What Are Mutual Funds? Complete Beginners Guide

What are Mutual funds? Is the most common question that comes in our mind, when we are doing investment in Mutual Funds.

We all tend to be dependent on that Mutual Fund agent or a broker, who is biased towards a particular scheme.

Do You Know? In India, majority of Mutual Fund advisors or brokers are not Registered Investment Advisor ( RIA ). They are not qualified to give you any advice.

They are just the brokers, who get a commission whenever someone buys any Mutual Fund scheme from them.

Most of the Mutual Fund agent doesn’t suggest the scheme, according to your goal, instead, they try to sell you the scheme in which they get the maximum commission.

This is the reason, it becomes very important for you to understand, everything about Mutual Funds, so that you can make the right decisions.

In this article, I had covered each and everything you need to know about Mutual Funds.

Let’s get started.

What Are Mutual Funds?

Mutual Fund is made up of two words, Mutual & Funds. So let us try to understand by breaking them.

Mutual – Anything we do to together.

Fund – Money collected for a specific goal.

So Mutual Fund is the money collected from a group of investors, having a common goal of capital appreciation.

In Mutual Fund, our money is invested in different assets like:

  • Stock
  • Bond
  • Government Securities
  • Gold
  • Money Market Schemes
  • Other Assets.

How our money is invested, is dependent on the type of schemes we had selected.

In Mutual Fund, our money is professionally managed by an expert, known as a fund manager.

Don’t worry, if you are not familiar with the term fund manager, asset, debt &, etc. We will discuss all this in the next section of the article.

Terms Related To Mutual Funds

Does it happen to you?, that whenever you visit any Mutual Fund companies website or read their document, you come across various terms that are difficult to understand.

Don’t worry after completing this section, you will be cleared with the meaning of each and every term, related to Mutual Fund.

Terms we are going to cover:

  • Asset Management Company (AMC)
  • Fund Manager
  • Asset Under Management (AUM)
  • Net Asset Value ( NAV )
  • Benchmark Index
  • Load
  • Systematic Investment Plan (SIP)
  • Systematic Withdrawal Plan (SWP)
  • Systematic Transfer Plan (STP)

Asset Management Company

Asset Management Company is a financial service company that collects the funds from investors and invest in different assets, according to the scheme selected by the investor.

Examples of AMC in India:

Fund Manager

Fund Manager is a person, appointed on the behalf of the Asset Management Company, to invest and manage the funds.

He is the one who is responsible for the management of the whole portfolio of the schemes. There can be one or more than one Fund manager for the management of the fund.

Asset Under Management (AUM)

Asset under Management is the total asset or money or fund, that an AMC manages. it is also the total market value of the fund, that a company manages on the behalf of its clients.

AUM is also the total money of all the investors, who invested in the particular scheme of the asset management company.

Example: If you invest Rs.1,00,000 in a particular scheme, this amount is also added to the total assets under the management of that particular asset management company.

Net Asset Value ( NAV )

Net Asset Value, is the price of one unit of the mutual fund scheme.

As there is price for the shares of the company, similarly in Mutual Fund, there is price of unit, in form of NAV.

NAV is nothing but, the price to buy one unit of the particular scheme in mutual fund.

Example: If NAV of a particular fund or scheme is Rs. 10 per unit, and if you invest Rs. 100 in that fund, then you will get 10 unit of that scheme or fund.

The price of NAV keeps on changing on a regular basis, depending on which asset class you invest.

Benchmark Index

Benchmark Index is very important when it comes to measuring any funds performance.

Benchmark Index is nothing but a group of securities, which are considered as a benchmark to evaluate fund performance.

It is a criteria according to which how a particular Mutual Fund is performed is measured.

Examples of Benchmark Index:

  • BSE – Sensex
  • NSE – Nifty
  • CNX

For Example, If your fund generated a return of 20% in a particular year and in that year Sensex ( Benchmark Index ) delivered the return of 26%, it means that your fund has under-performed the index, in this case, which is Sensex.

If your fund generated return more than the index than it means your fund outperformed the index.

How your fund is performing, with respect to the Benchmark Index, shows the credibility of the scheme as well as Fund Manager.

Load

Load is nothing, but a fees that is charged by Mutual Fund company, whenever you join and exit the scheme.

Load are in 2 forms:

  • Entry Load
  • Exit Load

Entry Load: Fees charged by the company, whenever you start to invest in a scheme offered by the company.

Exit Load: Fees charged by the company, whenever you stop investing or exit a scheme.

In 2019, SEBI came up with the rule that stopped charging entry Load from investors. Now Mutual Funds company will only charge an exit load from you.

The Exit Load is there to prevent you or any other investor from leaving or exiting a scheme.

Systematic Investment Plan (SIP)

Systematic Investment Planning or which is commonly known as SIP, is one of the most common way of doing investment in Mutual Funds.

In SIP, you select a particular scheme and an amount ( Minimum Rs.500 ), that will automatically get deducted from your bank account every month and will be invested directly into that scheme.

