Fund Advantages And Disadvantages
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Fund Advantages and Disadvantages This section covers mutual fund education designed to help beginners and professionals alike. There are many aspects of mutual funds an investor should understand before a mutual fund purchase is made. The information below discusses the advantages and disadvantages of mutual fund investing. The advantages include but are not limited to: diversification, professional management, convenience, and liquidity. Disadvantages include but are not limited to: risks and costs.
Advantages Mutual Fund Education Why Mutual Funds? What is a Mutual Fund?
What are the key advantages of mutual fund investing? Diversification
Using mutual funds can help an investor diversify their portfolio with a minimum investment. When investing in a single fund, an investor is actually Mutual Fund Risk investing in numerous securities. Spreading your investment across a range of securities can help to Advantages/Disadvantages reduce risk. A stock mutual fund, for example, invests in many stocks - hundreds or even Mutual Fund Expenses thousands. This minimizes the risk attributed to a concentrated position. If a few securities in the Costs you Wont Find in a mutual fund lose value or become worthless, the Prospectus loss maybe offset by other securities that appreciate in value. Further diversification can be Mutual Fund Categories achieved by investing in multiple funds which invest in different sectors or categories. This Fund Management Styles helps to reduce the risk associated with a specific industry or category. Diversification may help to How an Investment in a reduce risk but will never completely eliminate it. Mutual Fund Makes Money It is possible to lose all or part of your investment. Click here to see an example on Investment Company Act of constructing a diversified portfolio. 1940 Professional Management: Where to Purchase Funds Mutual funds are managed and supervised by investment professionals. As per the stated Future Value Chart objectives set forth in the prospectus, along with How Mutual Funds Work
prevailing market conditions and other factors, the mutual fund manager will decide when to buy or sell securities. This eliminates the investor of the difficult task of trying to time the market. Furthermore, mutual funds can eliminate the cost an investor would incur when proper due diligence is given to researching securities. This cost of managing numerous securities is dispersed among all the investors according to the amount of shares they own with a fraction of each dollar invested used to cover the expenses of the fund. What does this mean? Fund managers have more money to research more securities more in depth than the average investor. Convenience: With most mutual funds, buying and selling shares, changing distribution options, and obtaining information can be accomplished conveniently by telephone, by mail, or online. Although a fund's shareholder is relieved of the day-to-day tasks involved in researching, buying, and selling securities, an investor will still need to evaluate a mutual fund based on investment goals and risk tolerance before making a purchase decision. Investors should always read the prospectus carefully before investing in any mutual fund. Liquidity: Mutual fund shares are liquid and orders to buy or sell are placed during market hours. However, orders are not executed until the close of business when the NAV (Net Average Value) of the fund can be determined. Fees or commissions may or may not be applicable. Fees and commissions are determined by the specific fund and the institution that executes the order. Minimum Initial Investment: Most funds have a minimum initial purchase of $2,500 but some are as low as $1,000. If you purchase a mutual fund in an IRA, the minimum initial purchase requirement tends to be lower.
You can buy some funds for as little as $50 per month if you agree to dollar-cost average, or invest a certain dollar amount each month or quarter.
Disadvantages Risks and Costs: Changing market conditions can create fluctuations in the value of a mutual fund investment. There are fees and expenses associated with investing in mutual funds that do not usually occur when purchasing individual securities directly. As with any type of investment, there are drawbacks associated with mutual funds. •
•
•
No Guarantees. The value of your mutual fund investment, unlike a bank deposit, could fall and be worth less than the principle initially invested. And, while a money market fund seeks a stable share price, its yield fluctuates, unlike a certificate of deposit. In addition, mutual funds are not insured or guaranteed by an agency of the U.S. government. Bond funds, unlike purchasing a bond directly, will not re-pay the principle at a set point in time. The Diversification "Penalty." Diversification can help to reduce your risk of loss from holding a single security, but it limits your potential for a "home run" if a single security increases dramatically in value. Remember, too, that diversification does not protect you from an overall decline in the market. Costs. In some cases, the efficiencies of fund ownership are offset by a combination of sales commissions, 12b-1 fees, redemption fees, and operating expenses. If the fund is purchased in a
taxable account, taxes may have to be paid on capital gains. Keep track of the cost basis of your initial purchase and new shares that are acquired by reinvesting distributions. It's important to compare the costs of funds you are considering. Always look at "net" returns when comparing fund performances. Net return is the bottom line; an investment's true return after all costs are deducted. Prospectuses will not contain all the costs that affect the net return on your investment. This is why it is important to compare net returns whether or not the fund in a no-load or load fund.
