Financial

How Mutual Funds Work

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A mutual fund is a collection of investments, such as stocks, bonds and other funds owned by a group of investors and managed by a professional money manager. The investment objective of the mutual fund determines what types of securities it buys. A mutual fund can focus on specific types of investments. For example, a fund may invest

Mainly in government bonds, stocks from large companies, or stocks from certain countries. Or, it may invest in a variety of investments. When you buy a mutual fund, you’re pooling your money along with other investors. You put money into a mutual fund by buying units or shares of the fund. As more people invest, the fund issues new units or shares.

The investments in a mutual fund are managed by a portfolio manager. They manage the fund on a day-to-day basis, deciding when to buy and sell investments according to the investment objectives of the fund.

 

4 things to know

How Mutual Funds Work

How Mutual Funds Work

1.Risk

The level of risk and return depends on what the fund invests in. Mutual funds are not guaranteed or insured by the Canada Deposit Insurance Corporation (CDIC) or any other government agency – even if you buy through a bank and the fund carries the bank’s name. You can lose money investing in mutual funds.

 

2.Past performance

How a fund has performed in the past can’t tell you how it will perform in the future. But past performance can help you determine how volatile or risky the fund’s returns may be.

 

3.Price to buy and sell

You buy mutual funds at the fund’s net asset value (NAV) plus any sales charges. Mutual funds are redeemable – you can sell your mutual funds at the current NAV less any fees and charges for redemption.

 

4.Fees

All mutual funds have fees and expenses that are collected my firm which will reduce your investment return

 

Net asset value (NAV)

When you purchase or redeem securities of a mutual fund, you pay or receive what is known as the net asset value (NAV) of the security at the time of purchase, switch or redemption.

Most mutual funds report their NAV daily in the business section of many newspapers, or on the fund manager’s website. NAV represents the mutual fund’s assets less its liabilities. NAV will fluctuate with changes in the market value of the mutual fund’s particular investments.

 

2 ways to make money on a mutual fund

 

Capital gains

If you sell your mutual fund for more than you paid for it, you will have a capital gain. If you sell your mutual fund for less than you paid for it, you will have a capital loss.

Distributions

Depending on the type of fund you buy, you may also receive distributions of dividends, interest, capital gains or other income the fund earns on its investments.

You can choose to receive distributions in cash or have them reinvested in the fund for you. Unless you ask for the distributions to be paid in cash, the mutual fund will usually reinvest the distributions for you.

Fees and expenses reduce the return you get on your investment. Some of these fees are paid by you, and others are paid by the fund. Understand the costs before you buy a mutual fund.

 

How mutual funds are taxed

If you hold your mutual funds in a non-registered account, any money you make on them is subject to tax. Distributions are taxable in the year you receive them,

whether you get them in cash or they are reinvested for you. Interest, dividends and capital gains are all treated differently for tax purposes, and that will affect your return from an investment.

If you hold your mutual funds in a registered plan, like an RRSP, an RRIF or an RESP, you won’t pay tax on the money you make as long as that money stays in the plan.

When money is withdrawn from the plan, it will be taxed as income. With a TFSA, you don’t pay any tax on the money you make while it’s in the plan – or when you take it out.

 

Where to buy mutual funds

  • Banks and trust companies
  • Life insurance companies
  • Credit unions and Caisses Populaires
  • Mutual fund dealers
  • Investment Firms
  • Mutual fund companies that sell directly to the public.

 

Most mutual funds are sold through financial advisors who are required to be registered with their provincial regulator (for example, the Alberta Securities Commission). They must also work for a company that is registered to sell funds. You can buy mutual funds without an advisor if you use a discount brokerage.

 

TAKE ACTION

Financial advisors who sell mutual funds are required to be registered with their provincial securities regulator Check registration and background through Canadian Securities Administrators.

CAUTION
Mutual funds are not guaranteed. You may not get back the amount of money you invest.

Emily Wilson

Emily Wilson is 3rd-year University student at Brigham Young University and  Financial Writer for University Magazine.

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