What Are The Merits And Demerits Of Investing In Equity Mutual Funds?

People invest in the market to earn extra income. They do so by opting for an investment plan and also by selecting a fund manager. The fund manager is responsible for investing on the investor’s behalf. While looking for investment options one will find that there are numerous options available today and equity funds are one of them.

What are equity funds?
One of the numerous subcategories of mutual funds, equity funds are known to invest mostly in the stocks of various companies with an aim to generate capital appreciation. However, it is of utmost importance to note that if you are considering investments in equity funds, you need to prepare yourself to take risks. Apart from that, it is also important to remember that equity funds are not a ‘one size fits all’ investment avenue. In fact, there is a wide range of equity funds that can be classified by their respective investment objectives.

These funds come with the main aim of generating income by investing in stocks. These are the stocks that belong to publicly listed companies across market capitalizations. But, as stated earlier, one thing to remember about equity funds is that they usually come with high risks. The performance of the companies that an equity fund portfolio invests in plays an important role in deciding the investors’ future income. The fund manager may decide to invest in equity funds depending on the investors’ investment horizon, risk profile and investment goals. You could use these funds to achieve long term goals.

How does an equity fund work?
These funds are known for usually investing a major part of their corpus in equity shares of various companies in specific proportions. The fund allocation here is decided based on the type of equity fund and how well it aligns with the investment objective. After carefully analysing the market conditions, the fund manager allocates the asset to stocks of small-cap, mid-cap, or large-cap companies. Once a significant proportion of funds is allocated to the equity segment, the remaining amount is invested in debt and other money market instruments. Doing so helps to bring down the element of risk and simultaneously takes care of sudden redemption requests.

Who are they ideal for?
In case you decide to invest in equity funds, please make sure that your financial situation is in sync with things like your risk profile, investment horizon and other objectives. You should make sure to assess the things mentioned above if you are thinking about opting for equity funds. Doing so will provide your funds the much-needed time to combat and withstand things like market fluctuations and movements.

Are there any merits of investing in equity funds?
Listed below are some of the numerous benefits you could enjoy if you were to opt for an equity fund:

• They are light on the wallet:

While you may think that investing in an equity fund might be expensive, in reality, it is the contrary. Actually, instead of a one-time payment, it is possible to invest in equity funds with the help of a systematic investment plan (SIP). With the help of a SIP, you can opt to make either weekly, bi-weekly or even monthly or quarterly investments at a cost which does not burn a hole in your wallet. Investing with the help of a SIP is a preferred way of investing in equity funds. It helps to combat the volatility of the equity markets through the technique of rupee-cost averaging.

• One can enjoy tax benefits by investing in them:

An Equity Linked Savings Scheme or ELSS is one of the types of equity funds. By investing in ELSS, one gets to enjoy tax benefits. For instance, you opt to invest ?1.5 lakh in an ELSS scheme. So, according to the scheme’s provisions, under Section 80C of the Income Tax Act, 1961, you get to save up to ?46,800 every year. This ensures that the tax liabilities are low.

• They may also help in earning dividend income:

Another major benefit of equity funds is that there are times when the equity fund’s parent company gives investors extra revenue in the form of dividends. If you were to invest in an equity mutual fund, sometimes, you may end up earning extra income as dividend.

• They may have the potential to offer inflation-adjusted income:

Equity funds have another alluring feature and that is, they may have the potential to generate inflation-adjusted revenues. That’s because the income generated from these funds is linked to the market. These funds provide opportunities to reasonably grow investors’ capital over the long term.

• It is possible to diversify investments:

Simply put, diversifying is a technique that reduces the risk factor by allocating investments across various financial instruments, industries, and other categories. This technique is employed with an aim to maximize returns by investing in different areas that would each react differently to the same event. Also, diversifying the investment portfolio will help you to reach financial goals set for the future. In an equity mutual fund, you are exposed to various stocks. Hence, even if some stocks in the portfolio were to underperform, the overall portfolio may still be able to generate decent yields. Diversifying also comes with benefits. One major advantage is that it helps the growth of an investment portfolio. Also, it familiarises an investor with different investment strategies.

• They are managed by professional fund managers:

One of the reasons why people often hesitate to invest in equity funds is that they think they themselves would need to handle everything. But the truth is, one can avail help. That’s where fund managers step in. Fund managers are market experts who are known to professionally manage equity funds. They are the ones who study the market, analyse the performance of various companies and then invest in the performing stocks on your behalf. Usually, these professional fund managers have experience and expertise in investing in the market.

Are there any demerits of equity funds?
As seen above, there are numerous advantages of investing in equity funds. However, it is important to note that they are not devoid of certain disadvantages as well. Let’s look at some of their demerits:

• Management costs are involved:
  One of the key advantages of equity funds (and mutual funds, in general) is the professional help that you can avail of. As these funds are managed by professional fund managers, one can expect a certain fee that is required to be paid for their management. The income of the market analysts and fund managers comes from the investors along with the operational costs of the fund. Therefore, while choosing an equity fund, please make sure to look at the total fund management charges. Also, please keep in mind that higher management fees may not guarantee better fund performance.

• Exit loads may be involved:
  An exit load refers to the fee that the Asset Management Companies (AMCs) charge investors when they opt to exit or redeem their fund units. They are also referred to as the commission to fund houses or exit penalty if an investor chooses to exit the fund within the lock-in period. However, it is also important to remember that not all funds levy an exit charge. So, before selecting a plan, please make sure to check if there is an exit load being levied on that particular fund. And if there is an exit load, kindly check the cost.

• Your portfolio might experience dilution:

As stated earlier, equity fund investments can be diversified. As in, the fund manager opts to allocate funds across different financial instruments and industries to reduce the risk factor. While it is true that diversification averages your risk of loss, it can also dilute your profits. Therefore, it may not always be advisable to invest in several mutual funds at the same time.

Equity mutual funds are helpful for long term wealth accumulation to secure one’s retirement. While one may be swayed by its advantages, it is important to remember that it also comes with its own set of disadvantages. However, if you make informed choices, you will be able to circumvent the limitations of these funds.

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