The Risks And Rewards of Investing in Mutual Funds

If the market’s uncertainty has made you gun-shy about investing, consider mutual funds. When you buy into a mutual fund, your money is pooled with money from many other investors with similar or “mutual” goals, explains the California Society of CPAs (

Professional money managers invest the money in stocks, bonds, and other securities. Each investor owns shares in the fund and participates proportionally in the fund’s gains or losses. Thus, you reduce the possibility of a significant loss from an individual holding.

To help you better understand the risks and rewards of investing in mutual funds, CalCPA offers the following key facts.

Guarantees — Mutual funds are not guaranteed or insured by the FDIC or any government agency. They are regulated by the federal government through the Securities and Exchange Commission (SEC), however.

Types of funds — Most mutual funds fall into one of three categories: stock funds (also called equity funds), bond funds, and money market funds investing in short term securities. Although money market funds maintain a stable value per share (usually $1) and are well suited for investments requiring liquidity, their similarity to a bank savings account should not be confused with an FDIC-insured account. All mutual funds are variations of these three basic asset classes. Within these three primary categories are thousands of funds with different strategies aimed at meeting the investment objectives of fund holders.

Minimum investment — Most funds require a minimum investment of anywhere between $250 to $2,500, although some funds enable you to make investments for even less than $250 and others require a higher amount to open an account.

Pricing — The price that investors pay for mutual fund shares is the fund’s per share net asset value (NAV) plus any shareholder fees, if any, imposed at the time of purchase. The NAV fluctuates every day as fund holdings and the share prices change. Fund share prices appear in the financial pages of most major newspapers.

Generating income
— You can earn money from your mutual fund investment in three ways. Income is earned from the dividends or interest the fund earns on the investments in its portfolio. If the fund sells securities that have increased in price, the fund has a capital gain, which is typically passed on to investors in a distribution. If fund holdings increase in price, the shares increase in value. You can then sell your mutual fund shares for a profit. Of course, a mutual fund can also drop in value.

Mutual fund fees
— All mutual funds have costs that lower the fund’s investment returns. Operating expenses cover the cost of running the fund, including management fees, distribution fees and other expenses. Some funds impose fees or sales charges when investors buy shares. This fee is referred to as a “front-end load.” A fund that charges a fee when you sell shares has a “back-end load.” A no-load fund sells its shares without a fee or sales charge, but even no-load funds charge for operating expenses.

Relying on past performance
— A fund’s past performance is not a reliable indicator of future performance. Don’t use this solely as the basis for an investment decision.

Buying and selling funds
— Mutual funds are easy to buy and sell. You can purchase shares directly from the fund company or through a third party, such as a broker or a bank.

Fund management — Investment advisers who are registered with the SEC manage the portfolios of mutual funds.

Overall advantages — The key advantage to investing in a mutual fund is diversity. Instead of owning individual stocks or bonds, investing in a mutual fund spreads risk across a broader portfolio of investments. Other advantages include professional management, simplicity and convenience. Investors also have easy access to their money, making a mutual fund investment a liquid asset.

Getting the facts about funds — All funds offer a prospectus that should be read carefully before investing.

If you have any questions about how mutual funds fit into your overall financial plan, talk to your CPA. He or she can help you determine the best type of fund for achieving your personal financial objectives.