Applying The Basics…
Recently I wrote about mutual funds vs. stocks with the promise of more posts about this important topic for every investor. In this post, I’ll explain some of the many different types of mutual funds. This way, you’ll have a handle on this, whether you’re investing now (or later) in a retirement fund, individual funds or with a financial advisor. You’ll want to know these investing basics whether or not you invest specifically in mutual funds.
These basics apply not only to mutual funds, but also to traditional investing as a whole. This is because for almost all types of investments, mutual funds and similar, other types of funds that require larger account sizes exist for that particular category.
Asking Questions And Understanding Answers
Am I suggesting you invest in these mutual funds? No, I don’t give financial advice. I only want you to know about them because if you are invested in stocks and bonds, or plan to invest one day, you’ll want to know this. If you have money in a stock or bond retirement fund, you can ask better questions with the information below. The same is true if you work with a financial advisor.
It is my hope that a written explanation is clearer than seeing names such as “XYZ Value High Yield Blah Blah Fund” on your investment platform or statement. If you then say to financial advisor or retirement account manager, “Tell me more about this XYZ Value High Yield Blah Blah Fund that I own,” you’ll better understand the answer to this very reasonable question that every single woman should be asking. As crazy as it seems, what drives me to write is to help women become better investors.
There are, of course, other questions you should ask before investing in any fund, including the fees, management and historical performance of the mutual fund you’re considering. You would also want to see how much the fund has gone up or down over the past. In this post, I’ll just cover the major types of mutual funds that exist, and what those fancy names suggest.
Types of Mutual Funds
The largest mutual fund categories are stock and bond funds. There are hundreds of additional categories within the stock and bond fund categories, as well as many other types of mutual funds. For example, among stock mutual funds there are funds that invest in large and small companies. In investing lingo, these are called large cap (capitalization), mid cap, and small cap funds, depending on the size of the companies in which the fund invests.
But There’s More!
Within each of these categories, there are value-focused funds and growth-focused funds. This means that the fund buys companies that are bargains or fast growers. In investing lingo, this is called undervalued (value) companies or fast growing (growth) companies. There are long periods of time where value does better than growth, and vice versa.
Growth Vs. Value Mutual Funds
I learned about growth vs. value mutual funds the hard way back in the 1990’s when I researched and bought top performing mutual funds. My choices were, naturally, all value type of funds. I have a bias toward value anyway, since buying low cost things just makes more sense to me. You may have read before how I encourage you to apply this principle to everything you buy, whether you’re buying stocks, a home or a handbag!
Back to my mutual funds, the research also showed that the best long-term performers were value mutual funds instead of growth mutual funds. Unfortunately, my funds did not perform as well as other funds in the growth categories over the next couple of years, so I sold them. This was because—unknown to me at the time—the market was in a period of growth funds outperforming value funds. But then (urg!!!), value rolled back into favor due to the changing stock market, and the funds I had chosen initially were the top performing funds again.
The good news is that I had chosen wisely, simply overlooked the Growth vs Value factor. More importantly, I learned the difference between growth and value funds many years ago, and when each performs best based on the overall stock markets. I have remembered this important principle when investing ever since.
Just to clarify, growth stocks are fast growing companies. Examples nowadays would be Facebook, Alphabet (Google) and Amazon. Value stocks on the other hand are just as the name suggests. They are companies that for some reason are selling cheap relative to their financials, such as their revenue or their worth, which is called book value. Sometimes this is because the whole industry they are in has fallen out of favor with investors. Other times, they are cheap due to the economic cycle. Just think of value investments equaling the clearance rack at your favorite store. (I like to reference cashmere in May here.) And everyone loves a sale!
Bonds are another major category of traditional investing. Among bond funds there are corporate bond funds, government bond funds, and municipal bond funds. Within each of these categories, again, there are funds that buy bonds that mature in different time frames. In investing lingo, this is called short-term, intermediate-term and long-term duration. As a general rule, when the bond matures, the bond is paid back completely and the person or entity that owns the bonds no longer gets interest from the bonds.
Investing Outside of the U.S.
International funds and global funds are also common within each of the stock and bond categories. The term emerging market funds refers to funds that invest in more recently or less developed counties. Global refers to funds that invest in both the U.S. and abroad, whereas International refers to funds that only invest outside of the U.S.
Index funds hold a group of companies that mimic the performance of any one index, such as the S&P 500. The fund manager buys the exact same companies that are included in the index being copied. Therefore, the fund should have the same performance as the index. Again, index funds have become very popular due to their low cost and tax efficiency. Any of these categories above have index funds as a way to invest in them.