How to Read a Mutual Fund Prospectus

How to Read a Mutual Fund Prospectus

It can be a task reading a mutual fund prospectus but the fact is you want to understand how a mutual fund plans to manage your money. In a prospectus you can usually find the basic information summarized on the cover sheet. Although this information is very helpful there are a few sections of a prospectus that would be beneficial to you as an investor to read and understand. After you read this article you will be prepared to find the sections that matter the most to you as an investor and find what you need to know before deciding to invest your hard earned money. Understanding a mutual fund prospectus is your first step to financial security when investing in a fund.

Mutual Fund Prospectus Rules

Mutual fund prospectus rules were first introduced as an amendment in the Investment Company Act of 1940 and the Securities Act of 1933 by the U.S. Securities and Exchange Commission (SEC). Among the guidelines of the prospectus rules were content, delivery and filing. The reason for the mutual fund prospectus rules were to present information to investors on mutual funds in an easy to understand composition with better delivery options. A prospectus is a legal document that businesses and organizations use to easily describe the securities they are offering to a buyer or customer.

The SEC requires companies offering securities to outline a mutual fund prospectus. Before any public offering has taken place a registration statement that includes a prospectus must be filed with the SEC. This prospectus must include and disclose information pertaining to any and all pending and ongoing litigation, biographies and compensation of officers, directors and board members. In some cases where the SEC does not require a company to file a prospectus it can also be referred to as an offering circular or an offering memorandum.

What to Look for in A Mutual Fund Prospectus

When reading a prospectus some might feel overwhelmed with all the information that is given to them. Some people sit right down and read it cover to cover understanding the whole thing. This is not typical by any means. The legalities contained in a prospectus can confuse most people, so it is crucial to find the sections that outline the more important parts of the whole thing. Things that tell you what you need to know before you are comfortable investing your money. The following are sections of a prospectus that should be read and understood.

Content of a Mutual Fund Prospectus

The mutual fund prospectus contains information on the company that is offering the mutual funds to customers planning to invest with them. The prospectus reveals details to the client for a better understanding of the company they are trusting with their money. So, what's in a mutual fund prospectus? The content of a mutual fund prospectus includes and may not be limited to the following.

Content of a Mutual Fund Prospectus

  • The companies compensation to officers, directors and board members
  • Litigation in which the company might be involved
  • Properties of an physical or intellectual nature
  • Investment objectives and goals
  • Strategies for completing those goals
  • Risk involved when investing with them
  • Past performance of the fund
  • Cost and expenses of that companies fund
  • How to purchase and redeem funds

Transaction and Fund Expenses

This section of a prospectus is kind of self explanatory but is important for you the investor to read. Reading and understanding this part of the prospectus can help you decide if the money you invest is going to be worth your return. The reason for this is you may find that the charges applied to the management of your investment might not be worth the performance of the fund in which case your money might do better in a different mutual fund or market altogether.

Investment Objectives

This section outlines the financial goals of the fund. It is important to read this section of a prospectus to make sure the goals of a mutual fund match your investment goals. The objectives of a fund can not be changed unless it is put to a vote by the investors, so there is never a worry that something might change without you knowing. The objectives of a fund can include the following.

Mutual Fund Investment Objectives

  • High Total Return
  • Long Term Capital Growth
  • Stable Income

Again it is crucial that you make sure the fund you plan to invest your money in carries objectives that match your needs. Especially if you're going to rely on this money to help you meet your day to day needs.

Mutual Fund Management

In this section you can discover the manager(s) of a mutual fund. It will tell you how long the mutual fund has been managed by the present manager(s). Make sure to check if the performance of the fund can be attributed to the present manager(s) or to someone previous to them. This can affect the future outcome and performance of a mutual fund substantially. If you find this to be the case check the background of the new manager to see how experienced they are in managing these types of funds and that they have a solid understanding of the fund.

Past Performance of a Mutual Fund

This section gives you information on the past performance of a mutual fund. It is important that you pay attention to details in this section when making a decision on investing with the fund. The reason you want to pay attention to details in this section is the prospectus may or may not take into account any taxes that were due on these returns. If the prospectus doesn't seem to take into account the taxes and various fees you should request this type of information from the mutual fund manager(s). Another thing you would want to look for in this section is the long term and short term performance of the fund based on you personal needs.

Risk Associated with Investing

In the risk section you will find data on investment rate risk, market risk, foreign risk and credit risk. You should make sure that the risk involved closely matches any risk that is associated in your current investments. This will allow you to be familiar with the risk and feel more comfortable with your investment in the fund. Keep in mind though the higher the risk most of the time the higher you expected return maybe. This is not always the objective of all investors but still should be something taken into account. If you are looking for short term investing with a fund you should be aware of short term volatility involved in any given fund.

Distribution of Funds

In the distribution of funds section of your prospectus you will find out how the company plans to make payment of capital gains earned or dividends as well as other earnings from investments or securities activities the mutual fund is involved. This section also provides information on whether or not the company plans to take these earning and reinvest them in the fund.

Mutual Fund Prospectus Delivery Requirements

The SEC requires that a prospectus be sent to any and all prospective buyers of a companies mutual fund. The company must provide a prospectus whenever a buyer request it either on paper through the mail, in an e-mail sent to the prospective buyer or customer or somewhere online. It is to be readily available to any and all investors to help them gain a full understanding of the company and the companies activities.

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