Risk is an
inherent part of our lives. It is almost impossible to ignore it, no matter how hard you try. But that
doesn't mean you can't calibrate your risk exposure and bring it within a band you can tolerate. You can
clearly define your risk appetite and use it to make better personal, professional, and financial
decisions.
It is
especially true when dealing with mutual funds. Defining your risk appetite before investing in a mutual
fund scheme can help you make better investment choices and gauge your expected returns. Read on as we
differentiate mutual fund schemes based on their risk exposure and help you figure out which mutual fund
schemes are better suited for you.
What are low-risk
investments?
Low-risk investments carry low
risk. They are suitable for all types of investors and provide moderate returns. Low-risk investments,
therefore, offer a certain consistency and predictability to the investor. From first-time investors to
those with substantial market experience, everyone can opt for a low-risk investment with an aim to
stabilize their risk profile. Let us see a few examples of low-risk investments:
1. Debt
schemes
A debt mutual fund scheme
is a comparatively low-risk
investment that invests in listed or unlisted fixed-income instruments. However, it’s important to know
that not all debt schemes are low risk. Some examples of fixed-income instruments are corporate bonds,
government bonds, corporate debt securities, etc. These low-risk mutual fund schemes are less volatile
and considered a good choice for risk-averse investors. Some debt scheme categories include: overnight
fund, liquid fund, ultra-short duration fund, money market fund etc.
2. Liquid
schemes
Liquid mutual fund schemes
form a popular sub-category of
debt funds. They are low-risk investments that invest in commercial papers, government securities,
treasury bills, etc., with a maturity of up to 91 days.
3. Hybrid
schemes
Hybrid mutual fund schemes
allocate funds to both equity,
debt and other asset classes. However, the asset allocation decisions of such schemes take the
market's volatility into consideration. Hybrid mutual fund schemes are therefore considered to be less
risky than equity schemes as the portfolio is diversified among other asset classes as well.
What are high-risk
investments?
High-risk investments are equally
important for investors. They can help investors earn higher returns by taking some more risk.
Therefore, investors need to know about high-risk investments and which investments qualify as
high-risk. Here are some types of high-risk investments:
1. Small-cap
schemes
Small-cap mutual fund schemes are
high-risk investments that invest most of their assets into equity or equity-related instruments of
companies with a small market capitalization. Small-cap schemes are ideal for investors who have a
high-risk tolerance and are willing to stay invested for the long term.
2. Mid-cap
schemes
Mid cap mutual fund schemes
predominantly invest in equity and equity related instruments of mid cap companies. As they fall between
large cap and small cap schemes they portray the qualities of both these scheme categories. Long-term
investors generally prefer these mid-cap mutual funds as they offer good scope for long-term
growth.
3. Flexi-cap
schemes
Flexi-cap mutual fund schemes are
high-risk mutual fund schemes that invest in businesses belonging to the three market capitalization
categories – large, mid, and small. A minimum of 65% of the total assets of flexi-cap schemes must be
invested in equity and equity-related investments.
4. Credit risk fund
schemes
Credit-risk mutual fund schemes
are high-risk mutual funds that invest in low-credit quality debt securities. Since credit-risk fund
schemes invest in AA and below rated corporate bonds thus they are considered to be high-risk mutual
fund schemes.
5. Large-cap
schemes
While large-cap mutual fund
schemes carry risk, they are comparatively less volatile than medium and small-cap funds. Large-cap
schemes invest their capital in companies with a large market capitalization and stable financials.
These reputed companies are known for the consistent performance. Unlike the Net Asset Value (NAV) of
medium and small-cap schemes, the NAV of large-cap mutual fund schemes does not fluctuate
much.
Low-risk vs high-risk investments:
the differences
Based on the definition and
features of low and high-risk investments, here are their differences:
- Market
capitalization
Low-risk mutual fund
schemes generally invest in companies with large market capitalization. High-risk mutual
funds, like small-cap funds, invest in companies with low market
capitalization.
- Growth
potential
Low-risk mutual funds,
although safe, may grow less rapidly as compared to high-risk mutual funds.
- Returns
While low-risk mutual
funds may offer moderate returns to the investor,
high-risk mutual funds may offer high returns.
Both low
and high-risk mutual funds have their own benefits. It is up to you to decide which type of investment
suits your investment goals and risk appetite. In the context of mutual funds, it is best to invest in a
mix of low and high-risk mutual fund schemes to derive maximum value. Market Regulator (SEBI) has
prescribed 6 scales of risk for ease of investor understanding of every mutual fund product, these are
Low, Low to Moderate, Moderate, Moderately High, High, Very High. The depiction of risk shall be through
pictorial meter named "Risk-o-meter" and this meter would appropriately depict the level of risk in any
specific scheme This risk-o-meter enables the investor to understand the risk level of the scheme and
make investment basis their risk appetite.
Mutual Fund
investments are subject to market risks, read all scheme related documents carefully.
