What is a Mutual Fund?

Mutual funds are investment avenues that pool the money of several investors like you to invest in financial instruments such as stocks, government securities, debentures to name a few. The appreciation made on the investments is distributed among the investors on the basis of the units held by each of them. Mutual fund companies havefund managers who invest your money on your behalf in the above mentioned avenues to rake in maximum returns. Due to a large pool of investors, the individual risk is spread. So individually you take on low risk. Hence mutual funds are relatively safe investment avenues enabling you to rake in attractive gains. The mutual funds in India are governed by Association of Mutual Funds in India, the umbrella body for mutual funds, which is in turn governed by the Securities and Exchange Board of India.

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Which are the various types of mutual funds?

By structure:

Open Ended:These are funds that you can buy and sell anytime throughout the year.
Close Ended: These are funds that are open only for a specific period after which you'd have to buy them from the secondary market. For e.g. NFO's.
Interval schemes:These schemes combine the features of open ended and close ended schemes and are available for purchase or sale during a select period

By investment objective:

Growth: These are highly aggressive schemes and invest mainly in equities.
Income: Income funds invest in medium to long-term debt instruments. These are low risk and aim at a fixed current income .
Balanced: Also called Hybrid funds, these are a combination of growth, debt and money market funds.
Money market schemes: These schemes invest in short term debt instruments and are highly liquid.
Tax saving: These are equity linked saving schemes that offer tax benefits under Section 80 C and have a compulsory lock in period of three years.
Special schemes: Special schemes: These are select funds that aim at replicating the performance of an index. Also there are funds that invest in specific sectors that fall under this category.

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What is an AMC?

AMC or Asset Management Company is the company that runs and manages mutual funds.

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How risky is mutual fund investing?

Mutual funds invest in a variety of financial instruments such as equities, debt, government securities to name a few. Note that the value of these investments could fluctuate, thereby influencing your mutual fund NAV. But since the risk is spread among a large pool of individuals you individually take on low risk through diversification and rake in high returns.

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What is rupee cost averaging?

Rupee cost averaging means reducing market risk through systematic purchase of a given security. In other words instead of investing a lumpsum in a mutual fund scheme you adopt a disciplined approach to investing a certain fixed amount every month at pre-determined intervals. That way your investment amount remains fixed while the number of units you receive would be more or less depending on the fluctuations of the market. And that brings down your average cost. Such a methodology insulates you against market risks.

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What is NAV?

NAV or Net Asset Value is the market value of the assets per unit after deducting the liabilities. Here's how the NAV is calculated: {(Market Value of the Scheme's Investments)+Other Assets (including accrued interest)+ Un amortised Issue Expenses (only in case of schemes launched on a load basis) - All Liabilities except unit capital and reserves)}Divided by the number of units outstanding at the end of the day.

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How often is NAV announced?

In case of Open-ended funds the NAVs are announced daily but in case of close-ended funds they are announced on a weekly basis.

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What is the tax I need to pay on mutual funds?

Your tax liability would depend on the fund you invest in as also the amount of time you remain invested. The government has made dividends on mutual funds tax-free. If you're invested in equity fund for lesser than 12 months you are liable to short term capital gains. Whereas, if you remain invested in an equity mutual fund for over 12 months you have no tax liability since long term capital gains are tax free.

What are NFOs?

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NFOs or New Fund Offerings are new schemes introduced by mutual fund companies from time to time. During the launch period the fund unit is available for Rs 10 with the relevant loads.

What are loads?

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Loads is the fee charged by the mutual fund company for entering or exiting a fund. These are termed asentry load or exit load and can go upto a maximum of 2%. For instance lets say you plan to invest Rs 5,000 in a fund and the entry load is 2%. Your entry load would be 100 and the amount invested would be Rs 4900. A fund would charge you one of the two - either an entry or an exit load. Not both.

What is the lock-in period in mutual funds?

If you're looking at investing in equity linked saving schemes (ELSS) the lock in period is three years. Which means your money will remain locked in with the mutual fund company for a period of three years.

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What is SIP?

SIP or Systematic Investment Plan enables you to invest an amount on a regular basis and bring about a disciplined approach to investing. Through SIP you are able to get more or less units of a fund over a period of time with the investment amount remaining constant. For instance lets say you decide to invest Rs 500 every month in a mutual fund scheme. You could receive either 25, 24 or 22 units each month respectively depending on the highs and lows of the market. This turns out to be beneficial in the long run as your per unit cost gets evened out. If you're planning a SIP note that the minimum amount you can invest is Rs 500. Off late with the change in rules mutual fund companies also allow you to invest Rs 100 or Rs 50 (micro SIP) but for a minimum lock in period of three years.