4 important fund determinants | Value Research Mutual funds investing requires four key decisions and you absolutely need to know them before investing
Mutual Fund Sahi Hai

4 important fund determinants

Mutual funds investing requires four key decisions and you absolutely need to know them before investing

Mutual funds simplify the job of investing. But given that there are hundreds of fund schemes to choose from, the task of choosing the right fund can itself become overwhelming. There are four important decision points you will be confronted with while buying a mutual fund and here we will tell you how to optimally navigate through these choices.

Equity vs debt fund: First, you need to know if you should invest in a debt fund or an equity fund. Both are meant to fulfil different needs. Debt mutual funds offer steady but low returns. Given their low-risk/low-return profile, they are a suitable choice to meet short-term goals, where capital preservation assumes precedence over return potential.

On the other hand, equity mutual funds invest in shares, which can earn far-higher returns. Hence, they are an ideal choice for wealth creation. However, equity funds can fluctuate much more as compared to debt funds, in the short term. So, they are suitable for time horizons of five years or more. The chances of incurring losses from equity investments fall drastically over longer investment horizons.

If you are a first-time investor looking to invest in equity, aggressive hybrid funds could be a suitable option for you. These funds invest around 65 per cent of your money in equity and the rest in debt. With this combination, you get a controlled exposure to equity investing. The debt portion brings stability to your returns.

Direct vs regular plan: Every mutual fund scheme offers a direct plan and a regular plan. If you buy a fund from a distributor, that's a regular plan. And if you buy it directly from the fund house or any online platform, that's a direct plan.

The two are the same as far as their underlying portfolios are concerned but they differ with respect to their expenses. Since a direct plan does not involve distributor fee or commission, it has a lower expense ratio (lower by around 0.75%-1% per annum in the case of equity funds). While a direct plan will save you money (and thus give you better returns), you'll have to do everything yourself. If you find it unnerving to take complete control as of now, it may not be a bad idea to invest through a distributor in a regular plan, even at the expense of paying a bit more. And as you gain more knowledge and confidence over time, you can later switch to the direct plans and start investing yourself. The distributors take care of everything from KYC to investing. But the only word of caution here is to stick to your investment plan and not get persuaded by any other investment option they may offer you as they have their own interests attached to it.

Growth vs IDCW option: Now within both regular and direct variants of each mutual fund scheme, you may also get to choose between two options - Growth and IDCW. In IDCW (Income Distribution cum Capital Withdrawal) plans, fund houses pay out some portion of the gains made to the unitholders. The quantum of payout and timing is as per the choice of the AMC. Also, the amount paid out is subject to income tax as financially, it's exactly as if you have withdrawn that money from the fund. In Growth option, there are no periodic payouts made at the behest of the AMC. Your money remains fully invested until you decide to redeem it, in part or in full. This also ensures that your fund's returns make the most of compounding.

So, which one is better? We suggest you keep it simple and always opt for the Growth option. It is more tax-efficient and gives you more control over when and how much you redeem. Remember that fund dividends are nothing but a portion of your invested money returned to you periodically. After dividend payment, the fund's NAV adjusts downwards.

Closed-end vs open-end funds: An open-end fund is available for sale and purchase on a continuous basis. Such a fund does not have a fixed maturity period. Investors can conveniently buy and sell the units of an open-end fund at the net asset value (NAV), which is declared on a daily basis.

A closed-end fund is open for subscription only during a specified period after the new fund offer (NFO). Normally, one cannot redeem one's units until the maturity of a closed-end fund. However, to provide a platform for investors to exit before the end of the term, fund houses list their closed-end schemes on a stock exchange. But the trading volumes are usually very low in these funds, making it difficult for investors to exit through this route. Even if a buyer is available, the fund tends to trade at a discount to its NAV.

If you have read till here, congratulations! Now, take your knowledge one step further by learning about the different categories of mutual funds. You must understand which category suits you best in terms of return potential, risks involved, volatility and your investment horizon. Once you are clear on that front, you can confidently make wise mutual fund investments.


Recommended Stories

Other Categories