About Mutual Funds
Who has the time to study the markets, keep track of individual company news, and pay attention to the economy day after day after day? If you're a novice investor, the task of becoming familiar with investment concepts and jargon is that much harder. And it's the rare investor who has thousands or even millions of dollars to make a meaningful investment in more than a few stocks or bonds at a time. For all of these reasons, millions of investors pool their money into what is called a mutual fund. Stop here to learn what they are, how they work, and what makes them appealing to so many people.
A mutual fund is a company that invests in a diversified portfolio of securities. When you invest in a mutual fund, you become part owner of a professionally managed portfolio of securities, which may include stocks, bonds or money market instruments.
Mutual funds offer a number of benefits for most investors, including:
Most mutual funds invest in many different individual securities -- typically 50 or more. To do the same, an individual investor would need to have many thousands, or even millions, of dollars to invest and a great deal of time.
By pooling their money into a mutual fund, investors can take advantage of economies of scale. If you traded securities by yourself, you'd probably have to pay relatively high brokerage commissions and potentially other fees. In addition, you may not get the best price when buying or selling a stock or bond. Because mutual funds buy stocks or bonds "in bulk," they may be able to negotiate an advantageous price and pay lower brokerage commissions.
Mutual funds are run by highly trained portfolio managers who decide where to invest shareholders' money. These professionals can devote themselves full-time to monitoring market and economic trends. They have the skills and resources to carefully analyze economic and financial data and to identify the investments with the best potential. They chart trends, scrutinize individual companies, and ensure that the fund's portfolio is fully diversified – which can reduce exposure to the ups and downs of individual securities.
Mutual funds offer a variety of investment options to meet your needs. Whether you're seeking short-term income, hoping to gain tax advantages or looking to achieve long-term growth, mutual funds provide you with choices that can match your investment needs today and for the future.
You can usually buy, exchange, or sell fund shares anytime, which makes it easy for you to adjust your investment portfolio as your needs change.
Mutual funds offer a convenient way to begin investing in the market. Many fund companies make it easy for you to move money from your bank account into a mutual fund or funds. In many cases, you can also set up a program to automatically transfer a set amount of money from your bank account into a fund on a regular basis.
Although investing can be profitable over the long term, you should know that it can involve a considerable amount of risk. Unlike bank deposits, mutual funds are not insured or guaranteed by the U.S. government or any other financial institution. In other words, you could lose some or all of the money that you invest.
Mutual funds now number in the thousands and run the gamut from conservative money market funds to ultra-aggressive stock funds. "Conservative" investments are those that have relatively modest risk/reward potential, with a lot of emphasis placed on preserving the value of your initial investment and/or on generating regular income. (That said, you can still lose money in a so-called "conservative" investment.) "Aggressive" investments are those that take on a greater degree of risk for potentially greater long-term capital appreciation.
A Spectrum of Choices
The following spectrum is designed to give you a general idea of the risk/return potential of various types of mutual funds. The funds are listed by their "objective," which helps to indicate what area of the market they focus on and what strategies their portfolio managers employ in pursuing their goal.
* An investment in money market funds is not insured or guaranteed by the Federal Deposit Insurance Corporation or any other government agency. Although money market funds seek to preserve the value of your investment at $1.00 per share, it is possible to lose money by investing in money market funds.
When you begin to invest, one of the things you’ll have to decide is whether to invest in load or no-load funds. Many fund companies rely on intermediaries to help provide investors with advice on their funds. To buy these funds, you have to pay a sales charge, or "load."
There are several reasons why you might want to consider a load fund. For instance, some load funds offer the skills of an exceptionally experienced portfolio manager or a unique investment strategy.
Even experienced investors may appreciate the help of an investment advisor in sorting through the maze of mutual fund choices. The fund's load compensates investment advisors for their valuable services.
What’s more, there’s evidence that investors who buy load funds may achieve better results over time – because they tend to move their money around less. In a recent study by a large financial services research firm*, it was found that load fund investors reacted less to market activity than no-load fund investors. In other words, investors who bought no-load funds tended to try to time the market more, which is exceedingly difficult to do successfully and rarely improves investment performance.
Load fund investors, on the other hand, tended more to hold onto their investments throughout market volatility and remain focused on their long-term goals, rather than reacting to short-term market fluctuations and trying to time the market. They may have made sounder long-term investment decisions as a result of having had access to an investment professional.
* Source: DALBAR Financial Services Special Report: Quantitative Analysis of Investor Behavior.
A variety of sources provide performance information on mutual funds. Most local newspapers include recent total returns for hundreds, if not thousands, of funds in their daily business sections. For more in-depth fund performance information, check out financial newspapers such as the Wall Street Journal. The Journal is also legendary for its day-to-day reporting on issues affecting the markets and economy. Other finance- or business-oriented publications such as Barron's, Money, and BusinessWeek provide informative quarterly updates on mutual fund performance.
Although it can be tempting to keep track of your investments on a daily or monthly basis, paying such close attention to the short-term performance of your funds can cause you to lose sight of your long-term goals. It's all too easy to jump the gun and sell out of a temporarily underperforming fund, only to see it rebound sharply not long after. In a diversified portfolio, some funds will naturally do better than others on a short-term basis. Investment experts generally agree that the key to successful investing is to stay focused on the long-term direction of your portfolio and not be swayed by short-term trends.
For informational purposes only. Mutual fund investing involves risk, including the loss of principal. Diversification does not protect against market loss.