Mutual Funds

May 7th 2016

Overview

A mutual fund is a pool of money that is professionally managed for the benefit of all shareholders. If you invest in a mutual fund, you own a portion of the fund you participate in, so any rise and fall pertaining to the fund will affect the value of that fund. This allows you to work with multiple fields like stocks, bonds, cash, or a combination of more than one type.

The mutual fund was introduced in Belgium in the early 1800s. It became popular in the U.S. after the 1920s and has since seen an upward swing. They were quite attractive during the period right after WWI and then again in the 1980s and 1990s.

How It Works

You can earn income from mutual funds by the following three methods:

  • Dividend payments - Dividend payments and interest are ways in which your fund earns an income. After deducting the disclosed expenses and dividends earned by them, the balance amount is distributed amongst the shareholders.
  • Capital gains distributions - When the market value of a security increases, the firm makes an income on its sale and makes a capital gain on that transaction. This capital gain, after deducting any losses, is distributed amongst the investors.
  • Increased NAV (net asset value) - If the market value of a portfolio increases even after deduction of expenses and liabilities, then the NAV of the fund also increases along with the share. The higher value of the investment you made in the mutual fund is reflected in the higher NAV.

Benefits

The main benefit of mutual funds is that they decrease the risk and increase the probability of higher returns. In addition to this, mutual funds also offer professional investment management, diversification, and high-quality investing. Transactions involving mutual funds are very convenient, flexible, and time saving.

Cost/Pricing

You can easily evaluate and determine the price of a mutual fund using NAV (Net Asset Value). The NAV is calculated by subtracting liabilities from the total value of the assets in the fund. Based on this number, you will be able to determine the price of a unit in your fund for making transactions. You can even buy and sell mutual funds based on the current NAV. Since there are many different stocks making up a mutual fund, their prices are likely to vary on a daily basis. Consequently, the NAV also changes daily.

Timing

Long-term investors in a mutual fund are affected adversely because they are subject to higher fees owing to the costs of short-term trading within the mutual fund. Tight trading penalties are imposed by the brokerages in an attempt to limit this. A minimum holding time ranging from 90 days to a year is essential, otherwise a redemption fee may be charged that is payable during the sale of the shares of a mutual fund.

Companies/Industries

Some mutual fund companies have excellent records of accomplishment based on their management and profitability for almost over a decade. These mutual funds are also called "no-load" funds because there are no commissions or charges for the transactions made in your account. Similar to a monthly life insurance or mortgage payment, you are allowed to open an account with as little as $1,000 or you can even agree to make monthly contributions of $50 or $100 in your account.

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