7 Things Every Investor Should Know!!

 

Created by Labh

When it comes to mutual funds, one of the most important yet often overlooked factors is liquidity—basically, how easily you can turn your investment into cash when you need it.

Think about it: You might invest with the goal of long-term growth, but what happens if life throws you a curveball and you need cash fast? 

The liquidity of mutual funds can depend on a few things—like the type of fund, the assets it holds, and even market conditions.

So, before you dive in, here are 7 key things you need to know about mutual fund liquidity.

1. Liquidity Depends on the Type of Mutual Fund

Not all mutual funds are created equal when it comes to liquidity. The structure and type of a mutual fund determine how easily an investor can access their money:

Open-Ended Funds: These funds are the most liquid, allowing investors to buy and sell shares directly from the fund at the net asset value (NAV) on any business day.

Closed-End Funds: Unlike open-ended funds, closed-end funds trade on stock exchanges, and their prices are subject to market demand and supply. This makes them less liquid since transactions depend on finding a buyer or seller.

Exchange-Traded Funds (ETFs): While ETFs offer intraday trading like stocks, their liquidity is tied to the trading volume and the liquidity of the underlying assets.

Liquid Funds: As the name suggests, liquid funds are designed for high liquidity, investing primarily in short-term debt instruments. They are ideal for parking surplus cash temporarily.

2. Funds Have Rules That Delay Withdrawals

Exit Penalty: Some funds charge you a small fee (like 0.5% to 2%) if you withdraw your money too soon, especially within the first year.

Lock-In Periods: Funds like ELSS (Equity-Linked Savings Schemes) have a fixed 3-year lock-in period. You can’t touch your money during this time.

Timing Matters: If you request a withdrawal late in the day, it might not get processed until the next business day.

3. The Type of Investments in the Fund Affects Liquidity

What a mutual fund invests in decides how easily it can pay you back:

Stock Funds (Equity Funds): Shares of big companies are easy to sell, but shares of smaller companies might not find buyers quickly.

Debt Funds: These invest in things like government bonds or company loans. If the companies or bonds are high-quality, your money is easier to get back.

Real Estate Funds: Investments in buildings or infrastructure take time to sell, so these funds can be very slow to return your money.

4. When the Market Is Down, Liquidity Gets Tough

Your fund’s liquidity can change depending on market conditions:

Normal Times: Most funds are easy to cash out when the economy is stable.

Crisis Times: During events like the COVID-19 pandemic, some funds faced massive withdrawal requests and couldn’t pay everyone immediately.

5. Fund Managers Work Behind the Scenes to Keep Things Smooth

Fund managers, the experts who handle your mutual fund, have tricks to manage liquidity:

Cash Reserves: They keep a small amount of the fund’s money in cash to handle withdrawals quickly.

Selling Investments: If too many people withdraw money at once, the manager may need to sell investments. But if they sell in a hurry, the fund’s value could drop.

6. Rules Are in Place to Protect Your Investment

Regulators like SEBI in India make sure mutual funds follow rules to manage liquidity:

Funds are required to keep a portion of their investments in easily sellable assets.

Many funds now test how they would handle a large number of withdrawal requests during tough times.

7. Investor behavior Affects Liquidity Too

Sometimes, it’s not the fund but how people behave that creates problems:

Panic Withdrawals: When markets crash, many investors try to withdraw their money at the same time, which makes it harder for funds to stay liquid.

Big Investors: Some mutual funds rely heavily on big investors like companies or institutions. If these investors withdraw large amounts, it can impact everyone else.

Myths About Mutual Fund Liquidity

Myth 1: All Mutual Funds Are Equally Liquid

Reality: Liquidity can vary greatly depending on the type of fund you choose. For example, closed-end funds and sector-specific funds tend to be less liquid than others. So, not all mutual funds will give you easy access to your money when you need it.

Myth 2: Redemption Proceeds Are Instant

Reality: If you're hoping for instant access to your funds, think again! While liquid funds process redemptions quickly (within one business day), equity and hybrid funds may take up to three days to process your redemption. So, plan ahead if you need fast access.

Myth 3: High Liquidity Equals High Returns

Reality: High liquidity doesn’t always equal high returns! Liquid funds are designed with safety and accessibility in mind, not big gains. They're perfect for short-term needs, but if you're aiming for long-term wealth growth, you'll need to look at other fund types.

Understanding the key aspects of mutual fund liquidity can help you make smarter investment choices and better align your portfolio with your financial needs. It's always a good idea to read the fund's prospectus and talk to a financial advisor to ensure that your investments match your liquidity goals.

After all, what’s the point of an investment if it can’t serve you when you need it?

At Labh, we believe that understanding liquidity is crucial for financial peace of mind. Whether you're growing your portfolio or planning for future goals, we’re here to make sure your investments are not only growing but also accessible when you need them.

We’re Labh—creating simple, diversified fund baskets to help you make the most of your investments and reach your financial goals.

Click here to join our beta today and take the first step toward better investing.