What is a mutual fund?

In last week’s posts, we explored some topics in the stock market and how it’s quite reasonable for young professionals such as ourselves to invest in it. However, I realize that picking good stocks and staying on top of the market can be pretty tough and daunting. There is an easier way to invest in the market, one that can provide some solid returns with a minimal time investment. Mutual funds can be a really good option for many casual investors.

What is a mutual fund?mutual fund

A mutual fund is a large pool of money that is invested in dozens or even hundreds of different stocks. Imagine owning a small portion of a basket full of various stocks. The idea behind this is to not put all your eggs in one basket and to diversify your risk. By picking a lot of different stocks, a couple can do badly, a couple can do well, and perhaps one or two will do very well. On the whole, the idea is that you’ll come out on top.

What kind of stocks does the mutual fund invest in?

Totally depends. Most mutual funds will be setup with certain criteria in mind. Some are what’s called large cap and only invest in larger companies (Apple, Google, Coke, P&G…). Others are mid-size or small cap stocks. These will invest in smaller to mid-size companies (all publicly traded, mind you, so it’s not like you’re putting money into a mom & pop store) with the anticipationmutual fund 1 that these companies will grow. Some mutual funds focus on international stocks, or certain areas of the world like Europe, the BRIC countries (Brazil, Russia, India and China, thought to be the next 4 big economies), Asia or even “emerging markets.” While researching your mutual fund, you’ll be able to determine in which top stocks a fund will primarily invest. Finally, there are those that focus more on slower growth companies that pay a lot of dividends (“income funds”) compared to those funds that seek a rise in stock prices.

What are all these categories of mutual funds?

If you thought that picking a good stock was tricky, then you’re in for a similar situation with mutual funds. You can filter and search for funds based on their past performance, the fees they charge, the types of assets they invest in, how they compare to other funds…phew. I think a good place to start is with past performance and fees. You’ll definitely want to invest in a fund that has a good track record (keep in mind that 2008 was a rough year for every fund), but don’t feel forced to pay higher fees. You should be able to find a good balance of the two to invest in. I personally am invested in one mutual fund right now. I found it from my retirement fund selection through work. I put some retirement money in it and it did really well (10% return). I figured that was a pretty solid fund and put some of my own investment money in it.

What about all the fees?

You’ve got to watch out for those sneaky mutual funds; they’ll slowly siphon off your earnings if you don’t watch them. Let’s beak down a couple of the types of fees they’ll charge you. There can be fees when you buy or sell (front end vs. back end load) the mutual fund. (A load fee is a fee paid to the fund itself; a transaction fee goes to your broker). There are also going to be management and expense fees, and these are fees that you won’t be able to get away from. These fees go to pay the people managing your money and to pay for the various expenses the fund will incur (especially transactions fees the fund pays to trade the assets it owns). While every fund will have fees, you can typically avoid a load fee and minimize your expenses.

What’s this all mean for me?

The goal of this article was to introduce you to an alternative investment approach to just picking stocks. While not impossible, picking stocks can be tough and take a lot of time as well as energy. With a mutual fund, you might only have to pick one or two. You won’t have to check the market all the time and won’t have to worry about what stock is doing what. A good mutual fund should be one with low fees and minimal time investment, and should be able to provide you with a solid return for your money.

Thanks for reading the post, hope you enjoyed it! Here are some others you might enjoy:

Investing in yourself

Choosing the right bank

How to land your dream job

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One Response

  1. A nice summary of mutual funds. I always suggest that people absolutely avoid mutual funds that have any loads and an expense ratio that exceeds 1%.

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