A mutual fund pools the investment dollars of a group of shareholders and is often actively managed by a professional money manager who buys and sells stocks, bonds, or other investments based on the fund's investment objective. Mutual funds take the guesswork out of building a diverse portfolio one asset at a time. They offer a wide variety of asset classes, so odds are if you want broad market exposure or a narrow corner of the market, there are options to choose from.
While mutual funds and Exchange Traded Funds (ETFs) both pool investor money into a collection of securities that can help diversify their portfolio without having to buy and manage individual assets, there are a few key differences to consider.
How they trade: ETFs trade like stocks and are bought and sold on a stock exchange at a price that can change throughout the day. This means that the price at which you buy an ETF will likely differ from the prices paid by other investors due to market fluctuation. Most mutual funds are traded once at the end of each trading day with all investors on the same day receiving the same price.
Tax consequences: ETFs do not pass through capital gains so you'll only realize gains when you sell shares, whereas mutual funds pass the gains on to you in the year the fund realizes them for as long as you own shares.
Management style: Generally, most mutual funds are actively managed meaning the fund manager uses their experience to buy and sell securities to pursue better-than-market returns, which can translate to higher costs for investors. ETFs on the other hand, are mostly passively managed to mirror a benchmark or index like the S&P 500.
Investment minimums: ETFs don't have minimum investment requirements, where most mutual funds often have a minimum investment of at least a $1,000.
There is no single expectation of performance across all mutual funds (some 10,000 in the U.S. alone). With so many types and categories of funds investing in various asset classes such as stocks, bonds, and cash, looking at a particular fund's long-term annualized performance compared to its benchmark can give you an idea of its anticipated performance. However, there are always market uncertainties with any investment, so there are no guarantees that a fund's past performance will be indicative of future results.
A mutual fund creates a portfolio of various assets such as stocks, bonds, cash, and other securities. Mutual funds are divided into several different categories representing the kinds of securities they invest in, their investment objectives, and the type of returns they seek. Common fund categories include stocks, bonds, indexes, balanced, money markets, income, and international.
Unlike typical investments that can be bought and sold throughout trading hours at the current market price, mutual funds are traded and priced after the trading day ends. The daily price (net asset value or NAV) is set based on the value of the securities held in the fund and the shares outstanding. Your investment then changes in value along with the NAV. As an investor in a mutual fund, you won't own the securities in which the fund invests, you’ll only own shares in the fund itself.
Stock funds are categorized based on the size of the companies they invest in (small cap, mid cap, or large cap), their investment approach (aggressive, income, value, etc.), and whether they invest in U.S. or foreign equities.
This type of mutual fund invests in corporate, government, or municipal bonds, or other debt instruments with the goal of creating a steady stream of monthly, quarterly, or semi-annual interest income to investors.
Money market funds invest in instruments such as cash, cash equivalent securities, and high-credit-rating, short-term debt-based securities (e.g., U.S. Treasuries) to offer investors high liquidity with a low level of risk.
Balanced or Hybrid
Also known as asset allocation funds, this type of mutual fund invests in a hybrid of securities including stocks, bonds, money markets, or alternative investments with the goal of reducing the risk of exposure across asset classes.
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