What is a mutual fund?

A mutual fund pools money from many investors and invests it in securities such as shares, bonds or money-market instruments according to a scheme’s stated objective. The fund issues units in proportion to the money invested. Investors are called unitholders, and gains or losses are reflected in the value of their units. Pooling can spread money across investments, but diversification does not remove market risk. [1] [2]

An asset management company (AMC) manages the portfolio. The scheme’s objective and portfolio should fit your goal, time horizon and ability to accept losses. A mutual fund is not a bank deposit and does not promise that your capital will be returned unchanged. [1] [2]

Units and NAV, in simple terms

NAV, or Net Asset Value, is the value of one unit. It is calculated by taking the scheme’s assets, subtracting liabilities, and dividing by outstanding units. Since the portfolio securities change in value, NAV can rise or fall. The NAV applicable to a purchase or redemption can also depend on regulatory cut-off rules and when funds are available. [1] [3]

A lower NAV does not by itself mean a scheme is cheaper or better. NAV is simply the per-unit value. To understand an investment, look at the objective, asset allocation, risks, costs and redemption terms.

SIP is a method, not a product

A Systematic Investment Plan (SIP) is a way to invest a chosen amount in a mutual-fund scheme at regular intervals. It is not a separate asset class or a guarantee. The underlying scheme determines where the money goes and how risky it is, so a SIP can be used with equity, debt or hybrid schemes subject to their terms. [4]

With a fixed contribution, you generally receive more units when NAV is lower and fewer when it is higher. This can average the purchase cost and encourage a regular habit. It does not guarantee profit, prevent losses or make an unsuitable scheme suitable. You still need to review whether the scheme matches your goal and risk capacity. [4]

Costs and direct versus regular plans

The Total Expense Ratio (TER) represents the ongoing cost of running and managing a scheme, including applicable operating, transaction and statutory costs. Scheme documents disclose applicable expenses, and SEBI’s framework sets limits. An exit load may apply when units are redeemed under specified conditions. SEBI says entry load is not permitted, but “no entry load” does not mean investing is cost-free. [2] [4]

A Direct Plan is bought without a mutual-fund distributor or agent. A Regular Plan is bought through a distributor. Both are part of the same scheme, use the same portfolio and are managed by the same fund manager. Direct Plans generally have a lower expense ratio because distributor commission is not included. Regular Plans include distribution expenses and may provide intermediary assistance. Lower cost does not replace the work of understanding a scheme; use the route you can handle responsibly. [4] [5]

Risk, the Riskometer and documents

Mutual funds are market-linked. Your investment value can fall because of market movements, interest-rate changes, credit events, liquidity constraints or wider economic conditions. You may receive less than you invested, and returns are not guaranteed. [4]

Before investing, check the scheme’s Riskometer, which presents assessed risk from low through very high. It is a useful signal, not a personal risk assessment or a promise about future performance. [6]

Read the Scheme Information Document (SID) for detailed information such as the objective, strategy, asset allocation, fees and risks. The Key Information Memorandum (KIM) summarises essential points, while the Statement of Additional Information (SAI) covers common legal and general information about the mutual fund. Do not rely on an advertisement, message or past performance alone. [4]

A beginner’s checklist

  • Define the goal, amount and time horizon before choosing a scheme.
  • Check the objective, asset allocation, Riskometer and liquidity or lock-in terms.
  • Read the SID and KIM; note the TER, exit-load conditions and other disclosed charges.
  • Decide whether you understand the choice for a Direct Plan or need legitimate intermediary help through a Regular Plan.
  • Complete required KYC, use official or authorised channels, keep account statements and review periodically.

A SIP can make investing regular, but it cannot turn market risk into certainty. Start with understanding the scheme, not with a promise of returns.

Primary-source references

  1. SEBI Investor — Understanding Mutual Funds (opens in a new tab)
  2. SEBI — FAQs for Mutual Fund Investors (opens in a new tab)
  3. SEBI Investor — Mutual Funds’ Investments and Net Asset Value (opens in a new tab)
  4. AMFI — Mutual Funds Made Simple: Your Pocket Guide to Understanding Mutual Funds (opens in a new tab)
  5. AMFI Investor Corner — Direct Plan (opens in a new tab)
  6. SEBI Investor — Understanding the Riskometer (opens in a new tab)