Don’t put all the eggs in a basket. This is a famous business term. Here egg means fund and basket means the investment option a person chooses. This statement says that it is very risky to invest all the funds in a single investment option. There must be diversification in an Investment Portfolio
But then the question comes of how to diversify the investment. For a person to choose different kinds of investment options like stocks and bonds takes a lot of work. It’s a lengthy process and it needs deep knowledge also.
So, the mutual fund is to fulfill this gap and make investors’ portfolios diversified and less risky. A mutual fund is a concept in which many investors pool their money and mutual fund companies invest that money in different- different investment options like stocks, bonds, gold, and other assets in such a way that the best possible outcome can be obtained. Investors share the loss and profit on the basis of their fund proportion.
Mutual fund companies charge a commission for their service and don’t claim any return guarantee.
There are two ways to invest in mutual funds. One can invest in lump sum amounts or in SIP(Systematic Investment Plan). A lump sum investment is when a person invests the whole amount at the same time. SIP is when investors invest in regular intervals which would be daily, weekly, monthly, quarterly, or yearly.
Investors can consider these points without investing in mutual funds
- Investors who should adopt Lump Sum over SIP
If an investor wants to invest in a debt mutual fund for a short term then One time investment is a better option. In the rising market also, lump sum investments work better as today’s investment is more securities that can be bought in comparison to the future. If investors have idle money to invest then it’s also a good option.
- Investors who should adopt SIP over Lumpsum
If the market is speculated to fall in the future, SIP is better as per the concept of Rupee cost averaging. One can start to invest from the minimum amount of rupee 500 plus the amount can be withdrawn anytime. If an investor has a regular income, it would be a great choice. Usually, SIP is adopted by investors who invest for the long term because only by staging the long term, more return can be obtained.
Types of mutual funds scheme:
Open-ended and Closed-ended Funds
An open-ended fund is where subscription and redemption are available on every business throughout the year. There is no fixed maturity date.
A closed-ended fund is where a subscription is available during the initial offer period and there has a specified tenor and fixed maturity date.
Actively Managed and Passively Managed funds
An actively managed portfolio is where a fund manager actively manages the portfolio and decides which stock to buy, hold or sell by what time. In the active fund, investors aim to get the best outcome and to outperform the scheme’s benchmark.
In a passively managed portfolio, the fund manager remains inactive. He just replicates the market index and usually doesn’t use his judgment to decide which Stocks to buy, sell or hold by what time.
Here are the reasons why to choose mutual funds for investment:
- Professional expertise: Mutual funds are managed by professionals which can increase the chance of high return and lower the risk as experts have more knowledge and experience about market trends.
- Tax benefits: Under section 80C and its subsections, there are some deductions in tax if taxable income is invested in a few schemes of the government including the pension yojana, Nps, and The Atal Pension yojana. Even the return in the form of a dividend is tax-free up to 1 lakh. AMC pays DDT at the rate of 14%.
- Return: The change of return becomes higher in comparison to investment in securities by an individual because the portfolio has a wide range of securities where investment is done so the average profit remains higher.
- Diversification: Investment is done in such a way that the risk can be diversified. The portfolio is designed to invest in a wide range of securities which diversify the risk of loss.
- Liquidity: Mutual funds can be bought and sold anytime which makes mutual funds highly liquidable. When a person needs money, he can feel his mutual funds.
Cons of Investing in Mutual Funds
- No control: Investors have no control over where to invest and where not to invest. All the decision-making related to investment is done by the fund manager only.
- Fees: Mutual funds design portfolios and invest on investors’ behalf and they don’t take part in profit or loss but they charge a high fee for doing it. Fees are fixed every time and don’t depend on the profit or loss of investors.
- Market Risk: The Investment is done just per speculations and experience. There is no fixed guarantee or security of return. Sometimes investors have to bear losses also as profit and loss depends on the market situation.
- Over-Diversification: Over-diversification may cause less potential for profitability. Portfolios designed in mutual fund investment are over-diversified sometimes which eventually becomes the reason for less return. For example, the dividend in one security is too high but the no. of that specific security is low.
Mutual funds are subjected to risk and one should read all the policies before investing in mutual fund schemes. There are many ways to invest in mutual funds. The investor has to decide as per their preference on the basis of return amount, long-term or short-term, or pension schemes.