All of us have seen the words "Mutual Funds are a good form of investments," but this is an extremely generalised statement. Whether you are considering investment in mutual funds or stocks, it is very important for you to understand which stocks and mutual funds you SHOULD NOT invest in. Your returns will automatically be admirable by avoiding all the risky mutual fund schemes. Therefore, in this article, we will discuss the types of mutual funds that you should avoid.

• Not every mutual fund is suitable for you as an investor.
• Some of the riskiest mutual fund types include small cap mutual funds, credit-risk mutual funds, and balanced hybrid mutual funds, among others.
• It is important to be aware of the risks associated with mutual funds, and make an investment only after taking into account your risk appetite.

Balanced Hybrid Mutual Funds

As their name would suggest, hybrid funds are simply a mix of equity and debt investments combined in a fund for the achievement of the investment objective of the scheme. Different combinations of equity and debt are targeted at different types of investors through each Hybrid Fund.

Hybrid funds come with an investment risk proportionate to the asset allocation in its portfolio. So, you as an investor need to study the portfolio of the scheme properly to have a good understanding of the kind of risks involved.

It will also help you understand what type of returns you can expect. According to many participants of mutual funds, taxation is the biggest obstacle to the success of balanced hybrid mutual funds.

A Balanced Hybrid Fund has to invest 40-60% of its assets in equity or debt. Because of this investment mandate, these schemes would be treated as debt schemes for tax purposes. Tax-wise, a fund needs to invest at least 65% of total assets in Indian stocks to qualify it as an Equity Mutual Fund scheme.

Fund of Funds

A fund of funds is a type of Mutual Fund that pools its resources together to invest in many other types of mutual funds provided in the market. Through this Mutual Fund, you may also make an investment into hedge funds.

The expense ratio to operate this type of mutual funds is higher compared to others. The reason is that it involves higher management expenses. Besides the other expenses involve primarily in choosing the right asset to invest in which is periodically on the rise.

However, when it comes to recovery, short-term as well as long-term capital gains fall in the tax deduction category, which depends on how much you earn in a year and over what period of time you are investing.

Sector Mutual Funds

A sector mutual fund invests in a given sector of the economy. These sectors could be energy, utilities, infrastructure, etc. Sector funds or sectoral funds may invest in the equity of companies whose market capitalisation varies and vary in their security class. Such funds enable you to invest in stocks that have proved to be the most productive for the selected sector.

As the portfolio is much less diversified, the risks are higher. The funds’ efficiency is dependent on how well the stocks in that particular sector are performing.

Small Cap Funds

Small-cap funds invest predominantly their investible corpus in equity or equity-related instruments of small-cap companies. According to the SEBI guidelines, small-cap schemes have to invest more than or equal to 80% of total assets in small-cap companies. In monetary terms, these are those whose market capitalization is less than Rs. 500 crores.

The Net Asset Value (NAV) of a small-cap fund is dependent on the movement of its underlying benchmark. A small cap fund is a  great opportunity for all the risk-taker investors who are looking for aggressive growth.

Credit-Risk Mutual Funds

A credit risk mutual fund can be defined as a debt fund that invests in low credit quality debt securities. These funds carry more risk due to the instruments in which they invest.

Credit risk funds carry higher risk as compared to other schemes of debts. Though the fund manager expects an improvement in credit rating of any underlying security, there is a possibility of further downgrading of a relatively low-rated instrument. This can have an immense impact on the performance of the fund.

Investing in mutual funds is safe if you know what you are doing. Equity fund investors, who are investing in mutual funds, do not have to worry about returns fluctuating temporarily. You need to ensure that you are investing in a mutual fund that helps you meet your financial goals, without affecting you badly due to any risks associated.

The Bajaj Finserv Mutual Fund Platform offers over 1,000 mutual funds that you can choose from. Additionally, the platform has a mutual fund calculator that helps you compare mutual funds.