Continue
Welcome to the Mutual Funds Resource Center Types of mutual funds Most funds have a particular strategy they focus on when investing. For instance, some invest only in Blue Chip companies that are more established and are relatively low risk. On the other hand, some focus on high-risk start up companies that have the potential for double and triple digit growth. Finding a mutual fund that fits your investment criteria and style is important. Types of mutual funds are: Value stocks Stocks from firms with relative low Price to Earning (P/E) Ratio, usually pay good dividends. The investor is looking for income rather than capital gains. Growth stock Stocks from firms with higher low Price to Earning (P/E) Ratio, usually pay small dividends. The investor is looking for capital gains rather than income. Based on company size, large, mid, and small cap Stocks from firms with various asset levels such as
over $2 Billion for large; in between $2 and $1 Billion for mid and below $1 Billion for small. Income stock The investor is looking for income which usually come from dividends or interest. These stocks are from firms which pay relative high dividends. This fund may include bonds which pay high dividends. This fund is much like the value stock fund, but accepts a little more risk and is not limited to stocks. Index funds The securities in this fund are the same as in an Index fund such as the Dow Jones Average or Standard and Poor's. The number and ratios or securities are maintained by the fund manager to mimic the Index fund it is following. Enhanced index This is an index fund which has been modified by either adding value or reducing volatility through selective stock-picking. Stock market sector The securities in this fund are chosen from a particular marked sector such as Aerospace, retail, utilities, etc. Defensive stock The securities in this fund are chosen from a stock which usually is not impacted by economic down turns. International Stocks from international firms. Real estate Stocks from firms involved in real estate such as builder, supplier, architects and engineers, financial lenders, etc. Socially responsible This fund would invests according to non-economic guidelines. Funds may make investments based on such issues as environmental responsibility, human rights, or religious views. For example, socially responsible funds may take a proactive stance by selectively investing in environmentally-friendly companies or firms with good employee relations. Therefore the fund would avoid securities from firms who profit from alcohol, tobacco, gambling, pornography etc. Balanced funds The investor may wish to balance his risk between various sectors such as asset size, income or growth. Therefore the fund is a balance between various attributes desired. Tax efficient Aims to minimize tax bills, such as keeping turnover levels low or shying away from companies that provide dividends, which are regular payouts in
cash or stock that are taxable in the year that they are received. These funds still shoot for solid returns; they just want less of them showing up on the tax returns. Convertible Bonds or Preferred stock which may be converted into common stock. Junk bond Bonds which pay higher that market interest, but carry higher risk for failure and are rated below AAA. Mutual funds of mutual funds This funds that specializes in buying shares in other mutual funds rather than individual securities. Closed end This fund has a fixed number of shares. The value of the shares fluctuates with the market, but fund manager has less influence because the price of the underlining owned securities has greater influence. Exchange traded funds (ETFs) Baskets of securities (stocks or bonds) that track highly recognized indexes. Similar to mutual funds, except that they trade the same way that a stock trades, on a stock exchange.
Welcome to the Mutual Funds Resource Center Mutual fund expenses There are many expenses
Mutual fund expenses There are many expenses associated with mutual funds. Explore this section to learn more.
• • • •
Mutual fund expenses
•
Mutual fund taxation
• • • •
Mutual fund expenses
•
Mutual fund taxation
Load vs. no-load funds Mutual fund fees
Distribution of capital gains and dividends
Load vs. no-load funds Mutual fund fees
Distribution of capital gains and dividends
History of Mutual Funds Mutual funds are not an American invention. The first was started in the Netherlands in 1822, and the second in Scotland in the 1880's. Originally called investment trusts, the first American one was the New York Stock Trust, established in 1889. Most that followed were begun in Boston in the early 1920's, including the State Street Fund, Massachusetts Investor's Trust (now called MFS), Fidelity, Scudder, Pioneer, and the Putnam Fund. In the 1960's there was a phenomenal rise in aggressive growth funds (with very high risk). Sometimes called "go-go" funds, they received the majority of the billions of dollars flowing into mutual funds at that time. In 1968 and 1969, over 100 of these new aggressive growth funds were established, bragging about how heavily invested they were in the new technology stocks. A severe bear market began in the fall of 1969. People became disillusioned with mutual funds and the stock market. "The market's toast. it'll never get back to where it was!" was echoed by panicked investors. Unemployment grew, inflation went crazy, and investors pulled billions back out of the funds. They should have hung in there! Even the author of this book made the mistake of cashing in his mutual fund shares. The fund he jumped ship on has risen 9,000% since then.
