A variety of options are open to any retail investor who
wishes to invest their income in mutual fund schemes today. One of the sub categories of
mutual fund is index mutual fund schemes. Like any other popular sub-category of mutual fund investments
in India, index mutual fund schemes, too, have characteristic features and benefits; and there are
certain factors that you must consider before investing in these schemes.
What are index mutual funds?
Index mutual fund schemes form a sub-category of mutual fund schemes in India. They are
passively managed mutual fund schemes that track the underlying market index. Since index mutual fund
schemes are managed passively, they have a lower ‘expense ratio’ – the fee charged by mutual fund
companies to manage investors’ money and allocate the funds in various mutual fund schemes. To further
exemplify, an index mutual fund scheme can track the popular BSE (Bombay Stock Exchange) and NSE
(National Stock Exchange) indices with the aim of producing returns that mirror these indices’ offered
returns subject to tracking error.
How can an investor benefit by investing in index
mutual funds?
As we mentioned earlier, index mutual fund schemes
usually have a lower expense ratio as compared to other mutual fund schemes since they are not actively
managed mutual fund schemes. These schemes usually involve low risk and can be considered as a good
option for first-time investors to start their investment journey. One of the key advantages of
investing in index mutual fund schemes is that it is quite convenient for any investor to manage and
oversee their investments. Also, retail investors find it very convenient to invest in these schemes
since they do not require a demat account or a broking account to get started.
Things you
must consider before investing in index mutual fund schemes
You shall find enlisted in this section a list of
considerations that you must make before investing your money in an index mutual fund:
1. Be aware of the ‘tracking
error’
There might, in some cases, be a slight deviation in the returns earned from
an index mutual fund scheme when compared with the benchmark index that it tracks. This is called a
‘tracking error’.
2. Consider market fluctuations
You
must bear in mind that the market is unpredictable. While you might have made more capital gains in a
bull market (when the share prices are usually on a rise), you have equal, if not more, chances of
running into losses in a bear market (when there’s a drop in the investment prices). You must,
therefore, evaluate your risks properly before making an index mutual fund investment.
3. Consider the investment
horizon
Just like sectoral schemes, the returns may vary based on the market’s
cyclic movements. You must be willing to invest for the longer term if you wish to earn better returns
through an index mutual fund investment.
4. Choose a lower expense
ratio
It is true that index mutual fund schemes
have a lower expense ratio. So, make sure to do your research to find the index mutual fund
scheme of your choice with the lowest expense ratio.
Finally, you can consider investing in an
index mutual fund scheme if:
• You
wish to earn returns offered by benchmark indices such as Sensex or Nifty.
• You
wish to diversify your investment portfolio.
• You
wish to earn cost-effective and moderate returns through your mutual fund investments.
An index mutual fund investment can be a good investment
option for an investor, irrespective of whether they are just starting out or have experience in
investing. You must, however, consider all of the points that we have enlisted in this article before
deciding whether to invest in index mutual fund schemes.
Mutual Fund investments are subject to market risks, read
all scheme related documents carefully.
