Are Mutual Funds Safe

How safe are mutual funds? The popular perception is that mutual funds are quite a risky investment instrument. Why not go for something more conventional, like Fixed Deposit or PPF? There are a lot of rumors and myths floating around about mutual fund investment. Let us try to debunk a few before deciding whether or not you should steer clear of mutual funds.


Mutual Funds

You must have heard the disclaimer stating that mutual funds are subject to market risks. Not only is it true, but also there are many kinds of risks associated with mutual funds. But there is risk associated with any investment option available, including Savings Bank, FD and Recurring Deposits (RD).

Before we delve deep into risks, let us take a look at the kinds of risks there are. An investor mainly worries about protecting their principal investment. But the definition of risk is not limited to capital. It may also mean getting more rewards on the money we have invested. So, what is the risk?

What is Risk?

Risk entails more than just not getting back one?s invested money. There are, in fact, different types of risks. What are they?

1. Market Risk

The market is always in a flux. It is mercurial and unpredictable. Up or down, nobody can tell which way it is going. Market risk means the risk associated with the performance of the market. It is dependent on the trends in the market. Based on the trends in the market, we may heap rewards or suffer losses.

2. Liquidity Risk

Liquidity is the ease with which you can buy or redeem an investment. Sometimes there is a possibility that you will be stuck without an exit. This is called a liquidity crunch and it makes it difficult for you to get your money back in times of need.

3. Credit Risk

What is credit risk? If a scheme fails to deliver the promised returns, it is called credit risk. This particularly happens in funds like debt funds.

4. Sector Risk

There is a chance that a sector might go into a lull. It may take a long while to recover. During this, the investments made in this particular sector may not bring substantial returns, and may even bring losses.

How to Mitigate Risks?

Is there a solution? There isn?t one, but many solutions to each of these risks. The advantage of mutual funds is that with the right kind of strategy you can mitigate any kind of risk associated with mutual funds. You can practically hedge yourself against these risks by being smart in your investment decisions. For example, given below are some tips that you can use against some risks we discussed:

● Equities: invest in equities for the long term.
● If your time horizon is less than three years, go for debt funds.
● Make SIP investments rather than lump sums. SIP reduces risk by catching different cycles of the market.
● Research well on different mutual funds in India to see which is the most suitable for you.
● Diversify: invest in more than one mutual fund to have a well diversified portfolio. Diversification works well to shield yourself from unprecedented risks.

As for worries about mutual funds being fraudulent, all mutual funds in India are monitored by regulatory bodies like Securities and Exchange Board of India (SEBI) and the Association of Mutual Funds in India (AMFI). There are strict checks and procedures to be followed before an organization is issued a license to operate as an Asset Management Company (AMC). Even after, AMCs are under surveillance. They are required by SEBI to submit frequent reports to maintain transparency.

As far as security is concerned, mutual funds are transparent and as safe as any other investment option available. In terms of rewards, however, they give better returns than your regular investment instruments.