At the end of the 1920's there were only 10 mutual funds. At the end of the 1960's there were 244, and 413 in 1980. Today there are more than 6,500 unique funds and even thousands more that differ only by their share class (how they are sold, and how their expenses are charged). The 1970's saw a new kind of fund innovation: funds with no sales commission called "no load" funds. The largest and most successful no-load family of funds is the Vanguard Funds. Before we continue with all you need to know about mutual funds, here is something that merits your attention. Since 1940, no mutual fund has gone bankrupt. You sure can't say that about banks or savings and loans! You may be wondering that with thousands of mutual funds and many, many types, how does one intelligently select the best one? Well, we're going to explore the various kinds and some of their good points and bad points. Keep in mind that before you invest, you need to know what a fund buys, what the manager's philosophy is, and what gives you confidence that this is a good fund to own. If you can't answer these questions in just a couple of sentences and in a way that your grandmother can understand, then maybe the fund isn't for you. Choosing a fund isn't complicated unless you want to make it so. I am going to show you your options, but if you want a no-brainer that will definitely work, just put every extra dime into the Vanguard S&P 500 Index Fund. Keep throwing your money at it month after month and you will outperform at least 80% of the professional money managers. The reason that we don't end the chapter right here with this advice is that by educating yourself with additional information, you can do even better.
Other Stock Market Basics Topics:
1. 2.
Mutual Fund Advantages History of Mutual Funds NAV
3. 4. Dollar Cost Averaging 5. General advice about choosing a fund 6. Mutual Fund Ratings 7. Evaluating Mutual Fund Investment Risk 8. Mutual Fund Share Classes 9. Mutual Fund Fees 10. The Mutual Fund Prospectus 11. How important is the manager's length of experience? 12. Why is the prospectus hard to understand? 13. Mutual Fund Annual Report 14. Comparing your fund to the competition 15. Comparing funds on an after-tax basis 16. Average Return on Investment 17. How Not to Pick a Mutual Fund 18. Cashing in Your Fund 19. When to Sell Your Fund 20. Mutual Funds and Asset Allocation 21. When to get started with a mutual fund 22. Types of Mutual Funds 23. Value Stock Funds 24. Growth Stock Funds 25. Small and Micro-cap Stocks 26. Mid Cap 27. Large Cap Companies 28. Income Stock Funds 29. Mutual Fund Index 30. Enhanced Index Funds 31. Sector Mutual Funds 32. Stock Market Sectors 33. Defensive Stocks 34. International Funds 35. Real Estate Mutual Funds 36. Socially Responsible Funds 37. Balanced Funds 38. Tax-Efficient Funds 39. Bond Convertible Funds 40. Junk Bond Funds 41. Mixtures of stock types 42. Closed End Funds 43. Exchange Traded Funds (ETF’s) 44. Stock Picking Strategy - Picking your own stocks? 45. Fund names, and what they really invest in 46. How to get started
47. Where can I start investing with no money?
Mutual fund fees In order to cover their expenses mutual funds charge fees to the investors. Although these fees are only a few percentage points a year and seem like a minor expense, they create a serious drain on the performance over a period of years. Some fees to consider are:
• • • •
Mutual fund expenses
•
Mutual fund taxation
Load vs. no-load funds Mutual fund fees
Distribution of capital gains and dividends
Redemption fees A mutual fund may charge fees when the investor sells shares back to the mutual fund. Contingent deferred sales charge A mutual fund may charge sales charges that are reduced at certain time intervals. For example, the fund may charge 6% of the sale price the first year after the shares are bought. Each year thereafter the fee would be reduced by 1% until no fee would be charged. This is an incentive for investors to leave their money in the fund. Management fees Mutual funds may charge fees to cover expenses such as advertising, brokers' costs and tollfree telephone lines. These are 12b-1 fees, regulated by law. Transfer fees A fee is charged each time the investor transfers money within the company.
