Mutual funds offer one of the clearest and flexible ways to create a diversified portfolio of investments. There are various mutual fund schemes geared to suit investors’ diverse risk appetites. A mutual fund scheme is made up of investments in equities, debt or a mix of both.
An investor should understand the different types of mutual fund schemes in India to make a correct investment decision.
According to SEBI categorization of mutual funds, mutual funds can be classified as:
Solution Oriented Schemes – For Retirement and Children
Other Schemes – Index Funds & ETFs and Fund of Funds
1. Equity Schemes
They are popular mutual fund schemes that primarily invest in equities and equity related instruments. Though generally by nature categorised between high-risk to very high investments, these mutual fund schemes have potential to provide good long term risk adjusted return. They are ideal for investors with a high risk appetite and long investment horizon for wealth creation to fuel their financial goals. Normally an equity fund or diversified equity fund makes investments in various sectors to mitigate the risk.
Equity funds are further classified into several categories. Let’s understand three of them:
a. Sector-specific funds:
These mutual funds invest in distinct sectors like infrastructure, banking, technology, etc. Investors with a high-risk appetite prefer these funds.
b. Value Funds:
Value funds are suitable for investors who want to invest in equity mutual funds but at the same time looking to minimize downside risks Value funds invest in stocks that are undervalued currently compared to historical averages and peers but are expected to perform better over the long term.
c. Tax saving funds:
These funds invest atleast 80% in equity and equity-related instruments. offer tax benefits to investors. They are also called Equity Linked Saving Schemes (ELSS). They invest in equities and have a 3-year lock-in period. The investments in the scheme are eligible for tax deduction under sec 80C of the Income-Tax Act, 1961.
Fixed income or debt mutual funds:
These funds invest a majority of their funds in debt – fixed income i.e. government securities, bonds, debentures, etc. They are ideal for investors looking for less volatile and short-term investments. However, they cannot escape credit risk. They can be categorized based on the tenure of securities and/or on the basis of the fund management strategies.
1. Liquid funds:
These funds invest in short-term debt instruments with a duration not exceeding 91 days, and provide a reasonable return to investors over a short period. Investors with a low-risk appetite looking to park their surplus funds for a short-term prefer these funds. They offer an alternative to putting money in a savings bank account.
2. Gilt funds:
These funds invest minimum 80% in government securities across maturity. These funds are suitable for investors who are risk averse and do not want any credit risk associated with their investment.
These mutual fund schemes allocate their investments between equity and debt. The distribution may keep changing depending on market behaviour. Investors who prefer a combination of moderate returns with comparatively lower risk invest in these funds.
Investors looking to invest in mutual fund schemes should use the following pointers while comparing the performance of various mutual fund schemes
Compare returns of one mutual fund scheme with the returns of another mutual fund within the same time frame. Do not compare the five-year return of one fund with the three-year return of another fund.
Compare fund returns of large-cap funds with the given index like BSE Large-cap and not with BSE Mid-cap index.
While comparing funds, select mutual fund schemes that have been in the market for a long time. This ensures that the performance of mutual fund has managed to weather the market behaviour for quite some time.
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