A Guide on How To Invest in Mutual Funds: What’s in It for You?

man reviewing portfolio of mutual funds

Mutual funds can be a great way for investors to build a diversified portfolio and, eventually, long-term wealth. They are pretty easy to access and often don’t require you to keep tabs on them since professionals manage the funds on your behalf. For this reason, mutual funds are an excellent option for hands-off investors.

What Is a Mutual Fund?

A mutual fund is an investment vehicle made up of pooled funds from many investors and used to purchase a collection of securities like stocks, bonds and other assets. When you buy a share of mutual funds, you own a stake of all the investments in that fund.

Mutual funds can also make you money when the assets in the fund increase in value. The more the value of the portfolio increases, the more money you’ll make. You can also receive dividend payments from stocks and interest from bonds.

Why Should You Consider Investing in Them?

You should consider investing in mutual funds if you like the hands-off approach to investing. Fund managers will streamline the investing process for you by conducting research and choosing securities based on their investing strategy.

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Additionally, mutual funds let you diversify your portfolio 一 owning various investments lowers your risk, unlike purchasing individual securities. For example, if one security declines, others could be on an uptrend, giving you peace of mind.

Actively Managed vs. Passively Managed Funds

Mutual funds can either be passively managed or actively managed.

Actively Managed Funds

Actively managed funds rely on money managers who buy and sell securities on your behalf, provided that those investments align with the funds’ strategy. These professionals conduct a great deal of research before deciding on the securities and assets to include in the fund. The primary goal of fund managers is to earn investors higher returns as much as possible. As a result, actively managed funds tend to come with higher fees.

Passively Managed Funds

Passively managed funds, often referred to as index funds, seek to replicate the performance of a benchmark index like the S&P 500. These investments don’t require management by a professional, which translates to lower fees than actively managed funds.

Types of Mutual Funds

There are plenty of mutual fund categories 一 some focus on a single asset class while others on a variety of different asset classes. Here are some of the most common categories fund managers can choose when building a portfolio.

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Stock Funds

Stock funds, also known as equity funds, are arguably the largest category of mutual funds. These funds invest primarily in stocks, which come in various categories, including domestic and foreign equities. Some stock funds are categorized based on size: small-cap, mid-cap and large-cap. Others are named by their investment style, whether growth value or income-oriented. Each of these groups of stock funds seeks to maintain a portfolio with specific features.

Bond Funds

Another most popular type of mutual fund is bond funds, sometimes called fixed-income funds. These funds invest in different types of bonds, such as government bonds, corporate bonds, municipal bonds and other debt instruments . Unlike stock funds, bond funds are typically less risky and tend to offer better returns.

Index Funds

Index funds seek to match the performance of a benchmark index like the S&P 500, Nasdaq 100 or the Russell 2000. These investments don’t rely on fund managers to pick securities; instead, they buy securities corresponding to a major market index. For this reason, index funds carry lower fees.

Money Market Funds

Money market funds invest in short-term securities issued by the U.S. government. This can include treasury bills, certificates of deposit, and other cash equivalents. These funds often carry the lowest risk and, as a result, lower returns. The returns are, however, better than typical savings accounts.

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Balanced Funds

Also known as asset allocation funds, balanced funds invest in a mix of asset classes, ranging from stocks and bonds to money market funds. The primary goal of these funds is to lower the risk exposure across asset classes.

Target-Date Funds

These managed funds automatically select and reallocate assets toward safer investments as you approach retirement. The goal of target-date funds is to ensure that the funds’ strategy aligns with the timing of your financial goals.

How To Invest in Mutual Funds

Investing in mutual funds is a straightforward process; you can purchase them directly from a company or brokerage. Alternatively, you can use automated investing in simplifying the process. Robo-advisors can automatically re-align asset allocation based on your investment objectives.

If you’re ready to invest in mutual funds, here are five steps to help you get started.

1. Decide on Your Mutual Fund Investment Goals

Identifying your mutual fund investing goals will help you choose the right investments. For example, if you’re investing for a long-term goal like retirement, you’ll likely have a different asset allocation than someone investing for a short-term goal. Generally speaking, your financial goals should drive your decision-making.

2. Research Potential Mutual Funds

Once you have a financial goal, research mutual funds to invest in. When choosing mutual funds, consider factors such as past performance, expense ratios, load fees and management fees.

3. Outline Your Asset Mix

Before you invest, prepare a list of the assets you’d like to own and how you want to allocate those funds. Balance these specific wants with the golden rule of investing: always diversify your portfolio.

4. Decide Where to Buy Mutual Funds

You can purchase mutual funds directly from the company that created the fund or open a brokerage account. However, if you contribute to an employer-sponsored retirement account, such as 401(k) or 403(b), you likely have access to mutual funds.

5. Manage Your Portfolio

Once you identify the mutual funds you want to purchase, you’ll want to think about how to manage your portfolio. Reviewing your investments once in a while will help you keep them in line with your diversification plan.

Are Mutual Funds a Good Investment?

If you’re looking to grow wealth over time, mutual funds are a great investment. They offer convenient access to various investment strategies and diversification. Plus, the professional management of mutual funds will keep you from having to research and consider individual stocks and bonds.

Our in-house research team and on-site financial experts work together to create content that’s accurate, impartial, and up to date. We fact-check every single statistic, quote and fact using trusted primary resources to make sure the information we provide is correct. You can learn more about GOBankingRates’ processes and standards in our editorial policy.

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About the Author

Lydia Kibet is a freelance writer with a knack for personal finance, investing and all things money. She's passionate about explaining complex topics in easy-to-understand language. Her work has appeared on Business Insider, Investopedia, The Motley Fool and GOBankingRates. She currently writes about personal finance, insurance, banking, real estate, mortgages, credit cards, loans and more. Connect with her at lydiakibet.com or LinkedIn.
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