Mutual funds are professionally managed investment portfolios that are made up of different asset classes such as equities (i.e. stocks) and fixed income (i.e. bonds).
Each mutual fund has a defined investment objective that determines the overall objective of the fund and the types of investments that can hold.
How do mutual funds work?
Professional management
With mutual funds, a professional money manager is responsible for investment decisions. Rather than having to research every investment before deciding to buy or sell, you have a team of experts there to manage it for you.
Access to global markets
Mutual funds make global markets accessible to every investor, opening up the opportunity to participate in capital markets around the world.
Diversification
Mutual funds in general can hold many different investments, offering a level of diversification often only achieved with larger portfolios. Balanced mutual funds invest in a variety of equities, bonds and other holdings, investors can create a balanced and diversified investment portfolio with a relatively modest amount of money.
Lower costs
Economies of scale make mutual funds a cost-effective investment option. You share costs with other investors such as individual transaction and management fees.
Liquidity
Mutual funds are considered liquid investments because you can usually redeem your units as the need arises and have your money available within two business days. You receive the price based on the unit value at the end of the day you sell.
There is a diverse array of mutual funds available to investors. Generally, mutual funds can be grouped into four broad categories:
Money market funds
These types of funds invest primarily in treasury bills and other high quality, low risk short-term investments. Offering stability, minimal risk and preservation of capital money market funds deliver returns in the form of regular monthly interest income that are typically higher than those of a traditional bank account. Investors looking to meet short-term goals or access funds in case of emergency often choose money market funds as an investment solution.
Fixed income funds
By investing in fixed income securities such as mortgages, bonds and preferred shares, fixed income funds can provide a predictable source of income and help to preserve capital.These funds typically distribute interest income and provide potential for capital gains. Fixed income funds may also be used as a way to diversify an investment portfolio.
Balanced funds and portfolio solutions
Balanced funds hold a combination of equities, fixed income and money market investments. The portfolio manager adjusts the asset mix based on the objective of the fund and their view of the economy. Investors receive distributions in the form of interest, dividends and capital gains.
Equity funds
Equity funds invest in the stocks of public companies. These companies range in size from large to small, or both, and can be located in Canada only, the United States only, other specific countries or all countries. Equity funds may also focus on companies in certain sectors such as energy, gold or financials. These funds are ideal for investors looking for potential growth over the long term.
Risk and return
Generally, for mutual funds, there is a direct relationship between potential return and risk.
Investments that have greater potential for growth and higher return such as equities tend to experience greater price fluctuations (i.e. volatility and risk). Conversely, asset classes such as money market and fixed income tend to experience lower price volatility and lower growth/return potential.
Return vs risk
Talk to a financial advisor to about how mutual funds can help you achieve your investment goals.
Interested in learning more? Find out the costs of mutual fund investing
