Wednesday, February 24, 2010

How do Mutual Funds benefit the clueless?

After around 6 months of approaching potential clients, I'm vastly surprised by the amount of people who have not idea how mutual funds work. In regards to it, I've decided to post a brief summary of how mutual funds work and how the public can benefit from it.

Mutual funds are pools of money gathered from like-minded investors that have a mutual goal in mind - to earn more cash! After gathering a certain amount of funds, the fund manager will then invest them into equities, bonds, REITs, warrants, debentures, currencies and/or any form of investment. It will be baby-sitted by fund managers which will appropriate the funds based on market ups and downs and investor goals. To put it in a simpler way, Mutual Funds gather money from people who have no clue what to invest in and have no time to monitor their investments. They will then take that money, and invest it. At the end of the year (or month depending on how returns are calculated), returns or gains from these investments will then be distributed to the people who had put their money in the fund.

Benefit 1: Risk is spread out
Because Mutual Funds are pools of funds gathered, individual investors may not have to lose as much as putting their money in individual investments if the market goes downhill. This is because, considering the nature of how the funds were gathered (by multiple investors), the total gathered fund will also be invested in multiple investments, thus giving the investors a spread out risk. To illustrate this:-

Imagine a fund that invests in 5 different stocks named A, B, C, D and E. If Stock A, B and C went down but D and E went up, the investor who invested in the fund may still have a chance to break even. Now imagine if the investor chose to invest in only one stock, say A. If A went down, all his money will be devalued.

Benefit 2: Low cost of capital
Good stocks are expensive. Coincidentally they also give the best consistent return. But with Mutual Funds that are created specifically for blue chip stocks, investors do not need to fork out a huge sum of money to purchase many different blue chip stocks. They can just buy one fund that invests is many many many different blue chip stocks.

Benefit 3: Low cost of maintenance
Some investors may employ a method of investing called 'Dollar Cost Averaging (DCA)'. Now, every time an investor decides to top up their investment amount employing the DCA method, he/she only needs to pay 3-5% of service charge to their fund managers. On the other hand, stock brokers may charge commission based on transaction volume, withdrawals etc. Also, Mutual Funds may also give the investor the benefit of economies of scale because of the large sum of the fund where bulk discounts may be enjoyed.

Benefit 4: Low emotional cost
With mutual funds, investors do not need to wake up in cold sweat in the middle of the night worrying about their investments because they are all managed by certified professionals.

I can think of so many other benefits that will save you from premature hair loss. So tell me, if you're keen to invest but do not know how or what you need, why not try looking into Mutual Funds and see if it will work for you?

Shaun Ng
Signing Off =)