Over the years mutual funds have made investing a lot easier. Nonetheless, due to their possible classification based on 4 different determinants as well as a broad array of such schemes available in the market, investors need to know the basics right to make the best investment choice.
1. Debt or equity mutual fund: Based on the chosen asset type i.e. equity or debt instrument, mutual funds are categorized into debt or equity funds. Both of these funds serve different financial needs. Debt funds carry low risk and hence reward an investor with relatively lower but steady returns. Short term financial goals could be achieved by parking money in debt funds where investors give more importance to capital safety in comparison to earnings.
Equity mutual funds invest in stocks that expose an investor to high volatility but also can yield higher returns. In general, the losses from equity investment can be averted to a larger extent by investing for a longer tenure. Such mutual funds are suitable for investment horizon of five or more years. Further in a case when you have zeroed in on equity fund category and happen to be a first time investor, your ideal choice would be balanced or hybrid funds. This is because through this investment vehicle you have a controlled exposure to equity as it invests 65% of your money into equity and the remaining in debt.
2. Open ended or closed-ended mutual funds: Open ended mutual fund schemes are available for purchase and sale at the net asset value or NAV that is declared on a daily basis. These schemes do not have a fixed maturity term so investors can easily trade in them on a continuous basis.
On the other hand, closed ended schemes are open for investor subscription only during a specific time after the NFO or new fund offer. In a usual case, investors cannot redeem their units in closed-ended scheme but some of the fund houses in order to render liquidity in such schemes list them on the stock exchanges. Nonetheless, trading volumes are too low in these funds and even if a buyer is found, the fund trades at a discount to its NAV making it difficult for the investor to exit his investment via this possible route
3. Growth option or dividend option: Mutual funds offer growth or dividend option. In the dividend option, mutual funds provide some amount periodically as dividends which are nothing but some portion out of your invested money that is given back to you regularly. There is no such payout in the case of growth option.
And hence when it comes to making a choice between dividend and growth option, dividend option suits when investor is in need of some funds at a regular interval and when it is not the case, one can without a second thought go for growth option to maximum returns with the power of compounding. It is to be noted that after the dividend is paid in the dividend option, NAV of the fund scheme adjusts lower.
4. Direct plan vs regular plan: All of the mutual fund schemes are now available in both the direct and regular format. In the regular plan, mutual fund is bought from the mutual fund distributor whereas a direct plan can be purchased directly from the fund house with no intermediary involved in the transaction. As far as the investment portfolio is concerned, the two plans are same but the only difference lies in the costs aspect which is higher in case of regular plan with distributor fee or commission payout.
But remember for lower annual expenses and hence better returns in case of direct mutual fund plans, you will have to forego investment expertise of distributor and track as well as manage the investment on your own actively. So, for beginners regular plan will be a worthwhile choice with a little extra cost as initially active tracking, re-balancing based on market condition etc can prove to be cumbersome.