What are the Benefits of Investing in Mutual Funds?

Investing in mutual funds provides several benefits that appeal to both new and experienced investors. Mutual funds pool money from many investors to invest in a diversified portfolio of stocks, bonds or other securities, reducing individual risk. Professional fund managers handle research, selection and monitoring of investments, saving investors time and effort. Additionally, mutual funds offer liquidity, allowing investors to buy or sell units easily. They also provide access to a broad range of assets and investment strategies that might be difficult to achieve individually. Overall, mutual funds help investors achieve financial goals with convenience, diversification and expert management.

What are Mutual Funds

A mutual fund is a collection of investments financed by all the investors who have invested in the fund. The performance of the Mutual fund is determined by the state of its total assets. The NAV of a Mutual Fund rises in tandem with the value of the underlying assets and on the other hand the NAV falls in tandem with the decline in the value of underlying assets. Based on the fund’s strategy, the mutual fund manager manages the portfolio and makes decisions about how to allocate funds across various sectors, industries, businesses, etc.

For Example: Index Funds invest capital in a portfolio which replicates the performance of the underlying Index.

Investing in mutual funds allows retail investors to have their money managed professionally.

Benefits of Investing in Mutual Funds

Mutual funds offer diversification, professional management and liquidity, making them ideal for both new and experienced investors. They help reduce risk by spreading investments across asset classes.

1. Diversification

Your fund management will invest your money in a variety of securities, such as equities, debt funds and other money market instruments, when you invest in mutual funds. If one instrument performs worse than the other, they may balance each other out, reducing your risk and increasing the safety of your investment.

Investing in a portfolio of stocks helps achieve better diversification. In case a certain portion of the portfolio faces headwinds, the overall portfolio return would not be as affected. Diversification helps distribute the risk throughout the portfolio.

Thus Diversification reduces the overall risk by not exposing to a single sector, geography or a single asset class.

2. Risk Reduction

Thus Diversification reduces the overall risk by not exposing to a single sector, geography or a single asset class. This works on the risk management principle of “Not putting all the eggs in one basket”

3. Professionally Managed

It’s possible that investors lack the necessary financial resources, expertise and time to perform due diligence and buy particular stocks or bonds. Professional money managers who work full-time and have the means, know-how and experience to actively buy, sell and oversee investments, oversee mutual funds. To accomplish the goals of the plan, a fund manager keeps a close eye on investments and adjusts the portfolio as necessary. One of the most significant benefits of a mutual fund is the ability to have a professional fund manager handle your portfolio.

4. Liquidity

Liquidity means the ability of an asset to be converted into liquid cash. Selling mutual funds is a simple process. Within a few days of liquidation, the funds are transferred to your bank account. Mutual Funds redemption generally happens in T+1 day, there are also mutual funds that offer quicker payouts.

5. Convenience 

Investing in Mutual is much more convenient than investing in equities, an investor is generally not required to do an extensive research for investing in Mutual Funds as compared to stocks. Furthermore, online account opening, easy redemption process and daily NAV availability access makes Mutual Funds very convenient and easy to invest in.

6. Easy to Invest

Investing in mutual funds is fairly simple and can be done online or offline. To begin your investing journey, all you have to do is go to the website of your Asset Management Company (AMC) or your stock broker like HDFC Sky and complete the required paperwork. Additionally, you can start by going in person to your AMC/broker and completing the paperwork to initiate investment. Mutual funds are a better option because they are simple to invest in.

7. Low Cost

The affordability of mutual funds is a significant benefit. Mutual fund schemes have a low expense ratio because of enormous economies of scale. A scheme’s annual fund operating costs are represented by the expense ratio, which is a proportion of the fund’s daily net assets. Administrative, managerial and advertising-related costs are examples of a scheme’s operating expenses. Regulation 52 of the SEBI Mutual Fund Regulations, 1996, specifies the upper and lower limits of the expense ratio for different schemes.

8. Transparency

The Securities and Exchange Board of India (SEBI), which oversees the capital markets, regulates all mutual funds. This implies that all mutual fund companies must abide by the different guidelines established by SEBI. Consequently, this safeguards the investors’ interests. Additionally, SEBI mandates that all mutual funds report their portfolios on a monthly basis.

9. Low Minimum Investment

Investing in mutual funds is incredibly inexpensive. Investors who are unable to set aside a sizable chunk of their income for mutual funds might begin investing as little as Rs 500 at predetermined intervals. A Systematic Investment Plan, or SIP, is a predetermined investment after fixed duration. Conversely, you can even make a lump sum investment in a mutual fund if you have a sizable sum of money to spare. To estimate how your investments through SIPs can grow over time, you can use a SIP Calculator to plan better and stay on track with your financial goals.

10. Dividend Reinvestment Option 

A mutual fund variation known as a dividend reinvestment plan allows the fund to reinvest its announced dividends back into itself. The dividend is reinvested at the fund’s post-dividend net asset value (NAV) which allows the user to add more units of the Mutual Fund in his portfolio.

In a dividend distribution plan, the fund’s net asset value (NAV) decreases by a comparable amount following the declaration of the dividend from the fund’s profits.

11. Direct Fund Options 

Although both the “Direct Plan” and the “Regular Plan” belong to the same mutual fund scheme, have the same portfolio and are overseen by the same fund manager, their expense ratios the ongoing costs borne by the mutual fund scheme differ.

