If you are a finance expert or a serious investor, this article is not for you. If you have already invested in a few Mutual Funds and are getting good returns, this article is not for you. If you are a novice who has heard a lot about Mutual Funds and is always bored after visiting the finance sites like Investopedia, Moneycontrol etc, please read on. I am not a finance expert, finance sites always get me bored, and yet I want to make good investments, like everyone else. So here’s our note on mutual fund for beginners, with tips on how to pick one and the risks and returns involved.
What is a Mutual Fund?
I am not going to say that it is a financial instrument, I know it will freak you out. Let’s just say Mutual Funds are an investment where a Fund Manager buys stocks, bonds, shares of other companies with your money. The Fund Manager is a finance expert who gets paid with your money for managing the fund. You do not need to do the research about which shares to buy from which company, the Fund Manager does that for you. So quite obviously Mutual funds are not as profitable as buying shares directly but on the other hand, they are quite hassle-free and less risky for the newbies.
How to choose a Mutual Fund?
There isn’t any simple answer for this. Even though MFs can be bought easily online, you should pick your Fund wisely to avoid a loss. Fund details are available on several websites and here are a few things you should check out before you buy a Fund:
Well, this one is pretty obvious. Why would you buy a Fund if it’s not providing good returns? Usually, the return percentages are shown for 3 months, 6 months, 1 year, 3-year time-frames. You might think that you will choose a Fund that is giving the highest return, but the calculations are not that simple. Read on.
Fund Class – Equity vs Debt vs Others
Equity funds mostly invest in shares\stocks while Debt funds mostly invest in Bonds. Now since Stocks are more risky and profitable than Bonds, so are Equity type funds. Debt type MFs are less risky and hence less profitable. Remember there’s one basic thumb rule in Finance – no risk, no gain. Also, there are some Hybrid or Balanced Funds which combines both Equity and Debt types, lowering the risk and the profit involved. Choose your fund type according to your risk appetite. It is advisable to choose Equity types for higher gains, so unless you are nearing your retirement, or have huge financial liabilities, choose Equity funds.
Fund Type – Open-Ended vs Closed-Ended
It is a complicated choice – open-ended ones have unlimited shares while closed-ended ones have fixed number of shares. Most Mutual funds that you will see around are Open-ended.
Large-cap vs Mid-cap vs Small cap vs Multi-cap
Well, it is talking about the size of companies the MF invests in. Cap means market capitalization, large-cap typically talks about companies with stocks worth Rs 10,000 crore or more in the market, mid-cap means Rs 2 crores and 10 crores while small caps are hose less than Rs 2 crore market cap. It gives you an idea of whether your MF is investing in the big players in the market or the smaller ones. Also, multi-cap, as the name suggests, is a mix of all.
Let’s just say this number is lower the better. It is actually management fees, administrative fees, operating costs, and all other asset-based costs charged by the Fund. Usually, you’ll find this number somewhere around 1. Just remember there are other factors too, so don’t get too carried away by this number.
Always remember to check out this section before buying an MF. It shows how the Fund invests in different sectors, what are the top 5 or 10 Holdings, how many companies they invest in, etc. Even though you cannot do much about it, it is always advisable to know what you are investing in.
How to buy a Mutual Fund?
You can buy them through banks, or buy them directly. Buying directly will give you slightly higher returns since distribution expenses or commission charges are not involved. There are several online portals through which you can buy\sell MFs quite hassle-free.
When to sell a Mutual Fund?
There is no simple answer to this question – when a fund performs poorly for two years or more it is probably time to sell. Buying and selling MFs too frequently is not a good idea since it involves several charges and you might end up in losing a chunk of your profits. Also, do not panic and sell just because your Fund didn’t do well in the past 3 months or 6 months.
Investing in Mutual Funds can be a wonderful way to build up wealth with moderate risk-taking ability. Do your research properly, pick a Fund of your choice and invest regularly to achieve your financial goals. And do remember – “Mutual Fund investments are subject to market risk. Please read the offer document carefully before investing.“