Introduction to Mutual Funds

Mutual Funds are not as complicated as it looks to beginners, instead, it's the best option contrary to keeping money in fixed deposits or in a bank account where a person gets limited gains. Mutual funds allow you to mitigate the risks associated with direct stock investment and give you the opportunity to earn higher returns in the long term.

When you’re planning to invest in mutual funds you must know what mutual fund means? what are the types of mutual funds and how to invest in mutual funds?

While attempting to save money every day in our lives, we also feel like keeping it safe at the same time to gain returns over it. There are many ways to make your money grow by investing in various sectors. Banks provide the zero risk facility of fixed deposit where a limited interest is given on your money ranging from 4-6%. However, investment made in other sectors like real estate, etc does not give you the freedom to redeem the investments whenever needed. There comes the need for an investment vehicle like mutual funds. 

Mutual funds work by pooling money from various investors and investing it in stocks, and other market instruments that are called holdings. The collection of a variety of such holdings is the fund’s portfolio. Now let’s understand what is mutual fund investment? Mutual fund investment means buying fund units that represent the value of the actual holdings. Mutual fund investment is highly liquid, you can enter and exit the fund anytime you wish to.

However, ELSS mutual funds are an exception. In ELSS, the invested amount is locked in for a minimum period of three years. You cannot withdraw money till maturity and if you withdraw before maturity, heavy penalty charges are applicable.

What are the Types of Mutual Funds?

Based on the nature of the investment, mutual funds are broadly categorized into two heads- equity funds, debt funds, and hybrid funds.

Equity funds

Equity funds are the most popular types of mutual funds as they are preferred and given major space in the portfolio of most investors. As the name suggests, equity funds are the ones that invest majorly in stock market equities. For a fund to be called an equity fund, its overall investment should be at least 65% in equities and its derivatives. There are different types of equity funds as well based on the types of stocks they invest in. For example, if a fund majorly invests in IT companies, it is commonly known as a technology fund, or if a fund invests in big market cap companies, it is then called a bluechip fund.

Debt funds

Debt funds mainly invest in fixed-interest earning debt instruments. Atleast 65% of the total funds are invested in debt instruments like government and corporate bonds. The remaining can be invested anywhere. 

Hybrid funds

Hybrid funds can be called a combination of both equity and debt funds. They keep a subtle balance between equity, debt, and other securities as well to stabilize returns and minimize risks.

Now that you know about the major types of mutual funds, it is time to learn what are the ways through which you can invest in a mutual fund.

Ways of Investing in Mutual Funds

Lump-sum investment 

Lump-sum investment is when an investor invests a lumpsum amount of money at once in a mutual fund scheme. You will earn returns as per the performance of the fund. You can invest more in the same fund and withdraw anytime you want. 
For example, suppose you made a lumpsum investment of Rs 10 lakhs in a mutual fund that you expect to offer 15% annual returns, and you have planned to remain invested for 10 years. The corpus amount after 10 years would be Rs. 40,45,557.
You can use a lumpsum investment return calculator to learn about your returns.

However, investing a lot at once may sound risky to some of us.

Systematic Investment Plan or SIP 

SIPs are formulated to cater to investors who don’t want to invest lumpsum amounts in mutual funds at once. SIP allows investors to invest a fixed sum (can be as little as Rs 100) every month in the selected mutual fund scheme. The same can be automated with a bank e-mandate where the amount gets deducted every month at a fixed date automatically from your bank account. SIP allows you to build a solid investment habit and earn substantial returns in the long term.

You can use the SIP returns calculator to learn about your returns.

How Much Return Can Mutual Fund Offer?

First of all, mutual fund returns are not guaranteed. However, it is seen that mutual funds perform fairly well and allow investors to earn a healthy sum. Returns from mutual funds investment usually range between 14-18% depending upon the type of fund. Considering the features of various schemes and the structure of investment chosen by an investor the returns are gained differently. The period of investment also affects the returns gained. Investing for a longer period generally yields higher gains on investment in mutual funds.

Taxes Applicable

Mutual fund investments are subject to different taxes as per the nature of capital gain.

Long term capital gains (LTCG): Long term capital gains up to Rs 1 lakh is tax-free. LTCG above Rs 1 lakh are taxed at 10%. 

Short term capital gains (STCG): STCG in mutual funds are taxed at 15%.

Note: In equity funds, LTCG are realized when investments are held for atleast 12 months, whereas in debt funds the period is 36 months.

Quick Tips on Investment

Know your type

Before investing, you should know what kind of investor you are.
If you have a lump sum amount to invest and you already have a fair knowledge on mutual funds, you can opt for a lump sum investment. However, if you are about to start your investment journey, it is best to go with SIP.

Choose a scheme you want to invest in

Once you know your type, you can check all the mutual funds available. Choose the type of fund and a plan according to your need, based on your current financial status and future projections.

Learn about the taxes applicable

Learn how you can make efficient tax planning through mutual fund investments. You can invest in ELSS and claim up to Rs 1.5 lakhs as a deduction every year from the same.

That’s pretty much all that you need to know about mutual funds. Interesting enough? It will be! Mutual funds are the proven and most capable investment instruments that give you the opportunity to earn healthy returns with fairly fewer risks. Want to explore it? Check out the best mutual funds at 5Paisa and kickstart your investment journey now!

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