Types of Mutual Funds: Complete Classification Guide

Published: July 10, 2023

Updated: November 25, 2023

12 min read

Different types of mutual fund investments and categories

Understanding Mutual Fund Categories

Mutual funds are categorized based on asset class, investment objective, structure, and risk profile. Understanding these categories can help investors select funds that align with their financial goals, risk tolerance, and investment horizon. This comprehensive guide explains the various types of mutual funds available in the Indian market and how they fit into different investment strategies.

Classification Based on Asset Class

Equity Funds

Equity funds primarily invest in stocks of companies across various sectors and market capitalizations. These funds aim for capital appreciation over the long term and are suitable for investors with a high-risk appetite and longer investment horizons (typically 5+ years). Equity funds offer the potential for higher returns but come with higher volatility compared to other fund categories.

Sub-categories of Equity Funds:

Large-cap Funds: Invest at least 80% of their assets in large-cap companies (top 100 companies by market capitalization), offering relatively stable returns with moderate risk. These funds are suitable for conservative equity investors seeking lower volatility.
Mid-cap Funds: Invest at least 65% of their assets in mid-sized companies (companies ranked 101-250 by market capitalization), offering higher growth potential with correspondingly higher risk. These funds may outperform during economic expansions but can be more volatile during downturns.
Small-cap Funds: Invest at least 65% of their assets in smaller companies (companies ranked 251 and below by market capitalization), offering potentially high returns but with significant risk. These companies often have less liquidity and higher volatility, making these funds suitable for aggressive investors with long time horizons.
Multi-cap Funds: Invest across market capitalizations (minimum 25% each in large, mid, and small-cap stocks), providing diversification and balanced exposure. These funds offer flexibility to the fund manager to adjust allocations based on market conditions.
Flexi-cap Funds: Invest across market capitalizations without any minimum allocation restrictions, giving the fund manager complete flexibility to adjust the portfolio based on market opportunities.
Sector Funds: Focus on specific sectors like technology, healthcare, or banking, offering concentrated exposure but higher risk due to lack of diversification. These funds are suitable for investors with sector-specific insights or those looking to take tactical positions.
Thematic Funds: Invest based on specific themes like infrastructure, consumption, or digital economy, cutting across traditional sector classifications. These funds can provide exposure to emerging trends or economic shifts.
Index Funds: Passively track a specific market index like Nifty 50 or Sensex, offering market returns at lower expense ratios. These funds minimize fund manager risk and are suitable for investors who believe in market efficiency.
Exchange Traded Funds (ETFs): Similar to index funds but traded on stock exchanges like individual stocks, offering intraday liquidity. ETFs combine features of mutual funds and stocks and often have lower expense ratios than regular index funds.

Debt Funds

Debt funds invest in fixed-income securities like government bonds, corporate bonds, treasury bills, and other money market instruments. These funds aim to provide regular income and capital preservation, making them suitable for conservative investors or those with shorter time horizons. While generally less risky than equity funds, debt funds are not entirely risk-free and are subject to interest rate risk and credit risk.

Sub-categories of Debt Funds:

Liquid Funds: Invest in short-term money market instruments with maturities up to 91 days, offering high liquidity and low risk. These funds are ideal for parking short-term surplus funds and can be alternatives to savings accounts, often providing better returns.
Ultra Short-term Funds: Invest in debt securities with maturities between 3-6 months, offering slightly higher returns than liquid funds with marginally higher risk. These funds balance liquidity with returns and are suitable for investment horizons of 3-6 months.
Low Duration Funds: Invest in debt securities with Macaulay duration between 6-12 months, offering a good balance between returns and interest rate risk. These are suitable for investment horizons of 6-12 months.
Short-term Funds: Invest in debt securities with maturities between 1-3 years, balancing returns and interest rate risk. These funds are less sensitive to interest rate changes than longer-duration funds and are suitable for 1-3 year investment horizons.
Medium Duration Funds: Invest in debt securities with Macaulay duration between 3-4 years, offering potentially higher yields but with increased interest rate sensitivity. These funds are suitable for investors with 3-4 year horizons who can tolerate some volatility.
Corporate Bond Funds: Primarily invest in corporate bonds (minimum 80% in highest-rated corporate bonds), offering higher yields but with credit risk. These funds are suitable for investors seeking better returns than government securities while accepting some credit risk.
Government Securities Funds: Invest primarily in government securities of various maturities, offering safety but with interest rate risk. These are among the safest debt funds in terms of credit risk but can be volatile when interest rates change.
Credit Risk Funds: Invest at least 65% in lower-rated corporate bonds for higher yields, carrying higher credit risk. These funds offer higher potential returns but with increased risk of defaults or downgrades.
Dynamic Bond Funds: Adjust portfolio duration based on interest rate outlook, offering flexibility to the fund manager. These funds actively manage portfolio duration and can shift between short and long-term securities based on interest rate expectations.

Hybrid Funds

Hybrid funds invest in a mix of equity and debt instruments, offering a balanced approach to investing. These funds aim to provide both growth and income, making them suitable for moderate-risk investors who want exposure to multiple asset classes through a single investment vehicle.

