INTRODUCTION TO INVESTMENTS

Investing is more than just a financial strategy; it's a powerful tool that can shape your future. By understanding the
fundamentals of investment and taking proactive steps, you can build wealth, secure your financial future, and achieve your
long-term goals.

Why Invest?
l Combatting Inflation : Inflation erodes the purchasing power of money over time. By investing, you aim to generate
returns that outpace inflation, preserving and growing your wealth.
l Building Wealth : The magic of compounding interest is a key driver of wealth accumulation. As your investments grow,
the returns on those returns compound, leading to exponential growth over time.
l Meeting Financial Goals : Whether it's buying a home, funding your child's education, or retiring comfortably, investing
provides the means to achieve these goals.
l Financial Security : A well-diversified investment portfolio can provide a safety net, protecting you from unexpected
financial challenges.
l Passive Income : Investments like dividend-paying stocks and rental properties can generate regular income,
supplementing your primary income sources.

Savings or Investments
Before taking a look at various investment options available for an investor, some important questions need to be tackled. Do
the two words “saving” and “investment” mean the same thing? Or are they different words? If these are different things, which
is better – saving or investing? Such clarification is warranted since many individuals use the two terms interchangeably.
The word “saving” originates from the same root as “safe”. The safety of money is of critical importance here. Whereas, when
one invests money, the primary objective typically is to earn profits. The important point to note here is that there is a trade-off
between risk and return.
The other difference is evident from the dictionary definition of “saving”– reduction in the amount of money used. This definition
refers to reducing consumption so that some money is saved. It is this saved money that can be invested. In other words,
saving and investing are not to be considered as two completely different things, but two steps of the same process – in order to
invest money, one needs to save first. Thus, saving precedes investing.

Factors to evaluate investments

Safety : This begins with the safety of capital invested. However, one could stretch that to also include the degree of surety of
income from investment. In order to understand the safety of an investment, it is important to understand the risks involved.
Liquidity : How easily can one liquidate the investment and convert it to cash? The degree of ease is different across different
categories, and even within the categories, the same could be different across products.
Returns : As seen earlier in the definition of investments, the major purpose is to get some returns from investment. Such
returns may be in the form of regular (or periodic) income, also known as current income; and capital appreciation, or capital
gains.
Convenience : Any investment must be evaluated in terms of convenience with respect to investing, taking the money
out–fully or partially, as well as the investor’s ability to conveniently check the value of the investment, as well as to receive the
income.
Ticket size : What is the minimum amount required for investment? There are some avenues where an investor can start
investing amounts as small as Rs. 50 or Rs. 100, whereas some require more than Rs. 1 lakh, and sometimes more than Rs. 1
crore.
Taxability of income : What one retains after taxes is what matters, and hence, taxation of the earnings is another important
factor that one must consider. While looking at the taxability of income, it is critical to evaluate various other factors, too, and not
look at taxation in isolation.

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 INTRODUCTION TO INVESTMENTS
Different Asset Classes
Real Estate : Real estate is considered as the most important and popular among all the asset classes. However, the popularity
of this asset category is large because of a reason not related to investment. For those who have bought their own houses, it is
the largest expense in life. The word used here is “expense”, and not “investment”. This would be elaborated later, but it is
pertinent to mention here that in the majority of cases, individuals purchase real estate for self-occupation. This should not be
considered as an investment, since selling the same may have a negative impact on one’s lifestyle.
Real estate could be further classified into various categories, viz., residential real estate, land, commercial real estate, etc.
Commodities : This is another asset category that people at large are familiar with in various ways. On a regular basis, people
consume many commodities, e.g., agricultural commodities like spices; petroleum products such as petrol and diesel; or
metals like gold and silver. However, it is not possible to invest in most of these, as many of these are either perishable and
hence cannot be stored for long, or storage of the same could take a lot of space, creating a different kind of difficulty.
Fixed Income : When someone borrows money, one has to return the principal borrowed to the lender in the future. There
could also be some interest payable on the amount borrowed. There are various forms of borrowing, some of which are
through marketable instruments like bonds and debentures.
There are many issuers of such papers, e.g., Companies, Union Government, State Governments, Municipal Corporations,
banks, financial institutions, public sector enterprises, etc.
Equity : This is the owner’s capital in a business. Someone who buys shares in a company becomes a part-owner in the
business. In that sense, this is risk capital, since the owner’s earnings from the business are linked to the fortunes, and hence
the risks, of the business. When one buys the shares of a company through the secondary market, the share price could be
high or low in comparison to the fair price.
Historically, equity investing has generated returns in excess of inflation, which means the purchasing power of one’s money
has increased over the years. It has also delivered higher returns than other investment avenues, most of the time, if one
considers long investment periods. Since the base year of 1979, Sensex has grown from a level of 100 to around 79,389 on 31st
Oct 2024. This is an appreciation of around 16 percent p.a., compounded annually.
Apart from long term capital appreciation, equity share owners may also receive dividends from the company. Such dividends
are shared out of the profit that the company has generated from its business operations. If the company does really well, the
dividends tend to grow over the years.

