Mutual funds are considered a good means of investment in comparison to investing in the stock market which could be risky as it involves careful planning and a good understanding of how the market works, with most people unable to grasp the nuances well. Mutual funds are very cost-efficient and easy to invest in. A fund manager pools the money of a group of investors to purchase a diverse portfolio of securities. By doing so, investors can purchase securities at much lower trading costs compared to individual investments. A key advantage of mutual funds is diversification; they allow investors to spread their money across different investment vehicles. Furthermore, when one investment turns sour, another can offset the loss incurred, thereby reducing any risk significantly.
Types of mutual funds: Mutual funds can be classified according to their structure and objective. One can get an idea by looking at some of them.
Closed-end and open-end funds: The former have a set number of shares issued to the public through an IPO, while open end funds are operated by a mutual fund house by raising money from shareholders and investing in various asset classes.
Large cap mid-cap funds: Large cap funds seek to grow capital by investing mainly in large blue chip companies, whereas the latter invest in small and medium sized firms.
Equity funds: These mutual fund types are also called stock mutual funds because the pooled amounts are invested in stocks of public companies.
Balanced funds: Also called hybrid funds, balanced mutual funds buy an assortment of common stock, preferred stock, bonds, and short-term bonds.
Exchange traded funds: ETFs are traded on an exchange just as a stock is and comprise a basket of securities. They are unlike conventional mutual funds.
Value funds: Value funds focus more on safety than on growth and often choose investments that provide both dividends and capital appreciation.
Money market funds: These mutual fund types invest exclusively in money market instruments which are forms of debt that are very liquid and mature under a year's time.
Fund of funds: A FoF is an investment fund that holds a portfolio of other investment funds instead of investing directly in securities.
Besides these types, there are international mutual funds, regional mutual funds and sector funds which invest in securities on a global scale, in a specific geographic area and in a particular sector, respectively.