If you are an everyday investor or planning to become one, mutual funds are a great way to diversify your trading portfolio without incurring a lot of charges. Our comprehensive guide will educate you more about the meaning of mutual funds, where to invest, and how to buy them.
Many investors are sceptical about investing in mutual funds, mainly because they aren’t fully knowledgeable about it and its benefits. But before we get into more details, let’s begin by understanding what mutual funds are.
What is a Mutual Fund?
Mutual funds are professionally managed investment funds collected from many investors with the goal of purchasing specific securities, including stocks, bonds, etc. As a mutual fund investor, you are not directly taking ownership of stocks of a company that your fund buys. However, profits or losses from the funds’ holdings will be shared equally among all mutual fund investors.
An asset management company is responsible for collecting mutual funds from investors. The professionals from the company will then invest in the agreed security or asset chosen by investors to generate profits in the long run.
How Does a Mutual Fund Work?
Earning profits with mutual funds means that the assets in the fund are increasing in prices. The difference between the expenses incurred and the total income or earnings will be your profit. Additionally, you can also benefit from bonds’ interests or dividends from shares.
Note that while you can make profits from mutual funds, losses are bound to occur. Therefore, it is essential that you are fully knowledgeable about the assets in a mutual fund you are investing in to reduce any loss potential.
The professionals involved in managing mutual fund investments for various clients have a long track record history. Their knowledge of the financial markets makes them more reliable in managing investments. They conduct research on the most suitable securities for a mutual fund and manage the activities for investors or clients.
Being a mutual fund investor in an asset management company means that you are a shareholder. Therefore, all investors will be able to equally share profits or losses of the mutual fund’s total holding. You will then decide as shareholders whether to reinvest your capital gains or continue earning dividends from already existing shares.
When to Buy Mutual Funds
Mutual funds shares are open for purchase at the end of a trading day, meaning that its net asset value (NAV) is calculated after a market closes. This is because their share prices do not fluctuate like exchange-traded securities.
You need to wait for the NAV to be calculated for you to purchase mutual fund shares. For example, if you have $1,000 for investment and the net asset value is $100, you can only afford to buy 10 shares with your capital. This also makes mutual funds a perfect tool for fractional share investing.
Mutual funds are meant for long term investment, and selling them prematurely will attract early redemption fees. Therefore, do not purchase a mutual fund if you have no intention of investing long-term.
Why You Should Invest in Mutual Funds
Mutual funds are one of the most popular investment vehicles globally. The best feature about mutual funds is that newbies, intermediate and professional investors can use them to earn extra income. Other reasons why you should try investing in mutual funds include:
Mutual funds are simple and easy to understand. You do not need to acquire extensive knowledge in financing and economics to be a successful investor. All you have to do is monitor an asset’s financial markets accordingly to help keep returns in line with your expectations.
You do not need to invest a lot of money in mutual funds since you can still earn profits with a low initial investment. Most brokers will require a minimum initial capital of $3,000 and below, even though a few mutual funds brokers will not have a minimum deposit requirement.
You do not need to be present to analyse mutual funds investment since asset management companies have professionals for those duties. This allows you to focus on other trading assets and diversify your trading portfolio.
Investing in one mutual fund can make you benefit from diverse trading assets, such as stocks, bonds, cash, etc. You can also invest in multiple mutual funds across various asset classes, including stocks, bonds, and more.
Mutual funds are liquid, meaning that they can easily be bought and sold. This makes it easier for you to sell your fund and get your money back. However, you need to avoid selling a mutual fund early in investment to avoid incurring early redemption charges.
How to Buy Mutual Funds
It’s easy to invest in mutual funds using a broker, even though you can purchase them directly from a company offering them. The broker should have assets, investment tools, and other elements that complement your investment needs. Once you find the best broker for mutual funds investment, follow the steps below to begin your investment venture.
- Learn and Research Available Mutual Funds
You have to fully understand the type of assets you want to invest in a mutual fund. This also means that you should be able to conduct thorough research on mutual funds potential assets based on past performances, sales commissions charged by brokers, and mutual funds management (whether active or passive).
- Decide Whether to Invest in Active or Passive Mutual Funds
Before investing in mutual funds, you should decide whether to beat the market or simply copy it. Actively managed mutual funds are aimed at beating the market. However, it is challenging to achieve this objective, especially while investing long-term.
In contrast, passively managed mutual funds are easier to manage and have become more popular globally. Since it involves mimicking the markets, fund managers find this process more simplified. It is also more cost-effective than active investing.
- Have a Budget
Identifying an amount that you are willing to risk in investing in mutual funds is essential in helping you identify the most suitable funds to purchase. There are many brokers with different mutual funds. Therefore, ensure you confirm what their charges are when choosing one.
- Create an Investment Account.
At this point, we hope that you will already have a choice of a broker. Create a trading account with the broker and have access to various mutual funds across diverse companies. Ensure the broker is easy to use and supports you with the necessary tools for investment.
- Purchase Mutual Funds Shares
Ensure you have made the required deposit to purchase mutual funds shares using a broker. Choose the most preferred mutual funds assets and ensure you set the duration in which you expect your investment to last. You can then monitor your investment during the period in which your position remains open.
Mutual funds investing can bring about profits or losses. Therefore, you need to identify ways to keep investing regularly so that you do not miss out on opportunities to make profits. This can be made possible with an online broker, whereby instead of regularly making deposits to your account for investing, your broker will set up recurring investments based on your preference.
It is also important that you understand mutual funds fees to avoid surprises that may end up affecting your initial investment capital. For example, a broker will charge you an annual fee for fund management on top of other investment charges.
How to Choose Investment Mutual Funds
There are many mutual funds offered by brokers to choose from, and it is important that you understand how to identify the most suitable one for your investment. In this regard, consider the following factors in your choice.
- Investment Goal and Timeframe
Know the reason why you are investing in mutual funds in the first place. Could it be for retirement or simply to build your nest egg? For instance, if you want to invest for retirement, choose a more aggressive mutual fund.
- Asset Allocation
It will suit your investment strategy not to put all your eggs in a single basket. This means that you should divide your investment across various asset classes to reduce the risk of losses. Therefore, when choosing a mutual fund, decide the asset classes you will invest in, whether equities, gold, etc.
Past performance of mutual funds will give you an idea of how they might perform in the future, hence affecting your decision on whether to choose them or not. Analysing the performance of a mutual fund for at least the past five years will give you a good insight into its performance pattern.
- Fund Manager’s Experience
Since fund managers manage mutual funds, you should confirm the effectiveness and experience of the manager when choosing a fund. You do not want to entrust your hard-earned money to an individual with minimal expertise and experience, hence risking loss.
- Expense Ratio
This is an annual fee that is charged to an investor to cover operating expenses. These expenses are fund managers’ compensation, administrative charges and managing costs. When the expense ratio is high, your potential profits are reduced. Therefore, choose a mutual fund with reasonable expense ratios.
Investing in mutual funds requires you to be active and alert, especially when choosing a mutual fund. Note that you can purchase mutual funds directly from the company offering them, but it is more convenient when using an online brokerage company. Using a broker allows you to access diverse mutual funds from global companies. As a result, you will be able to diversify your investment portfolio and increase your profit potential.
Remember that your main goal is to maximise as many profits as you can. Therefore, keep an eye on mutual funds’ fees and expenses since the more costs and fees you incur, the more your potential profits are affected.
Lastly, conduct thorough market research on the assets you want to invest in. This is so that you can identify entry and exit points and increase your chances of earning profits.