How Do I Invest In Mutual Funds?

These Days, Investing In Mutual Funds Couldn't Be Easier Or More Affordable

I was once asked how to invest in mutual funds and I could not refrain from replying with “send a check to a mutual fund company.” All jokes aside, there are some important considerations an investor should take into account before investing in a mutual fund because mutual funds come in a multitude of varieties including those that focus on different asset classes, those that seek to mimic an index (also known as index funds), those that focus on dividend stocks; the list goes on and on covering everything from geographic mandates to those that specialize in investing in securities that fall within a certain market capitalization.

1. What Is a Mutual Fund?

As with any investment, the first order of business is to understand what it is that you are considering acquiring. For all intents and purposes, mutual funds serve as an alternative for investors who can't afford an individually managed account. Mutual funds are formed when smaller investors pool their money together and then hire a portfolio manager to run the consolidated pool's portfolio, buying different stocks, bonds, or other securities in a manner consistent with the fund's prospectus. Each investor then gets their respective piece of the pie while sharing the expenses, which show up in something called the mutual fund expense ratio. Mutual funds can be structured in several different ways; open-ended mutual funds vs closed mutual funds being one particularly important distinction. To learn more about the way mutual funds are organized, read How a Mutual Fund Is Structured.

You may also want to read Making Money from Mutual Funds, which explains how investors actually profit (or experience losses) from owning a stake in a mutual fund.

2. How Do I Select a Mutual Fund?

This is where you will want to focus your attention. The number of mutual funds available to investors now rivals the number of stocks on the North American exchanges.

All of these mutual funds can be categorized based on the type of underlying securities held by the mutual fund. At the broadest level, a fund will fall into one of three categories, equity (stocks), fixed income (bonds), and money markets (similar to cash). Equity and fixed income funds have subcategories, which will allow an investor to get specific with their investment dollars. For example, an equity fund investor may invest in a technology fund, which only invests in technology companies. Likewise a bond fund investor who is seeking current income may invest in a government securities fund which only invests in government securities. A so-called balanced fund is a mutual fund that owns both stocks and bonds.

Risk is an important consideration when evaluating mutual funds. As an investor, you should make every effort to understand how much risk you are willing to take and then seek a fund that falls within your risk tolerance. Naturally, you are investing with some objective in mind, so narrow down your list of candidates by concentrating on funds that meet your investment needs while staying within your risk parameters.

Furthermore, check to see what the minimum amount is to invest in a fund.

Some funds will have different minimum thresholds depending on whether it is a retirement account or non-retirement account.

3. Buying a Mutual Fund

The process of how to buy shares of a mutual fund is covered in-depth in How Do I Buy Shares of a Mutual Fund? but the summary version is this: Mutual funds are primarily bought in dollar amounts unlike stocks, which are bought in shares. Mutual funds can be purchased directly from a mutual fund company, a bank or a brokerage firm. Before you can invest you will need to have an account with one of these institutions prior to placing an order. A mutual fund will be either a “load” or “no load” fund, which is financial jargon for either paying a commission or not paying a commission.

If you are using an investment professional to assist you, you are likely to pay a load. Understand that a “no load” fund is not free. All mutual funds have internal expenses, which is to say that part of your investment dollars go to pay the fund company, the fund manager and other fees associated with running a mutual fund. These fees are often transparent to the investor and are taken out of the assets of the mutual fund. You should consider all fees and charges when investing in mutual funds

The process of buying a mutual fund can be done over the phone, online or in person if you are dealing with a financial representative. To place an order, you would indicate how much money you want to invest and what mutual fund you want to purchase. All mutual fund investors get the funds closing price on the day they place their order.

This article was written by Marc Pearlman in May 2011. It was subsequently edited for formatting and clarity by Joshua Kennon. The Balance does not provide tax, investment, or financial services and advice. The information is being presented without consideration of the investment objectives, risk tolerance or financial circumstances of any specific investor and might not be suitable for all investors. Past performance is not indicative of future results. Investing involves risk including the possible loss of principal.

Investing in Bonds versus Bond Funds

Individual Bonds and Bond Funds Each Have Their Own Advantages and Disadvantages

Investing in bonds, including corporate bond and municipal bonds, is one of the long-established foundations of any good diversified portfolio. Even in times of low interest rates, bonds provide a bulwark against stock market and real estate crashes, while throwing off interest income. Academic studies going back over the past century demonstrate that even a small fixed income component, grounded in highly rated bonds, can significantly reduce volatility without subtracting too much return from the overall portfolio.

