What is a mutual fund?
Mutual funds are a form of collective investment that pools money from multiple investors, which may include individuals, companies, or organizations. The cumulative funds are then used to purchase a variety of securities, such as stocks and bonds. Each investor is entitled to a piece or share of this “basket”.
How do mutual funds work?
A pool of money is collected to form a mutual fund and an asset management company (AMC) is selected to manage these funds according to pre-established goals. To ensure the AMC is acting in the best interest of the fund’s investors, a board of trustees monitors its activities.
To mitigate the risk associated with fluctuating markets, the account managers will invest in multiple industries or securities, including stocks and fixed income investments. The varied nature of mutual funds ensures better performing stocks balance unstable ones in any given time period, netting a positive result. This is referred to as “spreading the risk”.
There are many types of mutual funds, including money market funds, fixed income funds, equity funds, balanced funds, index funds, specialty funds, and fund-of-funds.
Investors can make lump sum contributions or recurring smaller contributions, the latter of which is achievable through a systematic investment plan (SIP). Initial investments can range anywhere from $25 to $100,000 or more, but most fall between $1,000 and $5,000. However, these initial inputs may be waived if the individual has agreed to make regular pay-ins. Unlike hedge funds, such investment options make mutual funds accessible to everyone, from blue collar workers to entrepreneurs.
Once the pooled money has been invested, contributors are given units – basically, a stake or claim – that can be redeemed at any time. The Net Asset Value (NAV) represents the value of each unit of an individual’s investment minus fund expenses and management fees.
The NAV does not provide a complete picture of mutual fund performance, however. That is why mutual fund managers establish benchmarks based on analysis of various indexes, including the S&P 500, the Dow Jones Industrial Average, and Lipper Indexes. Setting benchmarks allow managers to ensure the mutual fund is surpassing
What should you consider before contributing to a mutual fund?
Before contributing to a mutual fund, it is important
You’ll also want to consider your risk tolerance. Though bigger risks have the potential for bigger returns, you should only invest an amount of money you’d feel comfortable losing in the event the fund is a bust. Keep in mind that no matter the fund manager’s experience, they still cannot predict success 100 percent of the time.
Another item to consider before entrusting an AMC with your money is the prospectus, which is an official explanation detailing how a fund operates and will include information such as fees and charges, minimum contribution requirements, performance history, and risks. Similarly, you can research the fund managers themselves, making sure their credentials and experience qualify them to manage your hard-earned money.
With proper research and sound strategies, mutual fund investments are a means to increase income, especially for retirement. If you’re interested in developing an investment strategy to maximize your retirement income, please contact Retirement Income Specialists.
We’re more than an investment company. We help soon-to-be and current retirees create a comprehensive financial plan, from social security benefits to estate planning, designed for maximum comfort in their Golden Years.