Mutual Funds

Hello there! This is Kyle Jones, Financial Advisor at Wamhoff Financial Planning & Accounting. Today, I wanted to provide some information to help provide a basic understanding of mutual funds.

Let’s first discuss the definition of a mutual fund. A mutual fund is a security managed by an investment company. Pooled funds are invested in securities such as common stocks, bonds, and short-term debt instruments. Investors purchase mutual fund shares, which represent a portion of the total amount of pooled assets and underlying holdings of a particular mutual fund. Mutual fund managers operate the fund, and manage the portfolio in an attempt to produce gains for investors, while adhering to the guidelines and objectives of the fund.

One might pose the question, or why they should use mutual funds and not a different type of investment product. Mutual funds allow for professional management. Fund managers conduct research and select securities, while evaluating performance. Mutual funds also typically allow for diversification, and invest in a broad range and number of securities, with the aim of lowering market risk. The fees are also generally low, due to the scale and large number of investors. Some funds are in the billions of dollars in assets. Also, investors have increased liquidity. Investors can redeem their shares at any time and will receive the net asset value (NAV) less any fees, of the shares sold at the next close of the stock market.

Next, I will describe the basic types of mutual funds. Money market funds are comprised of short-term debt instruments, which carry a lower level of risk than other typical investments.

Bond funds generally have higher yields than money market funds. Risks within bond funds include credit, interest rate, and purchasing power risk.

Stock Funds contain more volatility that money market and bond funds, but have had better long-term performance. Risks include market risk and purchasing power risk. I will note, that past performance does not guarantee future results.

Target date funds are very typical in 401(k) plans, and are a mixture of stock and bond funds, where the mutual fund manager attempts to reduce risk as a targeted retirement date approaches.

Mutual funds generate income through dividend payments, capital gains distributions, and increased net asset value. Mutual funds may earn income from dividends and/or interest payments, which will be paid out to investors or reinvested back into shares of the mutual fund.

Capital gains are distributed to investors, and can also be taken as cash or reinvested back into shares of the mutual fund.

In the event that the market value of the underlying mutual fund’s securities valuation increases, the share price of the mutual fund will reflect the growth in value by pushing the NAV higher.

Today, I hope that I have helped you better understanding the basics in regards to mutual funds, so you feel more comfortable when investing. Next time, we will take a further look into mutual funds, and will focus on what is called the Morningstar Style Box. Until then, Happy Investing!