While investing in individual bonds is certainly possible, that may not be advisable unless you have at least a six-figure portfolio. For smaller investors, there is an alternative: A bond mutual fund, or bond fund as it is more commonly called.

When most investors discuss mutual funds, they are often talking about professionally managed investment funds that invest in stocks, commonly in the form of an index. Bond funds, in contrast, pool money from investors to purchase bonds, gaining diversification that would otherwise not be possible for the non-wealthy. Some bond funds specialize in corporate bonds, others in municipal bonds, still others in junk bonds. In fact, the odds are if you want to own a specific type of bond, there is a bond fund that will let you do it with as little as a few hundred, or perhaps even a few thousand, dollars.

The Benefits of Investing in Bond Funds

There are several advantages to investing in bond funds.

They include:

Bond funds typically pay higher interest rates than certificates of deposit,money market funds, and bank accounts.
Ordinarily, it would be impossible for small investors to put together a diversified bond portfolio because bonds must be purchased in much larger denominations than stocks - sometimes $1,000, $5,000, $10,000, $25,000 or more depending upon the issuer. This isn't a problem because bond funds trade in smaller share prices, making diversification possible or those with only a few thousand dollars, reducing risk.

Investors can get the benefit of professional money managers that know their field. It wouldn't be worth the time or effort for the average person to learn the different rules for municipal bonds, for instance, such as the substantial differences between General Obligation Bonds and Revenue Bonds. Owning bond funds makes the point moot because the fund manager is responsible for such day-to-day research.
Bond funds typically receive better pricing than the small investor on the bonds acquired bonds. Unlike the stock market where the bid and ask are clearly disclosed, you may not know how much of a markup your brokerage firm puts on a bond. The "spread", as it is known, between what the buyer pays and what the seller receives on a specific bond can be huge when purchasing individual issues. Due to their size, scale, and willingness to take large positions, bond funds are going to have much better odds of achieving attractive pricing.
Investing in bond funds is much, much easier than owning individual bonds outright because you don't have to take care of "laddering" your portfolio (that is, managing the maturity date of different bonds), recording each individual interest check as it comes in or is deposited into your brokerage account, or dealing with special situations such as bonds that are called by the company - that is, the company forces you to sell it back to them based on the original bond agreement. With bond funds, all of that is taken care of at the managing company. You simply get your regular distributions of profit from the bond holdings and that it.

Many bond funds pay out interest and gains monthly instead of semi-annually, as is the case with individual bonds. This makes cash flow much less stressful for income-oriented investors who need more frequent deposits for day-to-day bills.

The Drawbacks of Investing in Bond Funds

Like all things in life, there's always a bit of sour to go with the sweet and bond funds are no exception. Despite all of the benefits mentioned above, there are several drawbacks to investing exclusively through bond funds rather than acquiring your own individual bonds. These drawbacks include:

Bond funds typically have higher expense ratios, meaning that more of each dollar goes to management fees than a comparable stock mutual fund.
With an individual bond, risk decreases the longer you hold the security because you get closer to maturity when you receive your principal back from the company or organization to whom you lent it. This is not true with bond funds because the individual holdings are constantly maturing, being bought and sold, etc.
In the case of aggressive management, bond funds can take on leverage. If you don't pay attention to this, you might be exposed to significant potential capital losses and not even know it. Generally speaking, it is highly inappropriate for average investors to own leveraged bond funds and they should be avoided like the plague if you have any sense of reasonable risk management.
Monthly income from bond funds fluctuates as the underlying bond assets change. You won't know precisely how much you are going to collect in any given year.
Some bond funds charge redemption fees if you sell your shares within a certain time period (say, 60 or 90 days).
Certain bond funds may have sales loads, which are essentially fees and commissions to the fund company or financial institution that sold you the investment.

Should You Consider Investing in a Bond Fund for Your Family's Portfolio?

The truth of the matter is that there is no right or wrong answer when it comes to investing bond funds. Bond funds make sense for those who have less than $100,000 to devote to their fixed income portfolio or for those who simply want the convenience of buying and selling a basket of bonds with a single transaction.

The Beginner's Guide to Investing in Mutual Funds

What Mutual Funds Are, How Mutual Funds Work, and Much More

Mutual funds are one of the most popular ways for new investors to build wealth. Whether you own them through your retirement plan, such as a 401(k) or IRA, or you buy them directly or through a brokerage account, this guide to mutual fund investing was designed to help you understand what they are, how they work, and things you may want to consider.

