What are Mutual Funds?

A mutual fund is an investment vehicle where many investors pool their money to earn returns on their capital over a period. This corpus of funds is managed by an investment professional known as a fund manager or portfolio manager. It is his/her job to invest the corpus across different securities such as bonds, stocks, gold, and other assets and seek to provide potential returns in accordance with the goal of the fund. The gains (or losses) on the investment are shared collectively by the investors in proportion to their contribution to the fund.

Kindly note that a Mutual Fund is an investment vehicle and not an investment instrument as it just provides a way to invest. It was designed so that people who're willing to invest and are not aware much about the financial markets or who do not wish to take the hassles of continuously watching their investments could have a system or a method in place to invest and get better returns over fixed instruments.

Why invest in mutual funds?

• Professional expertise • Returns • Diversification • Tax benefits (If investing in Tax Saving funds)

What are the different types of mutual funds?

• Debt funds • Equity funds • Hybrid funds (Debt + Equity)

Types of Mutual Funds based on structure:

• Open-ended mutual funds • Close-ended mutual funds (Lock-in)

Types of Mutual Funds based on investment objective:

• Growth funds • Income funds • Liquid funds • Tax saving funds

How Mutual funds and investment goals related?

All your investment goals can be categorized into three broad groups: • Short-term goals (1-3 years): For instance, going on a family vacation in 18 months, buying a car, etc • Medium-term goals (3-5 years): For instance, doing a short term course in digital marketing in 3/4 years • Long-term goals (5 years or more): For instance, buying a house in the next 5-7 years For any goals up to 12 months, it is better to invest in liquid funds since they are less volatile. Liquid funds can be a good option to create an emergency fund. For goals between 1-3 years, you may want to invest in short term debt funds. Hybrid funds are more suited for medium-term goals since they have the potential to provide both capital appreciation and stability. For long-term purposes, equity funds are suitable.

What is Systematic Investment Plan (SIP)?

One of the best features of investing in mutual funds is that you don’t need a large amount of money to start investing. Most fund houses in the country allow investors to begin investing with as little as Rs. 500 (some start at Rs. 100) per month through Systematic Investment Plans (SIPs). Now, this might seem like a tiny amount to begin your investment journey, but when you invest consistently over a considerable period, you can achieve a substantial sum. SIP is a method of investing in mutual funds where you invest a specific amount at fixed intervals. This way, you can avoid timing the market and increase your wealth steadily. Here’s an example to illustrate the SIP point: Let’s imagine you invest Rs. 5,000 per month in an equity fund for 15 years. The fund offers an annual return of 12%. At the end of the investment period, you would have amassed a corpus of over Rs. 25 lakh. Now, if you continue investing the same amount for another ten years (total 25 years), you would get a total sum of almost Rs.95 lakh! This is roughly four times the amount in an additional ten years. This is the power of compounding. The returns you earn in turn begin to make profits for you. So, when you invest for a longer time frame, your gains also rise higher. But to gain the maximum benefit of compounding, you should start investing as early as possible and invest for as long as possible. This can give you an extended investment window to increase your returns.

Final thoughts

Investing in mutual funds is one of the simplest ways to achieve your financial goals on time. But before you invest, take an adequate amount of time to go through the different fund options. Don’t invest in a fund because your colleague or friend has invested in it. Identify your goals and invest accordingly. If required, you can approach a financial advisor to help you make the right investment decisions and plan your financial journey. Note: SIP should not be construed as a promise on minimum returns and/or safeguard of capital. SIP does not assure any protection against losses in declining market conditions.

Image Credits: The Financial Express

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