If you are commuting, there is a good chance that you come across multiple hoardings about investing in mutual funds. There is a relentless campaign suggesting mutual funds are the right way to invest. If you happen to be a non-finance person, the information you look for could be overwhelming. Data from the Association of Mutual Funds in India suggest that only five per cent of Indians buy mutual funds. Most people put their savings into property, gold or FDs.
Mutual funds are not an asset like a share, fixed deposit or a debenture. They are a vehicle that you use to buy underlying assets like shares, debentures or commodities like gold. Equity funds: Most people perceive mutual funds as the direct equity investment. It is a vehicle to buy equities but with the benefit of diversification. This means, equity funds own multiple stocks on your behalf. The risk is spread across all of them. If the share price of one stock in the portfolio falls, some other stock gains in value.
Overall, if the fund is managed well, returns move in tandem with those of benchmark indices. They are superior to any fixed income investment like FD or public provident fund if you stay invested for over five years. If you can manage to set aside money each month, you may want to get started immediately. Some of the largest open-ended equity funds are HDFC Top 200, Reliance Equity Fund, Franklin India Bluechip Fund generated returns superior to the market over the years of their existence. You can seek professional advice on picking the right scheme based on your need.
Fixed income/Liquid funds: Mutual funds manage assets worth Rs 22.61 lakh crore. Fixed income funds account for half of these. Bulk of this money belongs to companies with surplus cash. They prefer fixed income or liquid funds than FDs. Retail investors must note this. Mutual fund is not about equity or Sensex alone. You can use mutual funds to put your savings in the short-term. So, an emergency fund can be kept in a liquid fund while if your objective is to set aside money to buy a new car or a down-payment for a home, an investment in an income fund for two-three years is better than a fixed deposit. For fixed-income funds held for more than three years, you pay long-term capital gains at a rate (20 per cent) lower than your personal tax rate (30 per cent plus surcharges). You end up paying a TDS on the interest you earn on the FD.
Balanced funds: In a situation where you want to figure out mutual funds and are not too familiar with them, you could start with balanced funds. The fund manager invests half or more in equity markets and the balance in fixed income. The advantage is you get more diversification of risk than a pure equity scheme. Sometimes balance funds perform better than equity markets. When interest rates are not favourable, the equity market performs and lifts the performance of these funds. HDFC Prudence Fund, Aditya Birla Sun Life Balanced ’95 Fund are among the consistently performing schemes over the years. Again, it’s a good idea to get professional advice on MF products.
Exchange-traded funds: This is the simplest category of funds to understand. If you do not want to dive deeper and simply follow benchmark indices like Sensex and Nifty, you may want to put your money into their movement. Currently, exchange-traded funds manage about Rs 70,000 crore in assets or three per cent of the total money managed by mutual funds. Globally, around $5 trillion is invested in ETFs. More and more people are buying these funds all over the world. So, these funds have to simply track the performance of the benchmark indices like the Sensex or Nifty. It is popular as it is easy to understand the movement in them. [The writer, a former business journalist, is the founder of Simplus Information Services]
Tax to be paid on capital gains
For fixed-income funds held for more than three years, you will pay tax on long-term capital gains at a rate (20 per cent) lower than your personal tax rate (30 per cent plus surcharges)
How big is the ETF market?
Currently, exchange-traded funds manage about H70,000 crore in assets or three per cent of the total money managed by mutual funds. Globally, around $5 trillion is invested in ETFs