A mutual fund is a financial intermediary that pools savings of investors for collective investment in diversified portfolio of securities. The mutual fund is managed by asset management company (AMC), which needs to be approved by SEBI.

AMC is a company formed and registered under the company Act, 1956 and approved by SEBI, to manage the funds of a mutual fund. AMC formulates mutual fund schemes, distributes units, invests the funds in capital and money markets and distributes income to unit holders.

According to SEBI (mutual funds) Regulations, 1996, a mutual fund is a fund established in the form of a trust to raise money through the sale of units of public and the section of the public under one and more schemes for investing in securities including money market instruments.


Advantage of mutual funds


1.    Professional management

The main advantage of mutual fund is that, it is professionally managed by competent professionals. Investors purchase units in mutual funds because they do not have the time or the expertise to manage their own portfolio. Investors especially the small invest in mutual funds to maximise returns on their investment



2.    Diversification

The mutual fund invests in a diversified portfolio of securities shares, debentures, government securities, etc. The idea behind diversification is to invest in a large number of financial assets so that a loss in any particular investment is minimized by gains in other. Investment in mutual fund enables investors to spread out minimize the risk up to certain extent.



3.    Economic of scale

Mutual funds buy and sell large amount of securities at a time. The transaction costs are reduced. The retail brokerage costs are comparatively higher, but brokerage costs at mutual funds are low. As a result, investors gain on account lower transaction costs.



4.    Liquidity

Mutual funds enable the investors to liquidate their holdings as and when required. Investors can surrender the units to mutual fund and obtain cash. Investors can also trade the units in mutual funds on the stock markets, and obtain liquid cash whenever required.



5.    Mobilizes savings

Mutual funds play an important role in mobilizing saving of millions of investors across the country. The mobilized saving are utilised for profitable investment. Profitable investments generate higher returns, and investors are benefited from the investments managed by mutual funds (AMC of mutual fund).



6.    Convenience and flexibility

Investors can easily invest in mutual funds. There are least formality to invest the mutual funds. Also mutual funds permit flexibility. If a investor is not satisfied with one mutual fund, he can switch over to another mutual fund or liquidate the investment.



7.    Tax benefits

Investors in mutual funds enjoy tax exemption is allowed on income received on units of mutual funds. The investors do not have to pay dividend tax. The tax on dividend is directly paid by mutual funds. Dividend received by investors is tax free.



8.    Transparency in investment

There is greater transparency in investment by mutual funds.  The investors in mutual funds can know where their funds are invested. If the investors are not satisfied with the investment strategy of the mutual fund, the investor can switch over to another fund or liquid their investment.



9.    Stability to stock market

Mutual funds invest in huge amounts in the securities. They can easily absorb certain losses in the stock market. The mutual funds continue to invest in stock markets at regular intervals.  Stock markets get stability.



10. Ancillary services

Several mutual funds provide ancillary services to investors.
·       Saving schemes for regular monthly investment in units.
·       Life insurance schemens
·       Automatic reinvestment of dividend



Limitation of mutual fund


1.    Risk factor

Investment in mutual funds is subject to risks. Mutual funds invest insecurities as equity, debt securities, government securities, etc. The return on investment depends upon the performance of the securities in which funds are invested. Some of the securities, equity investment are subject to stock market volatility. There is risk factor for investments in mutual funds as compared to investment in fixed deposits. In fixed deposit the returns are assured, in mutual funds no one can give assurance of returns.



2.    Mutual fund charges

The management of mutual funds charge fee for the operation of mutual funds. The charges may vary from 1to 2%, for instance, if the investment is Rs 1,00,000 charges will reduce the earnings of the investors. This is not a right criticism because, even in the case of  fixed deposit, banks pay salaries to staff from the difference between the interest they earn and the interest they pay to the depositors.


3.    Lack of professionalism

In some mutual fund organisations, there is lack of professionalism on the part of mutual fund management. The management may not use their good judgement to invest in various securities. At times, there may be under hand deals between the fund managers and the issuers of securities. The fund managers may invest in those securities which are not worth to invest. As a result, the investors may lose their earnings.


4.    Lack of portfolio customization

Some broking firms offer portfolio management schemes (PMS) to large investors. On the other hand, a unit holder in a mutual fund is one among the thousands of investors. Once a investor has invested in the mutual fund scheme, investment management is left to the fund manager. The investment in mutual funds lacks customisation as per investor needs.



5.    Choice overload

There are thousands of mutual fund schemes operated by various mutual funds. Each mutual fund may offer multiple schemes to the investors. This may create confusion in the minds of the investors to select the right scheme that suits their requirements. This problem can be solved with the help of right advice given by agents or brokers that sell mutual fund schemes.


6.    No control over costs

The money of all investors is pooled together in a scheme. Cost incurred for managing the scheme are shared by all the investors in portfolio to their holding of units in the scheme. An individual investor has no control over the cost in a scheme.

SEBI has imposed certain limits on the expenses that can be charged to any scheme. These limits, vary with the size of assets and the nature of the scheme is published by the mutual fund company.



7.    Problem of strict rules for investments

Some mutual funds are too big to find enough good investments. If a mutual fund has Rs 5000 crore to invest and is only able to invest an average of Rs. 50 crore in each, then it needs to find at least 100 companies to invest in as a result the mutual fund manager may be forced to invest in certain company of lower performance.


8.    Problem of diversified investment

Mutual funds invest in diversified portfolio to spread risks and returns. At times, there may be over diversification of investment, which may lead to lower returns to the investors, and at times may lead to higher risks.