Mutual funds are nothing but a collection of stocks or bonds that are grouped together and sold as single investment (portfolio of stocks). Putting it plainly, a mutual fund is just the connecting bridge or a financial intermediary that allows a group of investors to pool their money together with a predetermined investment objective. When you invest in a mutual fund, you are buying units or portions of the mutual fund and thus on investing becomes a shareholder or unit holder of the fund.
All the mutual funds have a fund manager who is responsible for collecting the money from people and investing it into specific securities (stocks or bonds). Mutual funds are touted as the best available investments because they offer comparative advantage like diversification, minimum risks and maximum returns to the investors.
How Mutual Funds Work
The mutual fund is managed by a professional investment manager who buys and sells securities for the most effective growth of the fund. As a mutual fund investor, you become a “shareholder” of the mutual fund company. When there are profits you will earn dividends. When there are losses, your shares will decrease in value.
Mutual funds are, by definition, diversified, meaning they are made up a lot of different investments. That tends to lower your risk (avoiding the old “all of your eggs in one basket” problem). And because someone else manages them, you don’t have to worry about diversifying individual investments yourself or doing your own record keeping. That makes it easier to just buy them and forget about them.
Advantages of investing in mutual funds
The chief advantage of investing in mutual funds is that there is an option for diversification in mutual funds. This aspect diminishes the amount of risk that is involved.
Mutual funds are more affordable compared to other kinds of investments as you can also buy more units with small installments.
Flexibility is another benefit that the mutual funds offer. You can switch between different funds that are managed by the mutual fund companies according to the conditions of the market.
Disadvantages of mutual funds
There is no insurance against losses that are incurred due to mutual funds. It is the risk that is the biggest disadvantage of mutual funds.
There are hidden fees collected from the investors by the mutual fund companies and there is no proper execution of trade. The transaction takes place only at the time of closing the market not considering the time you order for the buying or selling of the mutual funds.
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