A mutual fund pools money from multiple investors having similar financial goals and invests, the corpus in securities with an aim of achieving the investment objective of the fund. With respect to the approach of the fund manager, there are two types of funds – actively managed funds and passively managed funds.
In the case of active funds, the fund manager actively manages the composition of the fund and makes purchase/redemption decisions to ensure that the financial goals of the fund are met.
On the other hand, in passive funds, the fund manager tries to replicate the performance of an index or a basket of securities without trying to beat it.
According to Harsh Jain, co-founder and COO, Groww, both these investment approaches are better suited to different types of mutual fund investors.
In the words of Prateek Mehta, co-founder, Scripbox, "Actively managed funds help diversify options and switch to better investment options in case the selected portfolio isn’t working well, which is a huge advantage to investors. This is also a low-cost way of getting good investment teams to manage money."
Actively managed funds have teams that have been investing and developing their investment thesis in the fund's focus area.
"In the Indian context, we have seen that actively managed funds have given better returns over the years. If an investor has access to a good investment service or advisors, actively managed funds are a good option as they accrue higher returns in the long run. Customers who understand the markets and are willing to do their own research can also create a basket of actively managed funds for their investments," Mehta suggests.
However, as Jain of Groww points out, these schemes usually have a higher expense ratio because the fund house incurs costs to actively manage the fund. Fund managers can hedge their positions to minimize losses or sell securities if the risks increase.
"While taking active investment decisions allows the fund managers to maximise the returns of the fund, it also exposes it to higher risks," he opines.
Despite these, Jain adds that investors who are looking to invest with the objective of achieving market-beating returns but want an expert fund manager to manage their investments can consider opting for active mutual fund schemes.
While talking about passive mutual funds, Jain says they have a low expense ratio since there is no oversight or management needed that brings the costs down. However, these funds are limited to investing in a predetermined set of securities. Hence, investors are stuck with these investments no matter how the markets perform.
Investors always have a clear idea about the assets held by the fund.
"Since passive funds are designed to replicate the performance of an index or a basket of securities, the returns are usually lower than those offered by the market," Jain explains.
These schemes are usually preferred by investors looking to invest in the said index or sector that the fund tracks.
Mehta of Scripbox, meanwhile suggests that a person who has very little knowledge of investing but aims for a decent return on investments in the long term should go for passive funds.
"These are also a good option for someone, who might be uncomfortable for divergence between the returns delivered by their fund and the underlying benchmark or index," he advises.
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First Published: IST