ARE MUTUAL FUNDS SAFE?
Are you also a mutual fund investor who is worried about their safety and security? Have questions regarding the associated risks with mutual funds? No need to worry as ZFunds bring you a comprehensive article where we will cover all significant aspects regarding the safety and security of mutual funds. We also assist investors to decide the ideal mutual fund based on the risk appetite and other factors.
WHAT MAKES MUTUAL FUNDS A BIT RISKY?
Risk arises in mutual funds because of the reason that mutual funds invest in multiple types of financial instruments such as debt, equities, government securities, corporate bonds among others. The price of these instruments keeps fluctuating depending on a lot of factors which may result in an adverse situation. Therefore, it is important to identify the risk profile and invest in the most ideal and appropriate fund.
Due to volatility or price fluctuation, an investors’ NAV comes down which might be resulting in negative returns at that time. In easier terms, NAV is the market value of all the schemes an investor has invested in per unit after negotiating the required liabilities. Therefore, it becomes important to identify the risk profile and invest in the ideal funds.
VARIOUS TYPES OF RISK ASSOCIATED WITH MUTUAL FUNDS
To gain a better understanding of associated risk and their impact on mutual funds, here is a comprehensive table:
|Types of Risk||Type of MF that is affected||How can the MF lose money?|
|Liquidity Risk||All investments||The mutual fund plan may not be able to sell units as the value is reduced and there are no buyers.|
|County Risk||Foreign Investments||Foreign investments could reduce in value due to political turmoil, instability in the country of investment.|
|Market Risk||All investment types||The value of the fund will reduce due to fluctuations and volatilities in the market.|
|Interest Rate Risk||Fixed Income Securities||The cost of fixed income securities drops when interest rates go up.|
|Currency Risk||Investments made in foreign currency||If the foreign currency losses its value, then the investment also loses relative value.|
|Credit Risk||Fixed Income Securities||If the bond issuer defaults in the repayment, then the bonds’ value becomes worthless.|
WHY MUTUAL FUNDS ARE SAFE?
Mutual funds don’t offer guaranteed or fixed returns as they are subject to market risk as we have read and heard. But despite all the associated risks, mutual funds are not unsafe and unsecured. When it comes to the safety of their investment, most investors are concerned about the following two considerations:
- Prevention from investment frauds
- Protection of their capital
In the next header, we are going to discuss how the risk and concerns of investors will be mitigated.
MITIGATING THE RISKS ASSOCIATED WITH MUTUAL FUNDS
1. Professional management:
The mutual funds are managed by professional and expert fund managers who have been industry leaders for a really long time and are highly knowledgable and skilled. These core people ensure that investors do not face any out-of-the-box and unnecessary risks.
2. Varying level of risk:
There are different types of mutual funds that have different levels of risks. For example, debt funds are considered ideal and apt for conservative investors as the risk associated is low. They can avoid investing in sectoral and thematic funds, small and mid-cap funds because of high volatility. They can also opt for hybrid funds to minimize risk.
3. Diversifying the portfolio:
Investors can benefit from diversification. Mutual funds invest in various bonds, stocks, and securities instead of a specific stock or bond. Therefore, it reduces risks. Investors can also regularly review the portfolio and evaluate the performance and switch when needed to reduce the exposure of risk.
4. Prevention from frauds:
Investors do not need to worry about fraudulent activities while making mutual fund investments. To protect the interest of investors, mutual funds are regulated by the Association of Mutual Funds in India (AMFI) and SEBI. Before an entity can offer a mutual fund, it needs to apply for and obtain special licenses. Since SEBI directly regulates AMCs they are as safe as banks or financial institutions.