For many people, mutual funds are the most convenient way to invest
in the market. To help you decide whether mutual funds are right for
you, the following are answers to some frequently asked questions:
What are mutual funds?
Mutual funds are a collection of stocks, bonds and other securities
that are owned by a group of investors and overseen by experienced fund
managers. You can own a part of these funds by buying units and becoming a
unitholder. The fund managers invest the money in a variety of opportunities
with the expectation of increasing the fund’s value.
Why should I invest in mutual funds?
Mutual funds offers you several advantages, namely:
- Built-in diversification
One of the key benefits of investing in mutual funds is convenient diversification. Diversity in your portfolio can help to increase your potential returns and decrease your overall risk. The more varied (and balanced) your portfolio, the lesser the impact when fluctuations occur in the marketplace.
- Professional management
Many investors purchase mutual funds because they lack the time or
the expertise to manage their own investments. Access to an experienced,
professional fund manager can help save you time, lower your risks and
get you where you want to be financially.
With a mutual fund, you will always enjoy convenient, easy access to
your money. You can request that your units be converted into cash
at any time.
What are the different types of mutual funds?
Mutual funds come in a variety of types, each with its own objectives, risks and rewards. The money raised from issuing new units is invested according to the fund’s policies and objectives. For example, a fund whose objective is to earn current income might hold bonds or mortgages.
- Bond funds
Bond mutual funds offer investors competitive returns and a relatively
low market risk. While liquidity is the main objective, bond mutual
funds are subject to capital gains and losses, depending on interest
- Mortgage funds
Mortgage funds can offer investors a regular income. And because
mortgage fund terms are relatively short (five years or less),
they are less risky than bond mutual funds.
- Dividend funds
Dividend funds have the goal
of tax-advantaged income with some possibility of capital appreciation.
These funds invest in preferred shares and high quality common shares
that consistently pay dividends. Income from these funds qualifies for
the dividend tax credit, making it an advantage to investors.
- Balanced funds
Balanced mutual funds offer investors a mixture of safety, income
and capital appreciation. These funds hold a combination of
fixed-income securities as well as a wide variety of common stocks
for diversification, dividend income and growth potential. Balanced
funds enable investors to "get their feet wet" in the
world of stocks while providing income through bond holdings.
- Equity funds
The primary objective of equity mutual funds is capital growth,
although dividends may contribute to the total return. In general,
the basic distinction among equity funds is their level of
aggressiveness—the more aggressive the investment approach,
the higher the risk and the greater potential for capital growth.
- Specialty equity funds
Some investors like to diversify into specialty areas that they feel
have the potential to outperform the overall markets. These types of
funds invest in specialized markets or industries such as natural
resources, real estate, science and technology, which, although
subject to volatility, may provide increased opportunities for
growth over the long term.
- International funds
As more and more investors realize that some of the best investment
opportunities lie outside of Canada, international funds continue to
gain in popularity. International funds offer investors greater
portfolio diversification and exposure to stocks on a worldwide,
regional and even country basis.
What is the difference between open-end and closed-end funds?
The term open-end and closed-end refers to whether or not a mutual
fund issues an unlimited or limited number of units.
- Open-end funds
The vast majority of mutual funds in the marketplace are open-end.
Like closed-end funds, open-end funds allow an investor to own a share
of a diversified portfolio of securities managed by professional
investment managers. Open-end funds sell units upon demand. When an
investor invests money in an open-end fund, new units are issued directly
by the fund. There is no limit to the number of units available. Units of
an open-end fund can always be redeemed for the Net Asset Value Per Share
- Closed-end funds
Unlike open-end funds, closed-end funds have a fixed number of units
that are generally traded like shares on a stock exchange.
Closed-end funds also have a NAVPS but they do not necessarily
trade at the NAVPS. In fact, their trading value is frequently
less than their NAVPS. In this instance, when a closed-end fund
is trading at a "discount," an investor may be able to
buy a fund for less than the sum of its parts.
How do I determine the value of a mutual fund share?
Buying units or shares of a mutual fund is similar to buying shares of
a company. Essentially, each unit you own is a portion of the combined
investments owned by the fund. Each unit has a specific value that varies
from day to day depending on the value of the investments in the fund. The
term used to define this value is Net Asset Value Per Share (NAVPS) and the
formula used to calculate the NAVPS of the mutual fund is:
NAVPS = total market value of assets lessliabilities
total number of shares (units)
Are there risks involved with mutual funds?
Yes. There are varying degrees of risks depending on the funds you
select. Unlike savings accounts and Guaranteed Investment Certificates
(GICs), mutual funds are not insured or guaranteed. Although there
are several safeguards in place to protect the mutual fund investor,
investors must keep in mind that mutual funds differ from other types
of investments and should be considered long-term investments.