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How To Invest In Mutual Funds

Here is a step-by-step guide to investing in Mutual Funds in India. Learn how to invest, what precautions to take and what costs to be aware of while putting your money in mutual funds.

How to invest in Mutual Funds

Before answering the question of how to invest in mutual funds, let’s start with the basic definition of what mutual funds are. Investopedia defines Mutual Fund as “an investment vehicle made up of a pool of moneys collected from many investors for the purpose of in such as stocks, bonds, money market instruments and other assets. They are operated by professional money managers, who allocate the fund’s investments and attempt to produce capital gains and/or income for the fund’s investors thereby making investing in mutual funds a lot less stressful than investing in equities directly. A Mutual Fund’s portfolio is structured and maintained to match the investment objectives stated in its prospectus.”

Or in simpler terms, think of it like this: a baker bakes a million pound cake made up of a variety of ingredients. Each ingredient is an individual stock or bonds. These ingredients make up your portfolio, and this fund (or cake) is managed by a professional manager (or the baker) who manages a pool of money. He builds the portfolio, which is in line with the investment objective of the scheme.

These investments can be spread across a wide range of industries and sectors. This ensures that the risk exposure is contained, because not all stocks may move in the same direction in the same proportion at the same time. Thus, it helps to balance things out. Mutual Funds are governed by Association of Mutual Funds in India (AMFI).

Cost associated with investing in Mutual Funds

Before one invests money into Mutual Funds it is advised that one is aware  about the expenses charged by the fund houses on the Mutual Fund schemes held by the investors.

  • Expenses charged by Mutual Funds to investors: The amount charged by Asset Management Companies to Mutual Fund investors include professional fund management and regular operational costs (advisory fees, fund management fees, marketing and selling fees etc); all these expenses which are charged altogether to the investor is called as “Total Expense Ratio”.
  • Total Expense Ratio (TER): Total Expense Ratio is a fee charged by a Mutual Fund to manage investor money. This fee includes registrar fee, fund management fee, distributor commission, advertising expense, auditor and custodians’ share etc. Expense Ratio is charged as a percentage of Assets Under Management (AUM). It is expressed as an annual figure but it is charged on  daily basis. Net Asset Value (NAV) is calculated for Mutual Fund after deducting the TER. TER should be lesser as the AUM increases as per the direction of SEBI guidelines. TER is calculated by following the formula.

 

TER = (Total expenses during an accounting period) * 100 / Total Net Assets of the Fund.

Therefore, one should be mindful to select a fund where the TER is low. Low TER reflects the operational efficiency or capacity of the Mutual Fund house and also results in higher returns when compared to funds with a higher TER.

  • Mutual Fund Loads: A load is a fee paid in the form of commission or sales charge paid to a broker or sales intermediary and not to the fund. There are two types of loads.
  • Entry Load is the load which is paid up front while purchasing a  fund. During the year 2009, SEBI had decided to abolish Entry Load. This was done in order to make the whole process Investor friendly. Agents and distributors avoided discussing an entry load with investors, which took the investors by surprise when they were charged such fees. Transaction Charge is the amount which SEBI by the mid of 2011, had permitted AMC to collect a one-time transaction fee from the investor. AMCs are expected  to collect Rs 150 as a transaction fee if the investment amount is Rs 10,000.
  • Exit Load is the charge which is taken when the investor decides to redeem or sell his shares before the maturity  as he is expected to hold for long. Exit charge would not be taken when the investor redeems his shares after holding for a long time period.

Things to consider before investing in Mutual Funds

Below mentioned are some of the important steps which should be taken into serious consideration while investing your money in Mutual Funds.

How much money do you want to invest?

First and foremost, calculate (and grow) the capital you have by keeping aside the portion of what we are willing to save and then do whatever we want to do with the remaining money. Once you find out the portion of the money you have in your savings minus your housing rent, EMIs, and miscellaneous expenses, move to the next step.

What is your goal while investing in mutual funds?

Goals differ from people to people – depending on their circumstances at different points of time. But what is your long-term goal? Is it to buy an expensive house or go for touring around the world? You may have to sit and think through your family on what you need to plan around. For investing in a child’s’ education, down payment of the home, and annual vacation etc it is better to go for Debt securities. But if you are looking for long-term goals such as child marriage and retirement savings then it is good to look for Equity Mutual Funds (EMF). Experts believe that ones of the best forms of investing are goal based savings.

What’s your asset allocation?

You will need to find out which asset you are interested to allocate or assign your money to invest upon. You will need to diversify your investments and generate a steady flow of money for your investments.

How big is your risk appetite?

Mutual Fund investing is not everyone’s cup of tea. You need to identify category you belong to when it comes to risk taking an appetite. Each risk appetite is generally referred to by a specific name.

Open means the investor is open to take the justified risk and will choose the option which gives him the highest return. He is willing to accept the possibility of failure

Flexible means that the investor will go to take the risk which is strongly justified. That is he shows slight resistance when compared to the Open investor.

