What are Mutual Funds?

To many people, Mutual Funds can seem complicated or intimidating. Lets us try and simplify it at its very basic level. Essentially, the money pooled in by a large number of people (or investors) is what makes up a Mutual Fund. This fund is managed by a professional fund manager.

How do Mutual Funds work? 

It is a trust that collects money from a number of investors who share a common investment objective. Then, it invests the money in equities, bonds, money market instruments and/or other securities. Each investor owns units, which represent a portion of the holdings of the fund. The income/gains generated from this collective investment is distributed proportionately amongst the investors after deducting certain expenses, by calculating a scheme’s “Net Asset Value or NAV. Simply put, a Mutual Fund is one of the most viable investment options for the common man as it offers an opportunity to invest in a diversified, professionally managed basket of securities at a relatively low cost. For example, large-cap Mutual Funds will only invest in large-cap stocks. So if you have put your money in a large-cap Mutual Fund, then you are aware of where your money is being invested. 

Mutual Funds are not only for stock market investing

The biggest misconception about investing in Mutual Funds is – investors usually assume that Mutual Funds only invest in the stock markets. But, this is not exactly true. If you are a conservative investor, and you do not prefer to take too much risk, then through Debt Mutual Funds, you can also invest in debt instruments, where the risk factors are much less. 

Hence you can choose Mutual Funds, as per your risk appetite, investment horizon, or your investment objectives. You can choose a Mutual Fund that fits your criteria perfectly. 

How Mutual Funds invest their money and how they generate returns?

The fund manager of Mutual Fund conducts in-depth research and analysis around the stocks and debt instruments. And based on the research, they invest your money. 

Now when you invest in a Mutual Fund scheme, the Asset Management Company or AMC allots you the units as per the NAV of the Mutual Fund. For example, let’s assume that you have invested Rs 20,000 in a Mutual Fund, for which the NAV is Rs 20. That way, the AMC will allot you 1000 units of a Mutual Fund scheme. 

To sum it up, your money is indirectly invested in stock markets or the instrument in which the fund manager has invested the money. 

Now, let’s assume you have invested Rs 20,000 on a Mutual Fund scheme, for which the AMC has allotted you 1000 units for the NAV of Rs 20. In the second year, the NAV for the Mutual Fund becomes Rs 22. That means in the last one year, you have earned a 10 percent return on your Mutual Fund investment. So this way you can track your investments to know what kind of returns you are earning on your investments. 

Can I create my portfolio of my own, the way the Mutual Funds do?

You should not bother about creating a portfolio. This is simply because, when a fund manager creates a portfolio, he/she provides the utmost importance to risk management, which is difficult for a retail investor to figure out. So when you invest in Mutual Funds, the fund’s manager, who is an expert in the field, does the same job (i.e. create a portfolio) on your behalf. 

Types of Mutual Funds: 

There are three types of Mutual Funds. And, it is essential to have knowledge of all three of them to choose the right Mutual Fund for making your investment. This classification is made based on the underlying assets. 

• Equity Mutual Funds: These funds invest in stock markets. And to classify them further, you have to look at the companies and sectors they are putting their money in. If the Mutual Funds are investing in large companies, they can be defined as Large Cap Mutual Funds. If the fund is investing mostly in mid-sized companies, then it is called Mid Cap Mutual Funds. Meanwhile, there are funds that invest mostly in small companies, and they are described as Small Cap Mutual Funds.
• Further, Mutual Funds can also be categorized depending upon which sector the money is invested in. So if a Mutual Fund is investing in a specific sector, it can be defined as thematic or sectoral Mutual Fund. For example, some Mutual Funds might only invest in the IT or auto sector or pharma sector. All these will be defined as thematic or sectoral funds. There are array of sectoral funds and you can take pick depending on which sector you would like to invest in. Hence, if you want to invest in a Large Company, you can choose to invest in a Large Cap Mutual Fund. If you want to invest in smaller companies, you can invest in a Small Cap Mutual Fund. This way you can choose your Mutual Funds, as per your preference, investment horizon, investment objective, and risk appetite.
• Debt Mutual Funds: For debt Mutual Funds, the classifications are made based on lending tenure and the quality of the borrower. If we take the example of Short Duration Mutual Funds, these funds usually invest in debt instruments whose maturity is within one to three years.  Similarly, for Gilt Mutual Funds, the money is invested only in government securities. These are high rated securities and their credit risk is low.
• Hybrid Mutual Funds:These funds usually invest both in equity and debt. They are further classified on the basis of how much is invested in equity and debt. Looking at the proportion of investment, it can be classified whether it is debt-oriented balanced or hybrid funds, or equity oriented balanced funds. 