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Mutual Funds 101

Before I can teach you about mutual fund investing, you need to understand what mutual funds are. In Mutual Funds 101, I'm going to show you the difference between open-ended funds and closed funds, load vs. no load funds, and more. It's a great place to start.

The brain-child of Wall Street, mutual funds are perhaps the easiest and least stressful way to invest in the market. In fact, more new money has been introduced into funds during the past few years than at any time in history. Before you jump into the pool and select a mutual fund in which to invest, you should know exactly what they are and how they work. As part of our Complete Beginner's Guide to Investing in Mutual Funds special, this article can give you the foundation you need to start understanding mutual fund investing.

What is a mutual fund?

Put simply, a mutual fund is a pool of money provided by individual investors, companies, and other organizations. A fund manager is hired to invest the cash the investors have contributed. The goal of the manager depends on the type of fund; a fixed-income fund manager, for example, would strive to provide the highest yield at the lowest risk. A long-term growth manager, on the other hand, should attempt to beat the Dow Jones Industrial Average or the S&P 500 in a fiscal year (very few funds actually achieve this; to find out why, read Index Funds - The Dumb Money Almost Always Wins).

Closed vs. Open-Ended Funds, Load vs. No-Load

Mutual funds are divided along four lines: closed-end and open-ended funds; the latter is subdivided into load and no load.

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.

Load vs. No Load

A load, in mutual fund speak, is a sales commission. If a fund charges a load, the investor will pay the sales commission on top of the net asset value of the fund’s shares. No load funds tend to generate higher returns for investors due to the lower expenses associated with ownership.

What are the benefits of investing in a mutual fund?

Mutual funds are actively managed by a professional money manager who constantly monitors the stocks and bonds in the fund's portfolio. Because this is his or her primary occupation, they can devote considerably more time to selecting investments than an individual investor. This provides the peace of mind that comes with informed investing without the stress of analyzing financial statements or calculating financial ratios.

How do I select a fund that's right for me?

Every fund has a particular investing strategy, style or purpose; some, for instance, invest only in blue chip companies. Others invest in start-up businesses or specific sectors. Finding a mutual fund that fits your investment criteria and style is absolutely vital; if you don't know anything about biotechnology, you have no business investing in a biotech fund. You must know and understand your investment.

After you’ve settled on a type of fund, turn to Morning star or Standard and Poors (S&P). Both of these companies issue fund rankings based on past record. You must take these rankings with a grain of salt. Past success is no indication of the future, especially if the fund manager has recently changed.

How do I begin investing in a fund?

If you already have a brokerage account, you can purchase mutual fund shares as you would a share of stock. If you don't, you can visit the fund's web page or call them and request information and an application. Most funds have a minimum initial investment which can vary from $25 - $100,000+ with most in the $1,000 - $5,000 range (the minimum initial investment may be substantially lowered or waived altogether if the investment is for a retirement account such as a 401k,traditional IRA or Roth IRA, and / or the investor agrees to automatic, reoccurring deductions from a checking or savings account to invest in the fund.

The importance of dollar-cost averaging

The dollar-cost averaging strategy is just as applicable to mutual funds as it is to common stock. Establishing such a plan can substantially reduce your long-term market risk and result in a higher net worth over a period of ten years or more.

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How a Mutual Funds Works

As part of my decision to seriously consider launching a mutual fund company, I met with banks and other financial institutions, who provided a phenomenal introduction to how mutual funds are structured and the way they actually work. By giving you a behind-the-scenes look into the makeup of a fund, you'll have a much better idea what happens once you write a check to start investing.

How a Mutual Fund is Structured

An Explanation of What You are Buying When You Invest In a Mutual Fund

I recently investigated the process of starting a mutual fund. As I've been meeting with fund companies and banks, I've learned a tremendous amount about how mutual funds are structured, including the arrangements that make funds work on a day-to-day basis. I thought it would be a great opportunity to share this knowledge with you so you can actually look at the man behind the curtain and see how your money moves once you've put it into a mutual fund.

By better understanding it, I hope that the idea of investing in mutual funds won't be so daunting for you as a new investor.

