Updated August 7, 2023
What are Mutual Funds?
Most people link the words to the direct stock market; however, how many of us really understand the meaning of mutual funds? In this article, we will learn the concept of mutual funds for beginners.
Let’s get to know the meaning.
Okay, what do you understand with the term mutual funds for beginners? You might wonder if it is sold at a place where you can put in your money, and the asset management company will double or make your money, maybe even three times over a period of time.
Well, how? What do they do? The answer here will be that they invest their money in stocks or the share market. Maybe you are partly right; however, let’s understand this better.
A mutual fund is a product offered by an Asset Management Company (AMC) to gather money from the investor to invest in different markets and securities per the investment objective agreed upon by the investor and the AMC.
This process helps the investor invest in the market with the help of professional fund management services offered by the AMC.
The motive of a mutual fund is to direct the investor and help them in building or increasing their wealth by utilizing opportunities provided by a variety of stocks available in the market.
In this way, the AMC is able to collect a large sum of money from various investors to invest in different stocks.
The AMC collects different pools of money from investors; the pools of money are different because each investor’s investment objective and goal are different.
These pools of money are invested in different schemes. Investing in these schemes is buying an investment objective effectively.
How Does it Work?
- Step 1. The fund managers 1st come up with a common objective to start the fund.
- Step 2. The 2nd step is collecting money from the investors to invest in the fund
- Step 3. In this step, the money is collected anytime or during a specific period depending on the type of fund, whether it is an open-ended or closed-ended fund.
- Step 4. When the fund starts operating by law, the face value of its units has to be Rs 10/ per unit (the investment made into the scheme by each investor is translated into a number, and these numbers are known as units.) The unit’s true worth is called the NAV, which is the unit’s net asset value.
- Step 5. Depending on the scheme, the fund earns either dividends or interest, which is either paid off to the investor or added to the value of the investment money.
- Step 6. The size of any mutual fund company is judged by its AUM, which is the assets under management which is 1st accumulated by the investors when the scheme is launched. When the scheme performs well, the AUM goes up, whereas when the scheme is unable to perform, the AUM goes down. AUM also goes down when the scheme declares a dividend or the investor buys back his units. If the scheme continues to receive money from the investor, the AUM will continue to rise; however, in a closed-ended fund, the scheme does not give the option to purchase the units once NFO is closed. You can still buy back your units from the stock exchange it is listed on.
Advantages of Mutual Funds for Beginners Have to Offer
1. Professional Management
A professional fund manager with market knowledge and expertise in handling money in volatile markets designs mutual funds for beginners.
The managers invest their money in the mutual funds based on their experience, research, and investment objective, ensuring the investment process follows the objective.
2. Portfolio Diversification
Investing in a single stock or bond exposes you to the risk of losing your money to the volatile market. Fund managers distribute investors’ money among various stocks and bonds based on their risk appetite when creating funds.
This minimizes your risk and gives you the benefit of earning money from various stocks.
3. Affordable Investment
When it comes to investing in stocks, it is impossible for every individual to invest thousands. Hence many people find investing in the market impossible due to a lack of capital.
Well, mutual funds for beginners give an option of investing as less as Rs 500 into the scheme every month, which is quite possible for most people today. Investing Rs 500 monthly is much better than not investing at all.
4. Easy Withdrawal
Mutual funds for beginners allow you to withdraw money from your fund anytime. If you have invested in an open-ended fund, you can directly withdraw the money from the mutual fund; however, if you have invested in a closed-ended fund, you can withdraw from either the stock exchange or when the window opens for withdrawal of that scheme.
A Systematic Approach (SIP, SWP, STP)
1. SIP (Systematic Investment Plan)
The fund facilitates monthly investments without additional paperwork, as it directly debits a fixed sum chosen by investors from their bank account and credits it into the fund.
2. SWP (Systematic Withdrawal Plan)
The fund also allows you to withdraw from your fund weekly, monthly, quarterly, half-yearly, and even annually without extra paperwork and every time you need money, depending on your convenience.
3. STP (Systematic Transfer Plan)
you can also transfer money from one fund to the other monthly by signing up a form to confirm when you would need the transfer and from which fund to which.
And the list of advantages never end; the reason is that mutual fund is a huge topic, and it definitely gives you many benefits and advantages you can maximize.
Simply grab onto the right ones to make sure you make the most out of the opportunities available in the market and increase your money’s worth.
