What is Mutual Funds - Meaning, Types, Benefits, Risks and How to Invest

In summary

Mutual funds pool money from many investors and invest it in shares, bonds and money market instruments. A professional fund manager runs the portfolio according to the scheme's stated objective, and every investor gets units that represent their share.

• You receive mutual fund units based on the amount you invest and the applicable NAV.
• You can invest through an SIP or lumpsum, depending on your cash flow and investment approach.
• Mutual funds offer diversification, but they do not eliminate market risk or guarantee returns.
• SEBI requires mutual fund schemes to display a Riskometer showing six levels, from Low to Very High.
• KYC is mandatory before you invest in mutual funds.

For example, if a scheme's NAV is Rs. 20 and you invest Rs. 5,000, you get 250 units. If the NAV later rises to Rs. 22, those units are worth Rs. 5,500.

A mutual fund is a pooled investment vehicle. Money from many investors is collected and invested in a portfolio of securities according to a scheme’s investment objective.

When you invest, you receive units of the scheme. 

The value of each unit is represented by its Net Asset Value (NAV). The NAV can rise or fall as the value of the securities held by the scheme changes.

How NAV is worked out: NAV = (value of the scheme's investments + cash – liabilities) ÷ number of units. For example, if a scheme holds investments worth Rs. 200 lakh and has issued 10 lakh units, its NAV is Rs. 20 per unit. NAV is declared every business day.

The Asset Management Company (AMC) manages the scheme, while the fund manager makes investment decisions according to its stated strategy. AMFI describes mutual funds as collective investment vehicles that pool investors’ money and invest it across securities such as equities, bonds, government securities, and money market instruments.

In India, a mutual fund is set up as a trust and must be registered with SEBI. The sponsor sets it up, trustees oversee it to protect investors, the AMC manages the money, and a separate custodian holds the scheme's securities. This keeps your investments separate from the AMC's own money.

Your best choice depends on your goal, risk appetite and time horizon. Fixed deposits offer safety, mutual funds offer diversified growth, and direct shares offer high potential with high risk.

The process is straightforward: you invest money in a scheme, receive units, and your investment value changes with the portfolio’s performance and the applicable NAV.

Consider Riya, who wants to invest Rs. 5,000 every month towards a long-term goal. Instead of selecting individual shares herself, she could compare suitable mutual fund schemes and invest through an SIP. She would receive units based on the applicable NAV for each instalment. Her investment value would then fluctuate with the scheme’s underlying investments.

How to earn money from a mutual fund

In two ways. First, when the value of the scheme's investments rises, the NAV rises, and you gain when you redeem your units at a higher NAV than you paid. Second, if you choose the IDCW option (Income Distribution cum Capital Withdrawal), the scheme may pay out part of its value to you from time to time; the NAV falls by the amount paid. In the growth option, nothing is paid out and all gains stay invested.

How does redemption work: When you sell (redeem) units of an open-ended scheme, you get the NAV of that day, minus any exit load. SEBI rules require the money to reach your bank within 3 working days, and most equity schemes pay in 2. Some schemes, such as ELSS, have a lock-in.
 

You can invest through a lumpsum investment or an SIP. An SIP can also use rupee-cost averaging, although it does not protect you from losses.

SEBI's circular of 26 February 2026 groups mutual fund schemes into 40 categories under five heads: equity (13 categories), debt (17), hybrid (7), life cycle funds (1) and other schemes (2: index funds and ETFs, and fund of funds). The older solution-oriented category (retirement and children's funds) was discontinued.

The main categories and examples below show how schemes can differ based on their underlying investments.

By structure: Open-ended schemes let you buy and sell units on any business day at NAV and have no fixed maturity. Close-ended schemes have a fixed maturity, accept money only at launch (NFO) and are listed on a stock exchange so you can exit. Interval schemes allow buying and selling only during set windows.

Last updated: September 2026

The category alone does not tell you whether a scheme is suitable. Check its investment objective, portfolio, Riskometer, costs, and your own investment horizon.

Mutual funds can make diversified investing more accessible, particularly when you do not want to select and monitor individual securities yourself.

Diversification

Your money can be spread across multiple securities, sectors, or asset classes. This can reduce the impact of poor performance from any single holding, although it cannot remove market risk.

Professional management

A fund manager researches and manages the portfolio according to the scheme’s stated investment strategy.

Flexible investment options

You can invest through an SIP or lumpsum, depending on the scheme and your circumstances. Some schemes also allow redemptions without a lock-in, although exit loads or other conditions can apply.

Access to different investment strategies

You can choose from equity, debt, hybrid, passive, and other scheme structures depending on your goals and risk tolerance.

Low starting amount

Some schemes let you start an SIP with as little as Rs. 100 a month, so you can begin small and increase later.

Liquidity and transparency

You can redeem units of open-ended schemes on any business day. Every scheme declares its NAV daily and publishes its full portfolio regularly, so you can see where your money is invested.
 

Tax-saving option

ELSS funds qualify for a deduction of up to Rs. 1.5 lakh a year under the old tax regime, with a 3-year lock-in for each investment.

Mutual funds do not guarantee profits. Your investment can lose value, and the level of risk varies by scheme.

Market risk

Equity funds can fluctuate significantly with market movements. Debt funds can be affected by interest-rate, credit, and liquidity risks.

Costs can reduce returns

Mutual funds have expenses, including the Total Expense Ratio (TER). Some schemes can also charge an exit load when you redeem units under specified conditions. See expense ratio and exit load.