Load vs. no-load funds Load funds are mutual funds that have sales charges. When an investor purchases shares of a mutual fund the investor pays a fee for the sale (transaction) of the shares. Sales charges are required by law to be no more than 8.5% of the price of the shares bought. A load fund is where the broker receives all his commission with the first funds received from the investor. Therefore the investor must pay the brokers commission completely before any of his funds go toward the purchase of shares.
• • • •
Mutual fund expenses
•
Mutual fund taxation
Load vs. no-load funds Mutual fund fees
Distribution of capital gains and dividends
No-load funds do not charge an upfront fee for the sale transaction. In a no-load fund the broker receives his commission as he receives the investor's funds and shares are purchased with the investor's initial funds.
Mutual fund taxation The mutual fund manager must send the investor a tax information statement so the investor can declare taxes. The investor must account for all capital gains or loses and dividends even if the dividends and capital gains are reinvested into the mutual fund. When mutual funds shares are sold/redeemed the mutual fund manager should aid the investor in determining the purchase bases for the shares sold/redeemed. Recent federal tax codes have modified the treatment of dividends and capital gains depending on the investor's income level and tax bracket
Advantages of mutual funds Mutual funds provide professional management and research to select quality securities. They spread the risk over a larger quantity of stock than the investor usually has funds to buy. In a mutual fund the investor can add funds to his/her investments at set amounts and smaller quantities such as $100 per month. The investor can access the advantage of the stock market which overall has out performed other investments in long term investments. The mutual fund managers are able to buy securities in large quantities thus reducing brokerage fees.
Advantages of mutual funds Mutual funds provide professional management and research to select quality securities. They spread the risk over a larger quantity of stock than the investor usually has funds to buy. In a mutual fund the investor can add funds to his/her investments at set amounts and smaller quantities such as $100 per month. The investor can access the advantage of the stock market which overall has out performed other investments in long term investments. The mutual fund managers are able to buy securities in large quantities thus reducing brokerage fees.
• • • •
Mutual fund expenses
•
Mutual fund taxation
Load vs. no-load funds Mutual fund fees
Distribution of capital gains and dividends
•
Mutual funds vs. other investments
•
Advantages of mutual funds
•
Disadvantages of mutual funds
•
Mutual funds vs. other investments
•
Advantages of mutual funds
•
Disadvantages of mutual funds
• Disadvantages of mutual funds Fund management fees may be unreasonable for the services rendered. The investor must rely on the integrity of the
Mutual funds vs. other investments
•
Advantages of mutual funds
•
Disadvantages of mutual funds
professional fund manager. In some cases the fund manager may not pass on transaction savings to the investor. The fund managers are not liable for fund losses due to poor judgment on their part. The fund managers may make so many transactions in the fund that high fee/cost result and are passed on to the investor. Prospectuses and Annual reports are hard to understand. Restrictions on when and how an investor sells/redeems his mutual fund shares. The investor may feel a loss of control of his investment dollars.
Dangers of mutual funds There are many dangers associated with mutual funds. Explore this section to learn more.
Dangers of mutual funds There are many dangers associated with mutual funds. Explore this section to learn more.
What to look out for Repeating some of the concerns expressed in the mutual fund disadvantages.
• • • •
• •
Dangers of mutual funds
•
Recent scandals
• •
Dangers of mutual funds
•
Recent scandals
• •
Dangers of mutual funds
What to look out for
What to look out for
What to look out for
• Recent scandals Performance below other mutual funds in the same sector or against a recognized index. There may be too many transactions in the fund resulting in higher fee/cost to the investor This is sometimes call "Churn and Earn". Prospectus, Annual report and Statement of Additional Information are hard to understand. There are restrictions on when and how an investor sells/redeems his mutual fund shares.
Recent scandals Unfortunately there have been incidences in which mutual fund managers have traded stocks at prices other than reported to the investor. An example is the use of closing share price for reported trades for the day the investor request an execution of
• •
Dangers of mutual funds
•
Recent scandals
What to look out for
his shares. Whereas the mutual fund manager may have received a more advantageous share price before the closing share price is set. The mutual fund manager retains the additional gain for himself or his firm. Since there are usually large volume trades the gain may be substantial even with a fraction of a share price.
