A mutual fund is a security offered by a company which pools money from investors and invests it using a predefined strategy involving certain stocks, bonds and other assets. By pooling their money together, mutual fund investors can sample a broader range of stocks or bonds than they could if they were trying to buy the stocks and bonds on their own. Each investor in the fund owns shares representing some fraction of the collective holdings of stocks, bonds or other assets comprising the portfolio. In general funds can be divided into following two groups:
Acitvely-Managed Funds
Portfolios in actively-managed funds are managed on a day-to-day basis by a team of professionals—usually under the direction of one or two managers—which makes buy, hold and sell decisions with the goal of maximizing shareholder return.
Index Funds
The portfolio in an index fund—and its performance—is designed to mimic that of a specific market index (e.g., S&P 500 Index). Professional management efforts for an index fund are aimed at producing a rate of return that closely matches the index by ensuring that the allocation of assets in the fund portfolio is in alignment with that of the index at various times throughout the year. The rarity of change in portfolio, ranging from 15 to 25 equities, makes the index funds a passive investment vehicle.
Passive VS Active Funds
One argument for index funds is that they annually outperform a majority of actively-managed mutual funds. That’s true. However, they also annually underperform a number of fund managers. Every year, some actively-managed funds outperform various broad market indices and other more defined stock market indices. Some funds have a demonstrated history of solid performance for extended time periods.
Another argument for the use of index funds is that investors normally pay lower operating expenses. Proponents of actively-managed funds counter by saying funds which generate above-market returns for shareholders can offset the added expenses through performance.
There are two other broad categories of mutual funds -
Closed-End Funds
This type of fund has a set number of shares issued to the public through an initial public offering. These shares trade on the open market; this, combined with the fact that a closed-end fund does not redeem or issue new shares like a normal mutual fund, subjects the fund shares to the laws of supply and demand. As a result, shares of closed-end funds normally trade at a discount to net asset value.
Open-End Funds
A majority of mutual funds are open-ended. In simple terms, this means that the fund does not have a set number of shares. Instead, the fund will issue new shares to an investor based upon the current net asset value and redeem the shares when the investor decides to sell. Open-end funds always reflect the net asset value of the fund's underlying investments because shares are created and destroyed as necessary. All the lessons posted on fund 101 are related to open end funds.
A majority of mutual funds are open-ended. In simple terms, this means that the fund does not have a set number of shares. Instead, the fund will issue new shares to an investor based upon the current net asset value and redeem the shares when the investor decides to sell. Open-end funds always reflect the net asset value of the fund's underlying investments because shares are created and destroyed as necessary. All the lessons posted on fund 101 are related to open end funds.
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