An Ultimate Guide on How to Invest in Mutual Funds
This short guide will assist beginner traders by helping you to gain a better understanding of mutual funds, how to invest in mutual funds, it will provide some a brief breakdown of the benefits and disadvantages of them, how to comprehend various mutual fund structures, and it will include the various categories of mutual funds that exist.
What Is A Mutual Fund?
A mutual fund collects finances from a group of investors
- Mutual fund investment portfolios are diversified
- Even hobby investors or one-off traders can join and earn returns
A mutual fund is a form of investment fund whereby capital is collected (a technique that is also known as pooling) from a bunch of different traders and investors and is then invested in various different securities (e.g. bonds, equities, stocks, and other types of money market trading instruments).
Instead of relying on one individual to be responsible for trading with the securities and investment portfolio, mutual funds are typically managed by ‘professional money managers’.
These individuals are responsible for managing the investors’ capital, with the goal of creating returns on the investors’ capital.
Mutual funds are a great way for small or individual investors to be able to benefit from trading securities on the stock exchanges without necessarily having to contribute large amounts of capital.
Moreover, because of the fact that the funds are diversified, this can lessen the risk of losses, as there will be several securities within a fund, and therefore, if one or two stocks are not performing well, it might not necessarily be detrimental to the investor, as the other stocks may be delivering returns on investments.
How Are Mutual Funds Structured?
As mentioned previously, mutual funds will typically feature several different types of securities (for example, bonds, stocks, and other forms of investments).
From here on, the securities are then split into various categories, and will be organised according to the types of investments they are, what the aims for the investments are, as well as the returns expected.
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Mutual Fund Structures
The vast majority of mutual funds fall under this category. In this type, there are no limits to the amount of investors or stocks that a fund may have.
This fund structure refers to instances where there is a limited amount of shares that have been offered (for instance, in the event of an IPO – Initial Public Offering).
Other Important Details
- One disadvantage of mutual funds is that annual fees are charged for their usage (these fees are known as expense ratios), and sometimes investors can be charged commissions as well. These expenses all affect the overall returns that investors make from mutual funds.
- The vast amount of capital invested in retirement plans that are supported or sponsored by companies will be used in mutual funds.
How To Invest In Mutual Funds
- Select an active or passive mutual fund strategy
- Work out your budget – how much can you afford to risk? It’s the standard trading question. Work out how much you wish to invest, and try to figure out an objective for how you would like the funds to perform.
- Choose a provider that you are comfortable investing with. For instance, if you choose to manage a mutual fund comprised of stocks, MTrading can help you to manage your investment portfolio, and can provide you with over 100+ trading instruments to trade with, as well as a 40% deposit bonus when you make your first initial deposit!
Types Of Mutual Funds
Broadly speaking, mutual funds can be organized and separated into the following four categories:
- Stock Funds (Equity) – In general, these types of funds contain the highest risk factor, due to the volatility of share prices, together with the various different factors that can greatly affect the prices. For instance, not only can news events and economic announcements affect share prices, but there is also the danger of an entire market crash (which tends to happen every ten years or more, and is typically tied to global recessions e.g. the global economic downturn of 2008).
- Bond Funds (Fixed-income) – By comparison, bond funds tend to carry less risk than stock funds. Bonds are a type of agreed upon financial contract between two parties (similar to a loan) whereby returns come in the form of paid interest, but only once the investment has matured. Government bonds tend to be the most commonly traded type of bond.
- Balanced Funds – Exactly how it sounds. Investors choose to trade with a mixture of shares, bonds, and other securities types. This type of fund may also be referred to as ‘asset allocation funds’ or ‘hybrid funds’. Furthermore, this fund tends to be managed in such a way that the investor or group of investors opts to invest in many different groups of mutual funds (and this is why it’s sometimes referred to as the ‘fund of funds’).
- Money Market Funds – These are short-term forms of investments that are almost risk-free. A good example would be US Treasury bills. With these types of funds, you will not receive a large return, but your capital will be secure.
Mutual Fund Fees
As mentioned previously, when investing with mutual funds, you will be subject to what is known as an ‘expense ratio’ (or mutual fund fees).
Regardless of whether you choose to invest with active or passive mutual funds, you will still be charged a regular annual fee for the purpose of managing the fund, together with any other costs associated with the fund.
These are mutual funds wherein a sales commission or charge is paid to the broker or individual who sold the fund to the investor.
This type of fund scenario can also be referred to as ‘no-transaction fee funds’, and it refers to instances whereby commissions are not charged to the investor.
Active Mutual Funds vs Passive Mutual Funds
Actively managed funds require an individual or a team of people to manage them. As we mentioned earlier, mutual funds tend to have ‘professional money makers or managers’ to oversee them and decide how the mutual funds should be managed.
- The goal with actively managed funds is for them to perform far greater than the market that the securities are invested in.
- Passively managed funds do not tend to be managed by anyone, as the goal of the funds are to simply reach the overall performance point (or benchmark) set by the market index.
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