Advantages Mutual Fund Education Why Mutual Funds? What is a Mutual Fund?
What are the key advantages of mutual fund investing? Diversification
Using mutual funds can help an investor diversify their portfolio with a minimum investment. When investing in a single fund, an investor is actually Mutual Fund Risk investing in numerous securities. Spreading your investment across a range of securities can help to Advantages/Disadvantages reduce risk. A stock mutual fund, for example, invests in many stocks - hundreds or even Mutual Fund Expenses thousands. This minimizes the risk attributed to a concentrated position. If a few securities in the Costs you Wont Find in a mutual fund lose value or become worthless, the Prospectus loss maybe offset by other securities that appreciate in value. Further diversification can be Mutual Fund Categories achieved by investing in multiple funds which invest in different sectors or categories. This Fund Management Styles helps to reduce the risk associated with a specific industry or category. Diversification may help to How an Investment in a reduce risk but will never completely eliminate it. Mutual Fund Makes Money It is possible to lose all or part of your investment. Click here to see an example on Investment Company Act of constructing a diversified portfolio. 1940 Professional Management: Where to Purchase Funds Mutual funds are managed and supervised by investment professionals. As per the stated Future Value Chart objectives set forth in the prospectus, along with How Mutual Funds Work
prevailing market conditions and other factors, the mutual fund manager will decide when to buy or sell securities. This eliminates the investor of the difficult task of trying to time the market. Furthermore, mutual funds can eliminate the cost an investor would incur when proper due diligence is given to researching securities. This cost of managing numerous securities is dispersed among all the investors according to the amount of shares they own with a fraction of each dollar invested used to cover the expenses of the fund. What does this mean? Fund managers have more money to research more securities more in depth than the average investor. Convenience: With most mutual funds, buying and selling shares, changing distribution options, and obtaining information can be accomplished conveniently by telephone, by mail, or online. Although a fund's shareholder is relieved of the day-to-day tasks involved in researching, buying, and selling securities, an investor will still need to evaluate a mutual fund based on investment goals and risk tolerance before making a purchase decision. Investors should always read the prospectus carefully before investing in any mutual fund. Liquidity: Mutual fund shares are liquid and orders to buy or sell are placed during market hours. However, orders are not executed until the close of business when the NAV (Net Average Value) of the fund can be determined. Fees or commissions may or may not be applicable. Fees and commissions are determined by the specific fund and the institution that executes the order. Minimum Initial Investment: Most funds have a minimum initial purchase of $2,500 but some are as low as $1,000. If you purchase a mutual fund in an IRA, the minimum initial purchase requirement tends to be lower.
You can buy some funds for as little as $50 per month if you agree to dollar-cost average, or invest a certain dollar amount each month or quarter.
Disadvantages Risks and Costs: Changing market conditions can create fluctuations in the value of a mutual fund investment. There are fees and expenses associated with investing in mutual funds that do not usually occur when purchasing individual securities directly. As with any type of investment, there are drawbacks associated with mutual funds. •
•
•
No Guarantees. The value of your mutual fund investment, unlike a bank deposit, could fall and be worth less than the principle initially invested. And, while a money market fund seeks a stable share price, its yield fluctuates, unlike a certificate of deposit. In addition, mutual funds are not insured or guaranteed by an agency of the U.S. government. Bond funds, unlike purchasing a bond directly, will not re-pay the principle at a set point in time. The Diversification "Penalty." Diversification can help to reduce your risk of loss from holding a single security, but it limits your potential for a "home run" if a single security increases dramatically in value. Remember, too, that diversification does not protect you from an overall decline in the market. Costs. In some cases, the efficiencies of fund ownership are offset by a combination of sales commissions, 12b-1 fees, redemption fees, and operating expenses. If the fund is purchased in a
taxable account, taxes may have to be paid on capital gains. Keep track of the cost basis of your initial purchase and new shares that are acquired by reinvesting distributions. It's important to compare the costs of funds you are considering. Always look at "net" returns when comparing fund performances. Net return is the bottom line; an investment's true return after all costs are deducted. Prospectuses will not contain all the costs that affect the net return on your investment. This is why it is important to compare net returns whether or not the fund in a no-load or load fund.
