Important Things To Know Before Investing In Mutual Funds

Investing in mutual funds may be overwhelming for first-time investors. Every purchase made today is backed by thorough research and the same may be applied by investors before investing in mutual fund schemes. Investing is way better than letting your money sit idle. Saving is a good habit but just saving may not be adequate to overcome inflation. The tricky part with investing in mutual funds is that several first-time investors aren’t sure which mutual fund scheme to choose.

Investing in mutual funds may allow investors to achieve capital appreciation over the long term. But for that, they may have to choose funds that are suitable for their financial goals.

What is a mutual fund?

A mutual fund is a financial instrument that pools financial resources from people and invests them collectively to achieve a common investment objective. A mutual fund can be a collection of company stocks, bonds, or money market instruments which is managed by a team of expert fund managers.

A retail investor may invest in one or more mutual fund schemes for portfolio diversification. It is up to the investor to determine the investment horizon and accordingly invest systematically and regularly.

While conservative schemes offer fixed interest, mutual funds do not guarantee capital appreciation. The profits generated by a mutual fund scheme may vary and are never the same. Investing in mutual funds is not a task anymore as it is simple to invest in the digital world that we live in.

Investing in mutual funds may not be complex, but there are a few things that retail investors must be aware of before making the actual investment. Here are some of the pointers which first-time investors must enlighten themselves with before investing in mutual funds.

Plan your investments

A financial plan may help investors in determining their immediate and long term goals. A short term goal may be targeted with a debt fund. A medium term goal may be targeted with a hybrid scheme. A long term goal can be targeted with equity funds. These are just examples and should not be considered as a piece of investment advice. Depending on one’s risk appetite, investment objective, and investment horizon, one may be able to make an informed investment decision with proper financial planning.

Every mutual fund scheme carries a different risk profile

A lot of new investors usually just look at the annual returns offered by the scheme and make an investment decision. This may not be the right way to invest as they may also have to determine whether the risk profile of the scheme aligns with their appetite for risk. To understand the amount of risk a mutual fund portfolio carries, investors may refer to the ‘riskometer’ to know whether the scheme carries a low, low to moderate, moderate, moderately high, high, or very high risk profile. To understand investment risk, investors may refer to the Scheme Information Document (SID).

Mutual funds are actively as well as passively managed

First-time investors may not be aware that some mutual funds are actively managed while others follow a passive investment strategy. An actively managed fund has a fund manager who is the decision maker while constructing the portfolio of that particular mutual fund scheme. Here, the fund manager actively trades with the underlying securities in such a way that the scheme is able to outperform its underlying benchmark. Passive funds on the other hand are designed in such a way that they mimic the performance of their underlying benchmark with minimum tracking error. Index funds and exchange traded funds (ETFs) are examples of passive funds.

Mutual funds come with multiple investment options

If you are investing for the first time, you may have come across SIP and lumpsum investing. These are two different ways to invest in mutual funds and depending on their investment objective and financial condition, investors may decide how to invest. A lumpsum investment is made at the beginning of the investment cycle by the retail investor. This allows investors to purchase more units at the current NAV (Net Asset Value). A Systematic Investment Plan is an investment approach where investors can make investments at periodic intervals. SIP investing may even allow investors to take advantage of market volatility through an investment technique referred to as rupee cost averaging. Thanks to the introduction of the SIP calculator, which is available for free online, investors can even determine the approximate capital appreciation they might earn at the end of their SIP investing journey using a SIP app.

Investors cannot expect immediate returns

Mutual funds do not guarantee returns and they may prove to be risky for short term investors. To expect a mutual fund scheme to perform over the short term may be unrealistic. Investors (especially those who invest in equity funds) may need to give their fund at least three years to show its worth.

Mutual Fund Investments are subject to market risks, read all scheme related documents carefully.