What are mutual funds?

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Mutual funds are a group investment from multiple shareholders – used to invest in stocks, bonds and other assets. This type of investment allows you to hold shares in high-profile portfolios you may not have been able to afford as an individual investor.

There are several categories of mutual fund, depending on what proportion of risk to return you’re looking for. They allow you to invest in a variety of assets, rather than putting everything into a single investment.

Mutual funds are managed by a fund manager, who decides when and where to invest your money.

The value of investments and the income from them can fall as well as rise and are not guaranteed. The investor might not get back their initial investment.

How do mutual funds work?

Mutual funds work by paying money to a fund management company, who make investments on your behalf. The company will then combine your funds with those of other investors to invest in multiple assets – based on their expertise, market research and your financial goals.

This lowers your risk of a single investment not working out. Instead, you will hold shares in various mutual funds, known as portfolios.

Types of mutual fund

Mutual funds are categorised based on their risk level and potential returns. The most common types of mutual fund are:

  • Bonds – Low level investments for potential long-term or short-term gain, in the form of interest. There are many varieties of bonds, so the risks and returns can fluctuate.
  • Stocks – These have a greater risk than other fund types and are also known as equity funds. There are many types of stock fund, but your fund manager will likely focus on one market area.
  • Money market funds – Usually the lowest risk for the lowest returns. These are used as short-term investments, designed to potentially earn you interest while your fund manager looks for other opportunities in the market.
  • Balanced funds – These include a mix of the above and allow your fund manager to invest in a group of mutual funds based on your agreed investment strategy. This is a popular option for those who are planning for retirement, as you can switch to investments carrying less risk as your retirement date draws closer. 

How investors get a return from mutual funds

Your potential returns will depend on the type of mutual fund your wealth adviser invests in. There are three main ways to see a return on your investments:

  • Capital – If you have a fund with securities that have gained value, this is distributed as capital among the shareholders.
  • Shares – You can sell some or all of your shares for a profit, if your mutual fund’s value has increased in price.
  • Dividends and interest – Any money earned over a given year is paid out in the form of interest on bonds, or dividends on stocks. You can either take this as capital or reinvest in more shares. 

 

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Mutal fund: FAQs

Are mutual funds safer than stocks?

Mutual funds tend to carry less risk than investing solely in the stock market. This is because your portfolio will contain a range of assets, rather than a large share in a single company, for example.

Please remember though that the value of all investments and the income from them can fall as well as rise and are not guaranteed. The investor might not get back their initial investment.

Can I withdraw money from a mutual fund anytime I like?

Most investments can be withdrawn in part or full at any time. However, you may face a penalty charge and risk receiving less than you originally invested. 

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