mutual funds

Finance

(noun)

A type of professionally-managed collective investment vehicle that pools money from many investors to purchase securities. While there is no legal definition, the term is most commonly applied only to those collective investment vehicles that are regulated, available to the general public and open-ended in nature.

Business

(noun)

A mutual fund is a type of professionally-managed collective investment vehicle that pools money from many investors to purchase securities.

Related Terms

Examples of mutual funds in the following topics:

  • The Common Financial Instruments

  • Investment Institutions

    • Investment institutions include mutual funds and finance companies.A mutual fund manager groups together funds from many investors and invests the money in a variety of stocks.Consequently, a mutual fund diversifies stocks, and it lowers investors' risk.For example, you start your own mutual fund and offer investors a chance to invest in this fund.You take the money and buy 30 different corporate stocks.The Coca-Cola stock rises one day while the value of IBM stock falls.Overall, the average of the fund's 30 stocks should earn a return to your fund and to the investors.If you bought only Kmart corporate stock, you would lose your investment if this company bankrupts.
    • Mutual fund companies have different strategies and characteristics, and well-known mutual fund companies include Fidelity, Vanguard, and Dreyfus.Mutual fund companies develop strategies where they only buy stock in certain industries, large companies, or foreign company's stock.Furthermore, the mutual fund company may issue a fixed number of shares to the fund that we call closed-end mutual funds.Then investors may buy and sell these shares inover-the-counter markets, just like stock.Thus, the mutual fund company does not buy its shares back for closed-end mutual funds.A mutual fund company may offer another alternative called open-ended mutual funds.Mutual fund company can buy back shares to the fund, and the price of the shares becomes tied to the value of the stock in the fund.Finally, the mutual fund managers use two methods to earn profits.First, fund managers charge management fees for no-load funds, usually 0.5% of asset value.For the second method, the fund managers charge a commission for selling or purchasing of shares for load funds.The load reflects the commission that lowers the fund's value.
    • Money-market mutual funds are similar to mutual funds.However, the fund manager buys only money market securities, and the fund excludes corporate stock.Theory behind money-market mutual funds is simple.If you have five friends with $2,000 each, and they want to buy a Treasury bill with a minimum face value of $10,000, then your friends can pool their money together and buy one T-bill.Once the T-bill matured, your friends split the interest among themselves.
    • Money-market mutual funds are very popular because these funds offer check-writing privileges, and some investors do not want to tie up their funds for a long time.Moreover, the value of the fund does not change much, when interest rates changes because money market securities have maturities less than one year.In 2008, money-market mutual funds had assets of $3.8 trillion.
    • Commercial banks offer money market deposit accounts that are similar to the money-market mutual fund.Two funds differ because the Federal Deposit Insurance Corporation (FDIC) insures the money market deposit accounts, while it does not insure money-market mutual funds.If your bank bankrupted and you invested in money market deposit accounts, subsequently, you are guaranteed not to lose you funds up to the maximum insured amount.

  • A Nation of Investors

    • Mutual funds enable small investors, who may not feel qualified or have the time to choose among thousands of individual stocks, to have their money invested by professionals.
    • And because mutual funds hold diversified groups of stocks, they shelter investors somewhat from the sharp swings that can occur in the value of individual shares.
    • There are dozens of kinds of mutual funds, each designed to meet the needs and preferences of different kinds of investors.
    • Attracted by healthy returns and the wide array of choices, Americans invested substantial sums in mutual funds during the 1980s and 1990s.
    • At the end of the 1990s, they held $5.4 trillion in mutual funds, and the portion of U.S. households holding mutual fund shares had increased to 37 percent in 1997 from 6 percent in 1979.

  • Market Actors

    • Market actors include individual retail investors, mutual funds, banks, insurance companies, hedge funds, and corporations.
    • Investors can include: pension funds, insurance companies, mutual funds, index funds, exchange-traded funds, and hedge funds.
    • Hedge funds are not considered a type of mutual fund.
    • There are three types of U.S. mutual funds: open-end, unit investment trust, and closed-end.
    • As of 2007, index funds made up over 11% of equity mutual fund assets in the United States.

  • Answers to Chapter 5 Questions

    • Mutual funds and finance companies.
    • For example, Vanguard offers mutual funds, while GMAC offers financing for automobiles.
    • Insurance companies and pension funds.