Limited control over individual securities

The fund manager decides which securities to buy, hold, or sell within the scheme’s mandate. You do not directly choose each security.

The wrong scheme can conflict with your goal

A fund that does not match your risk tolerance or investment horizon may not be appropriate for your objective. Review the scheme’s Riskometer and portfolio before investing.

Every scheme shows its risk on a Riskometer with six levels: Low, Low to Moderate, Moderate, Moderately High, High and Very High (SEBI Master Circular for Mutual Funds, 20 March 2026).

The main ongoing cost is the expense ratio, which is reflected in the scheme’s NAV rather than usually being collected as a separate payment from you. An exit load may apply when you redeem within the period specified by the scheme.

An entry load is not charged on mutual fund purchases in India; SEBI abolished entry load in 2009.

The actual costs depend on the scheme. Check its applicable documents before investing.

Exit load example

Many equity schemes charge an exit load of around 1% if you redeem within one year. On a redemption of Rs. 50,000, that is Rs. 500. The exact load and period differ by scheme.

Direct and regular plans

Every scheme has a direct plan and a regular plan with the same portfolio. A regular plan is bought through a distributor and includes the distributor's commission in its expense ratio, so its NAV and returns differ slightly from the direct plan.
 

Expense ratio limits

SEBI sets a maximum expense ratio for each type of scheme, and it falls as the scheme grows larger. The current ratio is shown in the scheme's factsheet.

Tax depends on the type of mutual fund, the nature of the gain, the holding period, and the applicable tax rules.

Equity-oriented funds

Gains on units held for more than 12 months are long-term and taxed at 12.5% on gains above Rs. 1.25 lakh in a financial year. Gains on units held for 12 months or less are short-term and taxed at 20%.

Debt funds bought on or after 1 April 2023

Gains are taxed at your income tax slab rate, however long you hold the units.
 

IDCW payouts

Any income distributed to you is added to your income and taxed at your slab rate.
 

SIP instalments

Each instalment has its own holding period, and the oldest units are treated as sold first.
These rates apply for FY 2026-27.

You can read more about short-term capital gains tax and long-term capital gains tax.

Your return depends on the amount invested, cash-flow timing, holding period, and change in the scheme’s NAV.

For a single investment, absolute return measures the percentage change between the purchase and current value. For investments held over multiple years, CAGR can help express the annualised growth rate. For an SIP with multiple cash flows, XIRR is generally more appropriate because it accounts for the dates and amounts of individual investments.

Example: You invest Rs. 1,00,000 and it grows to Rs. 1,50,000 in 3 years. Your absolute return is 50% (Rs. 50,000 ÷ Rs. 1,00,000). Your CAGR is about 14.5% a year, which is the steady yearly growth that would turn Rs. 1,00,000 into Rs. 1,50,000 in 3 years.

You can use the mutual fund calculator, SIP Calculator, step-up SIP calculator, or lumpsum calculator from Bajaj Finance for illustrations. Calculator outputs are estimates, not guaranteed returns.

Here are some of the common mutual fund terms you need to be aware of:

NAV: The value of one unit of a scheme, declared every business day.

AUM (Assets Under Management): The total value of money a scheme manages.

Expense ratio (TER): The yearly cost of running the scheme, taken from its assets.

Exit load: A charge for redeeming units before a set period.

Benchmark: The index a scheme's performance is compared with.

Folio number: Your account number with a fund house.

IDCW: The option that pays out part of the scheme's value to you; earlier called "dividend".

SID (Scheme Information Document): The official document with a scheme's objective, risks and costs.

Mutual funds can suit investors with different goals and risk levels because schemes have different investment strategies.

You might consider them if you want diversified market exposure, prefer professional portfolio management, or want to invest regularly through an SIP. Your choice should depend on your financial goal, investment horizon, risk tolerance, and the scheme’s characteristics rather than simply whether you are a beginner or experienced investor.

Resident individuals, joint holders, Hindu Undivided Families (HUFs) and companies can invest. A minor can invest through a parent or legal guardian, with the investment held in the minor's name until they turn 18.

Follow these steps before making your first investment. Each step helps you check whether the scheme fits your circumstances.

• Define your goal, investment horizon, and risk tolerance.
• Complete KYC, which is mandatory before investing.
• Compare schemes based on their objective, portfolio, Riskometer, costs, and performance.
• Choose between an SIP and lumpsum investment.
• Review the Scheme Information Document and other scheme-related documents.
• Invest through a registered platform or fund house.
• Review the investment periodically against your goal rather than reacting to every short-term market movement.

The Bajaj Broking website can help you explore mutual fund schemes and investment information.

Look beyond past returns. Check the scheme’s investment objective, asset allocation, portfolio, Riskometer, expense ratio, exit load, tax treatment, and whether its risk level matches your investment horizon. Also check how the scheme has performed against its benchmark over 3 and 5 years, how consistent that performance has been, the fund manager's experience, and the size of the scheme (AUM).

You can also compare equity mutual funds, NFO mutual funds, and ELSS mutual funds based on your requirements.

A mutual fund lets you invest in a professionally managed portfolio without selecting every security yourself. You can choose from different scheme categories and invest through an SIP or lumpsum.

The key is to match the scheme with your goal, investment horizon, risk tolerance, and expected level of involvement. Diversification and professional management can be useful, but neither removes market risk or guarantees returns.

Last reviewed: September 2026

Mutual funds are subject to market risk. Please read the scheme-related documents carefully before investing.