Types of Mutual Funds
“Embrace those things that make you unique”
Absolutely! We are unique and so are our financial needs. Someone might want to build a house, while someone would want to save for their child’s education or marriage. Some might want to build a corpus for their retirement, and some might just want to invest to save and get better returns. When investment needs are so different, how can they all be served through a Bank FD or RD? We definitely need flexible plans that blend and suit our financial requirement. And this is possible with Mutual Funds. Mutual Funds have various categories of funds that serve different needs and this article will throw light on them.
The broad category of Mutual Funds includes:
- Equity Funds: Equity Funds invest in shares of companies that have different market-capitalization. They are meant for investors that have a long investment horizon i.e 5 years or more. Equity Funds generate high returns, which also indicate high risk, thus it’s important for investors with higher risk tolerance to opt for Equity Funds. Since investors under this category remain invested for a long period of time, there is sufficient time for the fund to overcome the market fluctuations.
- Debt Funds: Although Debt Funds have no guarantee of returns, they primarily invest in treasury bills and corporate bonds, therefore the returns earned by debt funds are most often predictable thus making them a less risky option than Equity Funds. Conservative investors who have a lesser risk appetite, looking for moderate returns and have a financial goal that is either short term ( 3 months – 1 year) or medium term (3 – 5 years), can opt for this option.
- Hybrid Funds: Hybrid Funds invest both in equity and debt instruments. They form a perfect combination, meaning they provide better returns than Debt Funds and at the same time are less riskier than Equity Funds, thus avoiding excessive risk and providing both income and capital appreciation. Investors who have a lesser risk appetite, but at the same time want their investments to have equity exposure, can opt for this option.
Mutual Funds can also be categorized based on Market Capitalization:
- Large Cap Funds: Large-cap funds are those that invest primarily in companies that have a large market capitalization, these are companies that fall into the top 100 ranks (as per SEBI). Investors who have a lesser risk appetite can opt for this option as these funds have fewer fluctuations when compared to Mid Cap and Small Cap funds. However, it is recommended that investors remain invested for a long period of time, say 5 – 7 years or more.
- Mid Cap Funds: Mid-cap funds invest in companies that have mid-market capitalization i.e. companies that fall between the rank 101 – 250 (as per SEBI). In short, mid-cap funds lie between Large Cap and Small Cap funds. So investors who have higher risk tolerance and are willing to face higher market volatility than large-cap funds can go for mid-cap funds. However, first-time investors are not recommended to choose this option.
- Small Cap Funds: Small-cap funds are the riskiest and most prone to market fluctuations when compared to Large Cap and Mid Cap Funds. Investors who have high-risk tolerance and want aggressive returns can choose this option. However, it is highly recommended that investors only invest a portion of their portfolio in small-cap funds.
This is not all: Mutual Funds can further be classified on the basis of Risk levels, structure, asset classes, investment objectives, or even expense ratios. But the right way to choose a Mutual Fund must be based on the investor’s profile:
- Investment horizon: duration of the investment
- Risk Appetite: The level of risk an investor can tolerate
- Returns: The percentage of returns an investor expects from an investment
- Financial Goal: the objective of the investment
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