For many first-time investors, the stock market may appear more accessible through mutual funds than through direct share selection. If you are exploring how to invest in the stock market through mutual funds, the concept is straightforward: an equity mutual fund pools money from multiple investors and invests in listed equities and related instruments, with the portfolio managed by a professional fund manager in accordance with the scheme’s stated investment objective.
Why beginners should consider mutual funds over direct stocks
When you invest through a mutual fund, you are not selecting a single company. Instead, you invest in a scheme that may hold a diversified basket of stocks. Diversification may help reduce the impact of one company’s poor performance, although it does not remove overall market risk.
Mutual funds allow you to participate in equity markets while a professional fund manager makes portfolio decisions in line with the scheme’s investment objective. This may be helpful if you are not yet comfortable analysing companies or managing allocations yourself. You can also begin with relatively small amounts, including through SIPs.
However, equity funds are market-linked and may be volatile in the short term. Different categories carry different risk levels, and costs such as the expense ratio can affect returns. Therefore, fund selection, investment horizon, and risk appetite remain important considerations.
Types of mutual funds that invest in stocks
Here are the main categories of equity mutual funds under SEBI’s classification framework that may help you choose based on your risk appetite and investment horizon:
Large Cap Funds
These funds invest primarily in large, well-established companies and may offer relatively lower volatility compared to other equity categories.
Mid Cap Funds
These funds invest in medium-sized companies that may offer higher growth potential but can be more volatile than large cap funds.
Small Cap Funds
These funds invest in smaller companies that may have significant growth opportunities but typically carry higher market risk.
Multi Cap Funds
These funds invest across large, mid, and small cap stocks with mandatory allocation requirements to each segment.
Flexi Cap Funds
These funds invest across market capitalisations without fixed allocation limits, allowing flexibility in portfolio construction.
Focused Funds
These funds invest in a limited number of stocks, which may increase concentration risk compared to diversified equity funds.
Value Funds
These funds follow a value-oriented investment strategy by selecting stocks that appear undervalued based on fundamental analysis.
Contra Funds
These funds adopt a contrarian approach by investing in stocks that may be temporarily out of favour in the market.
Dividend Yield Funds
These funds invest in companies that have a track record of distributing dividends and may focus on relatively stable businesses.
Sectoral Or Thematic Funds
These funds invest in specific sectors or investment themes and may carry higher risk due to limited diversification.
ELSS (Equity Linked Savings Scheme)
These funds primarily invest in equities and offer tax benefits under Section 80C of the Income Tax Act, subject to a mandatory lock-in period of three years.
Direct stocks vs mutual funds: A side-by-side comparison
When comparing direct stocks and mutual funds, the key differences lie in ownership structure, decision-making responsibility, diversification, and taxation, as summarised below:
| Basis Of Comparison | Direct Stocks | Equity Mutual Funds |
| Investment Selection | Investors select individual companies | Investors invest in units of a scheme rather than selecting individual stocks |
| Decision-Making Responsibility | Investors are responsible for research, timing of entry and exit, and ongoing monitoring | The fund manager constructs and manages the portfolio within the scheme mandate |
| Diversification | Exposure may be concentrated unless the investor builds a diversified portfolio independently | The portfolio is typically diversified across multiple securities |
| Risk Management | Returns depend on the performance of selected stocks and the investor’s ability to manage risk | Investment decisions are handled professionally within a defined investment framework |
| Taxation | For listed equity shares, holdings above 12 months are treated as long term; long-term gains above ₹1.25 lakh are taxed at 12.5%, while short-term gains are taxed at 20% | For equity-oriented mutual funds, taxation is similar to listed equities, with long-term gains above ₹1.25 lakh taxed at 12.5% and short-term gains taxed at 20%, subject to prevailing tax laws |
The tax information (if any) in this article is based on prevailing laws at the time of publishing the article and is subject to change. Please consult a tax professional or refer to the latest regulations for up-to-date information.
How to start investing in stocks through mutual funds
Here are the structured steps you can follow to begin investing in equities through mutual funds:
- Complete the Know Your Customer (KYC) process, which is mandatory before investing in mutual funds, whether through a lump sum or SIP.
- Choose your investment route by investing through a mutual fund website, an AMFI-registered distributor, or directly without involving a distributor.
- Decide the mode of investment, either through a lump-sum investment or a Systematic Investment Plan (SIP), which allows you to invest a fixed amount at regular intervals and may start from ₹500 per instalment depending on the scheme.
- Select an equity fund category and a specific scheme that aligns with your risk appetite and investment horizon, referring to SEBI’s Riskometer, which displays risk levels ranging from low to very high to help assess suitability.
Key factors to evaluate before choosing an equity mutual fund
Before investing in equity mutual funds, you may consider the following factors to align your selection with your risk profile and long-term goals:
Category alignment
Large cap, flexi cap, mid cap, and sectoral or thematic funds follow different investment mandates and carry varying levels of risk.
Riskometer classification
SEBI’s Riskometer indicates the scheme’s risk level, which may help you assess whether it matches your comfort with volatility.
Investment horizon
Equity schemes are generally suited for longer investment horizons, as they may remain volatile over shorter periods.
Tax implications: stocks vs equity mutual funds
Understanding the tax treatment of direct stocks and equity mutual funds may help you evaluate post-tax returns more effectively:
Holding period classification
For listed equity shares and equity-oriented mutual funds, investments are considered long term after a 12-month holding period.
Tax rates
Long-term capital gains above ₹1.25 lakh are taxed at 12.5%, while short-term capital gains are taxed at 20%, subject to prevailing tax laws.
Taxation structure
In direct stocks, gains are realised and taxed security by security, whereas in mutual funds, taxation applies when units are redeemed.
*The tax information in this article is based on current laws and is subject to change. Please consult a tax professional or refer to the latest regulations for up-to-date information.
Conclusion
For beginners, mutual funds may offer a relatively simpler route to participate in equity markets compared to building a direct stock portfolio. If you are exploring how to invest in the stock market through mutual funds, it may be useful to begin with understanding fund categories, reviewing the Riskometer, completing KYC, and selecting an investment approach that can be followed consistently. This approach may help simplify participation while recognising that equity investments remain subject to market risks and may be volatile in the short term.
Frequently Asked Questions
Can I invest in individual stocks through a mutual fund?
No. When you invest in a mutual fund, you purchase units of the scheme, not individual stocks. The fund manager selects and manages the portfolio in line with the scheme’s stated investment objective.
Is it better to invest in stocks or mutual funds?
There is no single better option for all investors. The choice depends on your experience, ability to research companies, and comfort with market volatility. Mutual funds may be more suitable for beginners because they offer professional management and diversification.
What is the minimum investment in equity mutual funds?
The minimum investment varies by scheme and investment mode. Many equity mutual funds allow SIP investments starting from ₹500 per instalment, depending on the scheme. Completion of the KYC process is mandatory before investing.
How many stocks does an equity mutual fund hold?
There is no fixed number of stocks that all equity mutual funds hold. The portfolio size depends on the fund category, investment strategy, and mandate. Some diversified funds may hold dozens of stocks, while focused funds typically hold fewer securities.
Are equity mutual funds risky for beginners?
Yes. Equity mutual funds are market-linked and can experience volatility, especially over shorter periods. SEBI’s Riskometer framework classifies schemes from low to very high risk, which may help you assess suitability.
Can I lose all my money in an equity mutual fund?
Equity mutual funds are subject to market risks, and losses are possible. However, they invest in a diversified portfolio rather than a single stock, which may reduce company-specific risk. Investment outcomes depend on market conditions, portfolio composition, and the duration of investment.
