Mutual funds are a popular investment instrument but before you want to use this investment instrument you can best make your homework before you decide. Everyone wants to reach a higher return on their savings and investing in mutual funds can be a wise decision for you because the risk is fewer than investing in stocks or bonds. Many people tend to believe mutual funds will always offer higher returns than savings accounts but you can go wrong if your choice doesn’t meet your goals.
There is a wide variety of mutual funds and some may have low risk; there are maybe more with a high risk potential. Mutual funds are especially popular because of its diversification. You might spread your risk over 50 companies or more with one mutual fund and tend to believe you will always reach a higher return than a savings account; nobody can assure you are right. Mutual funds are long-term investments and the funds goal needs to match your own goals, otherwise you may take risks which you can’t afford.
Here are some necessities you need to know before you buy a mutual fund:
1. Understanding mutual funds
Mutual funds are a basket of different investments and managed by a professional fund manager. This manager buys and sells stocks, bonds or any other type of security according to their investment objectives.
2. The strategy of the mutual funds
If you want to invest in mutual funds you need to know your goals. Selecting the right mutual fund for you requires time and you need to ensure if the goals of the mutual fund meet your own goals. Your risk profile is important to know which types are useful for you. If you are an aggressive investor you can make your choice between the different equity funds.
These funds invest in stocks of different companies and according to a certain strategy. Some may invest in certain sectors, for example energy, finance; others will invest in blue chips, small chips, country related stocks, index funds, continent related stocks, worldwide or a mix of them.
If you want to limit your risk you can make your selection between balanced funds, money market funds, bond funds, fixed income funds. There is no fund which can maximize all goals on the long run.
3. The risk factor
There are always risks when you invest in mutual funds. The higher the proportion of shares in your mutual funds the higher the risk will be. Equity funds have a higher risk than bond funds but the return can also be much higher. Bond funds will never reach returns of 20% or more. Markets will always go up and down and you need to be aware of the possible risks which your mutual fund may have, for example inflation risk, interest-rate risk, credit risk, liquidity risk, currency risk and political risk.
4. Performance of the mutual fund in the past
The performance of your mutual fund in the past will give no security for the future but it is always a good indicator of the evolution in different market situations. It is relevant to compare the performance over the last three years with these over the last 10 years. Long time statistics are more relevant to know the impact of inflation, deflation, recession and even a stock market crash. It may happen some mutual funds reach better returns in times of inflation or any other economic situation.
5. Fees and expenses
The fees and expenses of mutual funds are to find in the prospectus of your mutual fund. Most mutual funds have purchase fees of 2% but it may happen you can buy mutual with lower purchase fees or some deductions if you invest for a minimum amount in this fund.
It is also possible you can get lower fees if you invest through systematic investment plans or it is possible that your purchase fees will be replaced by an exchange fee. An exchange fee is lower than a purchase fee and is possible for certain mutual funds which you exchange to another fund in the same group.
Sometimes you need also to pay an account fee if you buy a mutual fund. These fees are often imposed for maintenance of your account or if the value of your account is too low. These fees vary from fund to fund and it is important to check them and you must decide if these fees are acceptable for you; otherwise you may select another fund with lower fees.
6. The fund manager
The fund manager is the person who manages your fund. He will decide to buy and to sell stocks and bonds in your fund with the intention to reach a high return but according to the strategy of the fund. It is wise to do some research of the background of your fund manager. The Securities Exchange Commission (SEC) has information about every fund and his manager. It may happen that the manager of a fund has changed recently which doesn’t mean always you will have a better manager. It is important to check his results in fund management.
Mutual funds are popular because it is an easy way for diversification in your investments. You need to ensure your funds goals are similar with your own goals and that you follow up your investment portfolio. It is possible your goals change over time and you need to reevaluate your investment portfolio. Maybe it is wise to read reviews of your fund before you decide to buy mutual funds.
Investing in mutual funds is often a wise decision but you need to be aware of the risks and if you can afford to take these risks. It is often the best decision to start with balanced funds and after some experience you will know which investments strategy will fulfill your needs.