What are Mutual Funds

 

What are Mutual Funds?

 Mutual funds are nothing but units of investment, like in shares or debentures, issued by a Mutual fund company. They are professionally managed collective investment vehicle which pools investments to purchase securities. An investor can purchase units of Mutual fund instead of directly investing in stock market and get proportional return in the form of dividend

 

What are the constituents of units of mutual fund?

 

Stocks, Bonds, Debentures

 

Can I buy or sell them anytime?

 

Yup, Open-end mutual funds can be purchased or sold anytime directly from/to the mutual fund company.

 

 The other type of mutual fund which is closed-end mutual fund, they cannot be sold and purchased directly from the mutual fund company instead they can be transacted with other investors in the open market In OTC

 

At what price will the close-end or open-end units be sold?

 

1. open-end – At Net Asset Value (NAV) which is changed daily. Have a look at the NAVs of different mutual funds http://www.amfiindia.com/net-asset-value/nav-history

2. closed-end – Like in share market, may be at premium or at discount.

 

There are 1000’s of types of mutual funds out there. How can I choose the right one among them?

 

There are 5 broad categories of mutual funds and an investor can choose the one which may fit her needs:

 

1. Money Market Mutual Funds – They are consisted of short term debt instruments like treasury bills. They have less return but secured. If you can’t take risk then it is better to park your money in money market funds.

 

There are 2 types of money funds: Institutional – Made for Govt., Corporations etc. and Retail – Made for Individuals.

 

 

2. Bond/Income Funds – These are for investors who need steady income. They are also called fixed income securities. These funds are invested in high yield or junk bonds (high risk of default but high return), govt. bonds or corporate bonds. Return is generally more than money funds but risk is more.

 

 

3. Equity Funds – These funds consist of stocks of the companies. They may focus on specific industry or sector. It can further be classified into capitalization based or investment style based.

 

· Capitalization indicates the size based on the value of the company’s stock and the types are:

 

a) Small cap (value less than Rs. 100 Crores)

b) Mid cap (value between Rs. 100 and 1000 Crores)

c) Large cap (value above Rs. 1000 Crores)

 

· Stock funds are classified into:

 

a) Growth funds – Investment in stock of fast-growing companies.

b) Value funds – Investment in cheap funds.

c) Blend funds – Unbiased towards growth or value based funds.

 

 

4. Hybrid funds – These funds consist of stocks, bonds and other securities. Balanced funds, MIP (monthly income plan) Aggressive and MIP conservative are types of hybrid funds.

 

5. Index funds – Funds with an objective of generating returns that can commensurate with the performance of a benchmark index like CNX Nifty Index and S&P BSE Sensex. Kotak Nifty ETF is an example of such fund.

 

Will there be any tax on dividend and sale of units?

 

· Dividend – Exempted in the hands of Ulip holder.

· Sale of units – Tax on short term or long term capital gain, if security transaction tax not paid.

 

What will be the commission paid while buying and selling units?

 

In Mutual, we call commission as load. Very nominal load fees like 1% or 2% need to be paid. While purchasing, entry load is charged and while selling, exit load is charged. There are some mutual funds with even zero entry or exit load.

 

Why should I invest in Mutual funds?

 

1. Dividend received from units of MF is exempt u/s 10(35) of Income tax Act, 1961.

2. No need to worry because there are experts who are trading on your behalf. You need no professional skills.

3. MutualFunds units are diversified. So failing of one or more securities may not have any huge impact on the earnings.

4. No need to buy securities in bundles. Indirectly you are investing in a number of companies without any limit.

5. No need to  have a huge amount of money to trade. Like in Rs. 10,000 you can get a good deal.

6. High liquidity. If you need money urgently, you can get it within 1 day of sale.

7. You need not to pay heavy brokerage like while dealing directly in securities through broker. MF companies charge a nominal fee as they have their own contract with brokers.

8. In some cases it's more efficient than to invest in ETFs or closed-end fund.

9. Can get a deduction u/s 80C of IT tax, 1961 up to Rs. 100,000.

10.Can diversify your portfolio later including more types of mutual fund into the same.