There are few dates options provided by the company, from which you can select the date, on which you want your money to get deducted.

There are many advantages as well of investing in Mutual Fund, through SIP:

  • Better return than RD( Recurring Deposit )
  • Power of compounding
  • You can start with as low as Rs.500
  • Anytime exit the fund
  • Your money is professionally managed

Systematic Withdrawal Plan (SWP)

In the systematic withdrawal plan, you can withdraw a particular amount of funds, at a particular interval ( Weekly, monthly, quarterly ), depending on your need.

In SWP, you put a lump sum amount in a scheme, in which your money get invested and keeps on growing, as well as you get a fixed amount at a regular interval from your investment.

This plan is ideal for those who are getting retired, or someone, who needs a regular source of income.

Systematic Transfer Plan (STP)

Systematic Transfer Plan, is a scheme in which you get an option of transferring a fixed amount of money at fixed interval, from one scheme to another.

The scheme from which you transfer money is known as a source scheme and the scheme in which you put money is known as target scheme.

Now that you have understood different terms associated and related to Mutual Funds, it will help you gain more clarity on what are Mutual Fund.

In the next section, we are going to understand the most important part, and that is to understand, How Mutual Fund work?

How does Mutual Fund work?

The working of Mutual Fund, is very easy to understand and yet important to know before investing in Mutual Fund.

It will help you in understanding the whole concept of what are Mutual Funds?

What Are Mutual Funds

From the above diagram, it might had become very clear to you, how the whole cycle of Mutual Fund works.

There are lots of other smaller steps also involved in the working of Mutual Fund, but this are the major steps that are involved, whenever you invest in a Mutual Fund scheme.

This are the steps that you need to know, so that you can get the basic idea of what are Mutual funds and how it actually works.

Now that we had understood How Mutual Fund works, the next important thing to know is understanding the types of Mutual Fund Scheme.

Having the basic knowledge about each and every scheme available we can select the best one, according to our goal.

Types Of Mutual Funds In India

There are more than 36 schemes of Mutual Fund schemes available in India, to choose from. All these Mutual Fund schemes are divided into 5 broad categories.

what are mutual funds

There are 5 broad categories into which Mutual Fund is divided:

  • Equity Scheme
  • Debt Scheme
  • Hybrid Scheme
  • Solution Oriented Scheme
  • Other Scheme

All this categories have other schemes under them.

To learn about each and every scheme, I would highly recommend you to read this article:

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Types Of Mutual Fund In India

Advantages Of Mutual Funds

This part is very important for you to understand & get more clarity on what is Mutual fund and the benefits you get by investing in the Mutual Fund.

  1. Professional Management
  2. Diversification
  3. Variety Of Choice
  4. Safety
  5. Transparency

Professional Management

This is the biggest advantage you get when you start doing investment in Mutual Fund. The money you invest in any Mutual Fund Scheme (Except Index Fund) is managed by a Fund Manager, who generally have many years of experience and expertise in the field of investment. This makes sure that your money gets invested in the right place, giving you the best return possible.

You or any other investor generally invest in Mutual Fund because you lack the required expertise, or investment knowledge or don’t have enough time. So Mutual Fund, become a solution to all the problems.

Mutual Fund gives you an opportunity to get professional management of your money so that your money generates the best return possible.

Diversification

Diversification in Mutual Funds, is something which depends on you as well, the kind of scheme you select.

Diversification means to have a mix of different assets or securities in the portfolio, so to reduce the overall risk.

The sole purpose of diversification is to limit the risk.

There is another advantage that you get from diversification, apart from reducing the risk. It also expose your portfolio to assets of various industries, giving you an strategic advantage.

Variety Of Choice

As we discussed above, that there are more than 36 types of Mutual Funds scheme available to you, to choose from. You can select the select the scheme, most suitable to you and that aligned with your goal as well.

There is one important advice that i would like to give you regarding selection of Mutual Funds. Whenever you choose or select any scheme to invest, always think for long term this will help you to get more clarity on selecting the right scheme for you.

The variety in Mutual Funds, not only give you opportunity to invest in equity or stock, but also in bonds, commodities and other asset class as well.

Safety

That is the biggest concern in our mind, whenever we invest our money not only in Mutual Fund, but anywhere.

But when it comes to Mutual Fund, you don’t need to worry about the security or safety of your money. In India, there is a government regulatory body, known as SEBI (security exchange board of India) that monitors as well as regulates all the Asset Management Companies, reducing the risk factor of your money to negligible.

Mutual Funds are generally secure, but I would highly recommend you to invest in schemes of only well-established companies having a well-proven track record.

Transparency

Mutual Funds are regulated by the government body, giving you full transparency towards your investment.

You as an investor can also look at your portfolio or your investment, on how it is performing, by checking it through the portal provided by your Mutual Fund Company.

As Mutual Funds are regulated by a government body, they ensure full accountability to each and every investor, who had invested in their schemes.

I really hope, you enjoyed my Mutual Fund Beginners Guide.

Now, I want to know from you when you are going to start investing in Mutual Fund.

Comment Below.

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