With so many mutual funds to choose from, it may seem dizzying trying to select some to add to your investment portfolio. While everybody’s individual situation will vary, it is always a good idea to choose funds that reflect an investment strategy that you understand and that is compatible with the rest of your portfolio, for example one that adds diversification. It is also smart to pay attention to the fees and loads that should be paid as well as the fund’s overall quality. Morningstar is a good resource for evaluating costs as, historical performance, strategy, and overall quality.
Identifying Goals and Risk Tolerance
Before acquiring shares in any fund, you need to think about why you are investing. What are your financial goals? Are long-term capital gains desired, or is a current income preferred? Will the money be used to pay for college expenses, or to supplement a retirement that is decades away? Identifying a goal is important because it will help you hone in on the right fund for the task.
For example, for preserving cash for short-term goals, money market funds may be the right choice, For goals that are just a few years into the future, bond funds may be appropriate. For long-term goals, stocks funds may be the way to go.
Of course, you must also consider the issue of risk tolerance. Can you afford and accept dramatic swings in portfolio value? If so, you may prefer stock funds over bond funds. Or is a more conservative investment warranted? In that case, bond funds may be the way to go. Money market funds, which are often equated with cash holdings, are the most risk averse choice.
The next question to consider include "are you more concerned about trying to outperform your fund's benchmark index or are you more concerned about the cost of your investments?" If the answer is "cost," index funds are likely the right choice for you.
Additional questions, to consider include how much money you have to invest, whether you should invest in a lump sum or a little bit over time and whether taxes are a concern for you. (Learn how to invest with a small amount of cash in How To Invest On A Shoestring Budget.)
Finding a fund has been made easy with the advent of the internet. Nearly all mutual fund companies have their own web sites, so a simple Google search for a particular fund or fund family will turn up the right results. If you don't have a specific fund company already in mind, you can run a search for terms like "no-load small cap fund" or large-cap value fund."
If you are interested in researching different possibilities, some online services can help.
- Morningstar and Kiplinger are two notable resources that carry a wide range of up-to-date information, pricing, and research. The Mutual Fund Education Alliance (MFEA) is the not-for-profit trade association of the no-load mutual fund industry, which has an easy to use tool for searching for no-load funds. In addition to these comprehensive sources, there are some niche sites to help find the right funds for you.
- LipperLeaders is a Thomson Reuters company that evaluate funds based on five metrics, called "Leaders:” total historical return; consistency of returns; preservation of capital; expenses; and tax efficiency.
- MAXFunds has a trademarked “Fund-O-Matic Fund Screener” which makes finding funds easy for people “without an advanced finance degree.”
- FundReveal use past returns but just not total returns; they use "average daily returns" to help determine the fund management's capability or skill. This may help an investor dig deeper to help predict future returns that can be impacted by the daily decisions made by fund managers.
Many brokerages also offer mutual fund guides and research to their clients.
Buying into a Fund
Mutual funds can be purchased through a broker, banks, insurance agents, or financial planners, who will usually receive a commission fee (load). Others can be bought straight from the fund company – in fact, many no-load funds can be purchased directly. Some no-load funds are also offered through brokers.
Mutual funds can often be purchased through low- or no-transaction fee programs that offer from among many funds from various companies. Sometimes referred to as "fund supermarkets," these programs let you buy funds from many different companies and provide consolidated record keeping that includes all purchases made through the supermarket, even if they are from different fund families. Popular examples of such programs are Schwab's OneSource, Vanguard's FundAccess, and Fidelity's FundsNetwork. Many large brokerages have similar offerings.
The Net Asset Value
When you have found the fund or funds that you want to buy, you should pay attention to the price. Mutual fund shares are priced via their net asset value (NAV), which is a fund's assets minus liabilities, or the value of a mutual fund. NAV per share is the value of one share in the mutual fund, and it is the number that is quoted online or in newspapers’ financial sections. You can think of NAV per share as the share price of a mutual fund. It fluctuates daily as the value of individual fund holdings move and as the number of fund shares outstanding change.
When you buy mutual fund shares shares, you pay the current NAV per share plus any sales front-end load. When you sell your shares, the fund will pay you NAV less any back-end load. Many mutual funds are priced on the weighted average NAV of a given trading day, and all transactions for that date will take place at that average.
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