are purchased at its NAV, it is similar to purchasing it at its book value.

Does SEBI permit cash investments in mutual funds in India? 

Cash investments up to the value of Rs 50,000 per investor per mutual fund per financial year can be made. However, you should also know that repayment is made through the bank channel.

I am a non-resident Indian (NRI). Can I invest in mutual funds?

Yes you can. NRIs can invest in mutual funds after they fill out the necessary details that are written in the offer document.

What is the ideal proportion between debt and equity-oriented schemes?

As an investor, it is your responsibiltiy to take into account your risk-taking capacity, age factor, financial position, etc. Depending on the type of mutual fund you invest in, you invest in different types of securities that are mentioned in the offer document. You may also consult a financial expert before taking a decision, in case you aren’t familiar with the ABCs of mutual fund investments.

Do investors receive a certificate or statement of account after investing in a mutual fund? 

Mutual fund houses need to despatch your account statement within five working days from the closure date of the initial subscription of the scheme. If you have invested in a close-ended scheme, then your investor would get you either a demat account statement or a unit certificate, as close-ended mutual funds are traded in the stock exchange. However, in the case of open-ended schemes, an account statement is issued by mutual fund company within five working days from the date of closure of either the date of receipt of the request of the unit holder or/and from the date of closure from the scheme’s initial public offer.

This procedure is mentioned in the offer document. Simultaneously, asset management companies (AMCs) are supposed to send a confirmation that specifies the number of units that are allotted to the applicant via email or SMS to your registered mobile number of email id within this five-day period.

There are so many schemes available. How do I choose the right one for myself?

As an investor, it is your responsibility to read the mutual fund offer document carefully. Ads with the line, “mutual funds are subject to market risks. Please read the offer document carefully,” may sound funny because of the pace at which it is read, but the terms and conditions are important. Reading the document will help you understand the track record of the mutual fund. It will also give you an idea of how it performs with other mutual fund schemes that have similar investment objectives. However, one must remember that past performance will not indicate a mutual fund’s future performance, but it’s important to know it as it will help you make an investment decision.

When you’re investing in a debt-oriented scheme, you should also look at the quality of debt instruments along with past returns. This is because the debt instruments reflect the rating of the debt-oriented scheme. When you’re investing in equities, you may want to look at the quality of the portfolio. You could also want to get expert advice.

Are the companies having names like mutual benefit the same as mutual funds schemes? 

Investors should not assume some companies having the name “mutual benefit” are actually mutual funds. These companies do not come under the purview of SEBI. On the other hand, mutual funds can mobilize funds from the investors by launching schemes only after getting registered with SEBI as mutual funds.

Where can an investor look for information on mutual funds?

All mutual funds have their own web sites. Investors can also access the NAVs of all mutual funds at the web site of Association of mutual funds in India (AMFI) www.amfiindia.com. Investors can log on to the web site of SEBI www.sebi.gov.in and go to the “Mutual Funds” section for information on SEBI regulations and guidelines, data on mutual funds, draft offer documents filed by mutual funds, etc. Also, in the annual reports of SEBI available on the web site, information on mutual funds is given.

I have invested in a debt mutual fund scheme. Can I change the nature of the scheme from debt to equity?

It is possible to change the nature of the scheme. However, SEBI has laid down certain regulations which need to be complied with for affecting such a change:

Any changes in the fundamental attributes of the scheme such as the structure, investment pattern, etc., can be changed only when written communication is sent to each unitholder and an advertisement is given in one English daily newspaper having nationwide circulation. The information should also be published in a newspaper published in the language of the region where the head office of the mutual fund is situated. In case the unitholders do not want to continue with the scheme, they have the option of exiting the present scheme at prevailing NAV without bearing exit load.

What is the Net Asset Value of a mutual fund scheme?

The performance of a particular scheme of a mutual fund is indicated by the Net Asset Value (NAV).

NAV represents the market value of the securities held by the scheme. Since the market value of securities changes every day, NAV of the same scheme varies on a day to day basis. The NAV per unit is the market value of securities of a scheme divided by the total number of units of the scheme on any particular date. For instance, if the market value of securities of a mutual fund scheme is RS 200 lakh and the mutual fund has issued 10 lakh units of RS 10 each to the investors, then the NAV per unit of the fund is RS 20 (i.e.200 lakh/10 lakh). NAV is required to be disclosed by the mutual funds on a daily basis.

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