Mutual fund is an investment vehicle that is made up of a pool of funds which is collected from many investors for the purpose of investing in securities such as stocks, bonds, money market instruments and similar assets. Mutual fund is an open ended fund operated by an investment company, the funds are raised by this company from several shareholders and investors. This fund is then invested by the company in a group of assets in accordance with a stated set of objectives and conditions. The task of operating these funds is given to a money manager who invests the fund’s capital and tries to produce capital gains and income for the fund’s investors. The shareholders or investors who participate in these funds share the overall profit or loss of the investment done by the managing company.
Mutual funds, made simple:
In simple terms, a mutual fund raises money by selling shares of the fund to the public, much like any other company can sell stock to the public. Mutual funds then collect the money gained from selling shares in addition to the money available from previous investments. This money is then used to purchase various investment vehicles as mentioned above. In return to the money they give to the mutual funds, the shareholders receive the share of the profit in the investments made by the mutual fund manager. Mutual funds are also sometimes referred to as portfolios.
Consider the example of baskets of investments, each basket has different security types like stocks, bonds etc. Buying a mutual fund thus means buying a basket of these securities. It is important to note that the investor owns shares of the mutual fund, not the shares of the holdings in which the fund has invested. Say, if a particular mutual fund includes Google stock in its holdings then the investor does not directly own that stock but rather he owns shares of the mutual fund.
The different types of mutual funds are equity funds, fixed income funds, money market funds, balanced funds, bind funds and several others.
Benefits of Mutual funds:
One of the main advantages of mutual funds is that it gives small investors access to professionally managed, diversified portfolios which would be difficult to create with a small amount of capital. The shareholders participated according to the proportion of their investment in the profit or loss of the fund.
With mutual funds you are not putting all your eggs in one basket instead you are spreading out the risk. One mutual fund may offer the diversity equal to buying 20 or more securities, that too in a single share. This diversity can be further increased by buying different mutual funds
- Professionally Management:
By investing in mutual funds you are giving your money to professional stock investors having extensive knowledge of fundamental or technical analysis. The investor may have little or no knowledge of investment and still get a good deal out of it
You can start investing in mutual funds with as little as 1000$ without knowledge or prior experience in investments. Mutual funds offer liquidity and convenience, the shareholders can also sell the share at any time according to the varying market price.
You can easily buy and sell mutual fund shares without any restrictions. Unlike owning property, you can always exchange the shares of a mutual fund with some other investment or with cash. This always gives you the option and flexibility to create and maintain diverse portfolios.
Disadvantages of mutual funds:
With the many benefits and advantages, mutual funds may seem the way to go for a convenient and safe investment but it has some negative aspects as well. Mutual funds have high costs, not in terms of the risk but also the added high fees. These funds have operating costs which are recovered from the investors. Critics of this industry argue that the expenses are too high. They believe that the market for mutual funds is not competitive and that there are many hidden fees, so that it is difficult for the investors to reduce the fees they pay. They argue that the best way for investors to raise the returns is to invest in funds with low expense ratios.