mutual fund

A mutual fund is a type of professionally-managed collective investment vehicle that pools money from many investors to purchase securities. While there is no legal definition of mutual fund, 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. Hedge funds are not considered a type of mutual fund.

Mutual funds have both advantages and disadvantages compared to direct investing in individual securities. They have a long history in the United States. Today they play an important role in household finances.

There are 3 types of U.S. mutual funds: open-end, unit investment trust, and closed-end. The most common type, the open-end mutual fund, must be willing to buy back its shares from its investors at the end of every business day. Exchange-traded funds are open-end funds or unit investment trusts that trade on an exchange. Open-end funds are most common, but exchange-traded funds have been gaining in popularity.

Mutual funds are classified by their principal investments. The four largest categories of funds are money market funds, bond or fixed income funds, stock or equity funds and hybrid funds. Funds may also be categorized as index or actively-managed.

Investors in a mutual fund pay the fund's expenses. There is controversy about the level of these expenses. A single mutual fund may give investors a choice of different combinations of expenses by offering several different types of share classes.

Advantages and Disadvantages

Mutual funds have advantages compared to direct investing in individual securities. These include:

  • Increased diversification
  • Daily liquidity
  • Professional investment management
  • Ability to participate in investments that may be available only to larger investors
  • Service and convenience
  • Government oversight
  • Ease of comparison

Mutual funds have disadvantages as well, which include:

  • Fees
  • Less control over timing of recognition of gains
  • Less predictable income
  • No opportunity to customize

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