Everybody wants to make money. Having money is wholesome, making money is gratifying and spending money is enthralling. Especially if it’s your own. If you are like me, you want the path of least effort and maximum output.
People think it’s hard to make money, but possibly, the most rewarding way to make money is through investing. You're probably familiar with the concept of ‘those who take the risk are the ones worthy of reward’. The best way to invest and to build your portfolio is to invest in mutual funds.
The concept is as basic as it can get: a bunch of people pool their money to invest in something, they take advantage of professional money management vehicles and they invest in bonds, stocks and securities. Then you, the shareholder, get profits and/or losses. Remember the old phrase “Small drops make a big ocean”? Congratulations, you are now partaking in that exercise.
If the mutual fund does well, so do you. The money you invest and the mutual fund it goes to is operated by bigwigs, such as J.P. Morgan, SBI Fund and Tata Mutual Fund, who allocate the fund's assets and attempt to produce capital gains for you. This makes you look good as it gives you access to professionally managed portfolios.
There are two different types of mutual funds, so you can take part in either, depending on how you like your risk. Remember, the odds are: higher the risk, higher the yield.
The first kind is close-ended mutual funds, which means that they exist only for a specific duration and will be specified at the start of a fund. It has a fixed number of shares and units and after their initial issue, they will be traded on stock exchanges.
The price of these shares will be determined by their supply and demand. After their expiry, the entire corpus is disinvested and the proceeds are distributed to you in proportion to your shares. Its sole objective is to appreciate capital. It’s the financial “wham, bam, thank you.”
The second kind is open-ended mutual funds, which have perpetual existence and their corpus is ever-changing based on one’s entry and exit. The size and period of these shares and units are not predetermined and you are free to buy or sell any number of units at any time. Both of them have their upside and downside, depending on your preference.
Why do they exist?
They exist for a multitude of reasons, such as:
- To collect the savings of the general public and invest them in securities, enabling them to earn a good return.
- To provide professional investment management services to you.
- To create an investment portfolio of the mutual fund for you.
- To facilitate the process of capital formation and bring industrial development through your participation.
Are they beneficial?
Of course, they are! Most of the time, the reward outweighs the risk. Here’s why mutual funds are advantageous:
- They’re diversified and profitable: It collects small savings of millions of people like you and pools your savings for profitable investment. Since it’s treated as liquid, it’s reasonably safe.
- They’re managed by professionals: Mutual funds are managed by trustees who are professional experts in the field of finance, business and management, so it provides you with experienced investment service at low costs.
- You get tax benefits: The government gives you some tax benefits based on this, relating to the payment of income tax on income earned through investment.
- There is assured allotment: All applications to mutual funds for the purchase of units are usually honoured. This avoids tension. So, there is no loss of application money either!
- There is effective regulation: Mutual funds have to operate under the guidelines of SEBI, RBI and the government. There is supervision and control on the functioning of mutual funds. This protects you.
- The risk is spread: Mutual funds invest funds in securities from different industries. Hence, your risk in portfolio management is spread over a wider area. You might even incur losses, but these losses are compensated by more profits from other companies in which your funds are invested.
- There is liquidity to investment: If you feel you no longer wish to play this exhilarating game, you can sell your shares or units in the market and recover your investment. There’s even a repurchase facility provided by mutual funds (like UTI). However, this liquidity benefit is not available in the case of close-ended schemes of mutual funds. They provide you with affordability because unit prices are low.
- No tension: One ought not to be worried because you are giving your savings/surplus money to the mutual funds and the fund looks after your money.
- There’s variety: A mutual fund has various investment schemes which are called investment options and you are free to select any suitable option for investment. Open-ended schemes, close-ended schemes and tax-saving schemes are different investment options for a small investor, such as yourself.
What is my downside?
Now, as I said, this isn’t sans risk. Here are some of the downsides:
- There might be poor management: If the mutual funds are poorly managed, you’ll face difficulties, the rate of return will go down and the investment may become risky or face losses. It is a possibility.
- There's no control: You have no direct control over your investment, as the investment policies are decided by the trustees.
- You have insufficient information: You aren’t always given adequate information about the functioning of the mutual fund. You only get information about irregularities, once it is too late for remedial measures.
- Your expectations: You might have high expectations about your investment but managers of these funds cannot always meet these, so temper your expectations.
- You have to constantly monitor: An investment in unprofitable funds needs to be withdrawn promptly for safety and to avoid possible loss, so constantly monitor what you invest in.
- There’s risk: There is market risk, investment risk, business risk and political risk that could render financial loss. So, it’s up to you.
Mutual funds are preferred by many people, as the reasonable safety of the principal amount and income earned through the dividend is desirable. They act as a gateway to reputed companies which are inaccessible to an ordinary investor who has a small investment.
People are confident about mutual funds, as a majority of them are functioning efficiently and offer better returns, as compared to fixed deposit returns in banks. This public confidence and favourable economic environment can ensure a bright future. We want to make money. You want to make money. The feeling is mutual.
All mutual funds are subject to market risk, so please read this document carefully.