The Background on Mutual Funds

As I explained in Mutual Funds 101, which is part of our Complete Beginner's Guide to Investing in Mutual Funds, mutual funds are the most popular investment in the United States because they provide a way for everyday people to buy a broadly diversified portfolio of stocks, bonds, or other securities. There are mutual funds to match virtually any need, from finding a place to store your temporary cash savings to earning dividends and capital gains on long-term global stocks. This convenience has lead to explosive growth in the mutual fund industry. Money market funds had nearly $3.3 trillion dollars in assets in them as of the end of fiscal 2009. As of the end of November 2009, long-term mutual funds had just shy of $11 trillion in assets.

This is a massive industry and one which is important to you regardless of if you invest through a 401(k), 403(b), Roth IRA, Traditional IRA, SEP-IRA, Simple IRA, or brokerage account. According to some estimates, 1 out of every 2 American households owns mutual funds.

The Mutual Fund Company

A mutual fund is organized as a regular corporation or a trust, depending on which method the founders prefer.

If the fund agrees to pay out all of its dividend, interest, and capital gains profits to shareholders, the IRS won't make it pay corporate taxes (this is called "pass-through taxation" and helps you avoid the double layer of taxation that is ordinarily present when buying shares of stock).

The mutual fund itself consists of only a few things:

A Board of Directors or Board of Trustees: If the company is a corporation, the people who watch over it for the shareholders are known as directors and serve on a Board of Directors. If it is a trust, they are known as trustees and serve on a Board of Trustees. For all intents and purposes, there is no difference between the two roles. According to rules set by law, at least 75% of the directors must be disinterested, meaning they have no relationship to the person or firm that will actually manage the money. The directors will be paid for their service. At major, multi-billion dollar mutual funds, they may receive as much as $250,000 a year!
The cash, stocks, and bonds the fund holds: The actual stocks, bonds, cash, and other assets the mutual fund holds.
Contracts: The fund itself has no employees, just contracts with other firms. These contracts will include custody (that is a bank that will hold all of the cash, bonds, stocks, or assets the fund owns in exchange for a fee), transfer agent (the people who keep track of your purchases and sales of the mutual fund shares, make sure you get your dividend checks and send you your account statements, audit and accounting, which will be the firm that will come in and verify the money is present and the mutual fund is worth what it says in the newspaper every day when the value is determined, and the investment management, or investment adviser, company. This is the company that actually manages the money and makes buy, sell, or hold decisions. The investment management company is paid a percentage of the assets, say 1.5%, in exchange for this service. They can be fired by the mutual fund's board of directors with very little notice and replaced.

How the Mutual Fund Process Works

Let's say you have $10,000 you want to invest in XYZ Fund. You download a new account application from the mutual fund's website, fill it out, and mail it in along with a check. A few days later, your account is open.

Here's a simplified explanation of what will happen:

Your check was mailed to the transfer agent. It was deposited into a bank or custody account. They will make sure you are issued shares of the mutual fund based on the value of the fund when your check was deposited.
The cash will show up in the account, and will be visible to the portfolio manager that represents the adviser company. They will get a report telling them how much money is available to invest in additional stocks, bonds, or other securities based on the net money coming into or out of the fund.

When the portfolio manager is ready to buy shares of a stock such as Coca-Cola, he will tell his trading department to make sure the order gets filled. They will work with stock brokers, investment banks, clearing networks, and other sources of liquidity to find the stock and get their hands on it at the lowest possible price.
When the trade is agreed upon, a few days will pass until the settlement date. On this date, the mutual fund will have the money taken out of its bank account and give it to the person or institution that sold the shares of Coke to them in exchange for the Coke stock certificates, making them the new owner. These shares are stored either physically or electronically with the custodian.
When Coca-Cola pays a dividend, it will send the money to the custodian, who will make sure it is credited to the mutual fund's account.
The mutual fund will likely hold the money in cash so it can pay them out to you as a dividend at the end of the year.

How Is the Mutual Fund Portfolio Manager Paid?

You may wonder how the mutual fund manager is paid for picking stocks since he or she doesn't actually work for the fund but has a contract to manage the money. If they are paid a fee of 1.5% per year, they would get 1/365th of 1.5% each day, based on the weighted average assets of the fund. The money is taken from the mutual fund's cash account and deposited into the adviser's account each day.

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How Do I Buy Shares of a Mutual Fund?

once you a ready to begin investing in mutual funds, you actually have to go about buying your mutual fund shares. There are three popular ways this is done in the United States. This overview will help you understand each of them, and some of the advantages certain methods have over others.

