How Mutual Funds Work in India

Understand the different types of mutual funds, how they are managed, and how you can choose the right one for your investment goals.
How Mutual Funds Work
4 mins
17 Feb 2024

Mutual funds have risen as a highly favoured investment choice in India, providing individuals with a chance to engage in financial markets even without extensive expertise. Through a broad spectrum of choices and investment approaches, mutual funds have transformed the landscape of investing, ensuring it's open to a broader set of people. Now, let's delve into the inner workings of mutual funds in India, investigating their diverse classifications, operations, approaches to investment, and the returns they offer.

What are mutual funds?

mutual fund is a professionally managed investment scheme that pools money from multiple investors and invests it in a diversified portfolio of stocks, bonds, or other securities. These funds are managed by professional fund managers who make investment decisions on behalf of the investors. The main goal of a mutual fund is to provide investors with capital appreciation and/or regular income, depending on the investment objectives of the fund. Explore in detail about what is a mutual fund.

Categorisation of Mutual Funds in India

In India, mutual funds are broadly categorised into five main types of which Equity funds and Debt funds are popular.

  • Equity Funds: These funds predominantly invest in stocks or equities. They aim for capital appreciation over the long term and carry a higher level of risk due to the volatility of the stock market. Equity funds are further subcategorised based on factors like market capitalisation (large-cap, mid-cap, small-cap), sector focus, and investment style (value, growth, blend).
  • Debt Funds: Debt funds primarily invest in fixed-income instruments such as government securities, corporate bonds, and money market instruments. These funds aim to provide stable returns with lower risk compared to equity funds. Debt funds are classified based on their duration and risk profile, such as liquid funds, short-term funds, and dynamic bond funds.

Explore in detail about types of mutual funds.

How Do Mutual Funds Work

The operation of mutual funds involves several key steps:

  1. Fund Creation: A mutual fund is created when an asset management company (AMC) designs a fund with a specific investment objective, strategy, and risk profile.
  2. Pooling Funds: Investors who want to invest in the fund purchase units at the current Net Asset Value (NAV). The NAV is the per-unit value of the fund's net assets (Assets minus liabilities).
  3. Portfolio Management: Skilled fund managers oversee the investment process. They research and select securities to build a diversified portfolio aligned with the fund's objectives. A fee is charged by the fund houses for management of the funds called management fees.
  4. Regular Reporting: Fund managers takes care that regular updates are provided to investors about the fund's performance, holdings, and any changes in strategy by the AMC.
  5. Redemption and Exit: Investors can sell their units back to the fund at the prevailing NAV. The redemption process provides liquidity to investors. Certain mutual funds may charge an Exit Load, serving as a charge or fee if investors withdraw prematurely (prior to a defined duration) from the fund.

Frequently asked questions

Is it good to invest in equity funds?

Investing in equity funds may be a good option for those who are willing to take on some level of risk in order to achieve potentially higher returns. Equity mutual funds pool together money from various investors to buy ownership in companies that are publicly traded.

Are equity funds high risk?

Equity funds do carry higher risk, as they invest in the stock market, which can be volatile and unpredictable. However, this higher risk also comes with the potential for higher returns over the long term. It is important to understand that equity funds are a long-term investment option and investors should have a clear understanding of their risk tolerance and investment goals before investing in these funds.

What are equity funds with examples?

Equity funds are a type of mutual fund that invests primarily in stocks or equity securities of various companies. Examples of equity funds include large-cap funds, mid-cap funds, small-cap funds, sectoral funds, and index funds. Large-cap funds invest in large and well-established companies, mid-cap funds invest in medium-sized companies, while small-cap funds invest in small and growing companies. Sectoral funds, on the other hand, invest in a specific sector, such as technology, healthcare, or energy. Finally, index funds invest in the same securities that make up a particular market index, such as the Nifty 50 or the BSE Sensex.

How do I buy mutual funds?

To buy mutual funds, choose a fund, open an account with a fund house or a trusted platform like Bajaj Finserv, complete necessary documentation, and invest the desired amount. You can also buy funds directly through the asset management companies.

How Do You Purchase a Mutual Fund?

Purchasing a mutual fund involves selecting a specific fund, completing the required paperwork, and investing money. You can buy directly from the fund house or use financial advisors or trusted online platforms like the Bajaj Finserv Platform to facilitate the process.

What Should You Keep in Mind When Buying a Mutual Fund Online?

When buying a mutual fund online, consider factors like the fund's past performance, expense ratio, investment objective, and risk profile. Ensure the online platform is secure, and understand the terms and conditions, fees, and any additional features before making the purchase.

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