How do Mutual Funds Work?
Mutual funds (MFs) are investment vehicles that pool money from multiple investors to invest in a diversified portfolio of securities such as stocks, bonds, money market instruments, or a combination of these assets.
1. Pooling of Funds: Investors buy shares or units of the mutual fund, and their money is pooled together with that of other investors. This pooled money is managed by professional fund managers.
2. Diversification: The pooled money is invested across a diversified portfolio of securities. This diversification helps spread risk because if one investment underperforms, gains from other investments may offset the losses.
3. Professional Management: Mutual funds are managed by experienced and knowledgeable fund managers who make investment decisions on behalf of the investors. These managers analyze market trends, economic conditions, and individual securities to make informed investment choices.
4. Investment Objectives: Each mutual fund has specific investment objectives, such as growth, income, or capital preservation. These objectives determine the types of securities the fund invests in.
5. Net Asset Value (NAV): The NAV of a mutual fund represents the per-share or per-unit value of the fund’s assets minus its liabilities. It is calculated at the end of each trading day based on the closing prices of the securities in the fund’s portfolio.
6. Buying and Selling: Investors can buy or sell shares or units of a mutual fund at the current NAV. The price at which shares are bought or sold may be subject to fees or charges, such as sales loads or redemption fees.
7. Costs and Fees: Mutual funds may charge fees such as expense ratios (for managing the fund), sales loads (commission for buying or selling shares), and redemption fees (for selling shares within a certain time frame).
8. Distribution of Profits: Mutual funds may distribute profits to investors in the form of dividends or capital gains. These distributions can be reinvested in the fund or paid out to investors in cash.
Mutual Fund vs. ETF : Which is Right for You?
The idea of pooled fund investment is the foundation for both mutual funds and exchange-traded funds (ETFs). An indexed passive approach has been followed frequently that attempts to mimic or follow benchmark indexes that are reflective of the market. Mutual funds are exchanged after market hours and valued at the net asset value once a day. ETFs are traded on stock exchanges all day long, just like regular equities. Because ETFs are more passive, they often have lower cost ratios and are more tax-efficient overall.
Geeky Takeaways:
- Pooled fund investment is the foundation for both mutual funds and exchange-traded funds (ETFs).
- Mutual funds are collections of capital from several investors with a single, shared investment goal. Professional fund managers of the mutual funds then invest the money collected under the scheme.
- ETFs, or exchange-traded funds, are financial vehicles that are much like any other securities in that they can be readily exchanged on a stock market.
- The main benefits of the pooled fund idea are economies of scale and diversity. By utilizing pooled investment funds for large-lot share transactions, managers may lower transaction costs.
Table of Content
- How do Mutual Funds Work?
- Types of Mutual Funds
- Benefits of Investing in Mutual Funds
- Risks of Mutual Funds
- How do I invest in Mutual Funds?
- What are Exchange-Traded Funds (ETFs)?
- How do ETFs work?
- Types of ETFs
- Benefits of Investing in ETFs
- Risks of ETFs
- How do I invest in ETFs?
- Difference between Mutual Funds and ETFs
- Mutual Funds or ETFs? Which is Right for you?
- Conclusion
- Mutual Fund vs. ETF – FAQs