Mutual funds are among the popular investment vehicles around the world. They are great for investors wanting to take advantage of compounding. Why should you know, Let us discuss the basics of mutual funds and understand the investment process.
Comprehending Mutual Funds
A mutual fund is an investment vehicle with multiple participants, investors, and a fund manager. The mutual fund provider or the manager will pool money from different sources. The money collected from different sources is invested in a portfolio consisting of diversified securities. A mutual fund portfolio can consist of stocks, bonds, derivatives, and other assets. Some mutual fund portfolios even consist of cash equivalents, emerging market securities, and alternative investments. You aren’t buying a particular asset or security by investing in a mutual fund. Instead, you are investing in a portfolio consisting of a basket of securities.
Mutual funds are for everyone, from seasoned investors to beginners. You can invest in a mutual fund even without knowing how it works. A mutual fund is managed by an experienced professional, the fund manager. The fund manager invests the money collected from different sources. Day-to-day investment decisions will be made by the manager, from rebalancing to selection of assets. The fund manager also generates investment commentaries for investors to notify them about investment strategies, decisions, risks, and other details. When you invest in a mutual fund, you will get to know about the strategies to be used in the future to ensure growth.
Mutual Fund Types for Investors
Now that you understand what is a mutual fund, let us discuss its types, which are as follows:
- Equity Mutual Funds: The portfolio of equity mutual funds consists mainly of stocks of a group of companies. They might invest in stocks of large, small, and mid-cap companies.
- Bond Mutual Funds: These mutual funds invest mainly in bonds, also known as fixed-income securities. The portfolio of a bond mutual fund might consist of government, corporate, municipal, or high-yield bonds.
- Hybrid Mutual Funds: These mutual funds have a diversified portfolio in terms of assets. They invest in stocks, bonds, and other assets.
- Sector Mutual Funds: These mutual funds focus on assets from specific sectors like healthcare, FMCG, or energy.
- Value Mutual Funds: These mutual funds invest in undervalued assets and wait for capital appreciation. They allow investors to earn multifold returns in the long term.
Step-by-Step Process to Invest in Mutual Funds
Now that you understand what is a mutual fund, here are the steps to invest in one:
- The first step to investing in mutual funds is opening a brokerage account. You cannot purchase or sell securities without a brokerage account.
- As discussed above, a brokerage account only helps purchase and sell assets. You will need a Demat account to hold mutual fund units. You can also opt for a mutual fund account. It is a dedicated account used only for purchasing and redeeming mutual fund units.
- Choose an investment platform to browse available mutual fund schemes. The investment platform will also offer access to your brokerage and Demat account. Many investors opt for a 2-in-1 trading and Demat account.
- Compare the available mutual fund schemes based on historical performance, NAV, investment strategies, and other factors.
- Choose a preferred mutual fund scheme on the investment platform. Investors also need to choose the investment type, a lump sum amount or a Systematic Investment Plan (SIP).
- Pay for the mutual fund units via net banking, debit card, bank transfer, or any other method offered by the investment platform.
- You will receive and store the purchased mutual fund units in the Demat account.
- Use the investment platform to track the performance of your mutual fund. Don’t forget to read fund commentaries issued by the fund manager.
Mutual Fund Terms You Must Understand
You must know these terms to understand what is a mutual fund in its entirety:
Net Asset Value
Investors purchase or redeem units of a mutual fund. The price of a single unit of a mutual fund is called NAV or Net Asset Value. You have to calculate the total value of the mutual fund portfolio to know the NAV. It is crucial to note that the liabilities aren’t counted as the fund’s total value. The total value of the portfolio is divided by the number of issued units to calculate NAV.
Expense Ratio
A mutual fund has some operational costs. It includes the fees of the mutual fund manager. Not to forget, there are management and administrative costs involved. These costs are borne by the mutual fund investors. The cost involved in the operation of a mutual fund is called the expense ratio.
AUM
The current market value of all the assets in a mutual fund portfolio is called Assets Under Management (AUM). The expense ratio of a mutual fund is usually a percentage of the AUM.
SIP
SIP is a popular method of investing in a mutual fund scheme. It involves investing a fixed amount at regular intervals in a mutual fund. Step-up SIPs are also available that boost the investment value gradually over time. SIPs allow investors to benefit from cost averaging.
Conclusion
Mutual funds are perfect for investors willing to benefit from compounding. The returns from a mutual fund are reinvested, allowing you to earn multifold returns. Don’t forget to read the mutual fund description or commentary before investing in SIP. You can invest a lump sum amount in a mutual fund scheme. SIP options are also available for mutual fund investment, especially for retail investors. Invest in a mutual fund today!