Continue
Welcome to the Mutual Funds Resource Center Types of mutual funds Most funds have a particular strategy they focus on when investing. For instance, some invest only in Blue Chip companies that are more established and are relatively low risk. On the other hand, some focus on high-risk start up companies that have the potential for double and triple digit growth. Finding a mutual fund that fits your investment criteria and style is important. Types of mutual funds are: Value stocks Stocks from firms with relative low Price to Earning (P/E) Ratio, usually pay good dividends. The investor is looking for income rather than capital gains. Growth stock Stocks from firms with higher low Price to Earning (P/E) Ratio, usually pay small dividends. The investor is looking for capital gains rather than income. Based on company size, large, mid, and small cap Stocks from firms with various asset levels such as
over $2 Billion for large; in between $2 and $1 Billion for mid and below $1 Billion for small. Income stock The investor is looking for income which usually come from dividends or interest. These stocks are from firms which pay relative high dividends. This fund may include bonds which pay high dividends. This fund is much like the value stock fund, but accepts a little more risk and is not limited to stocks. Index funds The securities in this fund are the same as in an Index fund such as the Dow Jones Average or Standard and Poor's. The number and ratios or securities are maintained by the fund manager to mimic the Index fund it is following. Enhanced index This is an index fund which has been modified by either adding value or reducing volatility through selective stock-picking. Stock market sector The securities in this fund are chosen from a particular marked sector such as Aerospace, retail, utilities, etc. Defensive stock The securities in this fund are chosen from a stock which usually is not impacted by economic down turns. International Stocks from international firms. Real estate Stocks from firms involved in real estate such as builder, supplier, architects and engineers, financial lenders, etc. Socially responsible This fund would invests according to non-economic guidelines. Funds may make investments based on such issues as environmental responsibility, human rights, or religious views. For example, socially responsible funds may take a proactive stance by selectively investing in environmentally-friendly companies or firms with good employee relations. Therefore the fund would avoid securities from firms who profit from alcohol, tobacco, gambling, pornography etc. Balanced funds The investor may wish to balance his risk between various sectors such as asset size, income or growth. Therefore the fund is a balance between various attributes desired. Tax efficient Aims to minimize tax bills, such as keeping turnover levels low or shying away from companies that provide dividends, which are regular payouts in
cash or stock that are taxable in the year that they are received. These funds still shoot for solid returns; they just want less of them showing up on the tax returns. Convertible Bonds or Preferred stock which may be converted into common stock. Junk bond Bonds which pay higher that market interest, but carry higher risk for failure and are rated below AAA. Mutual funds of mutual funds This funds that specializes in buying shares in other mutual funds rather than individual securities. Closed end This fund has a fixed number of shares. The value of the shares fluctuates with the market, but fund manager has less influence because the price of the underlining owned securities has greater influence. Exchange traded funds (ETFs) Baskets of securities (stocks or bonds) that track highly recognized indexes. Similar to mutual funds, except that they trade the same way that a stock trades, on a stock exchange.
Welcome to the Mutual Funds Resource Center Mutual fund expenses There are many expenses
Mutual fund expenses There are many expenses associated with mutual funds. Explore this section to learn more.
• • • •
Mutual fund expenses
•
Mutual fund taxation
• • • •
Mutual fund expenses
•
Mutual fund taxation
Load vs. no-load funds Mutual fund fees
Distribution of capital gains and dividends
Load vs. no-load funds Mutual fund fees
Distribution of capital gains and dividends
History of Mutual Funds Mutual funds are not an American invention. The first was started in the Netherlands in 1822, and the second in Scotland in the 1880's. Originally called investment trusts, the first American one was the New York Stock Trust, established in 1889. Most that followed were begun in Boston in the early 1920's, including the State Street Fund, Massachusetts Investor's Trust (now called MFS), Fidelity, Scudder, Pioneer, and the Putnam Fund. In the 1960's there was a phenomenal rise in aggressive growth funds (with very high risk). Sometimes called "go-go" funds, they received the majority of the billions of dollars flowing into mutual funds at that time. In 1968 and 1969, over 100 of these new aggressive growth funds were established, bragging about how heavily invested they were in the new technology stocks. A severe bear market began in the fall of 1969. People became disillusioned with mutual funds and the stock market. "The market's toast. it'll never get back to where it was!" was echoed by panicked investors. Unemployment grew, inflation went crazy, and investors pulled billions back out of the funds. They should have hung in there! Even the author of this book made the mistake of cashing in his mutual fund shares. The fund he jumped ship on has risen 9,000% since then.
