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MFI presents an excerpt from Macmillan
Publishing's new book for mutual fund newbies: The Complete
Idiot's Guide to Making Money with Mutual Funds, by
Alan Lavine and Gail Liberman, two veteran mutual fund
writers. Copyright 1995. Reprinted with permission. To order a
copy of The Complete Idiot's Guide..., call (800)
428-5331.
In This Chapter
Let's face it. You had good reason to pick
up this book. After all, everybody's talking about mutual
funds these days.
If you're like most of us, you have the bulk
of your money in bank savings accounts because you're afraid
you'll make the wrong move. Your biggest investment is probably
your home. Some of you might have an interest in company pension
plans. Aside from that, and maybe some money tucked away each
paycheck in a 401(k), investing is a mystery.
Get ready! A whole new world of investing is
about to unfold before your eyes. Fear no more. Mutual funds, once
you know the ropes, can be your ticket to a whole variety of
money-making opportunities. This chapter introduces you to the
option of mutual fund investing.
Welcome to the World of
Investing
When you were younger, chances are you had a
piggy bank. When you filled it up, you took the next big step. You
carted it to the bank and opened a savings account. You knew your
savings account was safe. You couldn't lose money. Every once in a
while, assuming you left your money in there, you'd notice it was
growing in value.
With your savings account, you couldn't lose
any money because it was federally insured. You paid dearly for
this sense of security, though. About the most you could earn as
long as your money stayed in your savings account was 5.50
percent.
Investing is the next big step on the ladder
to financial growth for those who want to make more.
When you enter the world of investing,
you're giving yourself a promotion. You're taking a more active
role in building your wealth and stand to make more as a result.
By putting your money in a mutual fund, however, you're also
giving up some of the safety and security of your piggy bank and
savings account. If you learn what makes mutual funds tick, you
can make educated investment decisions that can help your nest egg
grow that much more.
Think of a mutual fund as an investment
company that pools the money of people just like you for one
common reason -- to make more. Not all pots of money, though, are
alike. Each mutual fund has its own strategy and investment
objective for making money. It's up to you to select the right
mutual fund for you based on your own needs.
There are two types of mutual funds. The
most common, which this book primarily talks about, is open-end
funds. In essence, they are open -- money flows directly into the
fund when investors buy and goes directly out when they sell. The
other type is closed-end funds, which technically are not
mutual funds. You'll learn more about them in Chapter 16.
With a mutual fund, the big pool of money we
talked about previously is managed by a company, which frequently
the organization that started the fund. This management company
either serves as or hires the fund's investment advisor. The
advisor employs a portfolio manager and his or her research staff
to select the investments for the mutual fund.
Mutual funds are subject to strict federal
regulations. The fund broker or other salesperson is required to
give you a prospectus before you invest. The prospectus is
an important document that spells out the investment objectives of
the fund, risks, fees, and other important information. You'll
learn more about what's in a prospectus and what you should look
for in Chapter 9. The Securities and Exchange Commission
(SEC) is the U.S. government agency in charge of regulating mutual
funds.
Generally, mutual funds continuously offer
new shares to the public. They also are required legally to buy
back outstanding shares at the shareholder's request. When you
sell shares in a fund, you receive a check based on its share's
price or net asset value (less any sales charges, if
applicable). The net asset value is obtained when the fund figures
the value of its investments, less liabilities, divided by the
number of shares outstanding at the end of the day.
Technobabble: The investment
advisor is an organization hired by the mutual fund company to
manage a mutual fund's investments. A portfolio manager is
the professional who actually manages the fund. The investment
objective describes what your mutual fund hopes to accomplish.
Assets represent any investment that the mutual fund holds,
including stocks, bonds, and cash reserves. A mutual fund share
is a unit of ownership in the fund. A mutual fund investor who
owns shares is called a shareholder and has voting rights.
Like any company, the mutual fund management
company is an organization with a number of people that run the
show. You want to understand how this company works because you've
entrusted it with your hard-earned cash. Although mutual funds are
set up under state law, usually as corporations, they differ from
other companies.
First, they are legally entitled to hire
companies to handle the bulk of their services. They typically
hire the investment advisor, also known as an investment
advisory firm, to manage your mutual fund. They also make
arrangements to have the fund sold through a brokerage firm.
The following sections review the cast of
characters who make a mutual fund work.
The Investment Advisor
The investment advisor is one -- or in some
cases, a group -- of the key people in a mutual fund, including
the portfolio manager(s) and his/her/their staff. You've probably
seen some portfolio managers on TV's "Wall Street Week,"
spotted their quotes in magazines, or read some of their books.
This person selects, buys, and sells the investments based on the
fund's investment objectives. The investment advisor is paid an
annual fee based on a percentage of the value of the fund's cash
and investments, or assets.
The Board of Directors
A mutual fund has a board of directors to
make major policy decisions and oversee management. These are
important people. The directors steer the fund's course,
determining investment objectives and hiring out help.
The Shareholder
Mutual fund investors are also known as
shareholders. When you invest in a mutual fund, you actually buy a
share or portion of a mutual fund. Each share has a price tag. If
a fund sells for $10 a share and you invest $1,000, you're the
proud owner of 100 shares of the fund! Mutual funds, like many
other companies, are very democratic. Because you own shares in
the fund, you have voting rights. As part owner, a shareholder
gets to vote in the election of the board of directors. The
shareholder must approve many operational changes within the fund,
including accounting procedures and the investment objective.
