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Basic Information for Investment in Mutual Funds.

Updated on July 11, 2013

What is A Mutual Fund ?

A Mutual fund is a company which raises money from investors then invests the money in some instruments like stocks, bonds, and money markets which is managed by professional Investment managers.


Some Terms Used In Mutual Funds :

1. NAV (Net Asset Value) : This is a value which indicates the performance of your Mutual Funds. You can calculate NAV of your shares from :

(Price of Mutual Fund x Shares of Mutual Funds you have) - Administrative/trading Fee.

2. Share : Share is a unit of Mutual Fund you have.

Shares you get is calculated from = (Money you pay - Buying Fee) : Price.

3. Redemption : The process when you redeem/sell your shares.

Money you get when you redeem your Shares = (Number of Shares you sell x Price) - Selling Fee.

4. Price : You can check the price of your mutual funds by looking it up on economic newspaper or ask the  Securities company from which you bought mutual funds.

5. Portfolio : Combined stocks, bonds, and other assets which are owned by a Mutual Fund.


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FreeDigitalPhotos.net

Benefits Of Investing in Mutual Funds:

1. Managed by Professional Fund Managers:

Investment is taken care by Investment Managers who have expertise in fund management. Their role is very important since they carry out mandates from investors who don't have information/knowledge and time in executing their investments.

2. Diversified Investment.

The portfolio of investment is diversified in several kinds of stocks or securities in order to minimize risks; therefore, investing in mutual funds will not be as risky as investing in individual stock.

3. Transparent .

The Investment Managers are obliged to :

3.1 Disclose information about performance of their Mutual Funds and all deductible fees so that investors are well informed about profit/loss, deductible fees, and investment risks.

3.2 Announce NAV on newspaper every day, and publish first half and annual financial statements, distributes prospectuses so that all investors can monitor performance of their investments.

4. L i q u i d.

Portfolios of mutual funds are selectively chosen with high liquidity. Being very liquid it enables investors to redeem their shares anytime agreed by investors and by the investment manager. An investment manager is obliged to buy back an open end Mutual Fund shares of which also guarantees liquidity.

5. Low Cost.

Since a Mutual Fund is a collection of investors' funds which are managed professionally, this brings result in low operation cost and efficient transaction fees.


Types of Mutual Funds

Basically Mutual Funds fall into 4 categories. Each type has different features, different risks, and different rewards. The principle that investors should keep in mind  is "The higher the potential rewards the higher the risks" :

1. Fixed Income/Bond Mutual Funds :

Mutual Funds which invest at least 80% of its money in debt instruments, including bonds. The risk of fixed income funds is generally  higher than money market funds but lower than stock funds.

2. Stock/Equity Mutual Funds :

Funds which invest in stocks at least 80% of their money. They give the highest returns but also have biggest risk.

3. Combined or Mixed Mutual Funds :

These are  Funds which portfolios consist of combination of bonds and stocks.

4. Money Market Mutual Funds :

Mutual Funds which their investments are on debt securities that mature below one year. This fund has the lowest risk; hence, the lowest returns too.


Source

How Mutual Funds get profits (or loss).

Capital/fund growth is earned by a Mutual Fund from 4 sources :

Dividends and bonuses given by stocks in their portfolio

Bonds interests

Money markets interests.

Capital Gains from stocks and bonds trading, and from cashing deposits and other portfolios.

Risks of Investment in Mutual Funds

Investors should know kinds of risks when they invest in Mutual Funds :

1. (Up and) Down of NAV :

Fluctuation of NAV is caused by market dynamics which influence the portfolios constituting the Mutual Funds. News like the country's ailing political or economic condition, soaring performance of companies are some factors that can create the market dynamics.

2. Risk of Liquidity :

A Mutual Fund may become not liquid if a lot of investors redeem their shares all at one time or day, or when there is a big rush for redemption of the shares. This situation might be triggered by a very bad sentiment or news which scares the market, like political and economy collapses of a country, the shutdown or bankruptcy of some companies, etc.