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 MUTUAL FUNDS
A mutual fund is a professionally managed investment vehicle. Practically, one does not invest in mutual funds but invests
through mutual funds. However, we hear of “investing in mutual funds” or “investing in mutual fund schemes”. While that is fine
for the purpose of discussions, technically it is not correct. As a mutual fund distributor, it is critical to understand the difference
between the two concepts.
When someone says that one has invested in a mutual fund scheme, often, the scheme is perceived to be competing with the
traditional instruments of investment, viz. equity shares, debentures, bonds, etc. The reality is that one invests in these
instruments through a mutual fund scheme. In other words, through investment in a mutual fund, an investor can get access to
equities, bonds, money market instruments and/or other securities, that may otherwise be unavailable to them and avail of the
professional fund management services offered by an asset management company.
Thus, an investor does not get a different product, but gets a different way of investing. The difference lies in the professional
way of investing, portfolio diversification, and a regulated vehicle.
Mutual fund is a vehicle (in the form of a “trust”) to mobilize money from investors, to invest in different markets and securities, in
line with stated investment objectives. In other words, through investment in a mutual fund, an investor can get access to
equities, bonds, money market instruments and/or other securities, that may otherwise be unavailable to them and avail of the
professional fund management services offered by an asset management company.

Role of Mutual Funds

The primary role of mutual funds is to help investors in earning an income or building their wealth, by investing in the
opportunities available in securities markets. It is possible for mutual funds to structure a scheme for different kinds of
investment objectives.
Mutual funds offer different kinds of schemes to cater to the needs of diverse investors. In the industry, the words ‘fund’ and
‘scheme’ are used interchangeably. Various categories of schemes are called “funds”.
The money that is raised from investors, ultimately benefits governments, companies and other entities, directly or indirectly,
for funding of various projects or paying for various expenses. The projects that are facilitated through such financing, offer
employment to people; the income they earn helps them buy goods and services offered by other companies, thus supporting
projects of these goods and services companies. Thus, overall economic development is promoted.

Investment Objectives of Mutual Funds

Mutual funds seek to mobilize money from all possible investors. Various investors have different investment preferences and
needs. In order to accommodate these preferences, mutual funds mobilize different pools of money. Each such pool of money
is called a mutual fund scheme.
Every scheme has a pre-announced investment objective. Investors invest in a mutual fund scheme whose investment
objective reflects their own needs and preferences.

Investment Objectives Type of mutual

fund scheme
The scheme intends to provide reasonable income along with high liquidity by investing in Overnight fund
overnight securities having a maturity of one business day.

To generate capital appreciation/income from a portfolio, predominantly invested in equity and Equity fund
equity related instruments

The primary objective of the scheme is to generate long term capital appreciation by investing Hybrid fund
predominantly in equity and equity related securities of companies across the market
capitalization spectrum. The fund also invests in debt and money market instruments with a view

It is in line with these objectives that the scheme would decide the investment universe i.e., the types of securities to invest in.

