Mutual funds usually invest in different kinds of securities, but their categorization is based on their principal investments. For example, if a mutual fund’s portfolio consists 75% of stocks, and 25% of bonds, it is classified as a stock or equity mutual fund. There are 3 main categories: equity, fixed income, and money market funds.
Stock or, equity mutual funds invest primarily in common stocks. They can be subcategorized according to the type of stocks they invest in. Stocks are mainly classified according to firm-based characteristics such as market capitalization or according to the industry they operate in. Sometimes stocks are classified as value or growth stocks as well. Market capitalization is the number of shares outstanding times the market price of the stock. There are small, mid and large capitalization stocks. Small cap stocks carry the expectations of higher returns and higher risk, whereas large capitalization firms are less volatile and provide lower returns. Value stocks have relatively low Price to Earnings ratio, and usually pay high dividends. On the other hand, growth stocks have higher Price to Earnings ratio, and focus on capital gains rather than dividends.
Stock funds are the riskiest among funds. This type of funds fits better to investors willing to undertake considerable risk in order to get high returns. An interesting fact is that although stocks are a risky type of investment, they have, in general, performed better than any other type of investment in the long run. Equity funds account for 50% of the mutual funds industry.
Bond or, fixed income mutual funds, as their name suggests, invest mainly in bonds. They can be sub classified according to the type and maturity of bonds they invest in. Fixed income mutual funds may invest in high-yield bonds, investment-grade bonds, and government bonds. Based on the maturity we can find short-term, intermediate or long-term fixed income mutual funds. Bond funds provide income through dividend payments and sometimes, they also generate small capital gains. According to their risk, fixed income mutual fund generate different returns. For example, a fund concentrated on high-yield bonds is expected to generate higher returns than a fund concentrated on government bonds.
Generally, fixed income mutual funds are less risky than equity mutual funds and generate lower returns. Thus, fixed income mutual funds can be considered as an ideal investment for conservative investors. They also provide steady income during bear markets where stocks lose value, making them a good component for your portfolio. Note however, that bond funds are subject to interest rate risk, meaning that if interest rates rise, the value of the fund may fall. Bond funds account for 20-25% of the mutual funds industry.
Money market funds invest mainly in short-term debt securities, such as Treasury bills. The main characteristics of these securities are the high credit quality, and the high liquidity they provide. Their nature makes them a good substitute for bank savings accounts, since they provide significant cash flows with low volatility. However, they are not government insured and thus, they are riskier than a common bank account.
Basically, this type of fund usually suits to investors who want a steady flow of income and who have small risk tolerance, such as retirees. The main drawback of money market mutual funds is their vulnerability to inflationary pressures. For example, if the return of a money market mutual fund is 4% and the inflation for that period 5%, your wealth will lose 1% of its purchasing power. Money market funds account for approximately 20-25% of the mutual funds industry.
At the end of the day, it’s up to you to evaluate your investment objectives and choose the type of mutual fund that best suits your expectations and risk tolerance.
StockTradingCollege.com, Stock Trading and Investing for Beginners
Stock or, equity mutual funds invest primarily in common stocks. They can be subcategorized according to the type of stocks they invest in. Stocks are mainly classified according to firm-based characteristics such as market capitalization or according to the industry they operate in. Sometimes stocks are classified as value or growth stocks as well. Market capitalization is the number of shares outstanding times the market price of the stock. There are small, mid and large capitalization stocks. Small cap stocks carry the expectations of higher returns and higher risk, whereas large capitalization firms are less volatile and provide lower returns. Value stocks have relatively low Price to Earnings ratio, and usually pay high dividends. On the other hand, growth stocks have higher Price to Earnings ratio, and focus on capital gains rather than dividends.
Stock funds are the riskiest among funds. This type of funds fits better to investors willing to undertake considerable risk in order to get high returns. An interesting fact is that although stocks are a risky type of investment, they have, in general, performed better than any other type of investment in the long run. Equity funds account for 50% of the mutual funds industry.
Bond or, fixed income mutual funds, as their name suggests, invest mainly in bonds. They can be sub classified according to the type and maturity of bonds they invest in. Fixed income mutual funds may invest in high-yield bonds, investment-grade bonds, and government bonds. Based on the maturity we can find short-term, intermediate or long-term fixed income mutual funds. Bond funds provide income through dividend payments and sometimes, they also generate small capital gains. According to their risk, fixed income mutual fund generate different returns. For example, a fund concentrated on high-yield bonds is expected to generate higher returns than a fund concentrated on government bonds.
Generally, fixed income mutual funds are less risky than equity mutual funds and generate lower returns. Thus, fixed income mutual funds can be considered as an ideal investment for conservative investors. They also provide steady income during bear markets where stocks lose value, making them a good component for your portfolio. Note however, that bond funds are subject to interest rate risk, meaning that if interest rates rise, the value of the fund may fall. Bond funds account for 20-25% of the mutual funds industry.
Money market funds invest mainly in short-term debt securities, such as Treasury bills. The main characteristics of these securities are the high credit quality, and the high liquidity they provide. Their nature makes them a good substitute for bank savings accounts, since they provide significant cash flows with low volatility. However, they are not government insured and thus, they are riskier than a common bank account.
Basically, this type of fund usually suits to investors who want a steady flow of income and who have small risk tolerance, such as retirees. The main drawback of money market mutual funds is their vulnerability to inflationary pressures. For example, if the return of a money market mutual fund is 4% and the inflation for that period 5%, your wealth will lose 1% of its purchasing power. Money market funds account for approximately 20-25% of the mutual funds industry.
At the end of the day, it’s up to you to evaluate your investment objectives and choose the type of mutual fund that best suits your expectations and risk tolerance.
StockTradingCollege.com, Stock Trading and Investing for Beginners