MUTUAL FUNDS – WHAT ARE THEY AND HOW TO INVEST

What is a Mutual Fund?

A mutual fund is a type of investment in which investors pool their money to buy stocks, bonds, and other assets. A mutual fund tries to build a more diverse portfolio than an average investor could. Professional fund managers buy securities for you in mutual funds.

Investors in mutual funds own stock in a company that buys stock in other companies (or bonds or other securities). Investors in mutual funds don’t own stock in the firms the fund buys, but they share equally in the profits and losses of the fund’s total assets — hence the “mutual” in mutual funds.

How Mutual Funds work

When you buy into a mutual fund, your investment can increase in value in three ways:

Dividend payment

When a fund receives dividends or interest from its portfolio of securities, it distributes a portion of that income to its investors. When you buy a mutual fund share, you can receive distributions immediately or have them reinvested in the fund.

Capital Gain

A capital gain occurs when a fund sells a security that has increased in value. (A capital loss occurs when a fund sells a security that has fallen in value.) Most funds distribute net capital gains to investors yearly.

Net Asset Value

After the market closes, the whole financial worth of the underlying assets is appraised, and mutual fund share purchases are final. The net asset value of a mutual fund is the price per share. The cost of purchasing shares in the fund rises in tandem with the fund’s value (or the NAV per share). This is analogous to when the price of a stock rises — you don’t get immediate payouts, but the value of your investment rises, and you stand to profit if you sell.

How to invest in mutual funds

Decide whether to go active or passive

The first decision you must make is whether you want to beat the market or try to imitate it. It’s also a simple decision: One strategy is more expensive than the other, yet often does not produce superior outcomes.

Professionals oversee actively managed funds, which examine the market and buy to outperform it. While some fund managers may succeed in the near term, consistently outperforming the market over the long run has proven challenging.

Passive investment, on the other hand, is becoming increasingly popular, given the simplicity of the method and the returns it may produce. Fees are often lower in passive investing than in active investing.

Calculate your budget

What are the costs of mutual funds? Mutual funds have the advantage of allowing you to pick how much money you want to invest once you satisfy the minimum investment threshold. Many mutual fund minimums range from N10,000 So if you choose a fund with an N10,000 minimum investment and make that investment, you may be able to contribute as much or as little as you desire in the future.

Apart from the required initial commitment, consider how much money you must invest comfortably and then pick an amount.

TYPES OF MUTUAL FUNDS

Mutual funds are classified into other categories in addition to active and passive designations. Some mutual funds specialize in a single asset class, such as stocks or bonds, while others invest across multiple asset classes. The following are the most common kinds of mutual funds:

Stock (Equity) funds are extremely high risk, but they also have the highest potential rewards. Stock market fluctuations can have a significant impact on equity fund results. Growth funds, income funds, and sector funds are among the several types of equity funds. Each of these groups strives to keep a stock portfolio with specific features.

Bond funds (fixed-income funds) are generally safer than stock funds. Because there are so many various types of bonds, you should investigate each mutual fund separately to determine the level of risk it entails.

Balanced Funds: Invest in a variety of stocks, bonds, and other financial instruments. Balanced funds (also known as asset allocation funds or hybrid funds) are a type of mutual fund that invests in a collection of other mutual funds. A target-date fund, for example, automatically selects and reallocates assets toward safer investments as you near retirement age.

Money Market Funds: Because they have the least risk, money market funds frequently have the lowest returns. Money market funds are obliged by law to invest in high-quality, short-term investments.

Pros and Cons of Mutual Funds

Pros

Simplicity: You only have a minor part to play if you’ve found a mutual fund with a decent track record: Allow the fund managers (or, in the case of index funds, the benchmark index) to perform all the heavy lifting.

Professional Management: Active fund managers make daily decisions on buying and selling securities in the fund, based on the fund’s objectives. Mutual funds provide competent management if you want it (and are ready to pay for it).

Affordability: Mutual funds often have a required minimum of N10,000 but several brokers offer funds with lower minimums or no minimum at all.

Liquidity: Mutual funds are less complicated to buy and sell than other assets you own (such as your vehicle or home).

Diversification: This is one of the most important investing principles. If a single company fails and you invested all your money in it, you will lose all your money. If a single firm inside a mutual fund fails, however, your losses are limited. Mutual funds allow you to invest in a diversified portfolio without having to buy and manage dozens of assets on your own.

Cons

Fees: The biggest downside of mutual funds is that you will be charged fees regardless of how well they perform. Passively managed funds, on the other hand, have substantially lower fees than actively managed funds.

Lack of Control: You may not be aware of the fund’s specific portfolio composition and have no control over its purchases. However, for some investors who simply do not have the time to maintain and manage a huge portfolio, this can be a relief.

Want to learn more, Speak to a Redwood financial adviser today, call 07000330330 or send us a WhatsApp message on 08055100010