Question

Describe the different types of indirect investments available to investors. Explain why this type of investment is a better alternative for some investors than buying securities directly.

Answer 1

Indirect way to invest in stocks

–Mutual funds

benefits

• You do not have to constantly keep an aye on the stock market. The fund manager will invest the funds wisely and in profitable companies.
• The funds are invested in various companies and that too by the professionals. So, you are not keeping all your money in one pocket. This minimizes the risk of huge loss investment loss. Even your Rs 5000 invested is diversified.
• You can plan and invest systematically. (That can be done in share markets to, but SIP process in mutual funds works well)
• Unlike companies, mutual funds will not close down. Rather they would be merged into another successful fund
• Normally the NAVs do not show a significant rise or crash

Index funds:

Index funds are ideal for investors who want to invest in equity mutual funds but at the same time don't want to depend on the fund manager. An index mutual fund follows the same strategy as the index it is based on.

Fixed income or debt mutual funds:

These funds invest a majority of the money in debt - fixed income i.e. fixed coupon bearing instruments like government securities, bonds, debentures, etc. They have a low-risk-low-return outlook and are ideal for investors with a low risk appetite looking at generating a steady income. However, they are subject to credit risk.

Balanced funds:

As the name suggests, these are mutual fund schemes that divide their investments between equity and debt. The allocation may keep changing based on market risks. They are more suitable for investors who are looking at a combination of moderate returns with comparatively low risk.

Hybrid / Monthly Income Plans (MIP):

These funds are similar to balanced funds but the proportion of equity assets is lesser compared to balanced funds. Hence, they are also called marginal equity funds. They are especially suitable for investors who are retired and want a regular income with comparatively low risk.

Gilt funds:

These funds invest only in government securities. They are preferred by investors who are risk averse and want no credit risk associated with their investment. However, they are subject to high interest rate risk.