Investing in mutual funds: 4 things to understand before getting started

What Exactly Is a Mutual Fund?

Usually, people have money on hand but don’t know where to invest it, or they have too little to invest in certain assets. This is where Mutual Funds (Mutual Fund) come in to help solve the problem. The way mutual funds work is by pooling money from many investors into a large sum. Then, the fund manager (licensed professionals approved by the regulatory authority) invests that money according to the fund’s policy. When the fund earns profits, it distributes returns to each investor proportionally.

Because of this, the more small investors join together, the larger the fund grows, allowing investments across various asset classes. This diversification reduces risk and enables portfolio management by experts.

Advantages of Investing Through Mutual Funds

1. Good Risk Diversification
Originally, if an investor had little money, they might only buy one or two stocks, which is risky if those stocks encounter problems. But as the fund’s total capital grows, the manager can buy multiple stocks, bonds, commodities, etc., simultaneously, so there’s no need to go all-in on a single asset type.

2. Professional Management
Fund managers must be licensed by the stock exchange and are regularly supervised. This means your money is in the hands of professionals with knowledge and experience. It’s convenient for those who lack time or expertise to analyze stocks.

3. Oversight and Regulation
The Securities and Exchange Commission oversees mutual funds constantly, ensuring transparency and ongoing audits. This gives investors confidence that everything complies with regulations.

Types of Mutual Funds: Let’s see what they are

Categorized by Redemption Policy

Closed-End Fund (Closed-End Fund)
Offered only once at launch, with a fixed number of units. Redeemable only once at the end of the project. To exit early, you must find a buyer yourself. The advantage is that fund managers don’t have to worry about frequent cash outflows. The downside is you are committed until maturity.

Open-End Fund (Open-End Fund)
Opposite of closed-end, it is available for sale continuously. The fund size can increase or decrease based on buying and selling. You can withdraw your money anytime. The advantage is high liquidity; the disadvantage is the fund must always keep cash ready.

Categorized by Investment Policy

Money Market Fund (Money Market Fund)
Invests in deposits and short-term debt instruments. The safest, with the lowest returns. Suitable for those who want to avoid high risk.

Fixed Income Fund (Fixed Income Fund)
Invests in bonds, debentures, loan agreements, etc. Offers higher returns than money markets but with slightly increased risk. Suitable for those seeking balance.

Mixed Fund (Mixed Fund)
Invests in both bonds and stocks (equities), usually not exceeding 80% in stocks. Moderate risk with higher returns. Ideal for beginners in stock investing.

Flexible Fund (Flexible Fund)
Similar to mixed funds but without fixed proportions. Managers can increase stock holdings up to 100% if market conditions are favorable or reduce when markets are down. Suitable for those trusting professionals to make decisions.

Equity Fund (Equity Fund)
Invests primarily in stocks, at least 80% of the portfolio. High returns, high risk. Suitable for investors with high risk tolerance and long-term investment horizon.

Sector Fund (Sector Fund)
Invests in a specific industry, such as banking, telecommunications, transportation. Risk may be higher than average, but potential gains are also greater. Suitable for those who believe that the sector will perform strongly.

Alternative Investment Fund (Alternative Investment Fund)
Invests in commodities like gold, oil, agricultural products. Very high risk. Suitable for those wanting to diversify and willing to accept maximum risk.

Important: No fund is suitable for everyone. Choose according to your conditions and timing.

4 Steps Before Opening a Mutual Fund Account

Step 1: Assess Your Risk Tolerance
Ask yourself how you would feel if your portfolio drops 20%, 50%, or 80%. Would you lose sleep or feel anxious? If so, your risk tolerance is low. Stay calm and choose funds with lower risk. Most financial institutions will have you complete a KYC test to measure your risk profile.

Step 2: Study the Current Economic Conditions
Is the market in an uptrend or downtrend? Is the economy experiencing tailwinds or headwinds? These factors indicate which asset classes should perform well, helping you select suitable funds.

Step 3: Read the Fund Prospectus
The prospectus details the investment policy, fees, trading conditions, liquidity, etc. Read it thoroughly before making a decision.

Step 4: Check Past Performance
Review the fund’s returns over 1, 3, or 5 years. Appreciate funds with good returns, low volatility, and effective risk management.

How to Calculate Profit and Loss: What is NAV?

After purchasing units, your investment value fluctuates with the NAV (Net Asset Value), which is the total assets of the fund minus expenses, divided by the total number of units.

Simply put:

• If NAV today is higher than at purchase, you have a profit (not realized until you sell).
• If NAV today is lower, you have a loss.

Returns can come from two sources:

1. Capital Gain: Profit from the increase in NAV when you sell your units.
2. Dividend: Some funds pay regular dividends, which you receive without selling units.

Both sources combined constitute your total return.

End of Learning, Start Investing Now

No one is born an investment expert. Everyone has limitations—some lack capital, some lack time, some lack knowledge. But these limitations should not be excuses to avoid investing.

Because mutual funds are designed to solve all these issues: no need for large sums, extensive knowledge, or much time. They manage everything for you.

True risk is not in investing but in not investing at all. Idle money loses value over time. Once mutual funds make everything easier, there’s no reason to wait. Take action!