There are broadly four type of funds :
- Equity Funds: These are funds that invest in equity stocks/shares of companies. The returns are market linked and are ideal for investors with a long-term investment
- There are multiple types of equity funds depending on the size of companies they invest in – Large cap, Mid cap, small cap and multicap.
- Large cap funds are considered safer as they invest in large companies and banks
- ELSS – Equity linked savings scheme – These funds primarily invest in large cap companies and these funds have a 3 yr lockin. These funds are eligible for tax savings under 80C. This is one of the best tax savings option available.
- Ideal time horizon is 8+ yrs, Can expect 12% to 15%+ annual returns. All returns are tax free after 1 year
- Debt Funds: These are funds that invest in Fixed income/debt instruments e.g. company debentures, government bonds and other fixed income assets. They are considered safe investments and provide stable returns.
- So for eg when the central or state govt. wants to raise some money for some projects…they will issue bonds which will have a higher return than FD. Similarly any company or banks can raise money by issuing debentures or bonds with a slightly higher interest rate. The debt funds will buy these kinds of bonds/debentures and are considered safer than equity
- Debt funds should be used for shorter time horizon. When selecting debt scheme, it is better to invest in short term bond where the maturity is in line with our investment time horizon and we also need to check the portfolio to ensure that the scheme has invested in high quality bonds…like Govt securities, bonds, treasury bills or AAA bonds.
- Ideal time horizon is 6month to 3 yrs, can expect 7% to 9% annual returns
- Money Market Funds: These are funds that invest in liquid instruments e.g. T-Bills, CPs etc. They are considered safe investments for those looking to park surplus funds for immediate but moderate returns.
- Similar to debt funds when the government or banks want to raise money for very short term – 1day to 90 days, they issue T-Bills or CPs which are considered very safe.
- Liquid/money market funds are the best used for keeping emergency funds and are a better alternative than keeping money in savings or current account
- Ideal time horizon is 1 week to 6 months, can expect 5% to 7% annual returns compared to 3.5% in savings account
- Balanced or Hybrid Funds:These are funds that invest in a mix of asset classes. In some cases, the proportion of equity is higher than debt while in others it is the other way around. Risk and returns are balanced out this way.
- Depending on the debt & equity mix, this can be used for a time horizon of 2 to 7 yrs or more and can expect 8% to 12% annual returns
- To get a tax free return after 1 year, choose the fund which maintains a 65%+ exposure to equity (pure equity or equity+ arbitrage)
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