Mutual funds are an instrument in which different people pool funds. Each investor in a mutual fund scheme owns units of the fund, which represents a portion of the holdings of the scheme. The securities are selected keeping in mind the investment objective of the scheme. Mutual funds are managed by asset management companies (AMCs). Mutual fund managers be appointed to manage mutual fund schemes. There is a fee charged by AMCs for fund management. Let us now discuss the advantages of mutual funds.
- Risk Diversification: Risk diversification is one of the biggest advantages of mutual funds. Every stock is subject to risk, and there are three types of risk – company risk, sector risk and market risk. Unsystematic risk is identified as company risk and sector risk as markets risk. Mutual funds help investors diversify unsystematic risks by investing in a diversified portfolio of stocks across different sectors. While individual stocks have both unsystematic and systematic risks, mutual funds are only subject to systematic risk or market risk.
- Smaller capital outlay: You can start investing in mutual funds with relatively small amounts by using mutual funds. Investors will need huge capital outlay to build a diversified portfolio of stocks. Mutual fund investors can have the beneficial ownership of a diversified portfolio of stocks with a much smaller capital outlay, as mutual funds work on the basis of pooling of money. Investors can buy units of a diversified equity mutual fund with an investment as low as Rs 5,000/- only or even lower at Rs 500 for ELSS schemes.
- Investment expertise: It takes considerable experience to invest in stocks and bonds. Financial markets and industry sectors are knowledge that you need to be efficient. The mutual fund managers had knowledge and experience of investing in different instruments. The fund managers are supported by the research team of the AMCs.
- Economies of scale in transaction costs: : Reducing the transaction costs can be an additional advantage of mutual funds. Because mutual funds buy and sell securities in large volumes, the transaction costs per unit are low compared to what retail investors would incur if they buy or sell shares through stock brokers.
- Variety of products: Mutual funds are a type of investment product that offer investors the ability to meet their investment objectives. There are debt funds, hybrid funds and tax savings schemes which can be separated from equity funds.to suit different investment requirements. Mutual funds are good because you are able to invest in the product that is appropriate for you..
- Variety of modes of investments: The mutual funds are flexible in terms of investment and withdrawal models. Investors can opt for investment modes like lump sum (or one time), systematic investment plans (SIP), systematic transfer plans (STP) and systematic withdrawal plans (SWP).
- Disciplined investing: Mutual funds require investors to invest over a long period of time to create wealth. Furthermore, the advantages of mutual fund systematic investment plans or SIPs is that they encourage investors remain disciplined to meet their various financial goals. Many investors fail to build a substantial investment corpus because they are not able to invest in a disciplined way. Mutual fund SIPs help investors to maintain a disciplined approach to investment. SIPs also helps investor take emotions out of the investment process as very often investors get very enthusiastic in bull market conditions, but get nervous in bear markets. It is known that investing in bear markets yields high returns in the long term. Investors are disciplined and investing through SIPs allows them to stay disciplined.
- Variety of investment objectives: A mutual fund is an investment that allows for some investment goals. Equity mutual funds can help you create wealth through capital appreciation, while debt mutual funds can generate income for you. Mutual funds are a way to create wealth.
- Liquidity: Open ended mutual funds are the most liquid investments after bank deposits and are far more liquid than other investments like life insurance plans, infrastructure bonds etc. Investors can redeem their units in open ended funds usually on a T+3 (transaction + 3 days) basis. Liquid, overnight, low duration and ultra-short funds can usually be redeemed on T+1 day. Higher liquidity, lower volatility and better investment decisions made by mutual funds are advantages when compared with other investment options such as government small savings schemes.
- Transparency: There are advantages of mutual funds in terms of transparency for retail investors and HNI investors. Mutual fund schemes disclose their Net Asset Values (NAVs) at the end of each business day; so investors are aware of the market value of their mutual fund units on a daily basis. On a monthly basis, mutual funds publish Monthly Fund Factsheets where the portfolio holdings (securities in a scheme’s portfolio along with weights) are disclosed for each and every mutual fund scheme. Investors have the information where the fund managers have invested on a monthly basis. Monthly fund factsheets provide useful information for fund managers like returns compared to the benchmark scheme, risk ratios etc.
- Tax advantage: Tax advantages of mutual fund is one of the biggest benefits of investing in mutual fund compared to many traditional fixed income investments. In equity funds, short term capital gains (held for less than 12 months) are taxed at 15% and long term capital gains (held for more than 12 months) are tax exempt up to Rs 1 lakh in a FY and taxed at 10% thereafter (excess of Rs 1 lakh of capital gains). In non-equity funds, short term capital gains (held for less than 36 months) are taxed at as per your income tax rate and long term capital gains (held for more than 36 months) are taxed at 20% after allowing indexation benefits. Interest income from most traditional fixed income investment is taxed as per the income tax rate of the investors. For investors in higher tax brackets, the tax advantages of mutual funds are significant compared to traditional fixed income investments.
Types of Mutual Funds
Schemes Based on Maturity Period of
- Open Ended Funds
- Close Ended Funds
- Interval Funds
We will be discussing in details about all the three types of Fund till then, Kindly provide us you reviews and comments.