What Is It?
Are you someone who wants to invest (or already does), but doesn't want to bother deciphering a company's numbers and deciding whether or not the stock is a good buy? Or are you someone who finds the risk and volatility of the stock market stomach-turning?

If this describes your personality, you are a prime candidate for mutual funds. A mutual fund is simply a large group of people who lump their money together and give it to a management company to invest it on their behalf. A mutual fund manager proceeds to buy a number of stocks from various markets and industries. Depending on the amount you invest, you own a part of the overall fund.

Objectives and Risks
For the most part, investors should buy mutual funds as a long-term investment. The nice thing about mutual funds is that the objectives change from fund to fund. Each mutual fund has a different strategy - it is your job to decide what your objectives are and which fund best suits those objectives. Mutual fund strategies include growth/aggressive, low risk, balanced, momentum, and many others.

Your risk tolerance will play a big role in determining which fund you purchase - it all comes down to the old risk/return tradeoff. For example, if your fund is meant for retirement, then perhaps a low-risk money market fund is best for you. Many funds justify their under-performance as a factor of risk. For example, a mutual fund might fall short of beating the S&P 500, but at the same time it offers a beta (risk) that is much less than that of the market. If you are willing to sacrifice some performance in return for a good night's sleep, then these "low-risk" funds are a good option.

How To Buy or Sell It

There are thousands of different mutual funds out there. Most of them can be purchased directly through the mutual fund company, a bank, a brokerage or a financial planner. The commissions on mutual funds can vary widely depending on the company and the style of the fund. A load mutual fund charges you for the shares bought, plus a sales fee. A no-load fund sells its shares without a commission or sales charge, but management fees can be higher. (For an in-depth look at mutual funds, see our Mutual Fund Basics Tutorial.)



Strengths
  • No matter how much you invest, you get to own several companies. In other words, you get instant diversification.
  • You can easily make monthly contributions.
  • Your money is being managed by a professional manager. Because of his/her experience and knowledge, you should receive above average returns, at least in theory.

  • Weaknesses
  • The majority of mutual fund companies don\'t come close to beating market averages like the S&P 500 and the DJIA. (Notice we said you will receive above average returns "in theory". This will be discussed in detail in future pages.)
  • Fund managers take a slice of the profits for their work. This slice varies, but it can be quite high.
  • You pay management fees whether the fund actually makes you money or not.

  • Three Main Uses
  • Capital Appreciation
  • Provides Income
  • Tax-Deferred Savings

  • Next: 20 Investments: Options (Stocks) »


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