Mutual Funds

What Is a Mutual Fund?

A mutual fund is an investment tool that pools money from multiple shareholders and uses those funds to invest in a collection of stocks, bonds, and other securities that individuals may not otherwise have access to on their own. This collection of investments is referred to as a portfolio. 

Individual investors who buy shares in a mutual fund become part-owners of the fund's assets. A professional portfolio manager is tasked with identifying promising investment opportunities to help the fund potentially outperform its benchmark. 

The value of a mutual fund depends on how the separate assets perform. As they increase or decrease in value, the value of the mutual fund’s shares rises and falls accordingly. 

To gauge a mutual fund’s performance over time, look at its “total return,” which reflects the dividends, interest, or capital gains generated for a specific period, along with its change in market value. Returns are typically reported from the day the fund opened and for one-, five-, and ten-year periods. 

Types of Mutual Funds 

In 2023, there were more than 8,700 mutual funds in the U.S. Many of these funds fall into the following categories. 

Equity Funds 

Equity funds, or stock funds, primarily invest in stocks. Although investing in stocks can be risky, equity funds' ability to diversify stocks from several companies may help mitigate that risk when some stocks underperform. They could also have the potential for significant returns. 

Bond Funds

A bond fund primarily buys and sells fixed-income securities (like bonds) issued by corporations, governments, and other entities to help fund their operations. These securities provide investors with fixed monthly interest payments and a return on the principal when the security matures.  

Bond funds carry some risk because the issuer may default on payments before the bond matures, potentially costing investors some of the income they are entitled to. 

Money Market Funds

These mutual funds invest in short-term, low-risk securities, including cash and cash equivalents and debt instruments. Investment fund companies sponsor money market funds, so there is no guarantee of principal. 

While they generate income, they typically have little capital appreciation. For that reason, money market funds are considered low-return investments. Compared to other options, they are highly liquid, with some allowing shareholders to withdraw funds at any time. However, depending on the fund, withdrawals may be limited per period. 

Balanced Funds

Balanced mutual funds contain a combination of stocks and bonds and are used to generate income and capital appreciation. As the name suggests, these mutual funds offer a balance of income and growth, with investments spread across different asset classes. 

With the inclusion of low to medium-risk stocks and bonds, balanced funds may potentially benefit individuals with a low risk tolerance, like retirees seeking reliable income, for example. 

Index Funds

Some mutual funds are investments that reflect the performance of common benchmarks like the S&P 500 Index. Rather than select individual stocks and bonds, the fund’s manager invests in some or all of the stocks and bonds in the index it tracks. 

An index fund can contain hundreds or even thousands within its collection. So, if a particular stock or bond is underperforming, it’s likely that another is performing well, which may help protect against losses. Index funds are part of a passive investing strategy, keeping costs low by trading infrequently. 

Potential Benefits of Mutual Funds

More than half of U.S. households own mutual funds, which amounts to over 116 million individual investors. They are the most common type of investment owned in the U.S. and may benefit your own investment portfolio for several reasons.

• Instant diversification: Mutual funds cover most major asset classes, offering an efficient way to diversify your investment portfolio without the need to choose individual stocks and bonds, saving investors time and money.
• Professional portfolio management: Professional managers do the research and use their skills and experience to choose securities and monitor mutual fund performance, taking the guesswork out of investing and making the process more convenient overall.
• Variety of investment options: Mutual funds allow investors to invest in multiple asset classes among various securities, including domestic and international stocks, bonds, and commodities.
• Accessibility: They are widely popular in part because many have a low or no-minimum investment to own a particular mutual fund. Some also have no or low loads or transaction fees, so investors can buy and sell shares without incurring high costs.
• Potential for income and/or capital appreciation: When certain stocks pay dividends, those funds are distributed to shareholders. Interest payments on bonds are another source of income. Profits are also available through capital gains.
• Liquidity: Compared to some other investment products, mutual funds include commonly traded assets that are generally easy to buy and sell.
• Regulated by the SEC: Mutual funds are registered with the Securities and Exchange Commission (SEC), the federal agency that regulates U.S. securities markets. Among other functions, the SEC monitors securities exchanges to protect investors.

Mutual Fund Costs and Considerations

When reviewing mutual fund opportunities with your EP Wealth investment management professional, it’s important to consider ongoing and transaction fees. Minor fee variations can translate to significant differences in your returns over time.

Although mutual funds may have low or no minimum investment, there are other fees to be aware of.  A mutual fund’s expense ratio is essentially the cost of owning that fund. You pay your fund company an annual fee in exchange for owning the fund, and that fee is calculated as a percentage of your investment. So, if the fund charges 0.40 percent, you would pay $40 every year for every $10,000 you invest in the fund. 

A sales charge or sales load is a commission you pay your advisor when you purchase or sell shares. Sales charges vary depending on the fund and the share class.

• You pay front-end sales charges when you buy shares of a mutual fund, and the money is taken directly from your investment.
• Deferred or back-end sales charges are paid when you sell shares based on your initial investment, not what you earn after the sale.

Investors should also keep in mind that past performance does not guarantee future results. In fact, the SEC requires mutual funds to include a disclaimer to that effect in their paperwork. It is possible to have a stellar performance once a year and a mediocre performance the next. The value of mutual funds and other investments is subject to market conditions, and positive returns are not guaranteed. 

When investments are underperforming, your investment advisor will adjust and rebalance as needed. 

EP Wealth financial planning professionals carefully research your options before choosing the best mutual funds from the thousands available on the market. But they are just one facet of a larger financial plan customized for your unique needs. 

We provide holistic investment strategies that balance risk and return to support today’s financial milestones and tomorrow's goals. To learn more, contact an advisor near you.