What are Savings?
Out of the income that we earn, we always try to maximize our savings. Savings are calculated by subtracting our expenses from the income.
Income- Expenditure=Savings
Why do we save? Savings are done so that they can be used for an investment, emergencies, marriage and other functions, or to pay off high interest debts, etc. However, it is not advisable to keep a lot of money idle and therefore should invest in real estate projects, stock market, gold, etc. Investments are done taking in consideration returns that one can get with minimal risks.
image credits- EZ Wealth
What are mutual funds?
Mutual in simple terms means shared. So by mutual fund it means a fund which is being invested and shared by various people. Different people pool in certain amounts and give it to the fund manager who then decides how to re-invest the money as per the objective of the scheme.
It is a kind of investment through which you can have various kinds investments done through the help of Asset Management Company (AMC). There is basically a three-part structure-
1. Sponsor (Such as banks)
2. Trust
3. Asset Management Company à Schemes
The Sponsor starts a mutual fund and has a Trust and Asset Management Company. Various schemes inclusive of the mutual fund are initiated by the AMC. People who want to invest, invest their money by giving it to the AMC. The fund manager company checks and invests in these in schemes such as in share markets, bonds, etc. Each person who has invested shall get a unit of that fund which can be sold at any time. These funds are open ended providing easy exit.
What are the types of mutual funds?
1. Equity Mutual Funds- These are schemes investing in the stock market. Large/mid/small cap equity funds, diversified equity funds, equity linked saving scheme, sector mutual funds, and index funds are subcategories of it.
a. Large/Small/Mid Cap Equity Funds- These investments depend on the type of the company one is investing in. Large cap has low risks; however, the returns are also lower than small and mid-cap companies Mid cap have high risks with high returns. Small cap has very high-risk rates with high return probabilities.
E.g. Large Cap- ICICI Prudential Blue-Chip Equity Fund
b. Diversified Equity Funds- In these funds’ investments are done in all the above large, mid and small cap or in various different companies in small ratios.
c. Equity Linked Saving Scheme- In this kind of scheme you will be able to save tax. Which means that you can save tax on the profit that you earn from the scheme. The fund manager on purpose invests in high risk and high returns investments which on returns can save upto 1.5 lakhs in taxes.
E.g. IDFC Tax Advantage Fund
d. Sector Mutual Funds- In this kind of scheme, the fund manager specifically invests in companies that belong to a specific big sector like agriculture sector, transport sector, etc. These funds are risky as investment returns are based on the performance of the sector.
E.g. UTI Transportation and Logistics Funds
e. Index Funds- In this kind of fund, the fund manager does not have to invest separately and check the performance of the company or a sector. In this fund, the investment is dependent on the Sensex and Nifty completely. The returns will be based on the ups and downs that happen in Sensex and Nifty.
2. Debt Mutual Funds- These are the schemes investing in debt instruments such as bonds, debenture, certificate of deposits, etc. These schemes have low risk and low return. Liquid funds, gilt funds, and fixed maturity funds are subcategories of it.
a. Liquid Funds- These are the kinds of mutual funds which can be easily and quickly converted into cash in a day or two. These are extremely low risk funds.
E.g. Asset Liquid Fund
b. Gilt Funds- These the funds in which investments are done on the government issued bonds. Since the government is involved, it is extremely low risk.
c. Fixed Maturity Plan Funds- As the
name suggests; these kinds of funds can be considered as an alternative to
fixed deposits. Also, the time of investment is fixed, and you cannot withdraw
money before maturity.
3. Hybrid Mutual Funds- These are the schemes which have a part investment in equity and part in debt/bonds. Balanced savings funds and balanced advantaged funds are subcategories of it.
a. Balanced Savings Funds- When more money is invested in debt fund and less in equity it is known as balanced savings funds. Approximate ratio being 70:30.
b. Balanced Advantaged Funds- When more money is invested in equity fund and less in debt fund it is known as balanced advantaged funds. Approximate ratio being 70:30.
4. Solution Oriented Mutual Funds- These
funds are invested on for some goals or solutions. Suppose investments made for
10 years so that you have enough money for your child’s marriage or education.
These funds help in fulfilment of goals. Retirement fund is also inclusive of
this.
5. Other Mutual Funds- These
may include specialty funds, income funds, international funds, etc.
How are Mutual Funds beneficial?
1. Diversified investments- You can have investment in various areas and sectors with minimum amounts that you have. You need not investment only in one specific instrument.
2. Reduced risks- Since the fund manager is an expert who is investing your money, he has good knowledge of the market and hence can make better decisions.
3. Fund Manager- As the fund manager is doing the investment for you, you need not take steps or check the market by yourself.
4. Less Expense Ratio- Expense ratio basically means the commission that the Asset Management Company or the Fund Manager gets for doing your investments. In mutual funds the expense ratio is less.
5. Affordable Systematic Investment Plan
(SIP)- Since it is a mutual fund where various people pool their money,
the amount that needs to be invested by a single person can be low, thereby
being affordable.
What are the disadvantages of Mutual Funds?
1. Focus on investments rather than performance- The Asset Management Company or the Fund Manager is often interested more on getting new investments and people to pool their money rather than checking on their own performance of reinvestment.
2. Fund Manager- As the whole and sole control is given to the fund manager, you as an investor do not really get to know about the market functioning and hence no decisions can be taken by you.
3. Research Team doesn’t take risks for their individual interests- In order to have low risks, the research team of the fund manager or the Asset Management Company in order to save their jobs, investment only in low risk areas. The problem here is that often-low risk schemes fetch low returns.
Also read - What is Due Diligence? What are the types of due diligence?
0 Comments