Tutorial about Mutual Funds

What is a mutual fund?

A mutual fund is an investment that allows all investors access a well-diversified portfolio of equities, bonds or other securities. Each investor has a share in the gain or loss of the fund. Units are issued and can be redeemed as needed. The fund's Net Asset Value (NAV) is determined each day.

They are the companies that receive your money and invest it in financial markets. It is an ideal tool for people who want to invest but fear the complexities of the markets or the arcane language experts use. The beauty of mutual funds is that a person with an investible surplus of a few hundred rupees can invest and reap same returns as anyone else.

What are the benefits of investing in mutual funds?

Following are the benefits of investing in mutual funds:

Small investments: Mutual funds accept investments as low as few thousand rupees, which is invested across the markets. Such a spread is difficult for an investor to do.
Professionalism: Professionals manage the money collected by a mutual fund. They analyse the markets to pick good investments.
Spreading risk: An investor with a small amount of money would be able to invest in only one or two stocks / bonds, thus increasing risk. However, a mutual fund will spread its risk by investing in various sound stocks or bonds. A fund normally invests in companies across a wide range of industries, so the risk is spread.
Transparency and interactivity: Mutual funds provide investors with information on the value of their investments. Mutual funds also provide complete picture of the investments made by their various schemes and the proportion invested in each asset type.
Liquidity: Open-ended funds can be sold back to mutual funds at NAV based prices subject to exit loads and close-ended funds can be sold at the stock exchanges where they are traded.
Choice: The funds can be picked from a wide array. This enables the investor to choose what suits him best according to his risk and return expectation.

Who regulates mutual funds?

All mutual funds are registered with SEBI and they function within the provisions of strict regulation designed to protect the interests of the investor.

What are the different types of Mutual funds?

Broadly the different types (and sub types) of MFs are:

Equity Funds

Sub-type Investments Made

Diversified Across all industries
Sector / theme specific In that particular sector or its allies such as infrastructure or energy or software
Dividend yield In stocks which pay high dividend

Debt Funds

Sub-type Investments Made In

Income Fund / Long term bond Bonds of corporate, government and other issuers
Short Term Income Fund / Short term bonds Issuers including corporate, government, banks
Floating Rate funds Bonds whose interests are reset at preset time periods, like your floating rate housing loan interest is reset when interest rates go up or down
Liquid / Liquid Plus Fund/ Very Short Term Bonds: Is an alternative to short term deposits Very short term bonds and money market instruments that mature within a year so that high liquidity can be had

Hybrid Funds

Equity oriented - Have an equity exposure of more than 60% rest in debt investments.
Debt oriented - Have debt exposure of more than 50% rest in equities.
Monthly income plans - Have equity exposure ranging from 10- 25% and rest in bonds.

What are the different plans that mutual funds offer?

The different plans available for the investors are:

Growth - Distribution of profits (dividend) are not given out. Only way an investor can realise profits is through capital gain by selling the units.
Dividend - There are two sub types in this plan:

Dividend Payout - Dividend would be paid to the investor periodically depending on available surplus to distribute, either by direct credit or through a cheque.
For example: If a fund declared Rs 2 / unit (20% dividend) and the investor has 100 units he gets Rs 2 * 100 or Rs 200 as dividend.

Dividend Reinvestment: Dividend amount declared is used to buy more units of the fund.
For example: A fund declared Rs 2 / unit and the NAV is Rs 12. If the investor has 100 original units and has opted for dividend reinvestment he will have: Rs 200/12 = 16.67 units. Total units after the dividend is reinvested = 100 original + 16.67 Units reinvested = Total 116.67 Units.