Sub-categories of Hybrid Funds:

Balanced Advantage Funds / Dynamic Asset Allocation Funds: Dynamically adjust equity-debt allocation based on market valuations and other parameters, offering a counter-cyclical investment approach. These funds typically increase equity allocation when markets are undervalued and reduce it when overvalued.
Aggressive Hybrid Funds: Invest predominantly in equity (65-80%) with the remainder in debt, offering growth potential with some stability. These are suitable for investors with a moderate to high risk appetite.
Conservative Hybrid Funds: Invest predominantly in debt (75-90%) with the remainder in equity, offering stability with moderate growth potential. These funds are suitable for conservative investors who want limited equity exposure.
Multi-asset Allocation Funds: Invest across equity, debt, gold, and other asset classes for diversification, offering protection against volatility in any single asset class. These funds must invest in at least three asset classes with a minimum allocation of 10% in each.
Arbitrage Funds: Exploit price differences between cash and derivatives markets, offering equity taxation benefits with debt-like risk. These funds are suitable for short to medium-term investments (1-3 years) with tax efficiency similar to equity funds.
Equity Savings Funds: Invest in a mix of equity, arbitrage positions, and debt instruments, offering lower volatility than pure equity funds with better tax efficiency than debt funds. These funds typically have 30-40% direct equity exposure, 30-40% arbitrage exposure, and the remainder in debt.

Calculate Your Mutual Fund Returns

Use our Mutual Fund Calculator to estimate potential returns from different types of mutual funds based on your investment amount, duration, and expected rate of return.

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Classification Based on Investment Objective

Growth Funds

Growth funds aim for capital appreciation by investing in companies with high growth potential, often reinvesting dividends rather than distributing them. These funds focus on stocks that are expected to grow faster than the market average in terms of earnings, often trading at higher valuation multiples. Growth funds are suitable for investors with long-term horizons (7+ years) and higher risk tolerance who prioritize capital appreciation over regular income.

Value Funds

Value funds invest in undervalued stocks trading below their intrinsic value, seeking to benefit when the market recognizes their true worth. These funds look for companies with strong fundamentals but temporarily depressed prices, often featuring lower price-to-earnings and price-to-book ratios than the broader market. Value funds may underperform during strong bull markets but often provide better downside protection during market corrections.

Income Funds

Income funds aim to provide regular and stable income by investing in fixed-income securities like government bonds, corporate bonds, and money market instruments. These funds are suitable for conservative investors seeking regular income, such as retirees or those needing periodic cash flows from their investments. While prioritizing income generation, these funds still aim to preserve capital and may provide modest growth over time.

Tax-saving Funds (ELSS)

Equity-Linked Savings Schemes (ELSS) offer tax benefits under Section 80C of the Income Tax Act, with a mandatory lock-in period of 3 years. These funds primarily invest in equity (minimum 80%) and offer the dual advantage of tax deduction (up to ₹1.5 lakhs annually) and potential for capital appreciation. ELSS funds have the shortest lock-in period among all tax-saving instruments under Section 80C, making them attractive for tax-conscious equity investors.

Specialty Funds

Specialty funds focus on specific investment strategies or objectives such as dividend yield, contrarian investing, or focused portfolios. These include funds like:

Dividend Yield Funds: Focus on stocks with high dividend yields, suitable for investors seeking regular income from equity investments.
Focused Funds: Maintain concentrated portfolios of up to 30 stocks, allowing for high-conviction investments but with potentially higher stock-specific risk.
International Funds: Invest in overseas markets, providing geographical diversification and exposure to global growth opportunities.

Classification Based on Structure

Open-ended Funds

Open-ended funds allow investors to enter and exit at any time at the prevailing Net Asset Value (NAV). These funds provide high liquidity as they continuously offer units for sale and redemption, with the NAV calculated daily based on the market value of the underlying assets. Open-ended funds manage liquidity by maintaining a cash component but may face challenges during extreme market conditions with high redemption pressure.

Close-ended Funds

Close-ended funds have a fixed maturity period and are listed on stock exchanges after the New Fund Offer (NFO) period. These funds raise a fixed corpus during the NFO, after which no new investments are accepted. Investors can buy during the NFO and subsequently trade units on the exchange, often at a discount or premium to NAV based on demand. Close-ended funds offer fund managers more flexibility to invest in less liquid securities without redemption pressure but provide less liquidity to investors.

Interval Funds

Interval funds combine features of both open-ended and close-ended funds, allowing redemptions at pre-specified intervals (e.g., quarterly or semi-annually). These funds provide periodic liquidity windows during which investors can redeem their investments at NAV. While less common, interval funds can offer a middle ground between the liquidity of open-ended funds and the investment stability of close-ended funds.

Classification Based on Risk Profile

Low-risk Funds

These include liquid funds, ultra short-term funds, and government securities funds, suitable for conservative investors prioritizing capital preservation over returns. Low-risk funds typically have minimal volatility, high liquidity, and lower return potential compared to moderate or high-risk funds. They are suitable for short-term financial goals (up to 1-2 years) or for emergency funds where capital preservation is critical. These funds are less sensitive to interest rate changes and market volatility.

