What are mutual funds? How do they work?

May 15, 2023
Mutual funds are investment vehicles that pool the funds of several investors to invest in a diversified portfolio of securities such as stocks, bonds or a combination of both. They are managed by professional fund managers who make investment decisions on behalf of investors.

Mutual funds work like this: Structure: Investment funds are structured as open-end investment companies. This means that investors can buy or sell shares in the fund at the funds net asset value (NAV), which is calculated daily based on the value of the funds underlying assets. Pooling of funds: When you invest in a mutual fund, your money is pooled with the investments of other investors, creating funds. This aggregation allows individual investors to access a diversified portfolio of securities that may be difficult or expensive to obtain.

Professional management: investment funds are managed by experienced managers or management teams. These professionals conduct research, select securities and make investment decisions based on the funds investment objectives and strategies. Investment strategies: There are different types and styles of investment funds, each with their own investment strategies and objectives. Some funds focus on a specific asset class, such as stock funds, bond funds or money market funds. Others may have a more specific investment objective, such as sector funds or index funds. Diversification: Mutual funds offer the benefits of diversification by investing in a wide variety of securities. By diversifying investments across asset classes, sectors and individual securities, mutual funds aim to reduce risk and provide exposure to a broader market.

Share Classes: Mutual funds may offer different share classes with different fee structures. Common shares are Series A, Series B and Series C shares. Each class has its own fee structure, sales charges and expense ratio, so its important to understand the expenses of each share class before investing. Net asset value (NAV): The net asset value of a mutual fund represents the total value of the funds assets less liabilities divided by the number of shares outstanding. NAV is calculated at the end of each trading day. When you buy or sell fund units, you trade at the NAV price, which may include sales or brokerage fees. Income and capital gains: Mutual funds earn income through dividends, interest payments or capital gains from the sale of securities. This income is distributed to fund shareholders as dividends or reinvested to buy additional shares. Continuous management and reporting: Mutual fund managers continuously monitor and modify the funds portfolio according to market conditions and the funds investment objectives. They also provide investors with regular reports and announcements, including financial statements, prospectuses and periodic fund statements. Liquidity: Mutual funds offer liquidity to investors because shares can usually be bought or sold on any business day at the current net worth. This gives investors the flexibility to invest or exit their investment positions.

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