The common questions that a new but curious investor intending to opt for mutual funds include –
- What are mutual funds?
- What are types of Mutual funds?
- Which fund is suitable for me?
- What is the risk of losing money?
- How much return will I get?
- What is the lock-in period?
Answering the above questions, I began with very basic and simple writing…
What are mutual funds?
Mutual Funds are the pool of money. Such pool of money is collected from investors by the fund house. These fund houses invest the pooled money in the different class of assets. Different class of assets is mainly Stocks, Bonds, Gold etc. These investments generate returns are distributed to investors.
What are the various types of mutual funds?
There are mainly 3 types of mutual funds based on investment style. They are –
- Open-ended mutual funds scheme,
- Closed-ended mutual funds scheme, and
- Interval fund based on the constitution.
There are broadly 4 categories of mutual funds based assets selected for investing –
- Equity Fund,
- Debt Funds,
- Balanced Fund, and
- Gold Funds
Types of mutual funds based on investment style
1. Open-ended mutual funds scheme
This fund is open for investments and redemption. Investors can invest at any point of time and withdraw when they needed. There are no restrictions on entry or exit. Few ELSS funds are also open, but they have a lock-in period. Which will be discussed later in this series. SIP is possible only in open-ended funds.
2. Close-ended mutual funds scheme
This fund is open for investments only during New Fund Offer period (Fund launch time). Later, an investor can neither invest in this fund nor he can withdraw. However, an investor can choose to withdraw or switch to other funds after the lock-in period. Usually, close-ended funds will have 3 years of the lock-in period. Few funds will have 5 years of the lock-in period. SIP is not allowed in close-ended funds
For example, now fund “HDFC Housing Opportunities Fund” it is a close-ended fund. It is open for subscription from 16th of Nov till 30th Nov 2017. Later, the fund will be locked in for 1140 days. After this period either investor can choose to withdraw the full amount or invested amount along with the accumulated returns can be continued in another good performing fund in the same AMC (Asset Management Company).
3. Interval mutual funds scheme
These are similar to close-ended funds, except for the fact that they will be open for reinvestment or withdrawal only during the certain period, which will be published by AMC’s.
Mutual fund schemes based on the assets invested
1. Equity-based mutual funds schemes
Equity-based mutual funds or equity funds predominantly invests in equity stocks or shares. These funds carry more risk with more returns. You can invest in such schemes for your long-term financial goals like Children Education, Retirement goal which is more than 5 years. Interest earned via equity funds will be tax-free after one year.
2. Debt-based mutual funds schemes
Debt funds invest in government securities, Bonds, Corporate FD’s and some portion in equity may be 10-20% to achieve better returns. You can invest in these funds for your short-term goals ranging from 1 year to 3 years. For example To pay school fees for a child after 2 years, OR to plan the family vacation after 3 years. This fund carries moderately low risk with better returns. Capital gains are tax-free only after 3 years.
3. Balanced mutual funds schemes
The balanced fund is a mix of Equity and Debt mutual funds. This is also known as hybrid funds. The percentage of equity and debt varies and depends on the investment objective of the schemes. These funds are an ideal way of investing lump-sum money. Especially good when the market is trading high. These funds will give the better return than debt funds and carries moderate risks. Ideal for 3-6 years goals like planning to buy four wheeler after 4 years OR Foreign trip in 5 years.
4. Gold-backed mutual funds schemes
The fourth type is Gold Funds. These funds are investing in pure gold. They buy physical gold and give units to investors based on the gold price in the market. This form of Gold investments is good as there are no making or wastage expenses as in case of jewelry.
Also, security is good as an investment will be in electronic form. No need of buying a locker in the bank. If one wants to save some money for jewelry purchase for his child future wedding, they can consider this is the ideal way of investing in gold funds. They also carry risk as gold prices fluctuate in the market. Ideally one should invest only 5-10% of his investments in gold. which will give him portfolio diversification.