Mutual funds are an attractive avenue for investing your surplus cash. They are affordable and they also promise good returns in the long run. Moreover, there are various types of mutual fund schemes which you can choose as per your risk preference. The growth of a mutual fund scheme is measured by the change in its Net Asset Value (NAV). NAV is a very important concept in mutual fund investments that should be understood if you are investing in a scheme. Do you know all about mutual fund NAV?
No? Let’s understand.
What is NAV?
NAV is the short form of Net Asset Value. NAV represents the ‘per unit’ cost of a mutual fund scheme. It is calculated as follows –
NAV = (total value of the mutual fund portfolio – liabilities and expenses of the scheme) / total number of units
Understanding Mutual Fund NAV
When you invest money in a mutual fund scheme, it is pooled together with the money invested by other investors. From this pooled investment, the expenses and liabilities are deducted to arrive at the net investments. This investment is, then, used by the fund manager to buy stocks, shares, bonds or securities of various companies and institutions. The different investment made by a mutual fund manager represents the total portfolio of a mutual fund scheme. This value is then divided by the total number of units purchased to arrive at the Net Asset Value (NAV).
Let’s understand with the help of an example –
- 100 investors contribute Rs.1000 towards a mutual fund scheme of the unit value of Rs 10/-.
- The total investment in the scheme becomes Rs.1000*100 = Rs.1 lakh with total MF units of 10,000
- Rs.5000 is the expense incurred by the mutual fund scheme
- The available investment amount, therefore, is Rs.95, 000
- The fund manager uses this money to buy
- 500 shares of ABC Limited priced at Rs.100 spending a total of Rs.50,000/-
- 75 bonds of XYZ limited priced at Rs.200 spending a total of Rs.15,000/-
- 200 units of MNC Limited priced at Rs.150 spending a total of Rs.30,000/-
- Total invested value of the scheme is Rs.95,000 against 10,000 units
- If the share value of the ABC Limited increases to Rs 100,000/-; net asset value of the MF portfolio will increase by Rs. 50,000 to Rs. 145,000/- (ie. Rs. 95,000/- + Rs. 50,000/-)
- Thus NAV will increase to Rs. 14.5/- (ie. Rs. 145,000 /10,000 units)
Important facts about NAV
- The NAV of a scheme is dynamic. It changes every day and is calculated at the end of each market day.
- The growth in the NAV rate depends on the underlying assets of the mutual fund scheme. If the market value of the assets increases, NAV rises and vice versa.
NAV and Mutual Fund Returns
NAV has no relation with the return generating a potential of a mutual fund scheme. As such, you should not compare two mutual fund schemes based on their NAVs. A scheme’s performance should be measured by its historical returns. Though a higher NAV would give lower units, the growth of the scheme does not depend on the number of units but the value of the underlying assets. So, don’t judge a scheme by its NAV.
Now that you have understood the concept of NAV, you may start your first investment in mutual Funds through Fintoo.
In order to bring uniformity in mutual fund investments, the Securities and Exchange Board of India (SEBI) prescribed a uniform classification of mutual fund schemes a few years ago in October 2017. But most of the investors are still not aware of this classification. Mutual fund houses were required to align their existing and potential schemes under the prescribed categorisation. Equity mutual funds got 10 distinct categories while debt funds ended up with 16 new ones.
Are you a conservative investor? Are you not willing to take high risk?
If, yes then you should invest in Debt Mutual Funds. Debt Mutual funds are the best bet for you if you prefer small but stable returns over possibility of high returns with high risk involved. These funds will provide you with better returns than your saving bank account. So if you have surplus funds to park for a while then you should definitely check out debt mutual funds.
But Do you know the different categories of debt mutual funds?
If you are thinking of investing in debt mutual funds, you should know the different categories to understand the underlying assets of the fund. Categorization of debt mutual funds is mostly done on the maturity date of the underlying assets and the type of assets selected for investment. The underlying risk of each category, therefore, varies depending on the investment horizon of each fund.
Here are the 16 different fund categories of a debt mutual fund scheme –
Different types of Debt Mutual Funds
- Overnight funds – These funds invest in assets which mature overnight. The scheme is an open-ended scheme where the underlying assets have a maturity period of 1 day.
