How many types of mutual funds are there and which is best for an investor?Asked
Different categories of mutual funds are as follows-
1. Equity mutual funds
2. Debt mutual funds
3. Hybrid mutual funds
An equity fund is a fund which invests mainly in stock markets. The major chunk of the fund is invested in stocks of companies. It is also known as stock fund. The primary objective of an equity mutual fund is to generate higher returns in comparison to fixed income instruments such as FDs and debt funds. Investors are participating in the growth of companies by investing in these funds. These funds are ideal for investors for fulfilling financial goals of building wealth.
Equity mutual funds can further be broadly categorized into Equity – Large cap funds, Equity – Mid cap funds, Equity – small cap funds, Equity – sector funds, Equity – index funds, Equity – tax saving funds, among others.
Debt funds are mutual funds investing in such debt instruments. They are of different kinds depending on the kind of debt instruments they invest in.
Higher the credit rating of the debtor, lesser the chance of default and hence lesser the risk is – however, returns for such instruments can be lower. Lower the duration of the debt, lesser the probability of interest rate fluctuation and hence lesser the uncertainty of returns.
On the basis of issuer- debt funds can be classified into guilt funds and corporate bond funds.
3. Hybrid funds
As the name suggests hybrid funds invest in a mix of debt and equity funds to avail the benefit of both the funds. Depending on the mix, they can be classified into Debt oriented or equity oriented hybrid mutual funds, depending on greater proportion of investments in debt or equity.
Fund of funds (FoF) is a fund that invests in other mutual funds. It provides to its investors the benefit of low cost and diversification.
In this, a manager decides to invest the funds in a portfolio of mutual funds, each managed by other mutual fund managers. It is suitable for those investors who want to gain more exposure into different mutual fund schemes while investing only a small amount of money.
There are various types of mutual funds to fulfill the need of every type of investor.
1) Money Market Funds- These funds invest in liquid, short term funds with fixed income such as treasury bills, government bonds, certificate of deposit, etc. Money market funds are considered to be a safer investment as compared to others but with low returns. So they have comparatively low risk but with lower returns as well.
2) Equity Funds- These funds invest in equity stocks and shares of companies. Equity funds aim at growing money faster than other types of mutual funds and hence involve more risk. There are different types of equity funds including growth stocks, income stocks, value stocks, large cap, mid cap and small cap stocks. Therefore, these involve a chance of higher returns but with higher risk.
3) Balanced Funds- These funds invest in a mix of asset classes, namely, equity and fixed income securities. They try to balance the aim of achieving higher growth against the risk of losing money. Therefore, they tend to have more risk than fixed income funds but less risk than pure equity funds. These have moderate risk while trying to achieve higher growth.
4) Fixed Income Funds- These invest in funds that have a fixed return such as government bonds, investment grade corporate bonds, and high yield corporate bonds. They have money coming in on a regular basis by the means of interest earned. Fixed income funds have comparatively lower risk with regular flow of moderate income.
5) Fund of Funds- Such type of funds invest in other funds and try to maintain a balance between risk and risk just like balanced funds.
6) Specialty Funds- These are mutual funds specialising in the securities of a particular industry or group of industries or special type of securities. These involve higher risk since putting all your assets into one single stock is risky. Therefore, the potential return on these do not set off the present risk.
7) Index funds- These funds track the performance of a particular index so as to mirror the movement and returns of the index. Index funds usually have lower costs than actively managed mutual funds because much research and investment decisions are not required. Index funds take on the risk of the underlying index. So it depends on the performance of the index.