Generally, we have seen that people are not much aware of the stock market, how it works, which stock to invest in and how to minimize your chances of losses. So here comes into play - the mutual funds.
In stock market investment you take your own decisions while in mutual funds you hire a professional body who will take decisions for you. In simple words, we can say that in the case of mutual funds, the mutual fund professional or manager will take decisions on your money that is invested in the mutual fund.
Now let me explain to you how a mutual fund company works. It takes money from various people who are interested and who have faith in that company. Now this mutual fund company is going to re-invest this money into various investment opportunities. It will accordingly invest that money in various stocks or debt or other instruments.
Now the mutual fund company will get gains in form of dividends or interest or in the form of an increase in the value of shares. It will distribute this gain to various investors. However not all the gain is distributed to the investors. A portion of the gain is kept by the mutual fund company for their profit. This is known as expense ratio. Generally the expense ratio is 1-3%.
Types of Mutual Funds
According to SEBI, there are five types of mutual funds:
- Equity mutual funds: This mutual fund will collect money from different investors and invest their money in equity. These mutual funds are the most famous one among the investors.
- Debt mutual fund: This mutual fund will collect money from different investors and invest their money in debt.
- Hybrid Mutual Funds: This mutual fund invest in both equity and debt.
- Solution oriented Mutual Funds: In this mutual fund, the investors generally invest to get a return after a specific period of time. Example: Child marriage fund, child education fund.
- Other mutual funds: Eg. Index funds: This mutual fund will directly invest in an index and not in shares directly.
Advantages of Mutual Funds
Mutual funds have gain much popularity in the recent years because of the following reasons:
- Diversification: Mutual Fund companies does not just invest in one kind of instrument or stock or debt. It just mixes investment to reduce the risk of the total portfolio and increase the return from them. Buying a mutual fund you can achieve diversification cheaper and faster than investing in the individual securities.
- Easily investible: Mutual funds can be easily bought and sold in the markets.
- Professional Management: Most people don’t have much professional knowledge of handling a portfolio. In mutual funds, a professional investment manager takes care of all the picking up of the best stocks and choosing the right instrument in the right proportion. So, mutual funds provide a way in which one can enjoy professional portfolio management at a low cost.
- Transparency: Mutual funds are regulated by government bodies which make them transparent and fair.
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