It is a common belief that mutual funds are only for new investors or those who do not understand finance. If you are familiar with market cycles, you can use Contra Funds. These are actively managed funds that allow you to invest in sectors that are trading at a relatively lower valuation. It is a better option to choose if you want to time the market. As an individual, it is not easy to do so. Fund managers have the capability to track the macro and micro data on sectors to identify the right time to invest in a sector.
What are Contra Funds?
A contra fund is a type of equity mutual fund that aims to pursue a distinct approach to investing.
A contra fund, as the name suggests, can be considered as an open ended equity scheme that follows a contrarian strategy. Herein the fund managers bet on such stocks that are not performing well, and are supposedly considered undervalued instead of focusing on those equities that seem to be more promising at the present moment.
Thus, when the question arises of what is contra fund meaning, it can be said that contra funds are the ones that concentrate on stocks that, even though are underperforming at the moment, are expected to outperform the market in the near future.
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Contra Funds invest primarily in stocks, i.e., in the equity markets. According to AMFI, contra funds are required to invest at least 65% in equity, which means that they fall under the category of equity mutual funds only, and some of their most common benefits include a high degree of active management of the fund, potentially high returns, and investment in undervalued stocks. The actual contra fund meaning is an unconventional or a contrarian approach to investing in stocks.
How do Contra Mutual Funds Work?
A contra fund or contrarian fund works quite uniquely in comparison to the other mutual fund schemes. It seeks to follow a strategy that assumes that the class of asset in which the contra fund invests is going to improve at some point in the future. A majority of the fund managers might be able to purchase these undervalued securities at a good enough bargain.
These investments are made with a long-term investment plan in mind. As a result, investors with a short-term investment plan should think twice before investing in contra funds. Contra funds may or may not be favoured by every investor as they follow a strategy of investing in securities and commodities that have become undervalued.
Although it is true that performance of asset classes is never constant and keeps on fluctuating from time to time, some of the investors may not be willing to wait long enough to leverage the benefits of investing in a contra fund.
Characteristics of Contra Funds
Contra funds go against current market sentiments, and invest in stocks that are undervalued owing to poor performance, but have the potential to rise in value. Its performance is heavily dependent on the capabilities of the fund manager.
The contra mutual funds are taxed like any other equity mutual fund. When it comes to long term capital gains, i.e. if held for more than 12 months, gains get taxed at 10% on profits over Rs. 1 Lakh. However, for short-term gains, i.e. if held for less than 12 months, gains get taxed at 15%.
To summarise it all, the characteristics of contra funds can be divided into two points.
● Risk-reward ratio- Owing to the fact that contra funds invest in stocks that are yet to reach their full potential, they possess a higher risk-reward ratio. Fund managers are paid to thoroughly evaluate these stocks and select the ones that have the best prospects for growth in the foreseeable future.
● Equities investment- As previously stated, equity-related securities and equity derivatives must account for a good portion of the assets in these funds.
Final Words
To diversify your investment, you can explore the realm of contra funds and how it can assist your stock investment strategy. Irrespective of the mutual fund plan you wish to invest in, ensure that you're doing sufficient research about that fund before making the actual investment.
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