INVESTING IN MUTUAL FUNDS: THE ABC
(Over 20 years investing experience in Nigeria’s financial markets)
A mutual fund is a professionally managed collective investment scheme that pools money from many investors to purchase securities such as stocks, treasury bills, bonds and REITS.
Mutual funds are registered with the Securities and Exchange Commission; they are managed by mutual fund managers and overseen by a Board of Trustees.
Mutual funds can be groups according to their primary investments. The main categories are money market funds, fixed income funds, equity funds and hybrid funds.
A money market fund invests in money market instruments such as treasury bills, a fixed income fund invests in bonds, equity fund invests in shares of quoted companies, while a hybrid fund invests in money market instruments, bonds and shares.
Fund managers are registered investment advisers; they are also the mutual fund sponsors or promoters. Mutual funds may invest in many securities, the types of securities a given mutual fund invests in can be found in the fund prospectus.
The investment objectives of the mutual fund, determines the criteria used by the fund manager in selecting investments for the fund. The objective of a mutual fund may be for capital appreciation, income generation, ethical investment or sectoral investment.
Advantages of Mutual funds
- Diversification: A mutual fund can hold securities from tens and hundreds of issuers. This reduces the risk of serious monetary loss due to problems in a particular company or industry.
- Professional management: Most people do not have the time and expertise to manage their investments, mutual funds are managed by professionals who are experienced in investing money, they have the knowledge, skill and resources research diverse investment opportunities.
- Affordability: Mutual funds are affordable by most people, with N10,000 an investor can invest in a mutual fund.
- Flexibility: Mutual fund managers mange different funds (eg money market, fixed income, growth, balanced, sector and index funds) and allows investors to switch between these funds. This allows investors to balance their portfolio as needs arise, financial goals or market condition changes.
Disadvantages of Mutual funds
- The return on investments depends on the fund managers’ skill and judgment.
- Most fund managers underperform the market index; very few consistently out-perform the market index.
- Fund managers charge for management services, administrative and sales cost. All these charges reduce the return on investment. Management fees must be earned by the fund managers even when the mutual fund records losses.
- Investors cannot determine the earning per share, price earning or earning growth of a mutual fund.
