A Mutual fund is an investment option that pools together money from a number of investors and uses professionals to manage and invest the money to achieve high returns on the investment. Mutual fund online is regulated by the Securities and Exchange Board of India and gaining popularity across India. However, most of the new and existing investors do not have a clear understanding of the most important terms and concepts related to mutual fund investing.
To understand mutual fund investments even better, following are some of the most important terms that you need to know before starting to invest in mutual funds:
- Net Asset Value (NAV): Net Asset Value is the price of one unit of a mutual fund. It is calculated by dividing the Asset Under Management with the number of units issued by the fund. NAV is the price at which the units of a fund are purchased or sold and its increase/decrease shows how well your fund is performing. If the present NAV of your mutual fund scheme is higher than the amount at which you invested, then you are in profit. You can calculate your NAV with the help of the following formula:
NAV(Net Asset Value) = AUM (Asset Under Management) / Total number of units issued
- Dividend option: Dividend option allows you to receive a dividend as and when it is declared by a mutual fund scheme. The amount to be paid as a dividend is calculated on the face value of the fund. So, if a fund comes with an NAV of Rs.30, a face value of Rs. 10 and declares a dividend of 30%, you will receive Rs.3 (30% of Rs.10) as a dividend. However, your NAV will decrease by the amount paid as dividend. So, in the instance above, your NAV will become Rs.27 (Rs.30 – Rs.3) after the dividend payout.
- Growth option: Under the Growth option, you as an investor will not be eligible to receive any dividend or extra units from your mutual fund investment. It provides you with the benefit of compounding returns, as the principal and the dividends declared to stay invested with the fund.
- Asset Allocation: Asset Allocation is the process of distributing mutual fund’s portfolio across numerous asset classes, such as equities, derivatives, money market instruments, cash and fixed income instruments, such as fixed deposits and bonds. The asset allocation of a mutual fund scheme is based on its investment objectives and may change according to changing market conditions. You as an investor can determine the fund’s growth and risk potential by looking at the asset allocation.
- Systematic Investment Plan (SIP): Systematic Investment Plan allows you to invest a fixed amount in a mutual fund at regular intervals (weekly, fortnightly, monthly or quarterly). So, if you opt for a monthly SIP investment of Rs.1000 in a mutual fund scheme on every 2nd day of the month, Rs.1000 will be automatically debited from your bank account on the second of every month. This helps to save the investors from the problem of timing their mutual fund investments.
- Systematic Transfer Plan (STP): Under this plan, you can transfer a fixed amount on a specified date from one particular mutual fund to another. However, it is essential that both funds are from the same fund house. It is especially helpful when you have a large sum of money for investment but are unsure to invest all of it in an equity mutual fund at one go.
- Assets under management (AUM): Assets Under Management is the market value of all securities (such as shares, derivatives, gold, cash and bonds) which are held by a mutual fund after deducting its liabilities. A mutual fund investment with a big AUM size can be an indicator of either good performance by that fund or presence of a large number of investors in that fund. You can calculate AUM of any mutual fund online using the following formula:
Assets under Management (AUM) = Market value of all securities of a fund – liabilities of a fund
- Benchmark Index: Mutual Fund houses select relevant (either equity or a bond) index for measuring its performance. For instance, a large-cap fund may use SENSEX, NIFTY or BSE 100 indices as a benchmark, while a mid-cap fund may use NSE Midcap index. A fund outperforming its benchmark index is considered as a good fund for investment. For measuring a fund performance and its return, you should compare a fund’s performance with that of its benchmark index. Alternatively, you can also use a mutual fund calculator available online to evaluate returns.
- Dividend reinvestment option: Under this option, you will receive dividends but they will be used by the fund further invest by purchasing new units for you. Thus under this option, you will receive fresh units instead of any cheque or any amount in your bank account.
- Entry Load & Exit Load: Mutual fund companies collect an amount from investors when they join or leave a scheme. This fee is generally referred to as a ‘load’. Entry load is the amount or fee charged from an investor while entering a scheme or joining the company as an investor. Whereas, Exit load is a fee or an amount charged from an investor for exiting or leaving a scheme or the company as an investor.