  • Equity Method

    • Equities held by private individuals are often held as mutual funds or as other forms of collective investment schemes, many of which have quoted prices that are listed in financial newspapers or magazines.
    • Mutual funds are typically managed by prominent fund management firms, such as Schroders, Fidelity Investments, or The Vanguard Group.
    • Such holdings allow individual investors to obtain diversification of the fund(s) and to make use of the skill of the professional fund managers in charge of the fund(s).
    • An alternative, which is usually employed by large private investors and pension funds, is to hold shares directly.
    • In the institutional environment, many clients who own portfolios have what are called segregated funds, as opposed to or in addition to the pooled mutual fund alternatives.

  • Portfolio Diversification and Weighting

    • This example explains why investors are often choosing mutual funds and exchange traded funds (ETFs) over individual stocks and bonds.
    • Mutual funds and ETF's invest in underlying pools of investments specific to a particular investment objective.

  • Other Measurements of the Money Supply

    • M2: M1 + most savings accounts, money market accounts, retail money market mutual funds, and small denomination time deposits (certificates of deposit of under $100,000).
    • M3: M2 + all other certificates of deposit (large time deposits, institutional money market mutual fund balances), deposits of eurodollars and repurchase agreements.
    • It is M2 – time deposits + money market funds.

  • Financial Innovation

    • For example, mutual funds are one financial innovation.
    • A mutual fund pools money from many people together into a fund, and a fund manager invests the fund in a variety of stocks.
    • For example, you manage your mutual fund, and you bought 30 different corporate stocks.
    • Third innovation was the creation of money-market mutual funds (MMMF).
    • The MMMF is identical to a mutual fund.

  • Contractual Saving

    • Contractual saving institutions are insurance companies and pension funds.
    • First type of insurance company is a life insurance company.These companies purchase long-term corporate bonds and commercial mortgages because they can predict future payments with high accuracy.Furthermore, the insurance companies are organized in two ways: Mutual company or stock company.Insurance policyholders own a mutual company because the insurance policy functions as corporate stock, while a stock company is a corporation that issues stock.Thus, the shareholders own the company, while the insurance policyholders do not.Stock company is more common because a stock company has more funding sources.They receive funding by selling stock to shareholders, and receive revenue by selling insurance policies.Most policies issued are called term life policies.Person buying the life insurance must pay the premium for the rest of his life.These policies are popular because the policyholder can borrow against the value of the life insurance policy, when he retires.Borrowing against insurance is an annuity.An annuity pays a retired person a specific amount of money each year.
    • Pension funds are another contractual savings institution.Many people save money for retirement, and pension funds become a vital form of saving.Some employers sponsor pension funds as a job benefit, or workers can voluntarily pay into personal retirement accounts.Then the financial companies manage the pension funds, and they invest pension funds into the financial markets.Pension fund managers can accurately predict when people will retire and usually invest in long-term securities, such as stocks, bonds, and mortgages.A person can only receive benefits from the pension fund after the person becomes vested.Vested means employees must work for their employer for a time period before they can receive the benefits from the pension plan.Time period varies for the pension funds.For example, some city governments require a person to be employed by the city for 10 years before this person becomes 100% vested in the city's pension plan.
    • Employers have three reasons to offer pension plans to employees.First, the pension fund managers can more efficiently manage the fund, lowering the pension funds' transaction costs.Second, the pension funds may offer benefits such as life annuities.A life annuity is a worker contributes money into the annuity until he retires.Then the worker receives regular payments every year from the annuity until his death.Life annuities could be expensive if a worker buys them individually.However, a large employer with many employees can request discounts from pension plans.Finally, the government does not tax the pension fund as workers invest funds into it, allowing the fund to grow faster.Nevertheless, government usually imposes taxes on withdrawals from a pension fund.If the employer offered higher wages and no pension plans to the employees, then the government taxes the greater income, reducing the amount an employee could invest into a retirement plan.
    • Federal and state governments regulate the pension funds.Regulations require the managers of the pension funds to disclose all investments.That way, employees know which securities the pension fund managers have invested in.Regulations help prevent fraud and mismanagement.Unfortunately, a pension fund will bankrupt, when the company where the employees work bankrupts.Consequently, Congress created the Pension Benefit Guaranty Corporation that insures pension fund benefits up to a limit if the company cannot meet its obligations.Some economists believe a pension fund disaster will occur for state and local government retirees after 2012.Many state and local governments offered generous defined-benefit plans to public employees, and they have not placed enough money aside to fund the pension plans.