Moderate-risk Funds

These include balanced funds, short-term debt funds, and large-cap equity funds, suitable for investors seeking a balance between risk and return. Moderate-risk funds offer better return potential than low-risk funds but with controlled volatility. They typically have a mix of stable and growth-oriented investments, making them suitable for medium-term goals (3-5 years). These funds can withstand modest market fluctuations while still aiming for inflation-beating returns.

High-risk Funds

These include small-cap funds, sector funds, and thematic funds, suitable for aggressive investors seeking high returns and willing to take higher risks. High-risk funds can experience significant volatility in the short term but offer potential for substantial wealth creation over the long term (7+ years). These funds require a high risk tolerance and a long investment horizon to ride out market fluctuations. They are best suited for financial goals that are at least 5-7 years away and for investors who can withstand interim volatility without panic selling.

How to Choose the Right Mutual Fund Category

Selecting the appropriate mutual fund category depends on several personal factors:

Investment Horizon: Short-term goals (up to 3 years) are better served by liquid, ultra-short, or short-duration debt funds. Medium-term goals (3-5 years) may suit hybrid funds or conservative equity funds. Long-term goals (5+ years) align well with equity-oriented funds.
Risk Tolerance: Your ability and willingness to withstand market volatility should guide your fund selection. Conservative investors might prefer large-cap, index, or debt funds, while aggressive investors might opt for small and mid-cap funds.
Financial Goals: Goal-specific funds like ELSS for tax saving, liquid funds for emergency corpus, or retirement-focused funds for long-term wealth creation help align investments with specific objectives.
Diversification Needs: Consider how a particular fund fits into your overall portfolio. Avoid overlapping investments and ensure exposure across asset classes and market segments.
Tax Efficiency: Consider the tax implications of different fund categories. Equity funds offer more favorable tax treatment for long-term holdings compared to debt funds.

Understanding the different types of mutual funds is crucial for building a diversified portfolio aligned with your financial goals. Use our Mutual Fund Calculator to estimate potential returns from different fund categories and make informed investment decisions.

Frequently Asked Questions

The minimum investment amounts vary by fund type and investment mode. For lump sum investments: Equity funds typically require ₹1,000-5,000, Debt funds ₹1,000-10,000, Liquid funds ₹500-5,000, and ELSS funds ₹500-1,000. For SIP investments, most funds accept monthly contributions starting from ₹100 for small-cap and mid-cap funds, ₹500 for most equity and hybrid funds, and ₹1,000 for many debt funds. Premium funds from certain AMCs may have higher minimums up to ₹25,000 for lump sum and ₹5,000 for monthly SIPs.

Taxation of mutual funds depends on the fund type and holding period. For equity funds (funds with >65% equity exposure): Short-term capital gains (held <12 months) are taxed at 15%, while long-term capital gains (held >12 months) are tax-free up to ₹1 lakh per financial year and taxed at 10% without indexation beyond that. For debt funds: Short-term gains (held <36 months) are added to your income and taxed as per your income tax slab, while long-term gains (held >36 months) are taxed at 20% after indexation benefits. Dividends from all mutual funds are taxable in the hands of the investor as per their income tax slab rates.

Direct and regular plans of mutual funds have identical portfolios managed by the same fund manager, but differ in expense ratio and returns. Direct plans are purchased directly from the AMC without any intermediary, resulting in lower expense ratios (typically 0.5-1.5% lower than regular plans). This expense difference compounds over time, leading to higher returns for direct plan investors. For example, a 1% difference in expense ratio can result in approximately 16-17% higher corpus over a 15-year period. Regular plans are purchased through distributors or brokers who receive commissions (included in the higher expense ratio). While regular plans have higher costs, they may come with advisory services from the distributor.

Selecting the right mutual fund involves matching fund characteristics with your financial goals, risk tolerance, and investment horizon. For short-term goals (1-3 years), focus on liquid funds, ultra-short duration funds, or arbitrage funds. For medium-term goals (3-5 years), consider hybrid funds, conservative equity funds, or short to medium duration debt funds. For long-term goals (>5 years), equity funds aligned with your risk profile are appropriate - large-cap funds for lower risk, multi-cap for moderate risk, and mid/small-cap for higher risk appetite. Beyond the fund category, evaluate factors like fund performance consistency (not just highest returns), fund manager experience, expense ratio, fund house reputation, portfolio turnover ratio, and fund size. Diversify across fund houses and fund managers to reduce concentration risk.

Switching between mutual fund schemes is treated as redemption from one scheme and fresh purchase in another, which typically has tax implications. When you switch between equity schemes, you'll incur STCG tax (15%) if the holding period is less than 12 months, or LTCG tax (10% above ₹1 lakh exemption) if held longer. For debt fund switches, STCG tax applies at your income tax slab rate if held less than 36 months, or LTCG tax at 20% with indexation if held longer. Tax implications can be avoided only when switching between different plans of the same scheme (e.g., dividend to growth option) or when switching between folios within an ELSS fund after the 3-year lock-in period. Some fund houses also allow tax-free switches between different options of liquid funds.