Posts Tagged ‘Funds’

Mutual funds are good options for American investors to meet their financial goals. These funds offer professional management and diversification of the funds invested. Mutual funds assets in 1990-2000 rose from 1.065 trillion to a whooping 6.965 trillion dollars. 10% Americans owned funds in 1980 and by 2000, the percentage increased to 49%.

What are Mutual funds?

A company dealing in mutual funds invests the money of several investors in bonds, stocks, securities, assets and several other short-term money-market instruments. The combined ‘holdings’ owned by the mutual fund are known as its portfolio. When you invest in a mutual fund you become a shareholder of the company. Each share in a mutual fund company is the representation of he investor’s proportionate ownership of the fund holdings and the income generated. You earn dividends when the mutual fund company earns a profit, however, your shares will decrease in value if it faces a loss. A professional investment manager does the buying and selling of securities for the growth of the fund.

Types of mutual funds:

Equity funds: These funds involve only common stock investments. They can earn a lot of profit, but are also very risky.

Fixed income funds: They include corporate and government securities. These funds offer fixed returns at a low risk.

Balanced funds: This is the combination of bonds and stocks with a low risk. However, the investment does not earn a lot through these funds.

How it works?

Mutual fund shares can be purchased from the company itself or a broker. There are secondary market investors also, like the New York Stock Exchange. Per share net asset value of the funds or NAV is the price that you pay for buying a mutual fund share. It also includes the shareholder fee that is imposed by the fund, at time of purchase. The best feature of mutual funds is that these shares are ‘redeemable’. You, as an investor, can sell your shares back to the broker. In order to accommodate new investors, mutual fund companies generally create new shares and sell them. They keep selling their shares continuously till they become large. Investment advisers act as separate entities and are responsible for managing the investment portfolio of the mutual funds. Investing in mutual funds tends to lower the risk factor because they are the result of diverse investments. Since someone else manages your investments, you need not worry about keeping constant tabs on the investment, though a periodical check enhances your personal book of accounts. Managing funds is the full time job of the fund manager and he is responsible for the performance and health of the investment.

The rate of returns in mutual funds is based on the increase or decrease of the value, during a specific period. Returns of a fund indicate the track record. It is important to remember that the past performance cannot guarantee future results.

As in the case of any investment or business, mutual funds also have risks associated with the returns. It is essential to set your financial goals and requirements, before investing in a mutual fund.

Investing in mutual funds is a relatively safe way of growing your net worth, but such investments are not entirely free of risks. Before you pick on any particular mutual fund for investment you should watch out for a few things.

Performance

The first thing you should look for is whether the mutual fund you are planning to invest in is outperforming or under-performing with respect to the market. Good and safe mutual funds are those that consistently outperform the market. Changes in the net asset values (NAVs) of such mutual funds are consistently one step ahead of the market. For example, if the index that measures market movements goes up, the NAV of most good and safe mutual funds will also move up at least as much as the market or even more than the market. On the other hand, when the market moves southwards, the NAV of most good and safe mutual funds will move down but such depreciation will be less than or at the most equal to the market’s downward movement. Unsafe or risky mutual funds are those where the opposite occurs – when the market moves up, the NAV of risky or unsafe mutual funds may move up less than the market and may even move down despite a bull run in the market. Such under-performing mutual funds should always be eschewed when taking an investment decision.

Churn and earn

The next thing to watch out for is whether the mutual fund is undergoing too much “churn and earn”. This means you have to check whether too many transactions by the mutual fund are resulting in higher fees or costs to the investor. In this context, the worst offenders are those mutual funds that have a lot of spurious churn. Every time a mutual fund buys or sells stocks, the broker or brokers it employs make a neat pile from the commissions. So, these brokers try to encourage a lot of churn or buying and selling of stocks by giving a kickback to the mutual fund manager. Although direct bribery is illegal, payment of soft money through a sponsored trip to Hawaii or letting the mutual fund manager have a swanky Wall Street office for $1 a month is not. The only loser in all this spurious churn is the investor, especially in cases where the small print says that the investor will have to pay the brokers’ fees as well.

Lack of clarity

Mutual Funds that have prospectus, annual reports or statements of additional information written in such a way that they are difficult to understand should also be avoided. The lack of clarity in their documents is almost a sure sign of lack of honesty in their dealings or a lack of competency in managing funds – both of which are strong reasons for avoiding them for investment purposes.

Risky and unsafe mutual funds are also characterised by having too many restrictions on how and when investors can sell or redeem their mutual fund shares. Mutual funds that have too long lock-in periods or those which slap a hefty exit load at the time of redemption should be eyed with suspicion and are likely to prove to be unsafe and risky.

Beware of scams

Finally, there are mutual funds that are outright scams. There have been reports of fund mangers selling stocks at prices other than what has been reported to the investor. For example, the fund manager may have sold stock at prices that prevailed before closing of the day’s trade although the investor is told that the transaction took place at closing prices which were lower. The manager then pockets the difference and with most such transactions involving large volumes, even a fractional price difference can lead to substantial gains for the manger. Again the only loser in all this is the investor who gets short-changed by the mutual fund operator!