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What Is a Mutual Fund Sales Load?

When you buy your first mutual fund, you may encounter something known as a sales load. There are front end loads, back end loads, deferred loads and declining loads. That may sound complicated, but it is really important you understand what these terms mean because buying the wrong type of mutual fund can take thousands, or even tens of thousands, of dollars directly out of your pocket.

What Is a Mutual Fund Sales Load?

How Do Sales Loads Work and Should I Pay Them?

A friend of mine once asked me a few questions about working with a new stock broker. Long story short, he and his girlfriend had moved across the country and visited their local branch office of one of the biggest investment firms in the United States. He was presented with a suggested portfolio but the new broker mentioned that all of his mutual fund purchases would have a "five percent sales load" on them.

After their meeting, my friend contacted me and wanted to know what a mutual fund sales load was, whether or not he should be concerned, and if a 5% sales load was too high, too low, or fair.

These were great questions and ones every new investor will someday ask. To help you better understand mutual fund sales loads, I am going to provide a brief overview of what they are, why they exist, and how you should handle them if you are confronted with the possibility of having to pay one to your stock broker.

A Mutual Fund Sales Load Is a Type of Commission

Money management companies, including mutual fund companies, make money by piling up assets and charging a fee each year. To get stock brokers to sell their fund instead of the thousands of funds offered by competitors, some mutual funds try to sweeten the broker's compensation deal by offering to pay the broker a percentage of everything they get their clients to invest in their fund.

This is called a "load" or "sales load". A successful broker could make hundreds of thousands of dollars just from selling you investment products and not from his or her performance. It is a skewed incentive system that doesn't favor you, the investor.

Even worse, the sales load doesn't come out of the mutual fund company's pocket.

It comes directly out of your investment!

The Two Types of Mutual Fund Sales Loads

There are two types of mutual fund sales loads - front end sales loads and back end sales loads (also called deferred sales loads).

Front End Sales Loads: These are marketing fees paid up front at the time of the investment. If you invest $100,000 into a mutual fund with a 5% sales load, when you make the investment, $5,000 will be taken out of your account and used to pay the broker and other distributors that helped get you to choose that investment. That means you will begin with only $95,000 in money working for you. Over time, that can make a big difference. If your mutual fund grew by 8% compounded for 50 years, that $5,000 sales load charge would result in you having $234,508 in less wealth.
Back End Sales Loads or Deferred Sales Loads: These are marketing fees paid when you sell the investment. That way, all of your money is working for you from the beginning, meaning more compounding if you selected a successful mutual fund or other investment product. It still takes a bite out of your holdings but it is less onerous over the long-run than front end sales loads. The back end sales load is calculated in almost all cases off the initial investment made, not the ultimate value of the holding when you sell your position.

Some mutual fund back end sales loads have a declining feature. This means that with each passing year, you would be forgiven from paying a portion of the sales load if you were to sell your investment. In most cases, a declining back end sales load would result in you owning no sales load at all if you held the investment for seven years or longer, which can encourage long-term thinking. You need to read the mutual fund prospectus, though, to find out the details of your specific holdings.

What should be clear to you is that a mutual fund sales load results in less money in your pocket in most cases. That leads us to one of the most important rules of mutual fund investing: You should probably never buy a mutual fund that has a sales load.

You Should Probably Never Buy a Mutual Fund with a Sales Load

As a general rule, you should avoid mutual funds with sales loads attached to them. That is purely a marketing expense. You are literally taking out your checkbook and writing it to pay a commission that the mutual fund company doesn't want to pay itself! That means you lose all of the dividends, interest and capital gains you might have otherwise made on that money.

Companies such as Vanguard and Fidelity have made no-load funds the virtual norm for do-it-yourself investors.

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Are Low-Cost Index Funds the Best Mutual Fund Investment?

Many professionals believe that low-cost index funds are a better investment choice for those who want to grow their wealth without a lot of hassle. How are index funds different? Should you consider investing in them instead of actively managed mutual funds? Here are some thoughts that you might want to consider.

Investing in Low-Cost Index Funds

As you work your way through our Beginner's Guide to Investing in Mutual Funds, you may wonder which you should choose: actively managed mutual funds or passively managed mutual funds.

According to the folks at the Motley Fool, only ten of the ten thousand actively manages mutual funds available managed to beat the S&P 500 consistently over the course of the past ten years. History tells us that very few if any of these funds will manage the same feat in the decade to come.

