TYPES 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.
Types of Mutual Funds in each Category
There are a variety of types within each category.
1. Money Market Funds -- These 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.
2. Bond Funds (also called Fixed Income Funds) -- These have higher risks than money market funds, but seek to pay higher yields. Unlike money market funds, bond funds are not restricted to high-quality or short-term investments. Because there are many different types of bonds, bond funds can vary dramatically in their risks and rewards.
Most bond funds have credit risk, which is the risk that companies or other issuers whose bonds are owned by the fund may fail to pay their debts (including the debt owed to holders of their bonds). Some funds have little credit risk, such as those that invest in insured bonds or U.S. Treasury bonds. But be careful: nearly all bond funds have interest rate risk, which means that the market value of the bonds they hold will go down when interest rates go up. Because of this, you can lose money in any bond fund, including those that invest only in insured bonds or Treasury bonds.
Long-term bond funds invest in bonds with longer maturities (length of time until the final payout). The values (NAVs) of long-term bond funds can go up or down more rapidly than those of shorter-term bond funds.
3. Stock Funds (also called Equity Funds) -- Generally involve more risk than money market or bond funds, but they also can offer the highest returns. A stock fund's value (NAV) can rise and fall quickly over the short term, but historically stocks have performed better over the long term than other types of investments.
Not all stock funds are the same. For example, growth funds focus on stocks that may not pay a regular dividend but have the potential for large capital gains. Others specialize in a particular industry segment such as technology stocks.
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.