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Important Concepts in Mutual Funds
Units: The investment that an investor makes in a scheme is translated into a certain number of ‘Units’ in the scheme. Thus, an
investor in a scheme is issued units of the scheme.
Face Value : Typically, every unit has a face value of Rs. 10. The face value is relevant from an accounting perspective.
Unit Capital : The number of units issued by a scheme multiplied by its face value (Rs. 10) is the capital of the scheme–its Unit
Capital.
Recurring Expenses : The fees or commissions paid to various mutual fund constituents come out of the expenses charged to
the mutual fund scheme. These are known as recurring expenses. These expenses are charged as a percentage to the
scheme’s assets under management (AUM). The scheme expenses are deducted while calculating the NAV. This means that
higher the expenses, lower the NAV, and hence lower the investor returns. Given this, SEBI has imposed strict limits on how
many expenses could be charged to the scheme. For running the scheme of mutual funds, operating expenses are also
incurred.
Net Asset Value: The true worth of a unit of the mutual fund scheme is otherwise called Net Asset Value (NAV) of the scheme.
When the investment activity is profitable, the true worth of a unit increases. When there are losses, the true worth of a unit
decreases. The NAV is also the net realizable value per unit in case the scheme is to be liquidated–how much money could be
generated if all the holdings of the scheme are sold and converted into cash.
Assets Under Management : The sum of all investments made by investors in the mutual fund scheme is the entire mutual
fund scheme’s size, which is also known as the scheme’s Assets Under Management (AUM). This can also be obtained by
multiplying the current NAV with the total units outstanding. The relative size of mutual fund companies/asset management
companies is assessed by their assets under management (AUM). When a scheme is first launched, assets under
management is the amount mobilized from investors. Thereafter, if the scheme performs well and is marketed well, its AUM
goes up and vice versa.

Advantages of Mutual Funds

Professional Management : Mutual funds offer investors the opportunity to earn an income or build their wealth through the
professional management of their investible funds. There are several aspects to such professional management viz. investing
in line with the investment objective, investing based on adequate research, and ensuring that prudent investment processes
are followed.
Portfolio Diversification : Investing in the units of a scheme provides investors the exposure to a range of securities held in the
investment portfolio of the scheme in proportion to their holding in the scheme. Thus, an investor can get proportionate
ownership in a diversified investment portfolio even for a small investment of Rs. 500 in a mutual fund scheme.
With diversification, an investor ensures that “all the eggs are not in the same basket”. Consequently, the investor is less likely
to lose money on all the investments at the same time. Thus, diversification helps reduce the risk in investment. In order to
achieve the same level of diversification as a mutual fund scheme, investors will need to set apart several lakhs of rupees.
Instead, they can achieve diversification through an investment of less than thousand rupees in a mutual fund scheme.
Economies of Scale : Pooling of large sums of money from many investors makes it possible for the mutual fund to engage
professional managers for managing investments. Individual investors with small amounts to invest cannot, by themselves,
afford to engage such professional management.
Large investment corpus leads to various other economies of scale. For instance, costs related to investment research and
office space gets spread across investors. Further, the higher transaction volume makes it possible to negotiate better terms
with brokers, bankers and other service providers.
Transparency : An investor is well served if relevant information is available on time. Availability of such information is critical for
making an informed investment decision. The structure of the mutual funds and the regulations by SEBI have ensured that
investors get such transparency about their investments. There are three essential places from which the investor can get
enough information for making informed decisions, viz., scheme related documents (SID, SAI, and KIM), portfolio disclosures,

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and the NAV of the scheme. Incidentally, even a prospective investor can access all this information.
Liquidity : At times, investors in financial markets are stuck with a security for which they can’t find a buyer–worse, at times they
can’t find the company they invested in. Such investments, whose value the investor cannot easily realize in the market, are
technically called illiquid investments and may result in losses for the investor. The bond market in India is wholesale, where
transactions take place in very large lot sizes, beyond the reach of the common investor. MFs offer a route for investors to
participate, even at a small ticket size.
Investors in a mutual fund scheme can recover the market value of their investments, from the mutual fund itself. Depending on
the structure of the mutual fund scheme, this would be possible, either at any time, or during specific intervals, or only on the
closure of the scheme.
Tax Deferral: Mutual funds are not liable to pay tax on the income they earn. If the same income were to be earned by the
investor directly, then tax may have to be paid in the same financial year. Mutual funds offer options, whereby the investor can
let the money grow in the scheme for several years. By selecting such options, it is possible for the investor to defer the tax
liability. This helps investors to legally build their wealth faster than would have been the case if they were to pay tax on the
income each year.
Tax benefits: Specific schemes of mutual funds such as Equity Linked Savings Schemes (ELSS) give investors the benefit of
deduction of the amount subscribed up to Rs. 150,000 in a financial year under Section 80C of the Old Tax Regime, from their
income that is liable to tax. This reduces their taxable income, and therefore the tax liability.

