Making Your Money Grow With Mutual Funds
What Is A Mutual Fund?
In the last few articles you were introduced to the basic principles of investing, and the risk associated with such investments.
Since most people tend to shy away from investing, they take low risks with their money and keep it in a bank account which gives them a low rate of return (typically 2-5% interest).
In this and the next few articles, we are going to have a look at some of the other forms of investing which have the potential of giving you a higher rate of return on your money.
Investing Your Money In Mutual Funds
A mutual (shared) fund is simply a large collection of people’s money, which the investment company you invested your money with, uses to buy stocks and bonds from other companies. The basic idea is that by working together everyone benefits.
The money in a mutual find is managed by a portfolio manger and a team of researchers who look for the best places to invest.
A portfolio is a group of investments which are used to meet certain investment goals (what they hope to achieve with your money).
The portfolio manger (also called a money manger) then supervisors the investment decisions of others, so that the money is invested wisely and gets the highest rate of return.
The portfolio manager is paid a certain percentage of the assets (owned items of value) under their control. So the better the money within that mutual fund is invested, the more money they will get in return for their services.
Mutual funds are a great option for first time investors, and as a result tend to be quite a popular form of investing.
Detailed below are some of the main things you should be aware of when investing your money in a mutual fund.
No-Load Mutual Funds
A no-load mutual funds means you don’t have to pay a sales commission on your transactions. As a result you can call up the mutual fund company for recommendations of what to buy.
However sometimes you may have to pay certain “hidden fees”, so you must always be aware of these fees before purchasing a no-load mutual fund.
No-load funds are shown by advisors who are usually paid an hourly wage.
Load Mutual Funds
When you buy a load fund you pay a certain amount of commission to the broker or financial advisor.
Therefore the type of fund you are offered as a potential investment, is usually determined by how your advisor is paid.
If they are being paid on commission, it is in their best interest to offer you load funds (although this may not always be the best option for you).
With load mutual funds the money you have to pay can be paid in several ways :
Front-End Loads
A front-end load means your fees are paid up front. For example, if you have a 5% front load, then out of every pound (dollar) you invest, 5p (c) will be deducted as a fee.
So if you invest £100 with a 5% front load, then £5 will be paid in fees and the other £95 will be used for your investment.
Deferred Sales Charges
A deferred sales charge means the amount you pay in fees for selling your fund reduces over a set period of time.
For example, if you invest £100 in a mutual fund with a 5% deferred sales charge, you would be charged a 5% fee if you sell your fund (withdraw your money) in the first year, 4% if you sell your fund in the second year and so on until it reaches 0%, at which point you can withdraw all your money from the fund for free.
Back-End Load
A back-end load means you are charged a set fee when you sell your mutual fund a short time after you acquired it.
Money Market Mutual Fund
A money market fund is a mutual fund with a non-variable £1 investment value per share.
This means that if you put £500 into a money market fund, you will get £500 (plus any interest) when you withdraw that money.
Money market funds differ from money market accounts such as those held with banks, because they are held with mutual funds and the money you invest with them is not insured.
The main advantage of money market funds, is that they usually offer higher rates of interest than you would get from a traditional bank account.
Budgeting For Mutual Funds
One of the advantages of keeping a budget is that you know how much money you have coming in (income), and how much money you have going out (expenses).
Mutual funds can be included in your budget because they allow you to transfer money from your bank account directly into a mutual fund.
This makes it easy to set aside a portion of your income, so that you can buy more mutual funds each month at a rate which you can afford because you have already budgeted for them.
Diversification Of Investments
When you get into investing it is not a good idea to invest all your money into one type of investment, because if that investment goes bad, then all your money will be affected.
As a result, investors diversify their investments by investing in many different things, to give then some form of financial stability during financially unstable times.
Mutual funds can therefore help you to diversify your portfolio, by allowing you to invest in different types of stocks and bonds.
This is something which can be difficult to do well on your own, which is why a lot of people choose to use mutual funds.
Lower Fees
Because mutual funds have such a large pool of money, they have a much greater buying power than individual investors.
As a result, you are likely to pay lower fees for buying and selling stocks and bonds than you would if you were doing it by yourself.
Low Start Up Fee
Most mutual funds will require an initial investment of around £1000, although some will allow you to start with less.
Low Risk
Due to the diversification of investments that occur within a mutual fund, there is a very low probability of that mutual fund going bankrupt and you loosing all your money.
This makes mutual funds a low risk and relatively safe option for first time investors.
However it is worth bearing in mind that due to the recent downturn in the economy and the resulting credit crunch, you may not get as a high a return on your investment than you did when the stock market was at a higher level.
