When investing in equity funds, investors primarily can select between growth and dividend funds. The growth funds invest in potentially growing companies to generate higher returns on investment. The primary goal of these funds is capital appreciation.
As an investment option, growth funds are pretty popular. But are they the right investment choice? Let’s understand growth funds and why these should be in your portfolio.
What are growth funds?
Growth investment is a popular investment theory where investors pick stocks from companies with high growth potential. Hence, they select companies with a proven track record or young companies with potential for tremendous growth. But on the other hand, it also increases the risk of investment as these companies are highly susceptible to market fluctuation.
Growth mutual funds also select such companies. However, instead of concentrating on a single sector or business, the fund managers invest in a portfolio for a balanced risk return. A growth mutual fund portfolio is made of companies that have registered fast-paced growth and can deliver significant returns to the investors. These companies often reinvest their profit in research and development, expansion and acquisition to continue to grow. As there is no dividend payout, these businesses reutilise their funds to sustain on a high-paced growth path. However, when the market falls, these companies can also lose their values significantly. It can hit the investors badly, just as it can deliver manifold growth during market expansion.
Features and benefits of investing in growth funds
When it comes to investing in growth funds, there are quite a few benefits.
Potential to earn high returns: As mentioned before, growth fund managers target companies with high growth potential. They spend a good deal of time researching the market to find potential stocks for investment. Growth funds attract investors for their abilities to generate significant gain from capital appreciation.
Risk factors: Growth funds carry higher risk. Hence these funds suit investors with higher risk tolerance.
Investors investing in growth funds usually have a longer investment horizon since these funds tend to perform better when given time to ride over market fluctuations.
Stock volatility: One drawback of growth funds is that the stocks are highly volatile. Hence, only high risk-tolerant investors apply in these funds.
Tax-efficiency: Capital gains from growth funds are subject to long-term capital gain tax at a rate of 10 percent over Rs 1 lakh in a year. Still, these are more tax-efficient than other investment types.
Expenses: Growth funds are actively managed, meaning there are fund managers to manage your investment to keep it performing at the best rates. Hence, these funds charge higher fees than index funds or ETFs.
Active fund management: These funds allow general investors to harness the expertise and knowledge of professional fund managers indirectly.
Fund managers actively select stocks and make decisions regarding buying and selling to ensure portfolio performance.
Portfolio diversification: Growth funds invest in several growth stocks and hence, help with portfolio diversification. It helps reduce the overall risks of investing in volatile company stocks but increase return potentials.
Suitable for medium investment horizon: These funds are targeted primarily by investors with investment horizons of three to five years. Investors with a longer investment horizon of 5-7 years prefer value funds.
Disadvantages of growth mutual funds
Besides the long list of advantages, there are few disadvantages that investors should keep in mind while considering growth funds.
High risk: Although growth funds invest in companies with high potential to grow, these stocks are also subject to significant price swings, meaning susceptible market fluctuations.
Possibility of value depreciation: There are chances of losing initial investment with growth funds because these stocks are highly volatile. The value of these stocks increases and decreases with the market condition.
No dividends: Growth funds don’t pay out dividends. They reinvest the profit in research and development to sustain their growth. Hence, don’t suit investors wanting to receive a secondary source of income.
Long-term investment: Growth funds work better in the long run as it allows the stocks to tide over market fluctuations to generate higher returns. Hence, growth funds are not for investors seeking short-term gain.
Should you invest in growth mutual funds?
Growth mutual funds invest in companies expected to proliferate, resulting in higher returns against higher risks. Hence, these aggressive mutual funds are for investors willing to take significant risks in the market. Investors ready to remain invested through market volatility should invest in these funds.
Growth mutual funds are ideal for portfolio diversification. But if you are a risk-averse investor, these funds may not suit you. Similarly, growth funds are not suitable for senior investors and investors saving for retirement. But young investors, who can take risks and plan to stay invested in the market for an extended period, should invest in growth funds for significant capital appreciation.
We hope the article has helped you learn about growth mutual funds. If you find the information meeting your investment needs and risk profile, go ahead and invest in growth funds. These funds would earn higher returns than other mutual funds.