A mutual fund is an investment option provided by fund houses that selects top-performing stocks, bonds, and other assets from various sectors and consolidates them into a single portfolio. It is a security combination in which the fund manager determines the amount of exposure to equity or debt, depending on the type of fund.
Types and Categories of Mutual Funds
Mutual funds are allocated to asset classes differently, and their equity vs debt exposure varies.
As per SEBI guidelines on Categorization and Rationalisation of schemes issued in October 2017, mutual fund schemes are categorised as –
- Equity Schemes
- Debt Schemes
- Hybrid Schemes
- Solution Oriented Schemes- For retirement and children
- Other Schemes-Index Funds & ETFs and Fund of Funds
However, there are sub-types of mutual funds within these main categories, which are described below:
A fund that invests primarily in equities and equity-related securities is known as an equity scheme.
- Long-term growth is anticipated, while short-term volatility is also possible.
- Investors with a higher risk appetite and a longer investing horizon might consider this option.
The primary goal of an equity fund is to achieve long-term capital growth. Equity funds may specialise in a particular market sector or invest in a certain investment style, such as value or growth companies.
There are several sub-categories of mutual funds under equity schemes, as described below:
- Large-Cap Funds: Large-cap funds are mutual funds that invest in shares of firms with the highest market capitalization, which are normally ranked 1st to 100th by SEBI and at least 80% investment is in large cap stocks.
- Mid-Cap Funds: Mid-cap funds are mutual funds that invest in companies with a medium market size, which are typically ranked 101st to 250th by SEBI and at least 65% investment is in equity & equity related instruments.
- Small-Cap Funds: Small-cap funds invest in companies with the smallest market capitalization, which are normally ranked after the 250th by SEBI and at least 65% investment is in small cap stocks.
- Multi-Cap Funds: These mutual funds invest in firms of all market capitalizations (essentially, large, mid, and small cap) in order to maximise returns while minimising risk.
- Sector Funds: Thematic funds or sector funds are mutual funds that invest in a certain industry, such as finance or healthcare.
- Index Funds: Index funds essentially imitate the stock market. These funds invest in the same stocks as the market index.
- ELSS Funds: These funds primarily engage in equity securities and are eligible for a tax deduction of INR 150,000 from total income under section 80C of the Income Tax Act, 1964.
Debt funds, in comparison to equity funds, invest primarily in debt instruments and other secure securities such as corporate bonds and government bonds. Debt and fixed-income instruments account for at least 65% of the entire investment.
The sub-categories of debt schemes are as follows-
- Liquid Funds: These mutual funds invest in short-term instruments with a 91-day maturity. Compared to a savings bank account or a fixed deposit, liquid funds give better yields.
- Dynamic Bond Funds: These mutual funds invest in both short- and long-term bonds, and their fund managers maximise returns by adjusting the portfolio in response to interest rate variations.
- Short-term Debt Funds: These mutual funds invest in debt funds with a short maturity period, usually one to three years.
- Fixed Maturity Plan Funds: Fixed-income debt funds, such as government bonds, are among the investments made by these mutual funds.
- Gilt Funds: These mutual funds invest in highly rated government assets that provide consistent returns while posing little risk.
- Credit Opportunity Funds: These mutual funds invest in low-rated assets that might yield a favourable return.
To balance risk, hybrid schemes invest in both equity and debt funds. The goal is to invest in equities to generate profits while also managing debt. They invest in both equities and debt to achieve a ‘balance’ between growth, income, and risks..
The subcategories are as follows-
- Monthly Income Funds: Such mutual funds invest mostly in debt funds and just around 20% in equity funds in order to provide consistent returns on a monthly, quarterly, or annual basis.
- Conservative Hybrid Funds: These mutual funds invest at least 65% of their assets in fixed-income instruments and the rest in equity funds.
- Aggressive Hybrid Funds: These mutual funds invest at least 65% of their assets in stocks and the rest in fixed-income securities.
- Arbitrage Funds: By purchasing stocks from one market and selling them at a greater price in another, such mutual funds provide superior returns.
Solution Oriented & Other Schemes:
The solution oriented mutual funds are sub categorised as follows:-
- Retirement Fund: Lock-in for a minimum of 5 years or until retirement age, whichever is earlier.
- Children’s Fund: Lock-in for a minimum of 5 years or till the child attains the age of majority whichever is earlier
The other schemes of mutual funds are sub categorised as follows:-
- Index Funds: Index funds construct a portfolio that resembles a market index.
- Exchange Traded Funds (ETFs): An ETF just like an index fund, is a marketable product that tracks an index, a commodity, bonds, or a basket of assets and it is listed on stock exchange.
- Fund of Funds (FoFs): Mutual fund schemes that invest in the units of other mutual fund schemes or other mutual funds are known as fund of funds.