The Smart Investors

What is a mutual fund?
A mutual fund is a professionally managed investment vehicle that invests in different securities on behalf of investors who have pooled their funds. If you have no time to analyse the stocks or bonds you want to buy, you can buy some units of a mutual fund. The mutual fund can invest in equities, bonds or other securities. The gain made by the mutual fund is distributed to the unit holders at the end of the fiscal year.

Depending on the type of fund, you can redeem all or part of your holding by selling directly to the fund company or through an exchange. This means that mutual funds give investors liquidity.

Factors to consider before buying units of a mutual fund
1. Expenses:
Buy a mutual fund with relatively low expense ratio because it affects the profit that will be distributed to unit holders. You must also confirm the spread to know the commission you pay when buying or selling units of the fund. The spread is the difference between the offer and bid prices.

2. Your financial goals
The fund manager's style must align with your goals. The fund may invest for regular income or capital growth. There is a mismatch if you want regular income but the fund invests for capital growth.

3. Risk tolerance level
Your attitude to risk determines the kind of fund you can invest in. Funds that invest in equities have a higher level of risk than funds that only invest in bonds.

4. Diversification
Some funds invest in multiple asset classes; they combine stocks, bonds, property and other asset types. These funds have less risk than those investing in only one type of security or sector-focused funds.

5. Track record of fund manager
You have to check the competence and track record of the fund manager. It must employ good research analysts.

One of the most important factors to consider before investing in mutual funds is your investment purpose. If you are looking at long-term growth, equity mutual funds suit that purpose, however, safety will be guaranteed if you go for debt funds. Then, you need to also consider your risk appetite; not all fund fits all investors.

I would also add to analyze the performance of the fund manager in the past. A fund with high management fees can eat into your returns even when it has a good record. Another item to check on is portfolio diversification, funds that spread their investments across sectors usually carry less risk.