Mutual Funds are a group of stocks and bonds that are pulled together in a portfolio and pooled for diversified investment. The fund shares of the portfolio to a large number of people who have two mutual interests. The first goal is to make money on their investments and the second goal is to diversify their investments so all the risk is not in one place. Every investor in the fund shares expenses and profits. This mutual sharing of purchasing power and risk as well as returns allows each investor to access a much greater diversity and stability of investment securities than they could on their own.
How do you make money on mutual funds?
Well that’s a fair question and there is a good answer. The money comes to the investor in three ways.
1.It is earned from the dividends on stocks in the portfolio and from interest payments on bonds in the portfolio.
2.When the stocks in a portfolio increase in value they may be sold for a profit. The profit is called capital gains and is distributed to the shareholders.
3.If the value increases but the fund manager does not sell it, the individual shares of the fund increase in value and can be sold back to the fund.
You can choose to receive a check for your share of distributions or you can have the profits from your shares reinvested in the fund.
Three basic types of mutual funds.
There are thousands of funds but all of them will actually fit into one of the three main categories. The basic types of funds are:
1.Equity Funds; these are stocks and when you purchase them you purchase a bit of equity in the issuing firm. Within this category there are:
Ã¢Â?Â¢Aggressive Growth Funds which invest in common stocks with a very fast growth potential and a potential for higher capital appreciation.
Ã¢Â?Â¢Growth Funds which provide for growth rather than an income for current use. These are less risky than aggressive, or rapid growth funds and may provide a better long term performance
Ã¢Â?Â¢International or Global Funds which look for growth opportunities through investing in companies outside of the country as well as within the United States
Ã¢Â?Â¢Growth and Income funds which look for long term current income and capital growth as well. The stability of growth and income funds is low to middle of the range for principle and middle of the range for the current income and growth outlook.
2.Fixed Income Funds; these are bonds. When you buy a bond you are basically loaning money to the issuing entity and the interest payments on the loaned money is an income fixed by contract and stated on the face of the bond.
Ã¢Â?Â¢The goal of this type of fund is to achieve a high level of current income that will maintain capital. Increasing capital is considered secondary in a fixed income fund.
Ã¢Â?Â¢The fixed income fund is considered very conservative but bond prices do vary up or down with the changing of interest rates so there will be some unavoidable risk.
3.Money Market Funds; these are short term loans, generally to the government and are usually Treasury Bills. These are very low risk but also have a low return. The interest paid to you is better than a savings account but not what you could make with a higher risk investment.
Ã¢Â?Â¢Money market funds do not grow capital. They are very low risk and provide current income.
Ã¢Â?Â¢They are liquid which means they can be traded any day that trading is taking place without paying any penalties and some of them offer check writing options.
A mutual fund can also be a mix of the three basic types with a selection of stocks, bonds, and money market instruments that stabilize your investment, offer you protection, income and growing value. Think of your mutual fund as a financial service organization that receives income from you and your neighbors and then invests the money to obtain a mutually agreed upon goal. Every one in your fund will want basically the same measure of risk, the same general level of income, and the same long term goal of making more money on the investment shares they own.