Investing in mutual funds is one of the best ways to grow your money over time. However, if you’re new to the world of mutual funds, the jargon can be overwhelming. Terms like NAV, SIP, AUM, and exit load might sound confusing, but understanding them is crucial to making smart investment decisions.
This guide breaks down the most important mutual fund terms in simple language, so you can start your investment journey with confidence. Whether you’re planning to invest a lump sum or through SIPs, this guide will help you navigate the world of mutual funds like a pro.
What Are Mutual Funds?
Mutual funds are investment schemes that pool money from multiple investors and invest it in various financial instruments like stocks, bonds, and money market instruments. They are managed by professional fund managers who make investment decisions on behalf of the investors.
Mutual funds are a great option for beginners because they offer diversification, professional management, and the potential for high returns. However, to make the most of your investment, you need to understand the key terms associated with mutual funds.
Key Mutual Fund Terms You Must Know
1. Net Asset Value (NAV)
- What It Means: NAV is the price per unit of a mutual fund. It represents the value of the fund’s assets minus its liabilities.
- Why It Matters: NAV helps you understand the performance of a mutual fund. A higher NAV indicates better performance.
- Example: If a fund’s NAV is Rs 20, you’ll pay Rs 20 for each unit of the fund.
2. Systematic Investment Plan (SIP)
- What It Means: SIP is a method of investing a fixed amount in a mutual fund at regular intervals (weekly, monthly, or quarterly).
- Why It Matters: SIPs allow you to invest small amounts regularly, making it easier to build wealth over time.
- Example: Investing Rs 5,000 every month in a mutual fund through SIP.
3. Assets Under Management (AUM)
- What It Means: AUM is the total market value of all the investments managed by a mutual fund.
- Why It Matters: A higher AUM indicates that the fund is popular and trusted by investors.
- Example: A mutual fund with an AUM of Rs 1,000 crore is managing Rs 1,000 crore worth of investments.
4. Entry Load and Exit Load
- Entry Load: A fee charged when you invest in a mutual fund. Most funds no longer charge entry loads.
- Exit Load: A fee charged when you redeem or sell your mutual fund units before a specified period.
- Why It Matters: Exit loads can reduce your returns if you withdraw your money too soon.
- Example: A 1% exit load means you’ll pay Rs 1,000 as a fee if you redeem Rs 1,00,000 worth of units.
5. Expense Ratio
- What It Means: The expense ratio is the annual fee charged by the mutual fund to manage your money. It is expressed as a percentage of the fund’s AUM.
- Why It Matters: A lower expense ratio means higher returns for you.
- Example: An expense ratio of 1% means you’ll pay Rs 1,000 annually for every Rs 1,00,000 invested.
6. New Fund Offer (NFO)
- What It Means: NFO is the launch of a new mutual fund scheme by an asset management company.
- Why It Matters: NFOs are often offered at a lower price, making them an attractive option for investors.
- Example: A new equity fund is launched at an NAV of Rs 10 during its NFO period.
7. Redemption
- What It Means: Redemption is the process of selling or withdrawing your mutual fund units.
- Why It Matters: Understanding redemption helps you know when and how to withdraw your money.
- Example: Selling 100 units of a mutual fund at an NAV of Rs 20 to redeem Rs 2,000.
8. Equity Funds
- What It Means: Equity funds invest primarily in stocks and shares of companies.
- Why It Matters: These funds offer high returns but come with higher risk.
- Example: A large-cap equity fund invests in the shares of top companies like Reliance and TCS.
9. Debt Funds
- What It Means: Debt funds invest in fixed-income securities like government bonds and corporate bonds.
- Why It Matters: These funds are less risky and provide stable returns.
- Example: A short-term debt fund invests in government securities with a maturity period of 1-3 years.
10. Lock-In Period
- What It Means: The lock-in period is the time during which you cannot redeem your investment.
- Why It Matters: Knowing the lock-in period helps you plan your investments better.
- Example: ELSS (Equity Linked Savings Scheme) funds have a lock-in period of 3 years.
11. Floating Rate Funds
- What It Means: These funds invest in bonds with interest rates that change based on market conditions.
- Why It Matters: Floating rate funds are less affected by interest rate changes, making them a safer option.
- Example: A floating rate fund invests in corporate bonds with variable interest rates.
12. Long-Term and Short-Term Capital Gains
- Long-Term Capital Gains (LTCG): Profits from investments held for more than 12 months.
- Short-Term Capital Gains (STCG): Profits from investments held for less than 12 months.
- Why It Matters: LTCG is taxed at a lower rate compared to STCG.
- Example: Selling mutual fund units after 2 years results in LTCG, which is taxed at 10%.
13. Portfolio Turnover Rate
- What It Means: This is the rate at which a mutual fund buys and sells its investments.
- Why It Matters: A high turnover rate can lead to higher costs and taxes.
- Example: A fund with a turnover rate of 100% means it replaces its entire portfolio in a year.
Tips for First-Time Mutual Fund Investors
- Start with SIPs: SIPs are a great way to start investing with small amounts.
- Diversify Your Portfolio: Invest in a mix of equity, debt, and hybrid funds to reduce risk.
- Check the Expense Ratio: Opt for funds with a lower expense ratio to maximize returns.
- Understand Your Risk Appetite: Choose funds that match your risk tolerance and financial goals.
- Monitor Your Investments: Regularly review your portfolio to ensure it aligns with your goals.
Common Mistakes to Avoid
- Ignoring the Expense Ratio: High expense ratios can eat into your returns.
- Chasing Past Performance: Past performance is not a guarantee of future returns.
- Not Diversifying: Putting all your money in one type of fund can be risky.
- Panicking During Market Volatility: Stay invested for the long term to ride out market fluctuations.
- Not Reading the Offer Document: Always read the scheme-related documents before investing.
