How Do Mutual Funds Work? A Simplified Version

Instead of directly investing in stocks or fixed deposits you can use the mutual fund route to invest in them.

A mutual fund is an investment scheme launched by a company called Asset Management Company. Examples of asset management companies are ICICI Prudential Asset Management Company, SBI Funds Management Private Limited etc. There are about 45 asset management companies in India.

Asset management companies will have experts in their team. This team of experts will create a list of shares or bonds that are expected to do well. The list typically will have 15-20 shares/securities. This list is known as mutual fund scheme. Each mutual fund scheme will have a manager and he is called the fund manager. For example, Prashant Jain is the fund manager who manages the mutual fund schemes called HDFC Top 200 and HDFC Equity Fund.

All you need to do is to choose the suitable schemes offered by the asset management companies, fill up a form and write a cheque. They then will invest your money proportionately in all the 15-20 shares/ securities specified in the mutual fund scheme. You will get a folio number (account number) and periodic statements.

You have no role to play in stock picking. The fund managers themselves will decide which stock they need to buy and how much they need to pick. At the end of every month they will publish the performance of the fund and provide the list of stocks they have invested in. This information is called as fact sheet.

For managing funds on your behalf they charge annual fund management fees. The fund management fee varies from 1% to 2.5% every year. The management fee is directly charged from your investments. The management fees covers all the costs of the asset management company including salaries, office rent and maintenance, advertisement, distribution, servicing etc. They will charge fund management fees irrespective of whether the scheme makes money or not.

Whenever you want your money back fill up a form and you will get your money back within 4-5 days.

Now, you may want to know what will happen if the asset management company closes down? Ok, just remember the money which you give them actually goes to a trust and you are the unit holders of that trust. So even if the AMC closes down, the money is lying in the trust a/c and does not go in their pocket. In fact you can be rest assured that mutual funds are very well regulated by SEBI in India.

Now you might be excited with the prospects of investing in shares through the mutual fund route.

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