INVEST WISELY An Introduction To Mutual Funds

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INVEST WISELY An Introduction To Mutual Funds
Advice From The U.S. Securities and Exchange Commission
TABLE OF CONTENTS
I. A MUTUAL FUND CHECKLIST II. WHY MUTUAL FUNDS? III. HOW MUTUAL FUNDS WORK HOW TO BUY AND SELL SHARES TERMS TO KNOW HOW FUNDS CAN EARN YOU MONEY TAXES IV. KINDS OF MUTUAL FUNDS MONEY MARKET FUNDS BOND (FIXED INCOME) FUNDS STOCK (EQUITY) FUNDS A WORD ABOUT DERIVATIVES V. COMPARING DIFFERENT FUNDS VIEWING PAST PERFORMANCE TIPS FOR COMPARING PERFORMANCE COMPARING COSTS TERMS TO KNOW TIPS FOR COMPARING COSTS OTHER SOURCES OF INFORMATION VI. IF YOU HAVE PROBLEMS OR QUESTIONS SEC OFFICES
I. A MUTUAL FUND CHECKLIST
* Mutual funds are NOT guaranteed or insured by any bank or government agency. Even if you buy through a bank and the fund carries the bank’s name, there is no guarantee. You can lose money. (see Part IV 'Kinds of Mutual Funds')
* Mutual funds ALWAYS carry investment risks. Some types carry more risk than others. (see Part IV 'Kinds of Mutual Funds')
* Understand that a higher rate of return typically involves a higher risk of loss. (see Part IV 'Kinds of Mutual Funds')
* Past performance is not a reliable indicator of future performance. Beware of dazzling performance claims. (see Part V 'Comparing Different Funds')
* ALL mutual funds have costs that lower your investment returns. (see Part V 'Comparing Different Funds')
* You can buy some mutual funds by contacting them directly. Others are sold mainly through brokers, banks, financial planners, or insurance agents. If you buy through these financial professionals, you generally will pay an extra sales charge for the benefit of their advice.
* Shop around. Compare a mutual fund with others of the same type before you buy.
October, 1994
II. WHY MUTUAL FUNDS?
Mutual funds can be a good way for people to invest in stocks, bonds, and other securities. Why?
* Mutual funds are managed by professional money managers.
* By owning shares in a mutual fund instead of buying individual stocks or bonds directly, your investment risk is spread out.
* Because your mutual fund buys and sells large amounts of securities at a time, its costs are often lower than what you would pay on your own.
This document explains the basics of mutual fund investing -- how a mutual fund works, what factors to consider before investing, and how to avoid common pitfalls.
There are sources of information that you should consult before you invest in mutual funds. The most important of these is the prospectus of any fund you are considering. The prospectus is the fund’s selling document and contains information about costs, risks, past performance, and the fund’s investment goals. Request a prospectus from a fund, or from a financial professional if you are using one. Read the prospectus before you invest.
Before you buy a mutual fund, make sure it is right for you.
III. HOW MUTUAL FUNDS WORK
A mutual fund is a company that brings together money from many people and invests it in stocks, bonds, or other securities. (The combined holdings of stocks, bonds, or other securities and assets the fund owns are known as its portfolio.) Each investor owns shares, which represent a part of these holdings.
HOW TO BUY AND SELL SHARES
You can buy some mutual funds by contacting them directly. Others are sold mainly through brokers, banks, financial planners, or insurance agents. All mutual funds will redeem (buy back) your shares on any business day and must send you the payment within seven days.
You can find out the value of your shares in the financial pages of major newspapers; after the fund’s name, look for the column marked 'NAV.' TERMS TO KNOW
Net Asset Value per share (NAV): NAV is the value of one share in a fund.
When you buy shares, you pay the current NAV per share, plus any sales charge (also called a sales load). When you sell your shares, the fund will pay you NAV less any other sales load (See Part V 'Comparing Different Funds'). A fund’s NAV goes up or down daily as its holdings change in value.
Example: You invest $1,000 in a mutual fund with an NAV of $10.00. You will therefore own 100 shares of the fund. If the NAV drops to $9.00 (because the value of the fund’s portfolio has dropped), you will still own 100 shares, but your investment is now worth $900. If the NAV goes up to $11.00, your investment is worth $1,100. (This example assumes no sales charge.)
HOW FUNDS CAN EARN YOU MONEY
You can earn money from your investment in three ways.
First, a fund may receive income in the form of dividends and interest on the securities it owns. A fund will pay its shareholders nearly all of the income it has earned in the form of dividends.
Second, the price of the securities a fund owns may increase. When a fund sells a security that has increased in price, the fund has a capital gain. At the end of the year, most funds distribute these capital gains (minus any capital losses) to investors.
Third, if a fund does not sell but holds on to securities that have increased in price, the value of its shares (NAV) increases. The higher NAV reflects the higher value of your investment. If you sell your shares, you make a profit (this also is a capital gain).
Usually funds will give you a choice: the fund can send you payment for distributions and dividends, or you can have them reinvested in the fund to buy more shares, often without paying an additional sales load.
TAXES
You will owe taxes on any distributions and dividends in the year you receive them (or reinvest them). You will also owe taxes on any capital gains you receive when you sell your shares. Keep your account statements in order to figure out your taxes at the end of the year.
If you invest in a tax-exempt fund (such as a municipal bond fund), some or all of your dividends will be exempt from federal (and sometimes state and local) income tax. You will, however, owe taxes on any capital gains.
IV. KINDS OF MUTUAL FUNDS
You take risks when you invest in any mutual fund. You may lose some or all of the money you invest (your principal), because the securities held by a fund go up and down in value. What you earn on your investment also may go up or down.
Each kind of mutual fund has different risks and rewards. Generally, the higher the potential return, the higher the risk of loss.
Before you invest, decide whether the goals and risks of any fund you are considering are a good fit for you. To make this decision, you may need the help of a financial adviser. There are also investment books and services to guide you.
The three main categories of mutual funds are money market funds, bond funds, and stock funds. There are a variety of types within each category.
1. MONEY MARKET FUNDS have relatively low risks, compared to other mutual funds. They are limited by law to certain high- quality, short-term investments. Money market funds try to keep their value (NAV) at a stable $1.00 per share, but NAV may fall below $1.00 if their investments perform poorly. Investor losses have been rare, but they are possible.
A WORD ABOUT BANKS AND MUTUAL FUNDS
Banks now sell mutual funds, some of which carry the bank’s name. But mutual funds sold in banks, including money market funds, are not bank deposits. Don’t confuse a 'money market fund' with a 'money market deposit account.' The names are similar, but they are completely different:
* A money market fund is a type of mutual fund. It is not guaranteed, and comes with a prospectus.
* A money market deposit account is a bank deposit. It is guaranteed, and comes with a Truth in Savings form.

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