Classification based on investment objective – mutual fund

Classification based on investment objective

Apart from the above classification, mutual fund schemes can also be classified based on their investment objectives.

Equity Funds :

Growth/ Equity oriented schemes are those schemes which predominantly invest in equity and equity related instruments. The objective of such schemes is to provide capital appreciation

over the medium to long term. These types of schemes are generally meant for investors with a longterm investment horizon and with a higher risk appetite.

Type of Equity Funds

a) Diversified Funds

• Multi-Cap Funds : These funds invest across the market capitalization i.e. in large, mid and small cap companies.

• Large Cap : These funds invest predominantly in large companies. Generally, large cap companies experience a slower growth rate and have much lower risk than mid cap companies due to their size. They are also known as blue chip companies.

• Mid Cap : These funds invest predominantly in mid cap companies. Most mid cap companies experience higher growth than a large cap company.

• Small Cap : Small cap refers to a company that it is relatively new and has lower market capitalisation. Of the three, small cap companies represent the most investment risk but also the highest return potential.

• Tax Saving Fund : These funds are also known as Equity Linked Savings Schemes (ELSS). In case of ELSS schemes investment upto Rs. 1 lakh qualify for deductions under Section 80C of the Income tax Act, 1961, however, these schemes have a lock in period of 3 years.

• Equity–International : These funds invest in companies of foreign country. The investment could be specific to a country (like the China, US fund etc.) or diversified across countries/ region (like Europe, Asia etc.). By seeking exposure to foreign stocks in portfolio one can spread investment risk and achieve diversification. AMCs generally tie up with a foreign fund (called ‘Underlying Fund’) and in India they launch a ‘Feeder Fund’. The money collected in the feeder fund is invested in the underlying fund. Sometimes AMCs also launch schemes investing directly in equity securities of international companies. In such schemes, the local investors invest in rupees for buying the units. The rupees are converted into foreign currency for investing abroad. Thus, there is an element of foreign currency risk while investing in such schemes. Also, it should be noted that tax treatment of international equity funds is similar to debt funds.

• Equity Income / Dividend Yield Schemes : Dividend yield schemes generally invest in a well diversified portfolio of companies with relatively high dividend yield, which provides a steady stream of cash flows by way of dividend.

b) Sector Funds :

Sector funds invest in companies in a particular sector. For example, a banking sector fund will invest only in shares of banking companies.

c) Thematic funds :

Thematic Funds invest in line with an investment theme. For example, an infrastructure thematic fund will invest in shares of companies that are directly or  indirectly related to the infrastructure sector.

d) Arbitrage Funds :

These funds exploit arbitrage opportunities such that the risk is neutralized, but a return is earned. The arbitrage is sought by taking advantage of a price differential of the same asset between two or more markets, say, taking advantage of the mispricing between the cash and derivatives market. These funds generally have low risk-return trade-off.

Index Funds :

Index Funds invests in companies that constitute the index and in the same proportion, in order to replicate a specific market index and provide a rate of return over time that will approximate or match that of the market which they are mirroring subject to tracking error.

Income/ Debt Oriented Funds :

Such schemes generally invest in debt securities like Treasury Bills, Government Securities, Bonds and Debentures etc. They are considered less risky than equity schemes, but also offer lower returns.

Gilt Funds :

These funds invest exclusively in Government securities. Government securities have no default risk. NAVs of these schemes also fluctuate due to changes in interest rates and other economic factors as is the case with income or debt oriented schemes.

Money Market/Liquid Funds :

These funds aim to provide easy liquidity, preservation of capital and moderate income. They invest in safer short-term instruments such as certificates of deposit, commercial paper, etc. These schemes are used mainly by institutions and individuals to park their surplus funds for short periods of time. These funds are more or less insulated from changes in the interest rate in the economy and capture the current yields prevailing in the market.

Hybrid Funds

Balanced Funds : These are the funds that aim at allocating the total assets with it in the portfolio mix of debt and equity instruments. Balanced funds provide investor with an option of single mutual fund that combines both growth and income objectives, by investing in both stocks (for growth) and bonds (for income). Balanced funds are also called equity oriented funds and their tax treatment is similar to an equity fund. Their average returns and risk profile fall somewhere in between growth and debt funds.

Monthly Income Plans :

These plans seek to provide regular income by declaring dividends. It therefore invests largely in debt securities. However, a small percentage is invested in equity shares to improve the scheme’s yield. Monthly Income Plan are also called debt oriented hybrid schemes.

‘Monthly Income’ is however not assured and depends on the distributable surplus of the scheme. Capital Protection Oriented Schemes : These are mutual fund schemes which endeavour to protect the capital invested therein through suitable orientation of its portfolio structure. The orientation towards protection of capital originates from the portfolio structure of the scheme and not from any bank guarantee, insurance cover etc. SEBI stipulations require these type of schemes to be close- ended in nature, listed on the stock exchange and the intended portfolio structure would have to be mandatory rated by a credit rating agency. A typical portfolio structure could be to set aside major portion of the assets for capital safety and could be invested in highly rated debt instruments.

The remaining portion would be invested in equity or equity related instruments to provide capital appreciation. Capital Protection Oriented schemes should not be confused with ‘Capital Guaranteed’ schemes.