What Are Mutual Funds?

Mutual funds are popular investment opportunities: They are a way for investors to pool money to invest in specific assets, from stocks and bonds to other investments. Mutual funds allow the average investor opportunity to diversify their investments while accessing global markets.

Types of mutual funds

Many types of mutual funds are available. Knowing a little about each type can help you make informed investment decisions.

Equity funds: These funds buy stock in publicly traded companies. They offer the possibility of high returns but come with more risks than other types of mutual funds. Equity funds are the most common mutual fund on the market. 

Fixed-income funds: Also known as money market funds or bond funds, fixed-income funds invest in short-term government, bank, and corporate debt. One of the safest types of mutual fund, fixed-income fund investments yield lower returns than higher-risk funds.

Balanced funds: These funds combine equity and fixed-income funds. A balanced fund might include 70 percent stocks and 30 percent bonds. Targeted-date funds are popular retirement plans, as they reallocate investments from stocks to safer bonds as you approach retirement. 

Index funds: Tied to market indexes such as the S&P 500, these funds are characterized by low-risk, long-term portfolio holdings.

Advantages of mutual funds

• They allow investors to diversify investment portfolios.
• Mutual funds are affordable, allowing you to invest in securities that would otherwise be too expensive to consider.
• They offer investment opportunities for all levels of risk.
• Mutual funds provide the option of reinvesting dividends and interest in fund shares to grow portfolios without incurring regular transaction fees.
• Mutual funds are convenient; their diverse nature is well suited to people who want to invest without closely monitoring portfolios.
• Nonindex mutual funds are managed by financial professionals who help you make sense of the complicated financial market.
• Unlike 401(k) plans, mutual funds can be traded, sold, or bought easily.

Disadvantages of mutual funds

• Once you invest, you surrender control of your portfolio to a mutual fund money manager.
• You’re taxed whenever the fund distributes shares and capital gains.
• Mutual funds charge annual expenses, sales charges, and other fees.
• You run the risk of overdiversification by holding multiple securities.

Are mutual funds good for long-term investing?

Mutual funds are suitable for long-term investing, as they tend to produce acceptable returns over periods of 10 years or more. Long-term investment often counteracts market volatility.

What are the best long-term mutual funds?

The best long-term mutual funds to invest in include equity bonds and fixed-income funds. Long-term equity fund holdings ride the ups and downs of the market in the hopes of high returns. Fixed-income funds average good returns on investment when held for a decade or more.

What are the best short-term mutual funds?

When looking at the best short-term mutual funds to invest in, remember even short-term mutual fund investments require at least three years of investment to yield returns. Money market funds are suitable for short-term investments due to their liquidity and low risk.

The bottom line

The advantages of mutual funds tend to outweigh the risks, but each person’s financial situation and risk tolerance is different. Consult with a financial professional before making any decisions, and remember to consider other types of retirement plans.