Types of mutual funds

The types of mutual funds can be classified into different categories based on certain characteristics. These characteristics
could depend on how a portfolio is managed, the fund's objective, the underlying portfolio and so on. Further on, these funds
can be classified into different sub-categories. Let’s look at some of these categories and sub-categories.

Mutual funds based on Structure -

l Open-Ended Funds : An open-ended mutual fund scheme continuously issues new units and redeems units based on
the investor’s demand, regardless of the number of investors or the number of assets under management.
l Close-ended funds : As opposed to an open-ended fund, a close-ended fund issue units only for a limited period (during
New Fund Offer). The units are issued in the primary market and redeemed only at the time of maturity. To allow investors
to exit before maturity, such funds are listed in the secondary market, i.e. the stock market.
l Interval Based funds : As the name implies, these funds allow the purchase and redemption of funds during a specified
transaction period, i.e. the interval. The difference between 2 intervals of such funds is at least 15 days, and the interval is
at least 2 days long. Like close-ended funds, these funds are also traded in the stock market.

Classification based on fund management

l Active funds: Active mutual funds are mutual funds that are managed by professional fund managers who actively make
decisions about which underlying assets to buy, hold, or sell in order to achieve the fund’s investment objectives. The goal
of active management is to outperform a specific benchmark or index through strategic selection and timing of
investments.
l Passive funds : Passive mutual funds are investment funds designed to replicate the performance of a specific market
index or benchmark rather than actively selecting securities. The goal of passive mutual funds is to match the
performance of the index they track rather than trying to outperform it.
l Rule-based funds : Rule-based mutual funds can be seen as a mix of active and passive funds. Such funds follow a
systematic set of rules and algorithms to make investment decisions in order to outperform the benchmark. Rule-based
funds offer a disciplined and systematic approach to investing, aiming for consistency, transparency, and eliminating fund
manager’s biases.

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Classification based on investment objective
l Growth Funds : Growth funds aim to achieve long-term capital appreciation by investing primarily in stocks of companies
with strong growth potential. Since these funds primarily invest in equities, they are volatile in the short term. However,
equity as an asset class has the tendency to outperform all other asset classes in the long term. Hence, the ideal
investment horizon in growth funds is long-term.
l Income Mutual Funds : Income funds are designed to provide regular income to investors by investing their underlying
portfolio in fixed-income instruments like debentures, corporate bonds, and government securities. Such funds generate
returns through interest income and capital gains of the underlying assets. The returns depend upon the credit quality and
the tenor of underlying assets, and there is no guarantee of regular income.
l Liquid Mutual Funds/Overnight/Money market funds : Such funds are designed to provide investors with a high level of
liquidity with very low risk, investing primarily in money market instruments such as treasury bills, commercial paper, and
certificates of deposit. These funds aim to preserve the capital of investors. However, the returns of such funds are
modest. It is appropriate for investors who want to park their funds for a short term.

Mutual fund scheme categorization and SEBI regulation

The objective was to bring uniformity in the characteristics of similar types of schemes launched by different mutual fund
houses so that the investor can objectively evaluate the schemes chosen for investment. Accordingly, there are five broad
categories of mutual fund schemes. Within each category, there are many sub-categories.
A. Equity Schemes (11 sub-categories)
B. Debt Schemes (16 sub-categories)
C. Hybrid Schemes (6 sub-categories)
D. Solution Oriented Schemes (2 sub-categories)
E. Other Schemes
Large cap, mid cap and small cap companies are defined as follows:
1. Large Cap: 1st -100th company in terms of full market capitalization
2. Mid Cap: 101st -250th company in terms of full market capitalization
3. Small Cap: 251st company onwards in terms of full market capitalization
Types of Equity Funds