Cautious is a person who gives more preference to play it safe and is willing to accept if the investment is safe and its advantages heavily outweigh the liabilities of the investment.

A minimalist is a person which is extremely conservative when it comes to investments and has a less tolerance when it comes to uncertainties.

Averse is the one who considers that avoidance to risk is always a sacred person. He has extremely low tolerance for uncertainty and would always select lowest risk option when presented to him or her.

Assign the work to experienced professionals

Professional Fund Managers are there for a reason. They focus on investing the pool of resources into those sectors which would perform better based on the market conditions and they know much more than us. There are more than 45 Mutual Fund companies and more than 10,000 schemes in India which would be difficult to analyse on our own. Therefore, it is recommended to leave that task to the Fund Managers who would know the best to manage them.

Steps to take before learning how to invest in Mutual Funds

Step A:

Check your KYC:

What is KYC? Why do you need it?

KYC (Know Your Customer) is a regulatory requirement by SEBI to control fraud and illegal activities and thereby protect your money. Under this process, you need to provide certain information that is recorded at one place and used by all the mutual funds.

KYC is one time exercise while dealing in securities markets – once KYC is done through a SEBI registered intermediary (broker, DP, Mutual Fund, etc), you need not undergo the same process again when you approach another intermediary.

You need to do KYC only once across all mutual funds. Once you sign up with Clearfunds, we will take care of KYC if required.
Here’s everything you need to know about Mutual Fund KYC.

What is my KYC status? How do I check this myself?

You can check your KYC status by visiting https://www.cvlkra.com/ or https://www.karvykra.com/upansearchglobalwithpanexempt.aspx. If your KYC status is “incomplete” or “Old MF KYC”, you will need to undergo the KYC process again. If nothing shows up then you will need to do KYC on your PAN before you are allowed to invest.

If your KYC is not done, you should start your KYC process online or download it from here: CKYC PDF form.

What are the documents required to do my KYC?

  1.  If you are not KYC-compliant, keep the following documents handy:
    1. KYC individual form
    2. Passport-sized photograph
  2. Proof of identity:
    Any 1 of the following documents are acceptable as proof of identity –

    1. PAN with photograph
    2. Aadhaar
    3. Passport
    4. Voter’s ID card
    5. Driving licence
    6. Identity card/document with applicant’s photo, issued by any of the following: Central/State Government and its Departments, Statutory/Regulatory Authorities, Public Sector Undertakings, Scheduled Commercial Banks, Public Financial Institutions, Colleges affiliated to Universities, Professional Bodies such as ICAI, ICWAI, ICSI, Bar Council etc. to their Members; and Credit cards/Debit cards issued by Banks.
  3. Proof of address:
    Any of the following documents can be submitted as proof of identity –

    1. Aadhaar
    2. Driving licence
    3. Passport
    4. Voter’s ID card
    5. Ration card
    6. Registered lease/sale agreement of residence
    7. Flat maintenance bill
    8. Insurance copy
    9. Utility bills such as landline telephone bill, electricity bill or gas bill, less than 3 months old
    10. Bank account statement/passbook, less than 3 months old
    11. Self-declaration by High Court and Supreme Court judges, giving the new address in respect of their own account
    12. Proof of address issued by Bank Managers of Scheduled Commercial Banks/Multinational Foreign Banks/Gazetted Officer/Notary Public/Elected Representatives to the Legislative Assembly or Parliament/a document issued by any Government or Statutory Authority
    13. Identity card/document with address, issued by any of the following: Central/State Government and its Departments. Statutory/Regulatory Authorities, Public Sector Undertakings, Scheduled Commercial Banks, Public Financial Institutions, Colleges affiliated to Universities and Professional Bodies such ICAI, ICWAI, ICSI, Bar Council etc. to their Members
    14. For Foreign Institutional Investors (FII)/sub account, Power of Attorney given by FII/sub-account to the Custodians, duly notarised and/or apostiled or consularised
    15. Proof of address in the name of the spouse is also acceptable.

Submit your filled in KYC form along with the documents to any CAMS/Karvy centre closest to you.

This could take up to 3 weeks.

Step B:

Once your KYC is done, you can create an account on Clearfunds, submit a cancelled cheque and start investing in any direct mutual fund in 15 minutes.

Why should you be investing in Mutual Funds?

Your financial requirements are likely to grow over time and even though your income may grow at a steady pace, inflation may start to take its toll. The traditional form of investments such as bank fixed deposits, investments in gold may not be very effective in achieving your dreams and goals. But a Mutual Fund should take your capital and invest it into various different sectors. This will diversify your investments in such a manner, that if one sector is performing low it would be compensated by a better performing sector to which you have invested your fund in. They are most preferred investment over fixed deposits due to their low cost of investment and better returns.