5 min read • Published 5 Feb 25
What is a Mutual Fund? A Complete Beginner’s Guide
Table of Contents
Mutual funds are a prominent investment method. It is a popular choice among investors who wish to diversify into market securities like stocks and bonds but lack the research and training required for direct investment into such securities. A thorough understanding of the basics of mutual fund investment can promote prudent investment.
What is mutual fund?
It is an investment tool that creates a pool of individual funds that gets allocated to a variety of assets, like stocks and bonds. Mutual funds help investors diversify their portfolio efficiently with the help of experts thereby attempting to reduce market risk.
Currently, the mutual fund industry has ₹68.50 trillion as the average assets under management as of October 2024. The industry offers different types of mutual fund schemes to meet investor expectations.
Different Types Of Mutual Funds.
There are different kinds of such investments available in the Indian financial landscape. Although the broad idea of mutual funds stays the same, their features often vary. Mutual funds can be differentiated based on maturity period, principal investments and much more.
Maturity Period
Mutual funds can be classified based on terms of maturity. The variety of maturity periods helps make this investment scheme suitable for investors of different temperaments.
Open-ended funds
Investors can purchase or trade units under this plan at any stage. Additionally, it lacks a set maturity date. For both your investment and redemption, you interact exclusively with the mutual fund. Liquidity is the essential component. You may easily purchase or trade your units at prices that correspond to their net asset worth.
Close-ended funds
Investors can exclusively participate in this kind of scheme during the New Fund Offer (NFO), which is the first release period. It also has a specified maturity time.
No more contributions are allowed once the deal closes. The demand, as well as supply scenario, unit holders’ goals, along with other market conditions, may cause the market valuation at the stock exchange to differ from the investment’s Net Asset Value (NAV).
Interval
It functions similarly to a closed-ended and open-ended plan, enabling investors to swap units at predetermined intervals. They might be offered for sale or redemption at NAV-related rates at pre-arranged times or they could be transacted on the stock exchange.
Management
Mutual funds can be classified based on how they are managed. How they are managed depends on the outcome which is promised.
Actively managed funds
In an actively managed fund the manager “actively” administers the holdings and keeps a close eye on it, making professional decisions supported by empirical evidence on which stocks to purchase, sell, or retain and when. The goal of the fund manager of an active fund is to surpass the scheme’s benchmark and provide the highest possible returns.
Passively managed funds
A passively managed fund merely imitates the scheme’s benchmark index in precisely the identical proportion; in other words, the fund manager stays inactive or passive in a passive fund since they do not exercise their judgment or autonomy in determining which stocks to buy, sell, or retain.
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Principal Investments
It is the most important classification of mutual funds investments because it differentiates based on investment strategy and allocation.
Equity funds
These investments invest in the equities of businesses with the goal of long-term capital growth. They provide significant dangers as well as large potential returns because of market unpredictability.
Debt funds
Bonds and other fixed-income instruments, which provide steady returns and less risk, are their main investments.
Money market funds
It provides low-risk and moderate returns and invests in short-term debt securities, including commercial paper and treasury bills.
Hybrid funds
Investments that provide low-risk and moderate returns whilst engaging in short-term debt securities are called hybrid funds.
Numerous schemes like tax-saving funds and growth funds are widely popular and used.
Commonly Used Terms Concerning Mutual Funds.
Comprehension of what is mutual fund investment is incomplete without understanding the terminology utilised in relation to this investment tool.
Net Asset Value
The price of only one unit, or NAV, is used as the cost unit for Mutual Fund (MF). NAV, which is determined by dividing an investment’s overall net assets by the number of units granted, fluctuates every day in response to the market value of the securities owned.
Asset Under Management
One important metric that shows the present worth of the assets in an MF plan is AUM. A larger asset under management indicates a larger clientele and greater investor confidence.
Portfolio
An investor’s or fund manager’s holdings of a variety of investment avenues is called a portfolio.
Financial Year
A year-long term used by authorities and businesses for budgeting and financial reporting.
Expense Ratio
It stands for the yearly fee that unitholders in all funds must pay. It shows the proportion of assets that are taken out for fund expenditures each financial year.
Systematic Investment Plan
It’s a methodical strategy for investing that aids in averaging the buying price. A manner of investing in mutual funds wherein the investors can periodically invest their money is called SIP.
Capital Gain Distributions
These are distributions given to unitholders from proceeds from the trading of securities held by the fund. They are liable to capital gains taxes and might be either short-term or long-term.
Conclusion
The Indian financial landscape has been on sustained growth with the stock market performing strong. Mutual funds provide an avenue for individual investors who have a chance to make the best of this growth story. Being managed by professional managers with the required industrial know-how, mutual funds seem to provide a good balance of risk and return.
For financial planning and investing selections to be successful, it is essential to comprehend what is mutual fund. Mutual funds are a type of collective investing strategy that provides exposure to a wide range of participants, competent management, and variety. To invest in a wide range of assets and satisfy varying risk tolerances and financial objectives, these funds pool the resources of several participants.
It is important to choose optimum SIP installments and tenure to maximise the returns. Mutual fund apps and their calculators can help investors take this decision.
Q: What is a fund manager?
Fund managers refers to individuals or groups of individuals who are experts. They manage the pool of funds collected by a mutual fund from unitholders. The fund manager decides the assets in which the fund invests and continuously monitors the performance of the fund. They also take corrective actions to improve or maintain fund performance.
Q: Are mutual funds better than fixed deposit?
Mutual funds often give higher returns than fixed deposits. However, they are subject to market risks. The profitability of the asset depends upon the degree of risk the investor wants to take. Moreover diversification of portfolio requires investors to invest some funds in less risky assets that can act as a cushion to market volatility.
Q: Is mutual funds good or bad?
Mutual funds may be advantageous for investors who want access to expert management and diversification. Despite the hazards, they provide chances for income and growth. Achieving advantages requires selecting funds that are in line with risk appetite and fiscal objectives.
Q: Who owns the mutual fund?
The investors, called unit holders, are the real owners of mutual funds. A mutual fund is a collection of investments. It is financed by all of the individuals who have bought fund shares. The investors become co-owners of all the fundamental assets that the fund possesses.
Q: What is the full-form of SIP?
A mutual fund investment strategy called Systematic Investment Plan allows unitholders to invest a certain sum of money at periodic periods rather than making a lumpsum investment.
