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Spreading your Risk with Mutual Funds

Interest rates, although they are creeping up a bit, are still at all-time lows. While this may be great if you are buying a home, it’s not ideal for those with money to invest. Simply keeping your money in the bank or buying a certificate of deposit will give you very low returns. Historically, the stock market–especially when taken from a long-term investment perspective–has delivered above-average returns. But investing in the stock market requires a lot of careful study, and there is an element of risk involved, so it’s not an investment vehicle for everyone.

If you’re not stock market savvy, you can still get potentially better-than-bank-interest returns through mutual funds investments. A mutual fund is an investment whereby small investors pool their money, which is then controlled by a professional funds manager who makes investment decisions. Even though your individual share of the fund may be as little as just a few hundred dollars, the fund itself usually totals several million. This allows the fund to minimize trading costs, and diversify holdings in such a way that a small, individual stockholder could not. The ability to spread the risk by investing in several different holdings keeps potential loss to a minimum.

Mutual funds have different goals. A conservative mutual fund may be best suited for retirement savings, and will invest generally in blue chip, very solid stocks. High-yield mutual funds will invest in riskier holdings that have the potential for greater payoff. There is often a management fee, or “load,” involved, so consider these fees when deciding on a fund. No-load funds are available as well, but in some cases, a fee-based fund may well be worth the extra expense if it has a good track record of above-average returns. In addition to the fees, determine the management/expense ratio. This is the ratio of management expenses as a percentage of the total assets. Different types of funds will experience different ratios; for example, an index fund will likely carry a very low ratio. A more actively managed, high-risk fund will require more oversight, and will therefore carry a higher ratio.

Another advantage to the small investor is that mutual funds tend to be very liquid–that is, you can take your money out when you need it. In most cases, you will be taxed on the capital gains.

Not all mutual funds are stock market-based. Money market funds invest holdings in corporate and government debt, such as bonds, treasury bills or corporate paper. These money market funds offer the lowest risk, but also deliver the lowest return. However, return is still likely to be higher than placing your money in a passbook savings account. Other types of funds include fixed income funds, the goal of which is to provide a regular, steady income to holders. These funds invest in things like bonds and mortgage instruments that pay a regular return. Other types of specialty funds include index funds, which are tied to a composite index, and balanced funds, which invest in a broad range of vehicles that include stocks, bonds, and money market securities.

Information is for educational and informational purposes only and is not be interpreted as financial advice. This does not represent a recommendation to buy, sell, or hold any security. Please consult your financial advisor.

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What is a Mutual Fund?

The idea behind a mutual fund is fairly simple: Many investors pool their money in a fund managed by a professional money manager on behalf of these investors.

The manager uses this pool of money to direct investments according to the fund’s objectives, such as long-term growth, high or stable current income, or stability of principal. Depending upon its objective, a fund may invest in stocks, bonds, cash investments or a combination of these financial assets.

For investing in the fund, you will receive either units or shares that represent your proportionate share in the fund’s pool of assets. A fund’s investment returns comprises of the income (dividend or interest) paid on the securities and any capital gains or losses resulting from the sale of securities the fund holds. Your share in these returns will be dependent upon the number of units or shares held by you.

In return for administering the fund and managing its investment portfolio, the fund manager charges fees based on the value of the fund’s assets.

The mutual fund world is divided into open-end funds and closed-end funds. In an open-end fund new investors can contribute money to the fund at any time, and existing investors can return their units or shares to the fund for redemption at any time. There is no limit to the number of units or shares the fund can issue. When you redeem your units or shares of a mutual fund you will receive payment based on the current market value of the fund’s portfolio.

A closed-end fund issues a fixed number of shares or units in an initial public offering and they trade on an exchange. A majority of closed-end funds sell at a discount to their underlying asset value due to a number of reasons. Most investors in closed-end funds bet that the spread between the discount and the underlying asset value will narrow, therefore, they look for funds that are trading at deep discounts. It is advisable for the novice investor to invest in open-end funds unless he/she understands the mechanics for evaluating the discount spread.

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Understanding Mutual Funds

A mutual fund is a group of people pooling money together to buy a range of stocks and the money is administered by a manager.

Depending on the type of fund, the gains received will likely be moderate but consistent. In addition, using mutual funds to diversify your portfolio will help you spread your risk. When you spread your risk your chances of losing money are greatly diminished. This is the principle behind mutual funds.

Why Invest in Mutual Funds
If you have $20,000 you may choose to put half of the money into one stock and the other $10,000 into another stock. You do not have money to buy lots of different stocks. If either, or both, the stocks happen to go down in value then it is likely you will not make money.

In a mutual fund there may be a 100 people with $20,000. This gives the fund buying power of $2 million. The manager has enough money to buy stocks in different companies and spread risk.

Mutual funds all have a particular strategy of investment. The mutual fund manager cannot buy any stock they wish when they feel like it. There has to be set criteria that the manager follows and this criteria is always outlined in the fund prospectus. This is so you can make an informed choice about the types of stock your money goes to.

