Choose fund that suits you
Different Investors have different risk profiles. While some wanted to take low risk and invest in low risk funds while others choose high-risk and hence expect high-returns.
Mutual funds offer the flexibility to plan investments according to one's risk profile.
Based the mutual funds type, they invest in equities (stock market), Balanced and debt mutual funds.
The equation is simple like high risk = high returns.
Since several factors affect the equity markets, such funds are risky.
The equity mutual funds are exposed to two types of risks-systematic and unsystematic. The former are market risks that cannot be eliminated, while the latter are internal or company-specific risks. Equity mutual funds aim to eliminate internal risks by diversifying investments across several stocks.
Equity Mutual Funds - high risk and hence high returns. The fund management invests in strong fundamental companies.
Balance Mutual Funds - moderate risk and hence moderate returns. The fund management invests in equities as well as in debt products like bonds, government securities
Debt Mutual Funds - Low risk and hence low returns. The fund management invests in debt products like bonds issued by banks and governments.
Let us see the further types of Equity mutual funds.
Equity funds invest a key proportion of their assets in individual companies. They purchase shares through the secondary market, though they also buy these through the initial public offerings (IPOs). The NAVs of these funds react directly to the changes in the prices of the equity shares.
Following are the different types of equity funds:
Equity diversified funds: These funds invest a large proportion of their corpus in equity shares across different sectors and market capitalisations (blue chips, large-, mid- and small-cap). Their aim is medium- to long-term capital appreciation.
Equity-linked saving schemes (ELSS): These funds are similar to the equity diversified funds in terms of their investment objective. However, they provide tax benefits under Section 80C of the Income Tax Act and have a lock-in period of three years.
Dividend yield funds: These aim at providing regular income and steady capital appreciation by investing in stocks that have high dividend yields. These funds are relatively less volatile and risky compared with other equity funds.
Sectoral funds: These invest in the companies that belong to a particular sector, such as Pharma, FMCG, IT, and banking. Such funds do not invest across multiple sectors, so they are less diversified and carry a high company-specific risk (or unsystematic risk) compared with general equity diversified funds.
Mid-cap and small-cap funds: As the names suggest, mid-cap funds invest in mid-sized companies, while small-cap funds invest in small firms. The companies are classified as large, mid or small on the basis of their market capitalisation. The mid and small companies are expected to grow at a faster rate compared with the bigger ones. Such funds are volatile and risky as their shares are not very liquid in the market.
Equity index funds: Index funds track a specific market index, such as the S&P CNX Nifty or the BSE Sensex, and aim at returns similar to those of the defined index or benchmark. These funds invest in shares that constitute the index and in the same proportion as that of the index. These are exposed to market, or systematic, risks.
Contra funds: These are a variant of equity diversified funds, which identify and invest in stocks that are highly undervalued but have a strong growth potential in the long run. They aim to invest during periods of high market pessimism and derive benefits when the market recognises the stocks' potential. Such funds are useful only for long-term equity investors.
Let us see the Balanced mutual funds
A balanced mutual fund is a fund that invests in both equity and debt, and within equity it invests in large cap, mid cap, and small cap shares as well. These type of funds are meant to diversify away a little of your equity risk by exposure to debt, while maintaining decent returns as well.
Let us see the Debt mutual funds
These are low risk and low returns funds. But during year 2011 when the stock market, equity funds provided negative returns, the debt funds provided double digit returns.
Debt mutual funds invest in debt instruments like government bonds, fixed deposits and approved private deposits. There are rating agencies that grade the debt instruments. Based on the fund philosophy, the fund manager will choose the instruments with different risks.
The debt mutual fund is primarily focused on getting a regular return. The investments of the fund are in deposits/bonds with different maturing tenures and different interest rates. We need to take care to match our time frame for investment to the time frame of these. The current income from these funds will be in the range of 8 to 12 per cent.
Generally, the current income is received format the debt mutual funds in the form of dividend. Hence, this cash flow is tax free in our (investors') hands.
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