A mutual fund is a financial instrument which draws money from a plethora of investors. This common fund is created with mutual contribution of multiple investors in a variety of assets and securities including debts, equities, government securities, liquid assets like funds, bonds, and others. Since all the gains, rewards, risks, profits, and losses resulting from or pertaining to this type of fund is shared by all the contributors according to their investment proportion, it is named as a mutual fund.
In other words, a mutual fund can be described as a trust having its own sponsors. Such funds are registered with Securities Exchange Board of India (SEBI) that is responsible for approving the Asset Management Company (AMC) that manages the fund. The trustees ensure that the fund is compliant with all the regulations set by SEBI.
Mutual Fund Types
The mutual fund investors are blessed with different types of investment opportunities based on their asset class, investment objective, and structure. Here are the different types of mutual funds in India:
Mutual funds can be segregated into the following types based on asset class:
- Equity Funds– These funds capitalise the money in the equity shares and stocks of various companies. Though this sort of investment involves high risk, the possibility of getting a huge return in such funds is more.
- Debt Funds– Debt funds invest in government bonds, company debentures, and other fixed income instruments with an objective of providing fixed returns to the investors. This is why these funds are considered to come with very low risk and fixed returns.
- Money market funds– In this type of fund, the money will be invested in liquid assets like CPs, T-Bills etc. These investments are considered to be safe and best for investors who want a quick and moderate return from their investment.
- Balanced or Hybrid Funds– These funds capitalise in a diverse range of high risk and low risk asset classes to balance the risk as well as the return. The proportion of equity is more than debt in certain cases while it is the opposite in others. By distributing your money among multiple securities, it creates a balance between the risk and the return.
- Sector Funds– Such funds make investment only in one specific sector. Sector funds like the infrastructure funds capitalise only in the companies and instruments that are related to the infrastructure sector. As a result, the returns from this type of funds are limited to the performance of that particular sector. However, the associated risk in such schemes is dependent on the nature of the chosen sector.
- Index Funds- The index funds are those funds that capitalise in assets to imitate the performance and the returns of any specific index. For example, purchasing the shares which represent the BSE Sensex.
- Tax Saving Funds– These funds mainly invest in equity shares and all the investments made in this type of fund are eligible for tax benefits under the Income Tax Act. Though these funds come with high associated risk, if the performance of the fund is good then the chances of getting high returns is high as well.
- Fund of Funds- These funds capitalise in other mutual funds and give good returns if the targeted fund does well in the stock market.
Types of mutual funds based on the structure are detailed below:
- Open-Ended funds: These funds are known as open-ended because these units can be purchased and redeemed at any given point of time. Investors prefer these type of funds because they can encash their unit in real money as per their wish and preferences.
- Close-Ended Funds: These funds are called close-ended funds as these can be purchased only during the initial offer period. After that the units will be locked and can only be redeemed after a predetermined maturity date. These funds are often listed on the stock exchange to bring liquidity in the sector.
Based on Investment Objective
On the basis of the investment objectives, there are 5 different types of mutual funds which are as follows:
- Aggressive growth funds
As the name suggests, this type of mutual fund comes with the optimum chance of achieving sudden growth compared to other types of funds. The growth of these funds is really aggressive and its value increases at a quick speed. Investors who are investing in a mutual fund with an intent of getting very high returns mostly invest in this type of fund. But the risk factor associated with such funds is immensely high as there is a sudden spur in their growth. Funds which have a sudden rise in their price appreciation also lose their value at a high speed when the economy faces any instability or downfall. Persons planning to invest their money for a short tenure of 5 years with a long-term investment objective are the ideal ones to invest in this type of mutual fund. This fund is not recommended for investors with an objective of conserving capital and those who are not capable of taking the loss of their investment value.
- Growth Funds
In growth funds, upon investment, the growth receives higher returns. The investment portfolio will be a combination of small, medium, and large-sized corporations in the investment portfolio of the investor for making an investment in a big-scale stable corporation. But along with that, when you invest in a growth fund a small part of the funds will also be invested in a new small-scale startup. Also, since a growth fund is based on growth investment objective, the investment is made in the growth stocks. The profit derived from the fund’s growth is not paid to the investor as a dividend, instead, it is used to make further profits on the investment. Investors who hold on to the growth funds most often receive good returns on their investment.
- Income Fund
Income funds capitalise on various fixed income securities and this is why these give a consistent income to the shareholders. Retired persons willing to derive regular income are the most ideal investors for this fund as they will get dividends on a regular basis. The investments in this type of fund are made in fixed deposits of companies, debentures, and several other securities which the fund manager thinks to be perfect to get regular income for the investor. In spite of being a stable investment option, the income funds come with moderate risk as any kind of price fluctuation or instability is likely to affect the prices of its bonds and shares. Such funds are also vulnerable to the inflation rate.
- Balanced Funds
An amalgamation of the growth and the income fund, the balance fund has multiple investment objectives to achieve. This fund pays equal attention to providing the investors with ongoing income while offering them immense growth opportunity. It specifically targets to materialise multiple goals that the investors usually want to attain their investment. While the stability of such funds is low to moderate, its growth and income potential are moderate.
- Money Market Mutual Funds
The main objective of money market funds is to maintain capital prevention. As such you need to be watchful and alert after investing in this type of fund. There is little chance of gaining profits in this sort of fund even though the possibility of producing higher interest rate than bank deposits is more. The risk factor associated with such funds is minimal. Also, the money market funds due to their high liquidity factor allow the investors to modify their strategy of investment whenever they want.