At the end of the 1920's there were only 10 mutual funds. At the end of the 1960's there were 244, and 413 in 1980. Today there are more than 6,500 unique funds and even thousands more that differ only by their share class (how they are sold, and how their expenses are charged). The 1970's saw a new kind of fund innovation: funds with no sales commission called "no load" funds. The largest and most successful no-load family of funds is the Vanguard Funds. Before we continue with all you need to know about mutual funds, here is something that merits your attention. Since 1940, no mutual fund has gone bankrupt. You sure can't say that about banks or savings and loans! You may be wondering that with thousands of mutual funds and many, many types, how does one intelligently select the best one? Well, we're going to explore the various kinds and some of their good points and bad points. Keep in mind that before you invest, you need to know what a fund buys, what the manager's philosophy is, and what gives you confidence that this is a good fund to own. If you can't answer these questions in just a couple of sentences and in a way that your grandmother can understand, then maybe the fund isn't for you. Choosing a fund isn't complicated unless you want to make it so. I am going to show you your options, but if you want a no-brainer that will definitely work, just put every extra dime into the Vanguard S&P 500 Index Fund. Keep throwing your money at it month after month and you will outperform at least 80% of the professional money managers. The reason that we don't end the chapter right here with this advice is that by educating yourself with additional information, you can do even better.
Other Stock Market Basics Topics:
1. 2.
Mutual Fund Advantages History of Mutual Funds NAV
3. 4. Dollar Cost Averaging 5. General advice about choosing a fund 6. Mutual Fund Ratings 7. Evaluating Mutual Fund Investment Risk 8. Mutual Fund Share Classes 9. Mutual Fund Fees 10. The Mutual Fund Prospectus 11. How important is the manager's length of experience? 12. Why is the prospectus hard to understand? 13. Mutual Fund Annual Report 14. Comparing your fund to the competition 15. Comparing funds on an after-tax basis 16. Average Return on Investment 17. How Not to Pick a Mutual Fund 18. Cashing in Your Fund 19. When to Sell Your Fund 20. Mutual Funds and Asset Allocation 21. When to get started with a mutual fund 22. Types of Mutual Funds 23. Value Stock Funds 24. Growth Stock Funds 25. Small and Micro-cap Stocks 26. Mid Cap 27. Large Cap Companies 28. Income Stock Funds 29. Mutual Fund Index 30. Enhanced Index Funds 31. Sector Mutual Funds 32. Stock Market Sectors 33. Defensive Stocks 34. International Funds 35. Real Estate Mutual Funds 36. Socially Responsible Funds 37. Balanced Funds 38. Tax-Efficient Funds 39. Bond Convertible Funds 40. Junk Bond Funds 41. Mixtures of stock types 42. Closed End Funds 43. Exchange Traded Funds (ETF’s) 44. Stock Picking Strategy - Picking your own stocks? 45. Fund names, and what they really invest in 46. How to get started
47. Where can I start investing with no money?
Mutual fund fees In order to cover their expenses mutual funds charge fees to the investors. Although these fees are only a few percentage points a year and seem like a minor expense, they create a serious drain on the performance over a period of years. Some fees to consider are:
• • • •
Mutual fund expenses
•
Mutual fund taxation
Load vs. no-load funds Mutual fund fees
Distribution of capital gains and dividends
Redemption fees A mutual fund may charge fees when the investor sells shares back to the mutual fund. Contingent deferred sales charge A mutual fund may charge sales charges that are reduced at certain time intervals. For example, the fund may charge 6% of the sale price the first year after the shares are bought. Each year thereafter the fee would be reduced by 1% until no fee would be charged. This is an incentive for investors to leave their money in the fund. Management fees Mutual funds may charge fees to cover expenses such as advertising, brokers' costs and tollfree telephone lines. These are 12b-1 fees, regulated by law. Transfer fees A fee is charged each time the investor transfers money within the company.
