Mutual funds are a great way to invest in the stock market. They’re hands-off (for the most part), offer great returns, and don’t require you to have a DEMAT account or a thorough knowledge of the Indian stock market.
Now, for the aforementioned factors to be true, you also need to know about the types of mutual funds you should be investing in. That’s right, there are various mutual fund and types, all of which are made for specific goals. Certain funds are built as tax-saving mutual funds; others focus on small or big companies and are named big or small-cap mutual funds.
Maybe you want to be in the middle; you have mid-cap mutual funds for that. Maybe you just want a mutual fund that offers returns similar to NIFTY or SENSEX, and you can do that, too, with index mutual funds. See? There’s no lack of options here. So, how do you choose the top mutual funds to invest in that suit your needs? Well, to get started, let’s review all the various types of mutual funds and learn about each of their characteristics.
Types of Mutual Funds You Should Know About
Before you get started learning about the actual types of mutual funds, there’s something you should know about how mutual funds are categorised. There are three primary categories: equity funds, debt funds, and hybrid funds. Each of these primary categories has a lot of secondary categories as well. So, let’s explore the primary categories first to understand the various mutual funds and types.
Equity Funds
Equity funds refer to mutual funds that invest in the share market to buy stocks of companies. These funds choose a certain investment style/theme and go with it. For example, a small-cap mutual fund invests in companies ranked beyond the 250th company in India in terms of market capitalisation.
So, as you can notice, the mutual fund has a dedicated theme, and it provides investors an opportunity to invest in that theme without having to pay a huge lump sum. For example, if you wanted to invest in the top 50 companies in India, you would need a huge sum of money, even to buy one stock of each of the fifty companies.
However, you could just invest in index mutual funds that track the NIFTY 50 index, and you’ll be able to get the same benefits. The added benefit? You don’t have to dish out lakhs per month, and you can even set up an SIP to grow your investments over time. This is a general overview of equity funds. Let’s review some of the most common equity mutual funds and see how they differ from one another.
- Large-Cap Mutual Funds: Large-cap mutual funds invest in the top 100 companies in India in terms of market capitalisation. As the biggest company in India, they offer stable returns over time. These companies do not grow exponentially, but they offer some much-needed stability to your portfolio as they offer good long-term returns. Large-cap funds can be a great way to earn a steady return with low risks if that’s something you’re interested in.
- Mid-Cap Mutual Funds: Mid-cap mutual funds invest in companies ranking between the 101st and 250th in terms of market capitalisation in India. These companies have growth potential and can offer better returns compared to large-cap companies. However, they are also volatile and hold a higher investment risk. These funds are best suited to help you get moderate returns at a moderate risk to your invested principal.
- Small-Cap Mutual Funds: Small-cap funds invest in the shares of companies beyond the 250th in terms of market capitalisation in India. These funds are highly volatile but offer a great upside to investors in terms of returns. Since these investments are high-risk, investors can avail of great short-term and long-term returns with these funds. However, it is just as likely that investors may face capital losses. So, discretion and understanding the risk is very important before you start investing.
- Index Funds: Index funds invest in the companies that an index showcases. Take SENSEX 100 for an example. An index fund following the SENSEX 100 market index will invest in the 100 companies that make up the SENSEX 100 in the same weightage as the index. It helps investors get similar returns to the index they want to track without having to invest a huge sum into acquiring the shares of each individual company. Index funds are safe, and based on the index they’re tracking, these funds can offer great returns over the long term.
- ELSS Funds: ELSS funds are also known as tax-saving mutual funds. The Income Tax Act of 1961 has a provision for ELSS funds to offer tax deduction services to investors under Section 80(C). These funds have a lock-in period of three years, so make sure you do not go all in investing in these funds, as the lock-in period cannot be exited prematurely.
Also Read : What is a Mutual Fund and How to Select the Best Mutual Fund?
Debt Funds
Debt funds invest in government securities, corporate bonds, and other debt instruments. These investments aim to offer safe and secure returns over a period with minimal chances of principal depreciation. These funds also offer great liquidity and can help you get a quick but small return on your investments.
The point of debt funds is to offer safe returns with great liquidity. These returns will not be too affected by market volatility, but they will also not be in the ballpark of equity mutual funds. Here are some of the top types of debt funds you should check out.
- Overnight Funds: Overnight funds invest in very short term securities that are set to mature the very next day to offer some returns to investors who are investing their idle cash for just a few days. These funds have great liquidity, and the funds themselves are safe against capital losses.
- Banking & PSU Funds: Banking and PSU funds invest their corpus in the debt instruments of banks, public sector companies, and public financial companies. These funds offer secure returns to investors over the long term with minimal investment risks.
- Liquid Funds: Liquid funds also invest in securities that are maturing in less than 90 days from any given point. This helps the funds stay true to their name and offer excellent liquidity and some returns to investors. The goal of these funds is to offer comparable or better returns than savings bank accounts while also being as liquid as bank accounts.
- Dynamic Bond Funds: Dynamic bond funds offer investors an opportunity to invest in the debt market in the long term. These funds invest in securities with varying maturity timelines to ensure investors get access to good returns while ensuring their corpus is safe. These funds can also be used for short-term investments. However, given you already have dedicated funds for short-term debt market investments, it is more profitable to choose those over dynamic bond funds for short-term investments.
Hybrid Funds
Do you want the security of debt funds and the higher returns of equity funds? Then you, my friend, have hybrid funds to check out. These funds do exactly as explained and offer the best of both worlds for investors. Based on the specific scheme, these funds divide their corpus among equity and debt.
The division can be highly conservative, such as 90% to debt and 10% to equity, or balanced, like 60% to equity and 40% to debt. These funds allow investors to stabilise their investments and make sure their portfolio is not completely subjected to the volatility of the stock market.
Hybrid funds do have certain types, such as balanced funds, conservative funds, and multi-asset allocation funds. They’re pretty self-explanatory, so we’ll talk about them later in a piece dedicated to hybrid funds.
Conclusion
There you have it. This is a brief overview of the various types of mutual funds. Each of these fund types and subtypes is a huge topic of education in itself. So, be sure to check out our in-depth guides on each of these mutual fund types to learn more about mutual funds and choose the best fund for your investments.
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