Now let’s know What you Never Knew About Mutual Funds for Beginners
1. No Control Over Your Money
If you know anything about the stock market or different stocks where you can maximize your money, you would never want to invest in a mutual fund.
The reason here is that you cannot control your money. The fund manager will invest in the stocks and the market as per his experience and the objective of the mutual funds; however, maybe you know better, and maybe you could have done better with the money you invested.
2. Huge Investment Cost
Every investor has to bear the cost of investment in the mutual funds stock. The investors bear the cost of buying and selling in the market, taxes applied on the trading, marketing, distribution, managing, etc., of the fund.
Small percentages of costs are applied, which can reduce the returns on invested money over time, requiring patience to cover up for the impact.
3. Immense Choice can Confuse You
There are more than 45 AMCs offering you more than 2000 mutual funds benefits. No one has so much time to go to so many fund houses and then go through their offer documents to choose a suitable fund that matches your objective precisely.
Oh yes, a few options are very good, as you would want to look at a few options before giving your money to someone; however, many choices can confuse you.
The AMCs have a number of mutual funds benefits to offer you, you want equity, debt, or liquid, and they have it all; however, which one is right for you is the question.
4. Investing Through an Advisor Could Charge you Extra
Since entry load has been stopped completely by SEBI, the companies cannot pay commissions to their brokers separately; however, entry load was mandatory for all investors irrespective of whether they are investing directly or through a broker.
SEBI came up with a rule of different NAVs for people investing directly without charging them the marketing and advisory expenses and separated for people investing through brokers.
Investors who invest directly without a broker benefit from a higher net asset value (NAV), while those who invest through a broker may incur a loss due to the broker commission charged on their investment to pay to the agents. Hence investing directly is more beneficial than investing through a broker.
5. Top-performed Funds are Also the Most Under-Performed Funds
Performance is never constant in the market; it always works in a cycle. For example, a fund that has been one of the best 10% performing funds in the market for one year has also been the most under-performed the very next year.
The market is a cycle as it is very volatile. Not one segment, not one company, is always simply performing well. Each industry and each company has its good and bad times.
This is where and how the mutual funds also perform and don’t. Hence most of the time, investing in top-performing mutual funds for beginners doesn’t work to your benefit.
6. Index Funds are Managed Extremely Actively
Index funds are mutual funds for beginners similar to a particular index; they are passive funds that have set benchmarks and offer a return in line with the market.
A review of the last 20 years’ market performances has noticed a trend wherein the index funds have given a return of 10% to about 30% of all the mutual fund’s stocks. Therefore investing in an index fund is always much more beneficial than investing in other mutual funds stock.
7. Investments in ETFs are Better Than Other Mutual Funds for Beginners
ETFs or Exchange Traded Funds are structured differently than other mutual funds for beginners. The difference is that the shares of the other funds can be bought at the end of the day NAV.
However, ETFs can be bought and sold the entire day, that is, any time through major exchanges only. And ETFs also make lesser capital gain events for the investor of this fund.
8. Excessively Diversified
Mutual Funds for beginners are a mixture of investments in different companies, industries, and security types like equities, bonds, debentures, etc., with the motive of diversifying or reducing the risk that comes with investing in a single company or industry, or security.
However, the funds are a bit too diversified. This means each Rs 10 is broken into a number of paise and invested in different companies depending on the objective of the fund. Investing directly into the stock market gives you an idea of where you have invested your money.
9. Taxes
Besides the taxes you avail of on exiting your mutual funds for beginners within a short span, you also pay taxes on the trading your fund manager does in buying and selling securities for you. These taxes are implied on your NAV.
10. All Mutual Funds for Beginners do not Give the Tax Rebate
No mutual fund except for an ELSS fund helps you save your taxes. The others, in fact, incur a tax cost deducted from your NAV, pulling your NAV down by a particular percentage, which is one major disadvantage you wouldn’t want to get into. ELSS funds also have a lock-in period of 3 years which means you cannot withdraw your money for 3 years.
Takeaways
Mutual funds for beginners are very good options to invest in as a startup to invest in the stocks, and if you have a small amount to invest in, mutual funds stock is the best way to make money in the growing market.
Well, suppose you know even a little about researching the stock market. In that case, the advice will be to invest in it directly as there are a number of disadvantages involved with the management of mutual funds stock investing directly into securities can fetch you much better returns.
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