Load vs. no-load funds Load funds are mutual funds that have sales charges. When an investor purchases shares of a mutual fund the investor pays a fee for the sale (transaction) of the shares. Sales charges are required by law to be no more than 8.5% of the price of the shares bought. A load fund is where the broker receives all his commission with the first funds received from the investor. Therefore the investor must pay the brokers commission completely before any of his funds go toward the purchase of shares.
• • • •
Mutual fund expenses
•
Mutual fund taxation
Load vs. no-load funds Mutual fund fees
Distribution of capital gains and dividends
No-load funds do not charge an upfront fee for the sale transaction. In a no-load fund the broker receives his commission as he receives the investor's funds and shares are purchased with the investor's initial funds.
Mutual fund taxation The mutual fund manager must send the investor a tax information statement so the investor can declare taxes. The investor must account for all capital gains or loses and dividends even if the dividends and capital gains are reinvested into the mutual fund. When mutual funds shares are sold/redeemed the mutual fund manager should aid the investor in determining the purchase bases for the shares sold/redeemed. Recent federal tax codes have modified the treatment of dividends and capital gains depending on the investor's income level and tax bracket
Advantages of mutual funds Mutual funds provide professional management and research to select quality securities. They spread the risk over a larger quantity of stock than the investor usually has funds to buy. In a mutual fund the investor can add funds to his/her investments at set amounts and smaller quantities such as $100 per month. The investor can access the advantage of the stock market which overall has out performed other investments in long term investments. The mutual fund managers are able to buy securities in large quantities thus reducing brokerage fees.
Advantages of mutual funds Mutual funds provide professional management and research to select quality securities. They spread the risk over a larger quantity of stock than the investor usually has funds to buy. In a mutual fund the investor can add funds to his/her investments at set amounts and smaller quantities such as $100 per month. The investor can access the advantage of the stock market which overall has out performed other investments in long term investments. The mutual fund managers are able to buy securities in large quantities thus reducing brokerage fees.
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Mutual fund expenses
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Mutual fund taxation
Load vs. no-load funds Mutual fund fees
Distribution of capital gains and dividends
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Mutual funds vs. other investments
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Advantages of mutual funds
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Disadvantages of mutual funds
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Mutual funds vs. other investments
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Advantages of mutual funds
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Disadvantages of mutual funds
• Disadvantages of mutual funds Fund management fees may be unreasonable for the services rendered. The investor must rely on the integrity of the
Mutual funds vs. other investments
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Advantages of mutual funds
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Disadvantages of mutual funds
professional fund manager. In some cases the fund manager may not pass on transaction savings to the investor. The fund managers are not liable for fund losses due to poor judgment on their part. The fund managers may make so many transactions in the fund that high fee/cost result and are passed on to the investor. Prospectuses and Annual reports are hard to understand. Restrictions on when and how an investor sells/redeems his mutual fund shares. The investor may feel a loss of control of his investment dollars.
Dangers of mutual funds There are many dangers associated with mutual funds. Explore this section to learn more.
Dangers of mutual funds There are many dangers associated with mutual funds. Explore this section to learn more.
What to look out for Repeating some of the concerns expressed in the mutual fund disadvantages.
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Dangers of mutual funds
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Recent scandals
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Dangers of mutual funds
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Recent scandals
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Dangers of mutual funds
What to look out for
What to look out for
What to look out for
• Recent scandals Performance below other mutual funds in the same sector or against a recognized index. There may be too many transactions in the fund resulting in higher fee/cost to the investor This is sometimes call "Churn and Earn". Prospectus, Annual report and Statement of Additional Information are hard to understand. There are restrictions on when and how an investor sells/redeems his mutual fund shares.
Recent scandals Unfortunately there have been incidences in which mutual fund managers have traded stocks at prices other than reported to the investor. An example is the use of closing share price for reported trades for the day the investor request an execution of
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Dangers of mutual funds
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Recent scandals
What to look out for
his shares. Whereas the mutual fund manager may have received a more advantageous share price before the closing share price is set. The mutual fund manager retains the additional gain for himself or his firm. Since there are usually large volume trades the gain may be substantial even with a fraction of a share price.
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