A mutual fund – What is it?

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Mutual funds are financial assets that are managed by a AMC (asset management company). These companies collect the capital of a variety of savers and invest it in financial assets by consolidating it into a single asset, the fund. The investments can relate to real estate (real estate funds), raw materials, stocks (equity funds), bonds or government bonds (bond funds or, more often, pension funds). Investment rules and strategies are usually aimed at increasing returns and reducing risks. In general, it can be said that investment funds are less risky than investments in individual stocks, as they offer diversification across a wider range of assets1 .

Investing in a mutual fund

Fund investors receive shares in the fund’s assets for their contribution. The income generated by the investment funds, from dividends and interest, is either distributed to the unitholders or, in the case of accumulation, reinvested, which increases the value of the units. This is to be distinguished from a reinvestment in which the income from distributing funds is reinvested in them. In summary, it’s sometimes so: while an investment in mutual funds is one of the best guarantees for diversifying one’s investments, there is no guarantee of a return or the preservation of the capital invested. The reason is clear: the value of the assets that make up the funds can change based on market trends.

Types of mutual funds

An equity fund is an investment fund that invests exclusively or predominantly in stocks. The fund can invest globally as an international equity fund or diversify investments by investing in stocks that are focused on different geographic or economic sectors. A bond fund is an mutual fund that invests exclusively or primarily in bonds. These funds get their added value by paying interest and trading the securities they hold. Specific types of funds are mixed funds, which not only invest the clients’ assets in a certain asset class, but also optimise risk diversification. The balanced funds invest in stocks as well as in fixed income securities, however, maximum limits are usually set for the proportion of shares and bonds. In contrast to the other funds, balanced funds definitely contain at least two different asset classes. The mixed funds are also known as balanced funds.

Open-ended funds

There are different types of funds. A basic distinction is made between open-ended and closed-ended funds. In the case of open funds, units can be purchased at any time or they can be requested to be redeemed. The range of open-ended investment funds is considerably larger than that of closed-end funds. Mutual funds “that are structured as collective investment schemes (CIS) must be authorised or recognized” by the Financial Conduct Authority “to be promoted to retail investors in the UK” 2 . In an open-ended fund, share prices are typically published daily and correspond to their current net asset value (NAV).

Among the most common open-ended funds are Authorised Unit Trusts (AUTs) and Open-Ended Investment trusts (OEICs). “The value of a unit in an OEIC or AUT is linked to the net asset value (NAV) of the underlying assets held in the fund” 3 . Among the collective savings schemes regulated by the FCA in the UK are Investment Companies with variable Capital (ICVC).

Closed-ended funds

Instead, closed-end funds only allow subscriptions to be made during the offering period (takes the name of IPO – “Initial Public Offering”), i.e. before the fund is operational. They’re referred to as “closed” because units can’t be returned before the agreed investment period has expired and units can’t bet purchased after the planned volume has been contributed. In contrast to an open-ended fund, this means that the fund manager doesn’t issue any new shares in order to continue to satisfy investor demand. The share price of a closed-end fund fluctuates on the dynamics of market demand and “the changing values of the fund’s holdings”4 . Most closed-end funds are primarily investments in real estate, unlisted companies, or loans. The usual name for closed-end funds in the UK is Investment Trusts5 .

1 https://www.lloydsbank.com/wealth-management/what-are-mutual-funds.html
2 https://www.fca.org.uk/firms/authorised-recognised-funds
3 https://www.afhwm.co.uk/news/closed-and-open-ended-funds-what-is-the-difference
4 https://www.investopedia.com/terms/c/closed-endinvestment.asp
5 https://www.morningstar.co.uk/uk/news/65085/what-is-a-closed-end-fund.aspx

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