As an investor, the next relevant question is what are the benefits of investing in Mutual Funds? 

Here are the some benefits of investing in Mutual Funds

#1: Mutual Funds are Tax-effecient:  

If you are in the highest tax bracket, then the tax amount for your Mutual Fund investments will be much lower than traditional investment options like fixed deposits. 

#2: Provide good Long Term Returns:

If you invest in Mutual Funds for the long term, then it is possible that the Mutual Fund scheme will provide higher returns as compared to fixed deposits. If you look at the long term returns of Mutual Funds, though there are no guaranteed returns, they usually provide higher returns than traditional investment options. 

So if you want to grow your money, you can invest in Mutual Funds, so that you earn higher returns than other traditional investments like fixed deposits. 

#3: Regulated by SEBI: 

All Mutual Fund schemes are regulated by the Securities and Exchange Board of India or SEBI. It ensures that there is enough transparency in the market. 

#4: Several funds to choose from:

Over 1000 Mutual Fund investment schemes are available in the market, and you can choose to invest as per your investment horizon, risk appetite and investment objective. 

Summary: 

A Mutual Fund is an excellent investment tool to grow your money. But, many times investors shy away from investing in Mutual Funds thinking it to be a risky product, simply because they are market-linked. If an investor picks a fund as per his/her investment horizon and objective, then there is no way one can go wrong by investing in Mutual Funds.

The question that you must be asking is there a way to invest every month in a Mutual Funds and how will it benefit me.

Most of the funds are OPEN ENDED Funds come out with NFO (New Fund Offer) and units are issued at initial NAV/Price  of ₹10.  it is opened again for subscription to collect more money from the same or different investors. This process is an ongoing process and you can buy more units every day, every week or every month. Of course the price or NAV at which you get the units will be different every time because of the value of the fund on that date. This is the basic advantage of investing regularly over a long period of time.

Since the Equity Funds are dependent on the share market and the NAV is changing every day; it may so happen that after you buy, the NAV may go down and keeps going down for the next 6 months or one year. You may feel insecure and with everyone around you telling about doomsday, you might panic and sell off your investment of eg. ₹3,00,000 at a loss at say ₹50,000 . And post this you will never look at the MFs or share market again.

Now let us see this situation in numbers:

e.g.On 1^st June at a NAV of ₹19.399 number of units bought = 3,00,000/ 19.399= 15463.9972 units.

Now let us take an example that you decided to invest ₹25,000 every Month, since the NAV is changing daily it will look something like this

NAV is for the purpose of illustration only

As you can see by spreading your investment to 12 steps you have gained 16616.0092-15463.9972= 1152.0119 units.

This is called SYSTEMATIC INVESTING and in a volatile market it works best towards the advantage of the investor. In a favourable situation the difference in returns from a SYSTEMATIC INVESTMENT and a ONE TIME investment can be as much as double

Systematic Transfer Plan

What is a Systematic Transfer Plan? 

If you have a lump sum amount and want to invest over a period of time into Equity Funds, Systematic Transfer Plan (STP) is the most suitable option for you. In mutual fund Systematic Transfer Plan (STP), a lump sum amount invested in one scheme can be transferred at regular intervals systematically into another mutual fund scheme (as desired by you) of the same mutual fund house. Mutual fund houses have a daily, monthly, weekly, and quarterly option to transfer money. Different fund houses have different requirements for the minimum amount invested through STP.

STP facility is best suited for investors who seek stable returns with some exposure to equity funds with an objective of wealth creation. Debt funds are ideal for capital protection and equity funds are suitable for investors looking for capital growth. Hence, a blend of different types of funds always helps to strike the balance between both asset classes. The primary advantage of opting for an STP is the streamlined process of funds between the target and the source scheme of a single asset management company.

Types of Systematic Transfer Plans? 

Flexible STP 

Under this type of systematic transfer plan, the transfer of funds are undertaken by investor as and when there is an opportunity in the market i.e. depending upon market volatility and calculated predictions about the performance of a scheme, an investor may want to transfer a relatively higher share of his/her existing fund, or vice-versa.

