What is a Mutual Fund
An investor's collective
A mutual fund is a financial product that is assembled by an Asset Management Company, or commonly known as an AMC.
The AMC pools together money from investors and manages that money in a regulated and professional manner.
Professionals Pick
Investing in a mutual fund is similar to going to a store and buying a store recommended basket of items. This basket matches your needs exactly, and you don’t have to hunt for each item individually.
For a fee, the fund manager (from the AMC) puts together a selection of financial instruments for a set objective of that particular fund.
Mutual funds are an investment product that pool money from several investors and invests that corpus company stocks, bonds, government instruments, etc. in order to generate a profit for investors.The fund manager working for the AMC picks and chooses different investments in order to balance out the risk and total earning potential - balancing the right high risk-high reward equities with high safety-relatively consistent income securities.
A mutual fund can be equity or debt or a combination of both such as a balanced fund. You could also invest in gold through mutual funds.
Simply put, the fund manager puts together different types of investments that match the objective of the fund. If it’s a high risk fund, they invest the fund money in small or mid cap stocks(stocks that are in early stages of growth and will only perform over the years) . If it’s a low risk fund they invest in safe securities otherwise known as debt.
A direction for your fund
Obviously as investors, we do not have the expertise to choose financial products. Let’s assume I want to buy a car 5 years later and can save some money every month towards it, by choosing an investment in a hybrid mutual fund I can get to that goal.
For instance an income fund is a debt fund and aims to pay out returns at regular intervals, where as a large cap mutual fund invests in stocks to grow wealth over time.
Depending on how and when you want your returns you can opt for the funds designed with corresponding Investment objectives and your risk profile.
Who makes the decisions for the fund?
We saw that mutual funds are managed by a professional called a fund manager for a fee.
The fund manager is a professional from the Asset Management Company and plays a decisive role in investment decisions of the fund, when to buy, sell, hold onto investments.
The fund manager can be a single person, have co-managers or a full team. They form a strategy that guides their investing pattern. They are highly qualified people having spent years in this space.
They receive an annual fee which is a percentage of the funds' average Assets Under Management(AUM). Remember ongoing fees from the previous module? AUM or Assets under management is the is the collective amount that a fund house manages.
The AUM-value also includes the returns that a mutual fund earns. The asset manager can invest this in securities, distribute to investors as dividends or hold as per the investment mandate.
Asset Management Company (AMC) or a fund house manages money collected from investors. A fund house decides when, where and how to invest this money. Some examples are: equity funds, liquid funds, tax-saving funds and so on.
Fund process
A fund house (as AMCs are also known) has researchers and analysts who regularly study markets, economic conditions and provide insights to the fund manager. The fund manager takes the call based on such findings and investment objectives and selects the stocks or debt instruments that a portfolio should have.
Regulating the AMC
Trusting someone with your money is always tough. Some factors that can decide on choosing a fund manager or an AMC are credentials of a fund manager, the reputation of the AMC, the fees charged and the value its fund can provide to investors.
AMCs do not own the financial products but provide them to investors. To protect the interests of individual investors there are multiple regulators that AMCs and fund managers come under.
The Reserve Bank of India, Securities Exchange Board of India both regulate AMCs. The board of trustees that AMCs operate under are answerable to these regulatory bodies.
Apart from these two governmental bodies, a self-formed industry board called Association of Mutual Funds of India (AMFI) also keeps the fund houses in check to guidelines and transparent practices.
Why is it a good investment vehicle?
First: Mutual Funds are a good choice especially for new investors for many reasons. One of the reasons is that diversification is inherent in the nature of Mutual Funds. As a set of financial products, mutual funds allow you to not put all your eggs in one basket.
Second, the entry amount for mutual funds need not be large. These days you could start as low as Rs 100. By choosing methods such as Systematic Investment Plan (SIP), mutual funds allow you to start investing in the funds in small amounts in a disciplined manner. You can kick start your journey with as little a SIP of ₹100. This amount is flexible and can be increased or decreased depending on your comfort.
Third, you can choose the term you want to invest and the time to exit the fund. Note that exiting a fund comes at a cost in certain mutual funds. This is called the exit load, for instance, if you withdraw an equity fund in less than 12 months it attracts an exit load.
Finally, one of the biggest advantages that you as an investor have by investing in mutual funds is the fact that these funds are managed by professionals making investment decisions based on data and research.
Deciding which mutual funds to pick
If your need is long term growth
Equity mutual funds are designed for long term investments. They primarily invest in stocks of different companies. As equity funds come with a growth element, the risk of losing money is comparatively higher. However, since you are investing for the long term, you can withstand these risks since you have the gift of time!
If your need is security
Then, debt funds are you friends. Debt funds invest in fixed-income securities like bonds, securities and treasury bills with fixed interest rate and maturity date. They are suited for investors who want to take a low risk or want to invest for a short period.
If you need both growth and security
Introducing hybrid funds. As the name implies, hybrid Funds (also go by the name balanced funds) are an optimum mix of bonds and stocks (i.e., a mix of equity and debt). In short, it takes the best of the equity and debt mutual funds by distributing, say, a percentage of assets in stocks and the rest in fixed income assets.