TYPES OF EQUITY MUTUAL FUNDS

Multi Cap Fund Large Cap Fund

Large and Mid-Cap Fund Mid Cap Fund

Small cap Fund Dividend Yield Fund

Value Fund or Contra Fund Focused Fund

Sectoral/Thematic Equity Linked Savings Scheme

Flexi-cap Fund

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 MUTUAL FUNDS

TYPES OF DEBT MUTUAL FUNDS

Overnight Fund Liquid Fund

Ultra-Short Duration Fund Low Duration Fund

Money Market Fund Short Duration Fund

Medium Duration Fund Medium to Long Duration Fund

Long Duration Fund Dynamic Bond

Corporate Bond Fund Credit Risk Fund

Banking and PSU Fund Gilt Fund

Gilt Fund with 10-year constant duration Floater Fund

TYPES OF HYBRID MUTUAL FUNDS

Conservative Hybrid Fund Balanced Hybrid or Aggressive Hybrid Fund

Dynamic Asset Allocation or Balanced Advantage Multi Asset Allocation

Arbitrage Fund Equity Savings

TYPES OF SOLUTION ORIENTED FUNDS

Retirement Fund Children’s Fund

TYPES OF OTHER FUNDS

Index Funds/Exchange Traded Fund Fund of Funds (Overseas/Domestic)

Fixed Maturity Plans Capital Protection Oriented Funds

Smart Beta Fund Quant Funds

Structure of Mutual Funds in India

SEBI (Mutual Fund) Regulations, 1996 as amended till date define “mutual fund” as “a fund established in the form of a trust to
raise money through the sale of units to the public or a section of the public under one or more schemes for investing in
securities, money market instruments, gold or gold-related instruments, silver or silver related instruments, real estate assets
and such other assets and instruments as specified by SEBI from time to time.” The firm must set up a separate Asset
Management Company (AMC) to run a mutual fund business.

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Key features of a mutual fund that flows from the definition above are:
l It is established as a trust

l It raises money through the sale of units to the public or a section of the public

l The units are sold under one or more schemes

l The schemes invest in securities (including money market instruments) or gold or gold-related instruments or silver or
silver related instruments or real estate assets.
Sponsors : The application to SEBI for registration of a mutual fund is made by the sponsor(s). Thereafter, the sponsor invests
in the capital of the AMC.
Board of Trustees : The trustees have a critical role in ensuring that the mutual fund complies with all the regulations and
protects the interests of the unit-holders.
Mutual Fund Trust : A mutual fund is constituted in the form of a trust and the instrument of trust is in the form of a deed, duly
registered under the provisions of the Indian Registration Act, 1908 (16 of 1908), executed by the sponsor in favor of the
trustees named in such an instrument.
Asset Management Company : Day to day operations of a mutual fund is handled by the AMC. The sponsor or, the trustees if
so, authorized by the trust deed, shall appoint the AMC with the approval of SEBI.
Custodian : The custodian has custody of the assets of the fund. As part of this role, the custodian needs to accept and give
delivery of securities for the purchase and sale transactions of the various schemes of the fund. Thus, the custodian settles all
the transactions on behalf of the mutual fund schemes.

Taxation of Mutual Funds

When anyone considers making an investment, one of the objectives is to get some investment returns. However, such returns
on investments or income from investments may be subject to tax. The investor would get the income after the payment of
taxes. In such a case, it is important to understand the taxation associated with one’s investments. As discussed earlier, the
mutual fund is an investment vehicle that invests in various investment options. Hence, a distributor of mutual funds must
understand the tax applicable on the income of the mutual fund scheme, as well as the tax applicable on investments made by
an investor in mutual fund schemes.

Type of Funds Period Of Holding Short Term Long Term Exemption

Equity-oriented funds 1 Year 20% 12.5% 125000

Non-equity-oriented funds with Equity 2 Years As per the Slab 12.5% NA

between 35% to 65% of portfolio

Non-equity oriented funds with Equity NA As per the Slab As per the Slab NA
less than 35% of portfolio

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