Explained: Do Mutual Funds Invest Your Money Only In Stocks?

The element of risk involved in the stock market often keeps many of us away from investing in stocks and mutual funds, right?

Despite knowing the high potential of returns, especially in the long term, we often choose to opt for sub-optimal investment options like bank FD or PPF which barely are able to beat inflation when post-tax returns are concerned.

And even amidst the choice of stocks and mutual funds for dipping our feet into the stock market, people often tend to believe that not only are stocks risky, but even mutual funds are on the same page as they invest in stocks too.

While it's true that some mutual funds invest in stocks, there are cases where mutual funds invest in other securities as well or don't even invest in stocks at all. So, refraining from dipping your feet into mutual funds by assuming that all mutual funds invest only in stocks, is wrong.

To make your concepts clearer about where mutual funds invest your money, let's just pause and read this out.

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No, mutual funds don¡¯t invest only in stocks. Mutual funds invest across equity and debt instruments, depending on their type. Also, some portion of the pooled investments by mutual funds is usually kept in cash or invested in cash equivalents in order to facilitate liquidity and redemption requests.

Where Do Mutual Funds Invest Your Money?

To know where mutual funds invest your money, it¡¯s important to understand their categories. Mutual funds are broadly classified into three types ¨C equity mutual funds, debt mutual funds, and hybrid/balanced mutual funds.

Debt Mutual Funds

Debt funds invest your money in fixed income securities such as corporate bonds, treasury bills, commercial papers, government securities, and numerous other money market instruments. Each of these instruments involves a pre-decided maturity date and interest rate which the investor can earn on maturity. As the returns of these securities are generally not impacted by the market fluctuations, they are much less volatile than equities. This makes debt funds a suitable investment option for risk-averse investors looking to dip their feet into the stock market.

Equity Mutual Funds

Equity mutual funds pool in the money of various investors and predominantly invest the amount into the shares of different companies. Funds that invest at least 65% of their total asset into equity or equity-oriented securities are termed equity-oriented funds. Fund managers of equity mutual funds work towards offering high returns to investors by diversifying and spreading the investments across various companies from different sectors or with varying market capitalizations, such as large cap, mid cap, multi/flexi cap or small cap. Also remember, the degree of volatility in equity mutual funds is higher in the short term and lower over the long term.

Equity mutual funds as a category tend to especially work well for those investors who wish to benefit from the high potential returns of equities without the direct purchase of stocks. This holds especially true for new investors who lack the knowledge and expertise to directly invest in stocks and/or do not have time to track market movement on a regular basis.

Hybrid Mutual Funds

As their name suggests, hybrid mutual funds invest in two or more asset classes, which is usually a combination of equity and debt in most cases, aimed to offer a balanced component to your portfolio and achieve the set investment objective of that scheme.

To cater to varying risk appetites, investment horizons and financial goals of different investors, each hybrid fund scheme involves a different proportion of equity and debt investment allocation.

So, hybrid funds can give the investor the best of both worlds, equity and debt, and especially work well for investors who are apprehensive or not keen on stepping into entire equity or debt portfolio, but wish to avail the benefits of both equity and debt.

Hybrid funds are usually termed suitable investments for a medium-term investment horizon and are ideal for investors who are aiming to grasp a mix of safety, income and modest capital appreciation. In terms of risk, they can be considered riskier than debt funds but safer than equity mutual funds.

Also Read: Does It Make Sense To Take The SIP Route For Mutual Fund Investments?

Which Category To Choose?

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By now, you must have become clear regarding where mutual funds invest your money. But different mutual funds suit different types of investors.

So, with different mutual fund categories available, investors need to choose the suitable fund category as per their risk appetite and investment horizon. After checking the details of various mutual fund types and their schemes, if you are still unsure where to put your hard-earned money, then it's better to consult a financial advisor rather than investing with a mind full of doubts.

Generally, debt funds are deemed suitable for investors having a short to medium-term investment horizon and low-risk appetite. Equity mutual funds are better suitable for those having a higher risk appetite and a long term horizon of around 5 years and more. And those who wish to enjoy the benefits of both equity and debt, can go for hybrid funds.

You can even diversify your portfolio to maximize returns and minimize risk. Wondering how? Click here to know more.

Also Read: Frequently (Not) Asked Questions - How Safe Is My Money With Mutual Funds?

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