How to Invest in a Mutual Fund for Beginners

How to Invest in a Mutual Fund for Beginners?

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How to Invest in a Mutual Fund for Beginners?

Financial assets have been gaining popularity in India. Indians investors are increasingly moving from physical assets such as real estate and gold to financial assets like fixed deposits and stocks. Supported by the trend, mutual funds have gained acceptability across the country. A mutual fund is a financial instrument that pools in money from a set of investors with a similar financial goal. The collected fund is invested in a variety of assets such as stocks and bonds by professional fund managers. Mutual funds are highly diversified products, which reduces the risk substantially. However, mutual funds are complex products and choosing the right one could be confusing. On the surface, all the mutual funds look the same, but mutual funds are divided based on assets, investment objective and structure. Plenty of options to choose from makes investing in mutual funds even more difficult. Here are a few steps to begin investing in mutual funds.

Have a clear objective

The investment objective or financial goal should be clear before committing a single penny to mutual funds. Some people invest for specific purposes such as children’s education or marriage, while others invest to as a part of retirement planning. If an investor wants to ensure a regular income with minimal risk, he/she should invest in income funds that invest in fixed-return securities. The chances of fund erosion remain low, while regular returns, albeit a small amount, is guaranteed. Someone who is in his/her 20s has a high-risk potential and is chasing high returns, investing in money market funds would not generate expected returns. Investors chasing high returns should ideally choose growth funds that primarily invest in high-return stocks. Having clear objective also means having an investment horizon and amount in mind. If maintaining ample liquidity is a prerequisite and the investment timeline is small, liquid funds would be an ideal choice. Similarly, if you want to invest in a tax-efficient fund and have a long investment horizon, equity-linked savings scheme should be the first choice. Without a clear financial goal, the chances of investing in the wrong mutual fund scheme are high.

Risk assessment

Even though mutual funds are one of the safest investment options, they are not entirely risk-free. First, understand your risk tolerance and then analyse if the selected fund matches your risk profile. Risk-averse people should stay away from aggressive growth funds that invest in small and mid-cap stocks. They should rather invest in debt funds that are relatively stable but deliver lower returns. Receiving high returns should not be the sole aim of investing as high returns will undoubtedly come with increased risks. Investors seeking to balance returns and risk can opt for hybrid funds that invest in a mix of equity and debt securities. You should try to understand the risk-return trade-off of each mutual fund scheme before investing.

Diversify over time

Mutual funds are diversified products but most schemes invest in a single asset. With a variety of options available, you should seek to gradually diversify your investments. An understanding of business and economic cycles could help. For instance, if you think the auto sector is in turmoil and it may take several years for it to normalise, it would be prudent to stay out of sector funds with an exposure to the sector. Similarly, if you feel the market is bullish and you can squeeze decent returns, invest in a small and mid-cap fund. Don’t be overwhelmed as you will not have to do the entire heavy lifting as fund managers are adept at using economic and business cycles. Diversification should not be limited to temporary cycles, you can invest in hybrid funds to create a balance between growth and stability.

Expense Ratio

Data points like expense ratio or fund history should not be the only guiding principles of choosing a mutual fund, but they provide valuable insights. The accumulated corpus for a mutual fund scheme is handled by a fund manager. The fund manager charges a fee or a commission for his/her services which is deducted from the returns the fund generates. The expenses associated with money managing is known as the expense ratio. The higher the expense ratio, the lower will be the take-home returns.

Though Securities and Exchange Board of India has capped the expense ratio at 2.5 percent of the average net asset value, look for schemes with lower expense ratio. However, the expense ratio should always be matched with the returns. If a fund has a low expense ratio but is generating lower returns than similar funds, it would be wise to bypass it. Similarly, you can look at the fund’s performance to get an idea of the expected returns. It is advisable to take into account the long term performance, especially of equity funds, as equity markets tend to fluctuate in the short term. A fund history of over five years should ideally be taken into consideration when looking at fund performance.

Invest directly

The biggest impediment before making a successful investment is the lack of information. Earlier, people use to rely on banking officials or mutual fund agents for information. But with the advent of the internet, almost everything is available online. You can invest in mutual funds either through an agent or directly. The agent helps you with the application and other processes but charges a fee for the services. This increases the cost of investing. When you invest directly, the role of the intermediary gets eliminated and you save the commission that has to be paid. The only drawback is the lack of advice. Being technologically aware, all crucial information can easily be gleaned online. The process of investing with Finserv MARKETS is also easier. You can invest in the mutual fund scheme of your choice through Finserv MARKETS in four easy steps. The process is fast and transparent with zero brokerage. Just choose a mutual fund scheme. Decide the amount. Provide the required documents for the Know Your Customer process and complete the payment.

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