Mutual Fund Classifications

A scheme can also be classified as growth scheme, income scheme, or balanced scheme considering its investment objective. Such schemes may be open-ended or close-ended schemes. Such schemes may be classified mainly as follows: (See Figure on the next page).

Equity Funds

Equity funds provide higher returns and at the same time it is more risky while compared to any other fund. For long term investment purpose, an investor is advised to invest in equity. There are different types of equity funds under different level of risk as follows:

Aggressive Growth Funds – The maximization of capital appreciation is the mantra for fund managers. So they invest in highly grown-up companies’ equities and less in speculative investments. Investment in speculative nature of equities may lead to higher risk.

Growth Funds – Here, the objective is to achieve an increase in value of investment through capital appreciation and not in the regular income. Fund manager selects the companies which are expected to earn above average in future for the investment of growth funds.

Equity Income or Dividend Yield Funds – These are for investors who are more concerned about regular returns from investments. Fund manager invests in those companies which declare high rate of dividends. Capital appreciation and risk level are less while compared to other equity funds.

Diversified Equity Funds – Fund manger invests this type of funds in the equities of all the companies and industries without any specified industry or sector. Due to this diversification of investment, the market risk is also diversified. Example Equity Linked Savings Schemes (ELSS). (ELSS investors can claim deduction from taxable income (up to Rs 1 lakh) at the time of filing the income tax return).

Equity Index Funds – It is based on the performance of a specific stock market index. Equity index funds are two types namely broad indices (like S&P CNX Nifty, Sensex) and narrow indices (like BSEBANKEX or CNX Bank Index etc). Investments in Narrow indices index funds are less diversifiable; therefore it is more risky than that of broad indices index funds.

Value Funds – Fund manager invests in shares of companies which have strong financial performance but whose price-earnings ratio is low. Price-earnings ratio is the relationship between the Market Price per share and Earnings per share. These companies’ book value of the shares is higher than the market price. The market price of these shares may rise in future. With this assumption the fund manager invests huge fund for long term time horizon. The cyclical industries like cement, steel, sugar etc., are the examples of value stocks.

Specialty Funds - Specialty funds are concentrated on particular industry or companies. Concentration is based on certain criteria for investments and those criteria must match with their portfolio. It is much riskier than other funds.

Sector Funds: The portfolio of sector funds comprises of only those companies that meet their criteria.

Foreign Securities Funds: Fund manager invests in securities of one or more foreign companies. This fund gets the advantage of international diversification, but it has to face the foreign exchange rate risk and country risk.

Mid-Cap or Small-Cap Funds: The Mutual Fund invests in securities of those companies whose market capitalization is lower. The market capitalization of Mid-Cap companies is between ` 500 crore and ` 2500. In case of Small-Cap companies’ market capitalization is lower than ` 500 crore. The market capitalization is the market price of the share multiplied by the number of outstanding shares of the company. The volatility of this type of companies’ securities is very high but the liquidity is very low. Due to this high volatility and low liquidity the risk of this kind of companies’ securities will be very high.

Option Income Funds: Option income funds are those funds invested in high yielding companies. The options are used for hedging activity i.e., to reduce the risk or volatility. The risk can be controlled by way of proper utilization of options. It generates stable income for investors.

Money Market / Liquid Funds

Money market instruments are short-term interest bearing debt securities i.e., Treasury bills issued by Governments, (30 days, 60 days, 90 days etc., but maturing within one year), certificate of deposits issued by banks, commercial papers issued by companies etc.,. These securities are having high liquidity and safety. The investments in these funds are called money market/liquid funds. The risk of these funds is due to interest rate fluctuation.

These securities are having high liquidity and safety. The investments in these funds are called money market/liquid funds. The risk of these funds is due to interest rate fluctuation.

Hybrid Funds

Hybrid funds comprise the portfolio of equities, debts and money market securities. The debt and equity are equal in proportion for the investment.