Because there is no distributor or agent involved, the Direct Plan has a lower expense ratio than the Regular Plan. This is because the savings from distribution costs and commissions paid to the distributor or agent are contributed back to the scheme’s returns. As a result, a Direct Plan’s NAV is higher than that of the “Regular” Plan.

12. Tax Benefits

Perhaps the main factor attracting most investors to a given type of mutual fund, namely ELSS Fund, is the tax advantages connected with it. The Indian government provides a number of tax breaks to promote investing in Mutual Funds

For instance, under Section 80C of the Income Tax Act, investments made in Equity-Linked Savings Schemes (ELSS) are eligible for a tax deduction. By investing up to Rs1.5 lakh in this instrument, one can save about Rs46,800 on their taxable income (assuming the highest income tax slab, which is at 30% plus the health and education cess of 4%, excluding surcharge if applicable).

The main drawback is that the instrument has a three-year lock-in period, which means that you cannot withdraw your investment in an ELSS fund for 3 years from the date of investment.

13. Taxation of Gains from Mutual Funds

Taxation on Mutual Funds differs basis the type of Mutual Fund

Taxation of Equity Funds

• Short Term Capital Gains (STCG): Gains from selling stock mutual fund units that have been held for less than a year are categorised as short-term capital gains, or STCG. Transfers made on or after July 23, 2024, are subject to a 20% tax on these gains, whereas transfers made prior to this date are subject to a 15% tax.
• Long-Term Capital Gains (LTCG): LTCG is the term used to describe gains from the sale of equity mutual fund units held for more than a year. profits over Rs 1,25,000 in a fiscal year are subject to a 10% tax on profits made up to July 23, 2024 and a 12.5% tax on gains made on or after this date.

14. Well regulated 

The Securities and Exchange Board of India (SEBI), which oversees the capital markets, regulates mutual funds in accordance with the SEBI (Mutual Funds) Regulations, 1996. SEBI has established strict guidelines that maintain investor safety, openness, a suitable framework for risk mitigation and fair valuation standards.

SEBI functions through a number of sections that concentrate on distinct facets of market regulation. By ensuring that businesses follow stringent disclosure guidelines and ethical standards, it helps to preserve investor confidence. Members chosen by the Indian government, including representation from a range of financial industries, make up the board.

Suitability for Each Investor Class as per the Risk Profile

A person’s risk profile can be thought of as a measurement of their level of risk tolerance. Each person’s tolerance for risk or market volatility varies depending on a number of circumstances, including age, disposable income and so on.

As a result, risk profiling aids in the creation of a customised investment portfolio with an asset mix that matches an investor’s risk profile.

Investors are classified as: 

• Conservative: These investors tend to be risk averse and prefer safety and consistency over higher returns. They are willing to accept moderate returns for low risk. These investors could look at debt funds, liquid funds, or hybrid funds as suitable investment options.
• Moderate: If you look for a balance between risk and return, you are a moderate investor. You’re willing to face a small amount of risk in exchange for greater rewards. You can invest in dynamic asset allocation funds, balanced funds, or hybrid funds with a moderate amount of equity exposure.
• Aggressive: The greatest readiness to tolerate market fluctuations in the hope of achieving exponential returns is shown by aggressive risk taking investors. In addition, these investors can tolerate short-term volatility since they have a long-term investment perspective. These investors can look into small cap mutual funds to meet their risk metrics.

How to Identify the Right Mutual Funds?

Choosing the right mutual fund is crucial for meeting your financial goals. Here are key factors to consider:

• Investment Objective: Match the fund’s objective with your financial goals, whether it’s growth, income, or capital preservation.
• Fund Performance: Review the fund’s historical returns over 3-5 years, comparing with its benchmark and peers.
• Fund Manager’s Track Record: Assess the experience and past performance of the fund manager.
• Expense Ratio: Lower expense ratios mean more of your money stays invested, improving overall returns.
• Risk Profile: Understand the fund’s risk level and ensure it aligns with your risk tolerance.
• Fund Size: Very large or very small funds may have different risk and liquidity characteristics.
• Portfolio Diversification: Check the asset allocation to avoid over-concentration in sectors or stocks.
• Exit Loads and Lock-in Periods: Consider charges and restrictions on withdrawing your investment.

By carefully analysing these factors, you can select mutual funds that suit your investment needs and financial plans.

Potential for Returns

Building wealth is a gradual process that calls for perseverance, self-control and a carefully thought-out investment plan. One of the most well-liked investing choices for building wealth is mutual funds. They give investors the chance to purchase a variety of stocks, bonds and other instruments, thus lowering risk while preserving growth potential.

Here is the data for returns from some of the funds in various categories:

Money Market Funds:

ELSS Funds: 

Conclusion

Mutual funds offer an accessible and effective way for investors to grow their wealth while managing risk efficiently. With benefits such as diversification, professional fund management, liquidity, transparency and tax advantages, they cater to a wide range of investors with varying financial goals and risk appetites. Whether you are a beginner aiming to start small through SIPs or an experienced investor seeking long-term capital appreciation, mutual funds provide a structured path towards financial growth. By selecting the right fund based on your objectives and risk profile, you can build a balanced portfolio that helps you achieve your financial goals over time.