Fixed STP

In case of a fixed systematic transfer plan, the amount to be transferred is decided by the investor from one scheme to another, this works similar like a SIP.

Variable systematic transfer plans

Variable systematic transfer plans transfer the total gains made from market appreciation of the source fund to target fund on a prospective basis with a high potential for growth.

Benefits of a Systematic Transfer Plan

There are several benefits of a systematic transfer plan which makes it an attractive option for investors with varying risk appetite.

Higher returns
STPs helps investor to earn higher returns on investments by shifting to a more profitable scheme during market ups and downs.

Stability
In times of high volatility in the Equity market, investors can transfer funds via an STP into relatively safer schemes such as debt funds and money market instruments. This allows investors to ensure the safekeeping of funds while earning stable returns at the same time.

Rupee Cost Averaging
This method helps investors to lower the average costs incurred on investments. Rupee Cost Averaging follows the technique of investing in funds when the average price is low and selling them when the fund value increases, thereby realizing capital gains.

Taxability
Each transfer under the systematic transfer plan is subjected to tax deductions, provided capital gains are incurred. Redemption of the investment from Debt scheme before 3 years makes the gains deductible at 15% under short term gains. Long Term Capital Gains are subject to tax deductions but depends upon the annual income of the investor.

Who Should Invest in A Systematic Transfer Plan?

Systematic transfer plans are ideal for investors who have limited resources but want to generate high returns by investing in the equity market. It is also suitable for investors who want to reinvest their money in relatively safer securities such as debt instruments during times of market instability and adverse fluctuations.

When to opt for STP

Say you earned a promotion and received a hefty bonus of Rs 5 lakh, and you decide to invest this sum into equity mutual funds. But since the markets are currently at an all-time high, you realise it wouldn’t be wise to invest all your money in one go. The entire sum can be initially invested in an ultra-short term debt fund and/or a liquid fund taking cognizance of the fact that markets are at a high. Then, systematically a certain sum of money lying in the liquid fund and/or ultra-short-term fund can be transferred –monthly or quarterly – to an equity-oriented fund of your choice over a period of time.

Things to Remember when Investing with a Systematic Transfer Plan

• Systematic transfer plan is devised for a long term, and at time returns cannot be witnessed instantaneously. Investors should be prepared for this before considering this policy.

• Exit load and tax deductions should be kept in mind while calculating expected returns from systematic transfer plans. Security of principal amount and the value of returns depends upon the performance of the respective Mutual Funds Schemes.

• Even though investments through systematic transfer plans ensure exposure to lower market risks, it cannot be entirely eliminated.

The eligibility criteria for investing STP are six transfers among different investment schemes, as determined by the Securities Exchange Board of India (SEBI)

Systematic Withdrawal Plan (SWP)

What is SWP?

A Systematic Withdrawal Plan (SWP) is a facility offered by Mutual Funds, which allows an investor to periodically withdraw fixed or variable money as per requirement instead of withdrawing it at one go. Withdrawals through SWP are subject to exit load and tax implications.

SWP is of advantage to investors who require liquidity as it allows investors to access their money as and when they need it. This makes it easier for the investors to carry out their financial plans and meet their goals.

Benefits of SWP

• Through SWP, investor can make regular withdrawal from existing investment. It helps investor to redeem investment into actual cash flow.
• Good Option For Retirement Plan - SWP is possibly a good facility for retirement as it helps to redeem regular cash flow from existing investments
• On Going Investment - While SWP withdraws fixed amount regularly from your existing investment, your remaining amount remains invested and gives you a chance to seek better return

How does SWP work?

Let say if you have a corpus of Rs 10 lakh invested in a mutual fund and wish to withdraw ₹6,000 every month, here is how it works 

*The above data is for illustrations purpose only to explain the concept.

 When the market rises, although investor has withdrawn Rs 18,000 in 3 months, the investor still benefits on the balance part of the investment.

 The icing on the cake is when the money is invested in an equity-oriented fund, it has the potential to beat inflation and create long-term wealth. Therefore, a SWP is more beneficial than just simply withdrawing money from savings corpus.

 Who should invest in SWP

 Investors looking out for monthly / quarterly cash flow requirements. This generally happens during the retirement phase or in case of liquidity crunch, wherein investor intend to live off the accumulated corpus.

 Taxation on SWP and Dividend Option