The types of hybrid funds in India are as follows:

Balanced Funds

The equal proportion of debt, equity, preference and convertible securities is the portfolio of balanced funds. It gives regular income and moderates capital appreciation to investors. The risk of capital is at the minimum level. This fund is suitable for traditional investors of those who prefer long term investment.

Growth-and-Income Funds

The combination of the features of growth funds and income funds is referred as Growth-and Income Funds. The capital appreciation as well as declaration of high dividend companies’ securities is comprised in the portfolio of this fund.

Asset Allocation Funds

There are two types of investment avenues namely financial assets (equity, debt, money market instruments) and non-financial assets (real estate, gold, commodities). The fund manager may adopt the strategy of variable asset allocation. It allows change over from one asset to another at any time depending upon the market trends.

Debt / Income Funds

The investment of debt or income funds is purely only on the debt instruments issued by private companies, banks, financial institutions, governments and other entities. These funds are suitable to those investors who expect regular income and low risk. Debt instruments are graded by credit rating agencies. Grading indicates the risk of the debt securities. There are different types of debt funds based on investment objectives, which are as follows:-

Diversified Debt Funds

The portfolio of the fund comprises the debt securities of all companies belonging to all industries. The result of diversified investments in all sectors is risk reduction.

Focused Debt Funds

Debt funds that invest in debt securities issued by entities belonging to a particular sector or companies of the market are known as focused debt funds.

High Yield Debt funds

Generally, all debt funds have default risk. By and large, investors would like to invest in “high investment grade” securities which protect the risk of default. High yield debt funds invested in “below investment grade” securities provides high returns but the existence of default risk is higher due to more volatility.

Assured Return Funds

The investors of this fund will get assured returns with a low-risk investment opportunity. But there may be a shortfall in returns which is borne by Asset Management Company or sponsor. The security of investments depends upon the net worth of the guarantor, whose name is specified in the offer document. To safeguard the interest of investors, the sponsors must have adequate net worth to guarantee returns as per the norms of SEBI to offer assured return schemes. Unit trust of India had offered ‘Monthly Income Plans’ under the scheme of assured return schemes. But the UTI had failed to fulfill its promises due to heavy shortfall in returns. The UTI’s payment obligations were taken over by the Government. Now-a-days no assured return schemes are offered in India.

Fixed Term Plan Series

The funds’ attracts the short-term investors and invests in short term debt securities. It is a closed-end scheme that offers a series of plans and issues units to investors at regular intervals. But these plans are not listed on the stock exchanges.

Gilt Funds

The portfolio of Gilt fund’ is only the government securities of medium and long term matured bonds. It provides much safety to the investors with no credit risk. But it is exposed to interest rate risk.

Commodity Funds

The focus of investment of this fund is on different commodities, such as metals (like gold, silver, copper etc.,), food grains, oils, etc., or options and futures, contracts of commodities, commodity producing companies etc. The concentration of investment may be made on a specialized commodity or on a diversified commodity fund. Specialized commodity fund bears more risk than that of diversified commodity fund.

Real Estate Funds

Real estate investment provides higher capital appreciation and generates regular and higher income to the investors. Real estate investment includes not only in direct investment in real estate but also investments in securities of housing finance companies or lending to real estate developers.

Exchange Traded Funds (ETF)

Exchange Traded Funds are traded on stock exchanges like a single stock at index linked prices and it follows stock market indices. Investors of this fund get benefits of both closed-end fund and open-end mutual fund. It is very popular in London and New York stock exchanges. In India, it is introduced recently. This fund is more diversified and flexible of holding like a single share.

Fund of Funds

It means funds of a mutual fund invested in units of mutual fund schemes offered by other Asset Management Companies. No investments are made on financial (shares, bonds) or physical assets of the Fund of Funds. The investors of this fund get benefit of diversifying into different mutual fund schemes with a small amount of investment. And also, it facilitates diversification of risks.