Mutual Fund Strategies
Strategies that define mutual funds come in all shapes and sizes. A mutual fund may only invest in technology stocks, or in banking stocks, or in large corporations, or emerging markets, or in any sphere you can imagine. Within the strategy there will be further guidelines that manager must follow when buying stock. As an example, the largest holding in any company cannot be more than 2% of the fund. Rules like this ensure that the funds portfolio is properly diversified.

Mutual funds cannot be ignored as a method of investing. Mutual funds take up a large portion of the investment market with as much money placed in mutual funds as in direct stocks.

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Basic Types of Investments — Financial Instruments you should Know

Are you new to investing? Then it is important that you know and understand the basic types of investments that are available to you.

The following financial instruments are the investment options generally available to you in the investments marketplace.

Savings Accounts
Savings accounts are a safe haven to store your emergency funds. They provide easy access to your money and are generally insured. If you or your family’s deposit accounts at one FDIC-insured bank or savings association total $100,000 or less, your funds are fully insured. The chief drawback of such accounts is that interest rates tend to be low since they offer a very high degree of safety.

CDs (Certificates of Deposit)
A CD is a special type of deposit account that typically offers a higher rate of interest than a regular savings account. Just like savings accounts, CDs are also insured up to $100,000. When you purchase a CD, you invest a fixed sum of money for fixed period of time. Usually, the longer the period, higher is the interest rate. There are penalties for early withdrawal.

Money Market Deposit Accounts
These accounts generally earn higher interest than savings accounts. They are very safe and provide easy access to your money. They are also insured by the FDIC. They offer many of the services that checking accounts offer, however, a limit is normally placed on the number of withdrawals or transfers you can make during a given period of time.

Stocks
When you buy stocks, you own a part of the company’s assets. If the company does well, you may receive periodic dividends and/or be able to sell your stock at a profit. If the company does poorly, the stock price may fall and you could lose some or all of the money you invested.

Bonds
A bond is a certificate of debt issued by the government or a company with a promise to pay a specified sum of money at a future date and carries interest at a fixed rate. Bond terms can range from a few months to 30 years. Bonds are tradable instruments and are generally considered safer than stocks because bondholders are paid before stockholders if a company becomes bankrupt. Independent bond-rating agencies rate the likelihood that any given bond will default.

Mutual Funds
A mutual fund is generally a professionally managed pool of money from a group of investors. A mutual fund manager invests your funds in securities, including stocks and bonds, money market instruments or some combination of these, based upon the fund’s investment objectives. By investing in a mutual fund you can diversify, thereby, sharply reducing your risk. Most mutual funds charge fees. You often pay income tax on your profits.

Annuities
Annuities are contracts sold by an insurance company designed to provide payments to the holder at specified intervals, usually after retirement. Earnings cannot be withdrawn without penalty until a specified age and are taxed only at the time of withdrawal. Annuities are relatively safe, low-yielding investments. An annuity has a death benefit equivalent to the higher of the current value of the annuity or the amount the buyer has paid into it.

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Saving Money and Building Wealth: Wealth Consciousness

Here is a secret to building wealth: before you ever accumulate any substantial sum of money you must gain a wealth consciousness.

What is “wealth consciousness”?
It is a consciousness of abundance that recognizes that you deserve wealth and financial rewards in life just for being you. It is a fundamental law of the universe that if you don’t think you deserve something then you will most certainly not get it. You must first of all recognize that you deserve something before you will ever receive it.

Those who have it in the back of their mind that they don’t deserve money or that money is evil will most certainly find that circumstances dictate that they will experience financial lack regardless of their talent, opportunities and experience. Even if you find this hard to believe, it is hard to argue with the fact that a negative attitude, in and of itself, creates problems of its own. And having a poverty consciousness certainly qualifies as a bad attitude in the realm of finances.

Poverty consciousness is the opposite of wealth consciousness. Poverty consciousness focuses on lack and the fact that ones needs are never met. This belief system is the fundamental reason that most people do not accumulate wealth. Therefore when they do get money they act like they will never get it again and thus spend it all at one time rather than accumulating it. How much money you make has no bearing if you can accumulate wealth, believe it or not. There are people making incomes twice the median average who still do not accumulate wealth and then there are people making the median income who are able to accumulate wealth. One has wealth consciousness and one does not. It is simple as that.

Increasing wealth
What can you do to increase your wealth consciousness and build wealth? First of all you must banish all thoughts of lack. Next you must replace them with thoughts of abundance and realize that there is always enough to go around and that you won’t run out of anything. Feel that more will always be coming instead of acting like you will never have it again. Once you have mastered this mindset then you too will begin to accumulate money.

Examine what your own attitude has been towards wealth. Do you have a wealth consciousness or a poverty consciousness? How has your financial situation reflected this belief? Or perhaps you have a wealth consciousness but still no wealth. What is the problem then? The problem is you have only taken the mental steps necessary and not followed through with action.

Integrity is essential in anything but especially when dealing with belief systems and underlying attitudes, which define our behavior. Even after you change your beliefs, make sure you are following up with actions, which are in harmony with those beliefs. Think about what wealth consciousness means to you and try to determine what behaviors and actions you can change to be in line with this new belief.