Mutual funds, by definition, always carry an element of risk since they are investments made in the equity or debt markets. As an investment, they can offer a lot of advantages to the investor, chief among which is the fact there is no special technical knowledge. The other advantages of a mutual funds are that they can rival a fixed deposit when it comes to the returns. This is so because while an FD will provide steady and safe growth for the investment, mutual funds will provide higher growth as a result of the investment in the equity/debt markets. The key thing with mutual funds is to always remember that as far as the risk is concerned, it can only be mitigates, not removed.
Types of risk profiles in mutual funds
When investing in mutual funds the first thing many people look at is the risk rating of the fund. There are 5 ratings that a fund can have and here is what each rating means.
- Low: This rating would mean that this particular fund will have the least amount of risk involved. It is a rating that is generally found on funds that invest in the safest debt market instruments.
- Moderately Low: This rating too can be seen on funds that tend to invest in debt market instruments with a difference being that the risk is not too high, but it’s not low either.
- Moderate: The rating of moderate risk shows that the investment comes with a moderate amount of risk and can also indicate that the investment being made would be in the equity markets. Some mutual funds with this rating could even be investing in large cap funds.
- Moderately High: This is a rating that indicates that the risk is considerable and can be found on mutual funds which invest in equity markets. This is also a rating that can be found on most tax saving mutual funds.
- High: This is a rating that indicated that these funds have the highest amount of risk involved in the investment and are also those that invest in the equity markets. The risk come from the volatile nature of the equity markets.
Risks and diversified mutual fund investment portfolios
Even though there is the ever present element of risk with mutual funds, there is one factor that can help with the risk involved in mutual funds and that factor is the investment portfolio. When investments are made by the fund managers, they are spread across a variety of companies and industries. This means that should any one of the companies/industries suffer a loss, the other investments will help minimize those losses.
How to mitigate risk in mutual fund investments
If you think you want to invest in a mutual fund but a still inhibited by the risk factors, here are some things that you can do to minimise the risks to your investment.
- Go only for low risk funds: Investing only in low or moderately low risk funds would be the simplest way to lowering the risk however, such risks do come at a price and that price is the returns. Traditionally, low risk investments will generate lower returns.
- Change risk profile over time: This would be a good way to manage the risk involved in such investments. What you can do is to keep the risk profiles higher while you are young and change them as you get older to lower risk profiles.
- Go in for hybrid funds: Hybrid funds offer a mix of equity and debt market investments and therefore offer more chances of minimising the losses that can result from the equity investments.
- Spread out the investments: If the risks really trouble you a lot, then you could diversify your investments by invest some of the funds in mutual funds and the rest in other instruments like insurance and fixed/recurring deposits. You could even do the same within the mutual funds by invest a fair share in low risk funds and a separate amount in moderate to high risk funds. This will allow you to take advantage of the low risk debt market and the high risk equity markets as well.
Is mutual fund a safe investment?
The fact is that mutual fund investments still haven’t become as mainstream an investment as they can be and that is because investors are worried about the risks involved. While mutual funds can never be separated from the risks involved in investing in them, the returns offered by them will outweigh the risks involved, especially when investors cater for potential losses.
GST rate of 18% applicable for all financial services effective July 1, 2017.