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What is a mutual fund?
In Lesson 6
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Money 101 Lessons
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Adapted from The Right Way to Invest in Mutual Funds (Warner Books, 1996) and Investing for the Financially Challenged (Warner Books, 1999), both by MONEY Magazine senior editor Walter Updegrave.
You've probably heard so much about mutual funds that even if you don't own any, you may already know what they are and how they work. But just to clear up any misconceptions and to make sure we're all starting on the same page, let's quickly go over a few of the basics.
A mutual fund pools money together from thousands of small investors and then its manager buys stocks, bonds or other securities with it.
When you contribute money to a fund, you get a stake in all its investments.
That's a big deal: Since most funds allow you to begin investing with as little as a couple thousand dollars, you can attain a diversified portfolio for much less than you could buying individual stocks and bonds. Plus, you don't have to worry about keeping track of dozens of holdings - that's the fund manager's job.
The price for a share of a open-end fund is determined by the net asset value, or NAV, which is the total value of the securities the fund owns divided by the number of shares outstanding.
If a mutual fund has a portfolio of stocks and bonds worth $10 million and there are a million shares, the NAV would be $10. A fund's NAV changes every day, depending on the price fluctuations of the fund's holdings.
The NAV is the price at which you can buy and sell shares, as long as you don't have to pay a sales commission, or "load." You have to pay loads when you buy from a broker, financial planner, insurance agent or other adviser.
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