- Liquid funds – Under this category, the maturity period increases. The underlying assets of the fund have a maturity period of up to 91 days and include money market securities and other short-term debt instruments.
- Ultra-short duration funds – The portfolio of this debt mutual fund scheme has assets which have a maturity period of more than 91 days but less than 6 months.
- Low duration funds – These schemes invest in debt securities which have a maturity tenure ranging from six months to 12 months
- Money market funds – These debt funds invest in money market instruments which have a maturity tenure of up to one year
- Short duration funds – Assets which have a maturity duration of one to three years are selected for investment under this mutual fund scheme
- Medium duration funds – These funds invest in assets which have a maturity duration of three years to four years
- Medium to long duration funds – These funds invest in securities with a maturity period of four years to seven years
- Long duration funds – As the name suggests, long duration funds invest in long-term debt assets. The maturity of such underlying assets is greater than seven years
- Dynamic bonds – Dynamic funds do not have a particular affinity to the maturity duration of the underlying assets. These funds invest in multiple assets having different maturity tenures
- Corporate bond fund – These funds primarily select corporate bonds as their underlying assets. High rated bonds of reputed corporates are chosen for investment under these funds. At least 80% of the portfolio should be invested in corporate bonds
- Credit risk funds – These funds also invest at least 65% of their AUM in corporate bonds. However, the bonds selected for investment are rated lower than the bonds selected for corporate bond funds. So, if a corporate bond fund selects A+++ corporate bonds, credit risk funds would select corporate bonds which are below this rating.
- Banking and PSU funds – At least 80% of the assets of this fund scheme is invested in debt securities of banking institutions, public sector undertakings (PSUs) and public finance institutions.
- Gilt funds – The assets of a gilt fund are predominantly invested in Government securities. At least 85% of the fund is invested in government securities which might have varying maturity tenures
- Gilt funds with 10-year constant duration – The name of these funds denote their characteristics. The fund invests in government securities which have a maturity period of 10 years.
- Floater funds – Floater funds are named so because the assets they invest in have a floating rate of interest. At least 65% of the fund’s assets are directed towards such instruments with floating interest rates.
Tax Implication of Debt Funds
Debt Mutual funds are taxed as short term Capital Gain and Long term Capital Gain. Short term Capital Gain is the gain which you get if you redeem your fund within 3 years of investment and it is taxed as per your income tax slab rates. On the other hand, long term capital gain (LTCG) is the gain that you get if you sell your investment after completion of 3 years. LTCG is taxed at 20% with indexation benefit.
So now that you know all the 16 different types of debt mutual funds and its tax implication, you can make an informed decision. Ideally, one must select these funds based on tenure of the investment. Understand these funds before you choose to invest in any of them. You may download the Fintoo app to start investing or sign up on our website FIntoo to start investing.
Mutual Funds are the go-to investment instruments for regular investors since these are well suited for financial and tax-saving needs. They are linked to the capital markets and their actions can be regulated by the stock market arrangements. The advantage of mutual funds stems from the fact that the money is diversified. With lower risk mutual Funds are majorly chosen by new investors who are not aware of stock market dynamics and what precautions must be taken to avoid risks.
Investors are risk-averse to mutual fund investments because of the essential risks they would face. Traditional investors trust their money to be safe in fixed-income bearing instruments. However, there are a variety of mutual funds available in the market. Each variety of mutual funds has a different asset distribution which affects the investment risk.
An optimal investment situation can be achieved which means considering different factors such as the investment view, purposes of investment, style of investment, Historical returns trend, fund managers etc. So, to choose the best low-risk fund, you must analyse all these below-given fund types before deciding the best investment option for your financial goals.
1. Large-cap Equity Fund
Large-cap equity fund is those funds which invest in stocks which have a large market capitalization. Large Cap Mutual Funds are usually low-risk investments since they invest in Large Cap Stocks. Those funds are usually also known as blue-chip since they flag more or less stable prices, higher chances of dividends, etc.
2. Balanced Funds
These funds are a combination of debt and equity funds. It gives better parity of funds since the assets are divided into debt and equity. Also known as hybrid funds, these balanced funds carry reasonable risk and yield reasonable returns. Balance funds come with equity exposure which is responsible for high returns whereas debt gives stability.
