Mutual funds have become one of the most popular investment vehicles of the past two decades. A growing number of people invest in these funds, often without thinking about them. After all, how many of us have 401(k) plans provided by our employers? The majority of these plans are made up of mutual funds.
But if someone asked you to define exactly what a mutual fund is, could you? Would you be able to provide an accurate definition?
Not surprisingly, a large number of people can’t. This isn’t unusual. Most people aren’t all that financially savvy. They’re happy to see their retirement accounts grow. They don’t really know why they’re growing.
Basically, a mutual fund is an investment vehicle that is composed of the investment dollars of a large number of investors. Money managers who operate the mutual funds invest this money in securities that include stocks, money market instruments, bonds and other financial assets. The goal of these money managers, of course, is to invest this money in securities that perform well and produce income for the investors.
A slightly different type of mutual fund, known as an index fund, is not run by money managers. Instead, a computer program usually ensures that these funds follow a specific index, making trades and buying securities that allow them to do this.
Mutual funds are considered relatively safe investments because they spread investors’ money over a wide and diverse range of securities. Financial analysts have long emphasized that it makes financial sense to seek out diversity when investing and many of the best mutual funds are very diversified. This way, if a particular industry or investment vehicle struggles, investors’ dollars aren’t tied up only in them. The hope is that other investment vehicles will be performing better to make up for the underperformers.
Mutual funds are also considered safe investment vehicles for inexperienced investors. That’s because money managers watch over the performances of the securities in the fund. If a group of securities are not performing, the managers can move money around. This, it is hoped, will prevent investors from sustaining large losses over a long period of time.
Of course, as in any investment vehicle, strong returns are not guaranteed. It is possible to lose money when investing in mutual funds. Financial analysts, though, still consider mutual funds to be safer than investing in the stock market.
It pays to learn about the basics of mutual funds because these instruments have become such an important part of the investing landscape. The popularity of mutual funds has boomed during the last two decades. This is something that doesn’t figure to change any time soon.
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Tue, Aug 31, 2010
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