Mutual Funds – What you need to know

Investing in mutual funds is another way to generate income. It’s not enough to just save for the future. Who knows what the future has in store for you? Will the price of products and services rise? Will the economy keep thriving? After 20 years, will i be able to spend money the way i currently do? These are questions that you need to answer. Savings are always good but investments are better. All those savings of yours are better put to use when you use them to invest in assets. And a very good investment instrument for you is Mutual Funds.

What is a Mutual Fund?

Mutual Fund is an investment pot – referred to as portfolio – that collects and collates money from various investors to invest in securities such as stocks, bonds, and other assets.

This portfolio is managed by a person in an asset management company known as a money/fund/portfolio manager in return for a fee. The beauty of mutual fund is that it gives individual investors without prior knowledge of investment an avenue to invest in professionally managed portfolios such as equities. This means the individual investor gains when there is a favorable outcome and partakes in the loss when the fund does not do so well.

The price of each and every share (every unit) in the mutual fund is called a net asset value (NAV). And this is the total of all the securities owned (stocks bonds etc.) divided by the number of mutual fund shares. This price fluctuates based on the value of the securities in the portfolio at the end of each business day. Just like you may own an inherited share of the property owned by your father or grandfather, owning a share in mutual fund simply means owning a part of the fund. Let’s say your grandfather left you and your siblings $1,000,000 when he died, and the lawyer tells you the share given to you by your father is $200,000 out of $1,000,000, then that’s the part that you own out of the total inheritance. The same applies in mutual funds – you own a part of the whole.

Decisions to buy or/and sell securities are made based on research and experience. Expert and brilliant portfolio managers seek to outperform their given ROI targets. Outperforming this benchmark is a measure of how good a portfolio manager is.

Types of Mutual Fund

Types of mutual funds

Based on your reason for investment, you may want to invest in a short-term or long-term instrument. It is therefore necessary to know the kind of investments to partake in for a short term ROI and the one that takes a while before you get your desired return. Note that every mutual fund has some form of risk. The types of mutual fund basically consists of  stocks – which are usually equity funds, bonds – these are fixed-income funds, short-term debt – which include money market funds and both stocks and bonds – called balanced or hybrid funds. You can lose money when you invest. Therefore, before investing in any instrument, get some advice from your financial manager.

1. Equity Funds

This is a kind of mutual fund that invests in stocks. They are also known as stock funds and can be managed both actively and passively. A stock is the congregation of all the shares of a company. It can also be a combination of shares from various companies. Stock investment is a way the average individual can invest in large corporations. This means it’s a means of investment that can be accessed by anyone. Equity funds are the most popular type of mutual funds. There are many equity funds options that investors can choose from the market sector e.g foreign or domestic market and from specific stock exchanges e.g New York Stock Exchange, income or growth stocks etc

Equity Funds can further be divided into:

1. Growth Funds

This mutual fund involves buying stocks from a company that is increasing in value. The company is usually a new one and this makes this type of investment risky. Growth funds also have higher fees relative to other fund types due to the nature of the stocks – they are sold more often. The higher the risk, the higher the return you stand to gain. The risk associated with growth funds also make it a highly profitable investment as the growth here is one of the best over a long period of time. That said, If you cannot bear a sizeable amount of risk, then this fund is perhaps not for you.

2. Value Funds

Value funds is a type of mutual fund that involves buying stock when they are undervalued and then waiting for the value to rise. Stocks purchased here usually have good dividends which enable the investor to make money. Fees paid here are lower than that of growth funds as it takes a longer period of time to get a return. Because the risk associated with value funds is lower, they are regarded as conservative investments.

3. International and Global Market Funds

Geographic location can also determine how mutual funds are built. International funds invest in companies doing business outside the U.S. while global funds invest in companies doing business both in the U.S. and abroad. Emerging market funds target countries with small but growing markets.

4. Blend Funds

These are also known as hybrid funds and this is a combination of both growth and value funds. The features of both growth and hybrid funds are combined here. What this means is that the risk here is lower than that found in the growth funds but higher than that found in value funds. It also means that the return obtained here is usually more than that of investments found in value funds but lower than that obtained in growth funds.