3. Market Risk :

Market risk is the result of soaring stocks, bonds, and money markets. This bearish situation happens when many securities (stocks and bonds) suffer from deep price corrections, which will also influence a Mutual Fund's NAV. Hence, the trends of securities markets should be taken into investors' consideration before deciding on which type of mutual fund their money will be invested.

4. Default Risk :

Default risk occurs when the bonds which constitute the Mutual Fund's portfolios fail to repay principals on their maturity dates. That's why prudent strategy in choosing bonds should be applied by all Investment Managers in order to avoid default risk.

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FreeDigitalPhotos.net

Things to Consider Before Picking up A Fund.

Before investing in Mutual Fund you need to figure out your financial goal and risk tolerance.

If you belong to a risk seeker that high returns and investment growth are your targets, stock fund is your choice.

If your investment goal is for pension saving and constant low to moderate earnings is satisfactory, then bond funds or money market funds may suit you.

Another wisdom in minimizing risk is "Don't put your eggs in one basket"  meaning that you shouldn't pool your money in one kind of investment only. Putting money in combined portfolios which contain stocks, bonds, money market, and mixed funds is better decision than if we stick to only one kind of fund.



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    • agusfanani profile imageAUTHOR

      agusfanani 

      7 years ago from Indonesia

      Hello glassvisage, thank you for reading my hub. I hope that you're successful in your investment now. Good luck.

    • glassvisage profile image

      glassvisage 

      7 years ago from Northern California

      I definitely learned from this Hub. I am starting to learn more about investing and while I still have a ways to go, Hubs like these are very important in helping me through. Thanks for the details!

    • sweetie1 profile image

      sweetie1 

      8 years ago from India

      Hi agusfanani,

      Mutual funds are great source of extra income all over the world. Yes there are ups and down and mutual funds are not for those who are parking their money for short term. So if you take 3 years minimum for a scheme of reputed mutual fund then you should be making decent money. But then you never know in stock markets anything can happen and also there can be cheaters in mutual fund who can illegally ship your money to their personal accounts.

    • agusfanani profile imageAUTHOR

      agusfanani 

      8 years ago from Indonesia

      You're right Peggy W since young ones are more risk seeker type while old ones are risk averse. That can be added as a good tip too. Thank you for your visit and additional info.

    • profile image

      Mike Rowlands 

      9 years ago

      Nice description of what a mutual fund is. This is very helpful.

    • Peggy W profile image

      Peggy Woods 

      9 years ago from Houston, Texas

      Good advice and only one thing that I would add. When young one can afford to risk more (in other words be in more stock funds) and potentially make more. But if it sours, one has more time to recoup one's investment. If older...go with the more safe investments with less risk. Good hub.

    • agusfanani profile imageAUTHOR

      agusfanani 

      9 years ago from Indonesia

      Thanks for reading my hub febriedthan. An option is different from mutual fund: an option is a contract between a buyer and a seller, the buyer has the right to buy or sell a particular asset at an agreed day and price. So, this is a contract of buying or selling between a buyer and a seller which is agreed today and exercised (not exercised) in the future.

    • febriedethan profile image

      febriedethan 

      9 years ago from Indonesia

      Thank you for the information, but what about option compare to mutual fund? And I agree with Don't put your eggs in one basket, it's very wise. Great hub!

    • agusfanani profile imageAUTHOR

      agusfanani 

      9 years ago from Indonesia

      @ Bbudoyono:Thanks for your comment pak Bbudoyono, there's one term different we use in Indonesia : shares = Unit penyertaan .

      @Gorgeously: Thanks for droopping by at my hub.

      @Syuryadi helpi: I'm glad if you find this hub useful. Thank you.

    • syuryadi helpi profile image

      syuryadi helpi 

      9 years ago

      Thank you for this useful information.

    • Gorgeously profile image

      April Treme 

      9 years ago from United States

      Thanks for sharing.. Great Info

    • Bbudoyono profile image

      Bbudoyono 

      9 years ago

      Thanks for this hub. I need this information because I am preparing to invest in it.

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