The lesson is simple: Unless you are convinced you are capable of selecting the 0.001% of mutual funds that are going to beat the broad market, you would best be served by investing in the market itself.

How? By beginning a dollar cost averaging plan into low-cost index funds, you can be absolutely certain you will out-perform a majority of managed mutual funds on a long-term basis.

Indeed, the most successful investor in history, Warren Buffett, advocates that those unwilling or unable to intelligently evaluate individual stocks should invest in a low-cost index fund such as those offered by Vanguard.

Why? Index funds boast three distinct advantages over their actively-managed counterparts:

They do not require corporate analysis or an understanding of accounting, financial theory, or portfolio policy.
They have almost non-existent expense ratios, providing a significant competitive edge over actively managed funds and almost completely ensuring superior long-term performance.

They are made up of dozens or hundreds of companies. This diversification reduces company-specific risk.

What Is An Index Fund?

An index fund is a mutual fund designed to mirror the performance of one of the major indices (e.g., the Dow Jones Industrial Average, S&P 500, Wilshire 5000, Russell 2000, etc.) Unlike traditional, actively managed mutual funds where portfolio managers evaluate, analyze and acquire individual stocks, index funds are passively managed.

Basically, this means they consist of a pre-selected group of stocks that rarely, if ever, changes.

An investor that bought an index fund designed to mirror the DJIA, for example, would experience price movements almost perfectly in sync with the quoted value of the Dow Jones Industrial Average he hears on the nightly news. Likewise, an investor who built a position in an index fund designed to mimic the S&P 500 is, in essence, acquiring stock in all five hundred of the companies that make up that index.

Index Funds Don't Require Corporate and Financial Analysis

Index funds are ideal for those who have no idea how to evaluate competitive advantages of various corporations, differentiate an income statement from a balance sheet, or calculate discounted cash flows. Because company-specific risk is diversified away thanks to the dozens or hundreds of companies that make up each of the major indices, such analysis is not necessary. In addition, an index fund is a cost effective way to acquire hundreds of stocks while avoiding the thousands of dollars in brokerage commissions that would otherwise result.

Index Funds Generally Have the Lowest Mutual Fund Expense Ratios

Actively managed mutual funds must pay portfolio managers, analysts, research subscription fees and the like.

The percentage of a fund's total expenses including its 12 b-1 fees divided by its average net assets is known as the expense ratio. Because index funds are non-managed (and require none of the aforementioned expenses), the expense ratio is almost nill compared to the average mutual fund. This means that less of the investor's money goes to paying overhead, compensation and sales charges. Over the long-run, the lower costs associated with index funds can result in significantly improved performance.

Consider the following: A quick glance at Yahoo Finance reveals the average expense ratio for growth and income style mutual funds is 1.29%.

As a result, approximately $1,883 of every $10,000 invested over the course of ten years will go to the fund company in the form of expenses. Compare that to the Vanguard 500 fund, designed to mirror the S&P 500 index, which boasts an annual expense ratio of only 0.12%, resulting in ten-year compounded expense of $154 for every $10,000 invested. In other words, by investing in the Vanguard fund, the investor will have $1,724 more working for him. Compounded over an investing lifetime, the difference is significant.

Index Fund Investing Works Best When Paired With Long-Term Dollar Cost Averaging

At the height of the roaring stock market of the 1920's, the Dow Jones Industrial Average reached a peak of 381.17. In 1932, the Dow crashed to 42.22. It took over thirty-three years (1929 to 1955) for it to return to the 1929 level. An individual investing all of his money at the height would have waited more than three decades to merely break even! If, however, he had started a dollar cost averaging program, he would have made a tremendous amount of money thanks to his significantly lower average cost basis by the time the market returned to its previous level. Combined with reinvested dividends, he would have broken even in only a few years, and by the time the market reached its former level, have done very well.

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10-Part Guide to Picking the Best Mutual Funds

How do you pick the best mutual funds? I wrote this step-by-step guide to illustrate some of the things to think about and look for when building a mutual fund portfolio. It should be useful as you make your way through what can seem like an endless list of potential fund investment

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Don't Forget to Watch Out for this Huge Hidden Mutual Funds Tax!

