Mutual funds are a popular investment offering a diversified portfolio that fund managers handle. This blog will help you explore the essentials of mutual funds, including how they work, top-performing funds, investment methods, and factors to consider before investing.
Introduction to Mutual Funds
A mutual fund can defined as an investment scheme in which funds from multiple investors are invested in a mixture of stocks, bonds, or other securities and overseen by a professional fund manager.
Understanding the Working of Mutual Funds
When you invest in a mutual fund, your money is combined with other investors. The total pool of funds is then used to purchase a diversified portfolio of securities. Each investor owns particular units of the mutual fund, representing a portion of the total assets.
Fund managers, experts in financial markets, decide which securities to buy, hold, or sell based on the fund’s investment objectives. The value of your investment fluctuates with the performance of the underlying assets, and you can earn returns through dividends, interest, or capital gains.
Top Performing Funds
To make better investment decisions, it’s essential to keep an eye on the top-performing mutual funds in the Indian market. Some of the best-performing funds in recent times include:
| Scheme Name | CRISIL Rank | AUM (₹ Cr) | 5-Year Returns (%) |
| Invesco India Largecap Fund – Direct Plan – Growth | 3 | 1145.78 | 20.59 |
| SBI Contra Fund – Direct Plan – Growth | 5 | 30520.42 | 30.64 |
| Quant ELSS Tax Saver Fund – Direct Plan – Growth | 5 | 10527.57 | 36.54 |
| Franklin India ELSS Tax Saver Fund – Direct Plan – Growth | 4 | 6815.90 | 21.87 |
| Invesco India Mid Cap Fund – Direct Plan – Growth | 3 | 4631.08 | 29.02 |
| HDFC ELSS Tax saver – Direct Plan – Growth | 4 | 15674.35 | 21.76 |
| SBI Long Term Equity Fund – Direct Plan – Growth | 5 | 23887.64 | 25.95 |
These funds have shown consistent performance and are managed by experienced professionals.
Ways to Invest in Mutual Funds: Lumpsum & SIP
Lumpsum Investment
A lumpsum investment involves investing significant money in a mutual fund at once. This method is suitable for investors with a substantial amount of money to invest and a higher risk tolerance.
Systematic Investment Plan (SIP)
SIP allows investors to invest a fixed amount regularly, typically monthly, in a mutual fund. This method is ideal for investors who prefer a disciplined approach to investing and want to take advantage of rupee cost averaging, which can reduce the impact of market volatility.
How do Mutual Funds Generate Returns?
Mutual funds generate returns through different means. Firstly, companies in the fund’s portfolio may distribute dividends from their profits. Secondly, bonds and fixed-income securities in the fund pay interest. Lastly, the fund manager generates capital gains by selling securities at a profit, which is then passed on to investors. These mechanisms collectively contribute to the returns earned by mutual fund investors.
Factors Affecting Mutual Funds
Several factors can impact the performance of mutual funds:
- Economic and market factors, interest rates, and market trends influence the value of securities in the fund’s portfolio.
- The skills and decisions of the professional fund manager play a crucial role in the fund’s performance.
- The costs of managing the fund, known as the expense ratio, including management fees and administrative expenses, can affect returns.
- The distribution of assets in different securities impacts the risk and return profile of the fund.
Things to Consider Before Choosing the Mutual Funds
Before investing in mutual funds, a few things should be considered, such as:
- Investment Goals:
Define your financial goals and choose a fund that aligns with them.
- Risk Tolerance:
Assess your risk appetite and select a fund with a risk level you’re comfortable with.
- Fund Performance:
Review the fund’s historical performance and compare it with its peers.
- Expense Ratio:
Looking for mutual funds with lower expense ratios is crucial to maximise returns.
- Investment Horizon:
Determine how long you can stay invested to achieve your financial goals.
Conclusion
Mutual funds are a versatile investment option to help investors achieve their financial goals through professional management and diversification. By understanding how they work and considering critical factors before investing, you can make informed decisions and build a robust investment portfolio.
FAQs
Ans: The choice between lump sum and SIP depends on financial goals, market conditions, and risk tolerance. Lump sum investments are ideal for substantial amounts and beneficial in rising markets, but they are riskier in volatile situations. The systematic investment plan (SIP) involves regular, usually monthly, investments. It averages purchase costs and reduces market volatility risk, making it perfect for salaried individuals.
Ans: Equity Mutual Funds should be held for at least 5-7 years to ride out market volatility and benefit from potential long-term growth. Debt Mutual Funds can be held for shorter periods ranging from 1-3 years, depending on the specific fund and your financial needs. A mix of equity and debt, known as hybrid funds, can be held for medium-term goals, generally 3-5 years.
Holding mutual funds for extended periods often results in better returns and minimises the impact of short-term market fluctuations.
Ans: Yes, mutual funds are subject to taxation in India. For equity funds, a Short-Term Capital Gains (STCG) tax of 15% applies if units are sold within one year, and a Long-Term Capital Gains (LTCG) tax of 10% on gains exceeding ₹1 lakh applies if held for more than one year. For debt funds, STCG tax is as per your income tax slab if units are sold within three years, and LTCG tax is 20% with indexation benefits if held for over three years. Taxes on withdrawals can affect your overall returns, so it’s essential to consider the holding period and tax implications when planning your investments.
Ans: The right time to exit a mutual fund depends on several factors. If your financial goals are met, it’s wise to exit or switch to safer investments. Review the fund’s performance against its benchmarks and consider exiting if it consistently underperforms. In bearish markets, reassess your portfolio and consider exiting funds that might not recover soon. Additionally, it might be time to exit if you need liquidity for emergencies or other financial requirements. Exiting should always align with your investment strategy and financial goals.
Ans: The 8-4-3 rule is a guideline suggesting:
8% Return: Aim for an 8% return on your investments. This is considered a reasonable expectation for moderate risk profiles.
4% Withdrawal: To sustain your portfolio over the long term, limit your annual withdrawals to 4% of your total investment.
3-Year Emergency Fund: Maintain an emergency fund that covers at least three years of expenses to handle unforeseen circumstances without affecting your investments.
