Mutual Funds Guide The Basics of How Mutual Funds Work
Mutual Funds Guide The Basics of How Mutual Funds Work

Mutual Funds Guide | How Mutual Funds Work

Mutual Funds in India are becoming a popular investment option. Suppose you are also eager to understand the basic concepts of mutual funds. You may also be interested in knowing more about what are mutual funds? Or The Basics of How Mutual Funds Work.

In this guide to mutual funds, you’ll learn about the significance of mutual funds and all the details and information regarding mutual funds that you require.


What are mutual funds?

Mutual funds are money-pooling vehicles that pool money from several individuals to invest in stocks, bonds, and other securities.

Professionals manage mutual funds, which are owned by a group of investors. A mutual fund, in other words, is a pool of securities managed by a fund manager and owned by a group of investors.

Most individuals, on the other hand, think of mutual funds as a way to invest. But, in actuality, you can use an investment vehicle to invest in various financial products such as stocks, bonds, gold, and money market instruments.

When you buy a unit in a mutual fund, you’re buying a small piece of the fund’s investment portfolio. Mutual funds can be a good investment option because of their ease of use and rewards.

How do mutual funds work?

A mutual fund is a trust that pools money from a group of investors who have similar goals.

Many mutual fund schemes are managed and operated by asset management companies (AMCs). Each plan has a specific investment goal that meets certain investment needs.

Depending on the fund’s aim, the money raised from investors is invested in various ways, including stocks, gold, bonds, and other securities.

When you buy a mutual fund, you’re putting your money into a pool with other investors. A fund manager manages the money you and other investors have pooled and invests in financial assets such as stocks, bonds, and other securities. Daily, the mutual fund is managed.

How Mutual Funds Work

Different types of mutual funds in India

Mutual funds are divided into various categories. Each fund type has a certain goal in mind. Here are some of the most prevalent types of mutual funds:

Asset-class funds include:

Debt funds

Government securities, corporate bonds, and money market instruments are among the assets that debt funds (also known as fixed-income funds) invest in. These funds strive to provide consistent returns to investors and are considered to be relatively stable. Thus, debt funds are perfect if you want to receive a consistent income without taking a large risk.

Equity funds

Equity funds, on the other hand, put the majority of your money into equities. For these funds, capital appreciation is a must-have goal.

Because their returns are linked to market movements, equity funds incur a higher risk. However, for long-term goals such as retirement planning or homeownership, equity funds can be a good option because of the risk associated with a long-term investment spread.

Hybrid funds

Hybrid funds are a good option if you want to invest in both equities and debt. This is because they have a combination of equity and fixed-income instruments in their portfolio.

Funds based on the structure:

  • Open-ended mutual funds
  • Close-ended mutual funds
  • Interval funds

Funds based on the investor’s objective:

  • Growth funds
  • Income funds
  • Liquid funds
  • Tax-Saving funds
Mutual funds Growth vs Dividend

Mutual funds: Growth vs Dividend

There are two types of mutual funds: growth and dividend. Unfortunately, there are a lot of misconceptions about these options among non-professional investors.

Some people believe that the growth choice is superior, while others believe that the dividend option is better. Only one option is not the best always, short answer – it depends!

You should choose the one that best fits your investment goals, such as your financial goal and tax condition. Next, we’ll look at the differences between growth and dividend options and how they function in this article.

Dividend option

The profits of the mutual fund scheme are paid out to investors at regular intervals if you choose the dividend option.

Annual dividend payments are the most prevalent. On the other hand, some programs offer a variety of payment options, including daily, monthly, quarterly, and so on.

Depending on the scheme, numerous pay-out alternatives may be available. For example, dividend re-investment is a sort of dividend option in which the plan’s payouts are reinvested in the scheme.

Growth option

Instead of paying out gains to investors, the scheme’s profits are re-invested in the scheme in the growth option.

Because gains are re-invested in the scheme, you may be able to make profits on profits, allowing you to benefit from compounding.

If you decide between growth and dividends, you should choose growth if you do not require regular cash flows.

How Mutual Funds Work

What is a”lock-in” period for Mutual Fund?

The term “lock-in” in Mutual Funds refers to the period when the fund’s owner is not allowed to redeem the funds’ units, whether in whole or part. In mutual funds, the lock-in period indicates that the investor cannot redeem the units before the end of a predetermined period from the date of investment.

There are three kinds of mutual funds: interval funds, closed-ended or open-ended mutual funds.

Typically, the lock-in duration for a closed-ended fund lasts for 3 years.

In India, most mutual funds don’t come with the option of locking in a time period. The only exception is for open-ended schemes, including an Equity Linked Savings Scheme (ELSS).

How to calculate the lock-in period

After three years from the date of investment, the lump-sum investment’s lock-in period expires.

For example, after March 1, 2020, one can redeem 60 mutual fund units (NAV Rs.500 and Rs.30,000 invested on March 1, 2017).

If you invest in an ELSS fund through a systematic investment plan (SIP), the lock-in period will end after three years for each SIP installment. SIP payments can be made on a monthly, quarterly, or annual basis. A three-year lock-in period is required for each SIP installment.

Should you invest in Mutual Funds? Or Is Mutual Fund Safe

If you understand mutual funds, they are a safe investment. When investing in equity funds, investors should not be concerned by short-term fluctuations in returns. You should select a mutual fund that aligns with your investment objectives and invest for the long term.

It’s a good idea to do some research and learn more about mutual funds before you invest. Different sorts of mutual funds, such as aggressive, moderate, and conservative, are ideal for different investors. You should select the best mutual fund as per your need

Mutual Fund

Mutual Fund Investment: Lumpsum or SIP (Systematic Investment Plan).

The two methods, lump-sum and SIP, allow investors to gain from the potential wealth creation by mutual funds. The main difference between SIP and lumpsum strategies is the frequency at which investments are made.

SIPs permit you to put in funds into an investment scheme that is regularly like daily or monthly, weekly, or half-yearly, etc. (generally in SIP investment, a regular monthly amount is invested in Mutual Fund)

 In contrast, lump-sum investments are single-time investments in an individual scheme. Therefore, the amount of investment required is different. It is possible to start investing in SIPs starting as low as ₹ 500 per month. Generally, lump-sum investments must be at a minimum of ₹ 1,000.

If you’re an investor who can spare a tiny but consistent amount that you can invest, SIPs can be a better investment choice. On the other hand, for investors who have a large amount of money to invest and a high willingness to take on risk, the lump-sum investment may be more advantageous.

When Is the Correct Time for Mutual Fund Investment?

Final words

According to a well-known financial aphorism, to become wealthy, you must be able to earn money even while sleeping. Investing in mutual funds can be a simple way to accomplish this.

Your corpus rises when you invest in mutual funds every month. It may begin modestly, but your investment could grow dramatically over time. So decide on your goals, pick the right funds, and get started investing.


Anish is post graduate in commerce & management. He is a qualified Chartered Accountant & Information System Auditor with experience of more than 20 years in the field of management, accounting & taxation. He is visiting the faculty of various universities and providing career advice to aspirants Anish Agrawal has authored many books on Accountancy & Taxation.

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