3. Liquid Funds
Liquid funds are the debt mutual funds in which an investor can expect fixed income. They are called liquid funds because they are short-term maturity investments. Liquid funds are very attractive since they facilitate liquidity and give out higher earnings than bank saving accounts.
4. Arbitrage Funds
These funds are the funds where low-risk investors can get solutions under one roof. The fund leverages the difference in prices in the cash market and the derivatives market to book returns.
5. Gilt Funds
Gilt funds are the funds that invest in bonds or any other fixed-income instruments which are backed by the guarantee of the government. Gilt Funds come with a stable nature of income which is attractive for risk-averse investors.
How to choose the best Mutual Funds with low risk?
We looked at types of mutual funds which help us understand their basic structure and composition of securities in which those invest. Now let’s understand how to select a mutual fund that would be an optimal selection based on multiple factors.
- Comparatively Stable returns
Since these mutual funds invest in government securities, treasury bills, etc., investors can be assured that they stay put in relatively stable instruments. These funds have a lower risk-return ratio.
- Better credit rating
Fund managers at these mutual funds usually incline safe investment alternatives. Since these funds invest in fixed income or fixed maturity instruments, they carry a better credit rating as compared to their other counterparts.
- Comparatively Lower risk
Usually, these mutual funds carry lower risk w.r.t market volatility because these funds invest in instruments that have lower volatility.
Who should go for the Low-Risk Mutual Funds?
- Investors with a lower risk appetite
- Investors looking for moderate but stable returns
- Investors looking for better credit rating
- Investors looking for high liquidity
Best Mutual Funds with low risk in the year 2021
1. Kotak Equity Arbitrage Fund
Kotak Equity Arbitrage Fund is an Arbitrage fund that has a decent fund size of almost Rs.16,360 crores. CRISIL has ranked the fund as above-average wherein the Sharpe Ratio of 1.51 whereas the category average for the same is around 0.74. This would mean that this particular fund is low risk and also has moderate returns even when factored in the risk component.
2. ICICI Prudential Ultra Short term Fund
ICICI Prudential Ultra Short term Fund is a Debt Fund since around 92% of the total fund value is invested in the debt securities. This fund would be an ideal low-risk fund hence is well suited for risk-averse investors. This fund yields comparatively better than conventional bank deposits. This fund has a lower Beta value of 0.07 which shows lower volatility as compared to its peers. One more attractive perimeter is a higher Sharpe Ratio of 4.17 which suggests that it has better risk-adjusted returns.
3. SBI Magnum Gilt Fund
SBI Magnum Gilt Fund is another low-risk fund that is suited best for those who are willing to put in money for longer-term however wish for the safety of the amount invested. This fund invests around 87% in government securities. It is rated 4 stars by Crisil and shows off a better Beta of 0.61 (lower volatility).
4. Axis Liquid Fund
Axis Liquid Fund has 90% dedicated fund allocation in low-risk securities like Commercial Paper, Treasury Bills etc This fund has an expense ratio of0.25% which would result in a better return scenario. Being a liquid Fund, this fund invests in money market instruments that have a maturity period of 91 days or lesser.
5. Canara Robeco Bluechip Fund
Canara Robeco Bluechip Fund, as the name, suggests invests in bluechip stocks and is hence rated 5 stars by Crisil. Asset allocation in equity for this fund is 96% in total. However, almost 75% of funds are allocated to large-cap stocks hence it has a better Sharpe ratio of 0.63 and the highest Jenson’s Alpha of 4.7, which are indicators of better risk-adjusted returns as compared to industry peers.
6. ICICI Prudential Balanced Advantage Fund
This fund is a Hybrid fund which is also known as Balanced Advantage Funds since these invest in stock as well as bonds. ICICI Prudential Balanced Advantage Fund invest around 50% in bluechip stocks and around 28% asset allocation in debt securities. Dynamic investment pattern depends on n market conditions and hence shows up better Treynor’s Ratio of 0.06 meaning better risk-adjusted returns.
Mutual Funds have widened their scopes to match the dynamic markets and have started investing in a multitude of instruments. Once the investor determines their financial goals and assesses their risk appetite, mutual funds prove to be a flexible instrument. Low-risk mutual funds have their pros – stable returns and cons like lower returns. In all, these are better suited to any risk-averse investor who is looking for a safe place to park their funds.