There is a hidden mutual fund tax that could cause you to owe massive amounts of money to the IRS even if you lose money investing in a mutual fund. Most new investors don't know how it works, or even what to look for to spot this potential danger. Don't even consider mutual fund investing until you've learned the cause of potential mutual fund tax problems

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Don't Chase Past Mutual Funds Performance

Do you think it is a good idea to only buy shares of mutual funds that have good past performance? That may sound reasonable but your logic is flawed. Mutual funds are a unique type of investment. For example,portfolio managers change even though the fund name remains the same! If someone new is managing your money, you may not even realize it. Likewise, fund assets grow, making it more difficult to put money to work as the universe of potential investments shrinks.

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Should I Invest in Bonds or a Bond Fund?

Investing in bonds, including corporate bonds and municipal bonds, is one of the long-established foundations of any good diversified portfolio. Even in times of low interest rates, bonds provide a bulwark against stock market and real estate crashes, while throwing off interest income. Academic studies going back over the past century demonstrate that even a small fixed income component, grounded in highly rated bonds, can significantly reduce volatility without subtracting too much return from the overall portfolio.

The Benefits of Investing in Bond Funds

There are several advantages to investing in bond funds.

They include:

Bond funds typically pay higher interest rates than certificates of deposit,money market funds, and bank accounts.
Ordinarily, it would be impossible for small investors to put together a diversified bond portfolio because bonds must be purchased in much larger denominations than stocks - sometimes $1,000, $5,000, $10,000, $25,000 or more depending upon the issuer. This isn't a problem because bond funds trade in smaller share prices, making diversification possible or those with only a few thousand dollars, reducing risk.

Investors can get the benefit of professional money managers that know their field. It wouldn't be worth the time or effort for the average person to learn the different rules for municipal bonds, for instance, such as the substantial differences between General Obligation Bonds and Revenue Bonds. Owning bond funds makes the point moot because the fund manager is responsible for such day-to-day research.
Bond funds typically receive better pricing than the small investor on the bonds acquired bonds. Unlike the stock market where the bid and ask are clearly disclosed, you may not know how much of a markup your brokerage firm puts on a bond. The "spread", as it is known, between what the buyer pays and what the seller receives on a specific bond can be huge when purchasing individual issues. Due to their size, scale, and willingness to take large positions, bond funds are going to have much better odds of achieving attractive pricing.
Investing in bond funds is much, much easier than owning individual bonds outright because you don't have to take care of "laddering" your portfolio (that is, managing the maturity date of different bonds), recording each individual interest check as it comes in or is deposited into your brokerage account, or dealing with special situations such as bonds that are called by the company - that is, the company forces you to sell it back to them based on the original bond agreement. With bond funds, all of that is taken care of at the managing company. You simply get your regular distributions of profit from the bond holdings and that it.

Many bond funds pay out interest and gains monthly instead of semi-annually, as is the case with individual bonds. This makes cash flow much less stressful for income-oriented investors who need more frequent deposits for day-to-day bills.

The Drawbacks of Investing in Bond Funds

Bond funds typically have higher expense ratios, meaning that more of each dollar goes to management fees than a comparable stock mutual fund.

With an individual bond, risk decreases the longer you hold the security because you get closer to maturity when you receive your principal back from the company or organization to whom you lent it. This is not true with bond funds because the individual holdings are constantly maturing, being bought and sold, etc.
In the case of aggressive management, bond funds can take on leverage. If you don't pay attention to this, you might be exposed to significant potential capital losses and not even know it. Generally speaking, it is highly inappropriate for average investors to own leveraged bond funds and they should be avoided like the plague if you have any sense of reasonable risk management.
Monthly income from bond funds fluctuates as the underlying bond assets change. You won't know precisely how much you are going to collect in any given year.
Some bond funds charge redemption fees if you sell your shares within a certain time period (say, 60 or 90 days).
Certain bond funds may have sales loads, which are essentially fees and commissions to the fund company or financial institution that sold you the investment.

Should You Consider Investing in a Bond Funds for Your Family's Portfolio?

The truth of the matter is that there is no right or wrong answer when it comes to investing bond funds. Bond funds make sense for those who have less than $100,000 to devote to their fixed income portfolio or for those who simply want the convenience of buying and selling a basket of bonds with a single transaction.

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Are ETFs a Better Choice Than Traditional Mutual Funds?

You may have heard a lot about ETFs in the financial press lately, especially comparing them to traditional mutual funds. Exchange traded funds do have a lot of benefits, but there are also some drawbacks you need to know about before you make the switch.

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Wednesday 15 March 2017