Potential benefits of mutual fund investing
If you have a financial goal you want to meet, investing in mutual funds could be the answer.
Mutual funds provide investors an easy way to invest in the stock and bond markets.
What is a mutual fund?
A mutual fund — called a portfolio — is created by a fund manager and could be comprised of stocks, bonds and cash. Investors pool their money into the account and the money is invested by a professional manager into a group of securities.
Where to buy mutual funds
Mutual funds are relatively easy to purchase. These funds can be purchased through a brokerage firm, banks, insurance companies or you can even purchase them through online discount brokers yourself.
Types of mutual funds
The majority of mutual funds are either bond, stock, money market or target date funds.
- Bond funds. These funds invest in bonds from governments, municipalities and corporations.
- Stock funds. Corporate stocks are used for this fund. Within this category there are different types:
- Income funds – These funds invest in stocks that pay dividends on a regular basis.
- Growth funds – These funds strive for above-average growth and may not pay a regular dividend.
- Index funds – These track certain markets like the S&P 500.
- Sector funds – These funds are part of an industry segment.
- Target date funds. These funds typically have a year assigned to them, usually when you’d like to use the money. They are typically more aggressive in the beginning and become more stable as the selected time occurs. Typical uses for these funds would be retirement or college.
- Money market funds. By law these funds can only invest in short-term, high-quality investments issued by federal, state and local governments or U.S. corporations.
Advantages and disadvantages of mutual funds
Although they have risk and aren't for everyone, mutual funds are the choice for many people who have long-term investment goals.
Mutual funds advantages
- Mutual funds use professional management. Many people lack the time or expertise to keep up with changes in the market. The portfolio manager has the knowledge to figure out what to buy and what to sell. To help you keep track of your investments, mutual fund companies provide regular reports on your investments. These will help you track your performance and make life a little easier at income-tax time, rather than having numerous separate securities to monitor.
- Mutual funds are also diversified. The combined assets of hundreds or thousands of investors allow the portfolio manager to buy a range of different securities that fit the investment objective of the fund. This can spread out the risk of the portfolio because different securities will perform better at different times. Diversification won't eliminate all risk, of course, but it may help balance the risks in your portfolio. Check out the benefits of diversifying your portfolio and how to make it happen.
- Low or no-minimum investment. There's another reason that mutual funds are popular with many investors — many funds have low minimum investment requirements. That makes them affordable to many different types of investors and allows you to make regular investments rather than a large lump-sum payment. Try to start investing small amounts early if you can, so that your money has a chance to grow.
Mutual funds disadvantages
- High expense ratios and charges. These expenses are removed from your profit. Finding a fund with almost no expense ratio or sales charge is ideal.
- Taxes. The profit you make from regular dividend distributions and potential profit you make when selling is considered capital gains, which should be reported on your taxes.
- Trade delay. The buying and selling of a mutual fund are not done instantly like stock trading is.
Mutual fund fees and expenses
A mutual fund may have fees associated with purchasing or selling of the fund. They also have an expense ratio which is used for the management of the fund. It’s important to look at these fees and be comfortable with them before purchasing the fund.
Front load – These fees are assessed when you purchase the mutual fund. They may be as high as 5% or more.
Back load – When you sell the fund, back load charges may be applied. These fees may also be up to 5% or more.
No load / load waived – As the name implies, there are no fees applied at the purchase or redemption of the fund.
Expense ratio – This is the amount used to manage the fund.
Why is portfolio diversification important?
Mutual funds are diversified. The combined assets of hundreds or thousands of investors allow the portfolio manager to buy a range of different securities that fit the investment objective of the fund. This can spread out the risk of the portfolio because different securities will perform better at different times. Diversification won't eliminate all risk, of course, but it may help balance the risks in your portfolio. Check out the benefits of diversifying your portfolio and how to make it happen.
Look for mutual funds with a low or no-minimum investment
There's another reason that mutual funds are popular with many investors — many funds have low or no minimum investment requirements. That makes them affordable to many different types of investors and allows you to make regular investments rather than a large lump-sum payment. Try to start investing small amounts early if you can, so that your money has a chance to grow.
Mutual Funds may be one of the many instruments to reach your financial goals. Keep learning about savings, investments and retirement to begin or continue on your journey to financial well-being.
