Mutual Funds : A Beginner’s Guide to Successful Investment

If you have heard about stock markets and financial planning, most often than not you might have heard the term ‘mutual funds’ at least once. It’s quiet famous across the middle to old aged class as an investment option considering the capital safety level it’s famous for, compared to other mode of investments like stocks and cryptos and money markets.

A 15 year average return is close to 10% of the mutual funds, which is quiet a good return rate for such a duration. Although the actual returns will be way higher if the right fund is selected. It’s important for us to know all about mutual funds to identify the correct mutual fund to invest on. Let’s learn what are mutual funds, how do they work and what are the various types of mutual funds
that are available to invest.

What are mutual funds and how do they work

A mutual fund is a financial instrument that uses the capital raised by multiple investors to invest in other financial instruments like shares, bonds, short term debts and some times other mutual funds.

Mutual funds are managed or operated by certain financially qualified professionals, also known as fund managers. The profits generated through such investments are split among the investors according to their share of investment in the fund.

Fund managers are the brains of the mutual fund, they will decide on which security to invest the fund capital on and the duration of the same which might last anywhere between few days to few years depending up on the fund manager and their calculations.

Mutual funds are relatively a safer investment option compared to other instruments for the fact that it follows the principle of diversification by not putting in all the eggs in the same basket.

Naturally, with reduced risk comes reduced returns but in the long run these mutual funds are quiet capable of making fortunes, thanks to the snowball effect.

Difference between mutual funds and stocks

Basically, a mutual fund is an instrument where the money you are investing has the scope of diversification across the various securities i.e., Mutual funds doesn’t put all the eggs into a single basket but tries to put them in different baskets by investing into Stocks, government and private bonds, currency markets, bullion markets, debts etc.

Although this is done to achieve the benefits of diversification but comes with a slight compromise with the returns percentage if we were to put our money into a single security, there are many mutual funds now a days which come with variable exposure towards a certain type of security in order to cater the varying financial needs of the investors.

On the other hand Stock market is a no brainer and it’s simple in terms of where the money is invested into i.e., buying the stocks and there is no scope for diversification on the security type level like we have in mutual funds.

Stock market is quiet a risky bet compared to mutual funds and rewards you with higher and handsome returns if you can play it right. At the same time, it has the potential to leave you broke with in no time if you aren’t right with your investments.

Types of mutual funds

Based up on the diversification and the magnitude of that diversification, there are various types of mutual funds which are expected to cater the need of every type of investor. Equity mutual funds and slightly risky compared to other type of mutual funds but can provide handsome returns too.

Let’s look at some of them one by one:

1. Equity
   The equity mutual fund as name suggests will invest largely in stocks/ shares of different companies to generate the return on investment. Equity mutual Funds are further classified into different types based on the need.

1a. Sector/ Category funds
Sector specific equity mutual funds are the mutual fund instruments that invest the capital in buying the stocks of companies belonging to a particular sector like Automobiles, Technology, sugarcane, agriculture, defense etc.

1b. Index funds
Index specific mutual funds try to mimic the index of the stock markets by buying the stocks of the companies in the exact composition that index comprises of to replicate the returns of the index.

1c. Tax saving funds
Tax saving funds also known as ELSS (Equity Linked Saving scheme) funds that primarily Invest in both equity and non-equity securities but these come with an added advantage Of providing the tax deductions under sec 80C for the amount invested which is the reason It is quiet popular among the working class to save their taxes with an extra benefit of the Returns. Due to it’s tax efficiency and the average returns of ~ 14% it’s the popular choice
Among the investors.

2. Debt

Debt mutual funds invest in the financial instruments which are expected to provide a fixed rate of return. Government bonds, corporate bonds, mortgage and infra-agreements, certificate of deposits are some examples where an ideal debt mutual fund would park it’s money into.

Debt mutual funds are relatively less risky compared to the equity mutual funds but the returns are capped to a certain level as the return is already fixed.

3. Hybrid/ balanced

Hybrid mutual funds as the name goes is a mutual fund scheme where the corpus is invested in both the equity (stocks) and debt instruments to try balancing the risk and returns of both the types.

These funds are most popular among the middle class and young investors and it promises the best of both worlds of the mutual funds to have better returns compared to the debt fund but safer than the equity fund.

conclusion

Although mutual funds are a popular choice of investment considering the safety it provides, it’s worth mentioning that the risk and returns vary from fund to fund based on the investments the fund manager plans to put the corpus on. So, a thorough analysis on a fund is much needed before putting in your hard earned money.