myths about mutual funds

Debunking 9 myths about mutual funds

Mutual Funds, if selected prudently and monitored periodically, can be an effective investment vehicle for retail Investors. They offer a range of benefits unmatched by most other investment avenues, such as professional management, benefits of diversification of portfolio, lower transaction costs, easy liquidity, transparency and convenience. However, despite knowing about the advantages of investing in mutual funds, most investors are wary of investing in them bogged down by the myths surrounding them. In this article we try to debunk few of the commonly held myths associated with mutual funds.

One needs large corpus to invest in MFs

This is one of the most common and long standing myths associated with MFs which does not hold true nowadays. Most funds today allow a minimum investment of Rs 2000- 5000 depending on the fund house. Almost all mutual funds today allow SIP (Systematic Investment Plan) facility where the minimum amount which can be invested can be as little as Rs 500 and the frequency of investment is usually monthly or quarterly.

Investing in Mutual Fund is investing in Equities

For most people investing in Equities and investing in Mutual Fund is synonymous. However, this is only partially true. Mutual funds can be divided into various types based on the asset class they invest in. They can include equity, debt and money market instruments.

Within debt instruments, they can invest in bonds, commercial papers, government securities etc. Investors can choose them according to their investment goals, risk profile and time frames.

Funds which provide regular dividends are better

Unlike in stocks, where the dividend is provided from the profits earned by the company and does not take its price down, for a MF, the dividends are paid out of a distributable surplus and the NAV of the fund dips to the extent of the amount declared as dividend.

Hence you are not getting anything extra as dividend. For example, if the NAV of a fund is Rs 20 and the fund house has declared a dividend of 20% (which is on the face value), then post dividend, the NAV will become 20-2 =Rs 18. Hence, it is wrong to assume that regular dividend paying funds are a better option than the non dividend paying ones.

MFs with higher ratings are better

Not always. Grading and Ranking have become a yardstick for selecting funds these days. However, investors should realize that the rankings/grade is decided on the long term performance on the Net Asset Value of the fund. Very few funds consider the market adjusted volatility and risk adjusted profitability. So the ranking and grading might not always be risk adjusted over time. Further, ranks and grades might change over time according to the performance of the fund. Hence ranks and grades might be a good starting point for investors to look for good performing funds but they can’t be the sole factor for investing in that fund. One should select funds which are right for them based on their risk taking ability and their investment goals.

New Fund Offers (NFOs) are better than existing funds

Most people believe that NFOs are a better option than going in for an existing fund with higher NAVs. However, investors should remember that unlike for existing funds, NFOs don’t have their past performance to look for and one has to invest in that fund based on the trust and the ability of the fund house which is launching it. NFOs do not have any special advantage over existing funds. Infact they will need extra time to prove themselves hence investors can wait till they adopt a strong strategy and start showing results.

MFs with lower NAVs are better than ones with higher NAVs

This is very common myth among investors and can’t be more wrong. NAVs are a reflection of the intrinsic value of the MF and do not reflect the absolute return of the fund. Older funds usually have higher NAVs since NAVs increase with age. Investors need to understand that NAV in itself is not a performing indicator. In a true sense, the value of the NAV is immaterial, it is the performance of the fund that matters and that can be analyzed by checking the key indicators such as the fund’s history over the years, its investment strategy, the fund manager’s track record etc.

My funds will get locked in if I invest in MFs

In general there is no lock-in period for MF. The exception to this rule is ELSS which have a lock-in period of 3 years. An investor investing in an Open-Ended Scheme had the option to enter or exit at any time while an investor in a Closed-Ended Scheme does not have option to resell to the AMC openly but can sell and buy in the stock market if the fund is listed on the exchanges.

Holding more funds is better

Partially true. Even within mutual funds, diversification is needed and the optimal number of funds will depend on the number of asset class one wants to invest in. One may invest in different types of mutual funds (Diversified, Sectoral, Hybrid etc) from different companies according to your investment objectives and goals. The key is to get diversification across market segments and also across different fund management styles. Having more funds will compromise the investor’s ability to properly manage and track the performance.

One needs a Demat account to invest in MF

Not true. You don’t need a demat account to invest in a mutual fund. You can invest in Mutual funds by just filling a form. However, PAN is must to invest in Mutual Funds.

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