 

2. Bond Funds

This is the most popular type of mutual fund after equity fund. A bond fund is a mutual fund that invests solely in bonds. This begs the question: what is a bond? Bonds are loans given to large companies/organizations or the government which attracts a fixed rate of return. This means the borrower (government or corporation) pays back the money with interest after a period of time.  Here, investors are paid a fixed amount of return on their investment. This makes bond fund (also known as debt funds) a safer investment. And because of the safety associated with it, it does not yield as much growth as equity fund. Bond funds invest in government debt instead of company stocks.

This mutual fund is usually preferred by individuals that are retired or individuals nearing retirement. It has a low risk characteristic. This usually guarantees an income at a time when investors cannot work or are limited in their capacity to work. Here, the goal is to generate monthly income for investors.

3. Money Market Funds

This is a fixed-income mutual fund that invests in highly liquid instruments such as cash (and it’s equivalent) that are of high quality over a short period of time. They are short-term debt from organizations and the government. Because they are short-term debts, they have a high liquidity and a low risk characteristic. The appreciation of investment in this mutual fund is quite low therefore, it shouldn’t be used as the main source for generating ROI. It should be used for temporary purposes not for a long period of time. They are one of the safest fund to invest in. Examples of assets under money market fund include U.S. Treasury and commercial paper.

4. Balanced Funds

This is a kind of mutual fund that combines both equity and fixed-income funds. There is a fixed ratio associated with each fund in the combination. For example, equity funds can have 55% of the total value in the portfolio while the other 45% consists of fixed-income funds such as bonds. The aim is to balance achieving higher returns against risk. Balanced funds that hold more equities than bonds are known to be aggressive while those that hold fewer equities relative to bonds are known as conservative.The best-known variety of these funds are target-date funds. Target-date funds automatically appropriates the ratio of investments from equities to bonds the closer an individual gets to retirement.

5. Index Funds

An index fund is a type of mutual fund that strives to match the growth of a particular market index, such as NASDAQ and the S&P 500. ​​Index funds can be passively managed. In fact, passively managed index funds have recently been doing better than actively managed index funds.

Investment associated with index fund work in two ways: It’s either some of the mutual fund hold stocks from all companies listed over the index, or they pick a few stocks over the wide spectrum. Fees on this mutual fund are generally the lowest because the companies often do not sell the stocks and the portfolio manager doesn’t have to do as much research as required by other funds.

Why you should invest in Mutual Funds

reason to invest in mutual fund

1. Higher Return on Investment (ROI)

Mutual funds provide a means to beat inflation while meeting future needs for many investors. It’s smarter to invest in mutual funds than to just save up money (which has a lower interest rate). While there is risk associated with investment, there is a good chance your money grows at a better rate than if left in the bank. You can also decide if you want a short, medium or long term investment as this allows you to obtain your return when you require it.

2. Your money is in good hands

Good portfolio managers make intelligent investment decisions based on intensive research, wealth of knowledge and years of experience. Therefore, mistakes and wrong decisions are minimal. Portfolio managers are adept at handling risks. They know the right thing to do at the right time. They make conscious effort to monitor market trends, the economy and events that may affect investments positively and negatively in order to maximize the ROI of investors.

3. A diversified portfolio

Long term investments and short term investments, high risk and low risk investments, high liquidity and low liquidity assets and the combination of different fund types to manage risks better – all these features make mutual fund a very diverse investment instrument. Be it you’re just entering the labor market or you’re retiring soon – no matter the kind of person you are, there is a fund that’ll suit your need(s).

4. It’s easy to start

It’s so easy to start investing that you can do it right now using your smartphone. You don’t need a huge sum of money to start (like some other investments require). One can start investing in mutual funds with as low as $50. You can even program the deduction of a percentage of your salary every month such that it goes into your monthly investment portfolio. Mutual funds are available through banks, financial planning firms, investment firms and trust companies. You can sell your fund units or shares almost any time you need money. The only thing is you may sell it for less than you acquired it.

5. Systematic Investing and Withdrawals with Mutual Funds

The process of transferring money from your bank account into your mutual fund for investment purposes can be systematically programmed as indicated above. Also, you can decide to automatically withdraw a fixed or variable amount of money from your mutual fund into your bank account on a monthly, quarterly or even yearly basis. This enables you to earn a regular income especially if you’re retired and in need of a stable income.

 

Mutual funds is a great way for individuals to build wealth. Everyone cannot be a successful business owner or CEOs of large companies. But saving and investing in mutual funds is a feat that can be achieved by all.

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