What are Mutual Funds?

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by mydhanush on 6 December 2023,  5 min read

What are Mutual Funds? - Dhanush by Ashika
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A mutual fund is a pool of money managed by a professional Fund Manager. It is a trust that collects money from a number of investors who share a common investment objective. It then invests the same in equities, bonds, money market instruments and/or other securities.

Investors receive a proportional distribution of the generated income or gains from the collective investment. This distribution occurs after deducting relevant expenses and levies by calculating a scheme’s “Net Asset Value” or NAV.

Simply put, the money pooled in by a large number of investors is what makes up a Mutual Fund.

Understanding Net Asset Value or NAV:

Just like an equity share has a traded price, a mutual fund unit has Net Asset Value per Unit. The NAV is the combined market value of the shares, bonds and securities held by a fund on any particular day (as reduced by permitted expenses and charges).

NAV per Unit represents the market value of all the Units in a mutual fund scheme on a given day, net of all expenses and liabilities plus income accrued, divided by the outstanding number of Units in the scheme.

Mutual funds are ideal for investors who either lack large sums for investment, or for those who neither have the inclination nor the time to research the market, yet want to grow their wealth.

Professional fund managers invest the money collected in mutual funds according to the scheme’s objectives. In exchange for this service, the fund house deducts a small fee from the investment.

SEBI sets specific limits regulating and confining the fees imposed by mutual funds.

Mutual Fund Schemes

Categories of Mutual Fund schemes include ‘open-ended’ or ‘closed-ended,’ and they can be actively managed or passively managed.

Open-ended & Close-ended Funds

An open-end fund, also known as a mutual fund scheme, allows subscription and redemption on any business day throughout the year. An open ended scheme is perpetual and does not have any maturity date.

A closed-end fund is open for subscription only during the initial offer period. It has a specified tenor and fixed maturity date. Hence, units of Closed-end funds can be redeemed only on maturity.

After the new fund offer, the closed-end fund must list its Units on a stock exchange.

The trading of these Units on the stock exchange, akin to other stocks, facilitates investors in selling their Units on the exchange should they wish to exit the scheme before it reaches maturity.

Actively managed & passively managed funds

An actively managed fund is a mutual fund scheme in which the fund manager actively manages the portfolio. It continuously monitors the fund’s portfolio , deciding on which stocks to buy/sell/hold and when.

In an active fund, the fund manager’s aim is to generate maximum returns and out-perform the scheme’s bench mark.

On the other hand, a passively managed fund operates differently—it essentially tracks a market index. In such funds, the fund manager remains inactive or passive, refraining from exercising judgment or discretion in determining which stocks to buy, sell, or hold. Instead, the fund merely replicates or mirrors the scheme’s benchmark index in precisely the same proportions.

Examples of Index funds are an Index Fund and all Exchange Traded Funds. In a passive fund, the fund manager’s task is to simply replicate the scheme’s benchmark index.

Disclaimer: The information provided in this blog post is for informational purposes only and should not be construed as investment or trading advice. The author is not a financial advisor and does not have any professional qualifications in this area. The author does not guarantee the accuracy or completeness of the information provided. Any action you take based on the information in this blog post is done at your own risk. Please consult with a financial advisor before making any investment decisions.

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