Custodians and Transfer Agents
As you can imagine, the millions of mutual
fund transactions executed each year require a gargantuan
behind-the-scenes record-keeping effort. The securities a mutual
fund invests in are kept under lock and key by an appointed
custodian, usually a bank. The custodian may respond only to
instructions from fund officers responsible for dealing with the
custodian. The custodian safeguards the fund's assets, makes
payments for the fund's securities, and receives payments when
securities are sold.
Fund transfer agents maintain
shareholder account records, including purchases, sales, and
account balances. They also authorize the payments made by the
custodian (referred to previously), prepare and mail account
statements, maintain a customer service department to respond to
account inquiries, and provide federal income tax information,
shareholder notices, and confirmation statements.
The Underwriter
The underwriter is an organization with a
staff of salespeople who either administers sales directly to the
public or meets with the brokerage firms to convince them to sell
the fund. Brokers sell fund shares to the public and collect a
commission for the sale. Chapter 8 goes into more detail about
what you pay for a mutual fund and who sells them.
Mutual Funds Make It EZ to
Invest
Boy, there are a lot of important people and
ingredients that go into the making of a mutual fund. The end
result, however, is that mutual funds provide one of the simplest
ways to invest -- especially if you count yourself among us
working stiffs, and lack time and training to manage money like
the Wall Street big boys.
The major difference between investing in a
mutual fund and investing in an individual stock or bond is that
with a mutual fund, instead of buying just one stock or bond, you
really buy a portion of a variety of investments. Exactly how much
money you make or lose in a mutual fund can change daily, as
you'll learn in later chapters. It all depends on how many shares
you own and how well your mix of investments perform. As Chapter 3
explains, owning a lot of different investments helps to protect
you against losing money. If one investment in your mutual fund
does poorly, you have a number of others to cushion the blow.
Sidelines: There are approximately
6,000 mutual funds, but not all are alike. Depending on your
particular needs, you can find a mutual fund that's right for you.
In Chapters 3 and 5, you'll learn more about the different types
of mutual funds.
Have we whetted your appetite? Good. Let's
get ready to proceed. However, we don't want you to invest one
penny in a mutual fund until you read and thoroughly digest these
10 critical rules of mutual fund investing.
- Always understand what you are
investing in. You can lose a bundle if you pick the
wrong kind of mutual fund. Read carefully the free
literature that mutual fund companies provide on their funds.
- Don't rush out and buy the first
mutual fund that looks good. You first have to identify
your investment goals, determine how much you need from your
investment (see Chapter 2), and figure out how much
you're willing to risk losing (see Chapter 6).
- Don't try to make quick profits.
Always invest for the long term. You should plan to keep some
of your mutual funds an absolute minimum of 5 to 10 years.
- Mix up your investments. You can
cut your chances of losing money by putting your money in
different types of investments. Chapter 6 shows you how.
- Invest regularly with each paycheck --
before you have a chance to spend all your money. Mutual
funds have automatic investment programs. Money is
electronically taken out of your checking account and invested
in the fund.
- Do your homework. Once you
determined how much money you need and by when -- as well as
how much you can afford to lose -- research the best
investments to meet your goals. Most library business sections
carry information on mutual funds.
- Avoid paying high commissions and fees
for mutual funds. Make your money work for you, not for
your stock broker. Read about this in Chapter 7.
- Make sure your mutual fund investment
earns enough so that your nest egg at least keeps pace with
rising prices. Chapter 5 discusses this further.
- Know when to sell your mutual funds.
Chapter 16 explains ways to evaluate how a fund is doing.
You'll learn when to get rid of a mutual fund that's a lemon.
- Invest to beat the tax man. Take
advantage of an Individual Retirement Accounts (IRAs) and
other tax shelters. Chapter 22 discusses how you can make
tax-deductible contributions and watch your money grow
tax-free until you retire.
Sidelines: You can buy mutual funds
either directly from the mutual fund company or from stockbrokers
or financial planners licensed to sell them. Chapter 7 explains
how much you pay in each case.
The Least You Need to Know
- With a mutual fund, investors pool their
money with one common goal -- to make more.
- A mutual fund 's investment decisions are
made by the portfolio manager, or a team of managers, who is
an investment advisor hired by the mutual fund.
- When you invest in a mutual fund, you own
share(s) of the fund, which give you certain voting rights.
- Invest for the long term. Don't try to
make quick profits in mutual funds.
About The
Authors
Alan Lavine and Gail Liberman are
husband-wife personal finance columnists, journalists and authors.
Their joint column, "Family Finances," runs weekly in
the Boston Herald. Mr. Lavine's own personal finance column runs
in the Boston Herald and the American Lawyer media chain.
Alan Lavine's commentary on mutual
funds and personal finance is carried by 250 radio stations
nationwide every Sunday over Business News Network's Charles
DeRose Financial Advisor Show. Formerly Director of Research of
the IBC/Donoghue, Inc, an Ashland, MA-based publisher of mutual
fund and financial planning advice, he is a frequent guest
lecturer at Cornell University. His research work on family
finances was cited by the Joint Economic Committee of Congress in
establishing economic policies in the 1980s. He has spoken before
such diverse groups as the American Psychological Association and
the American Association for the Advancement of Science.
Mr. Lavine also has written for the
New York Times, Worth, Financial World and is a regular
contributor to Financial Planning, Your Money and Consumer's
Digest. He has appeared as a guest on CNBC's Money Talk and PBS'
Nightly Business Report.
Mr. Lavine also has written several
highly acclaimed books including, "Diversify Your Way To
Wealth," which was an alternate selection of the Fortune Book
Club, and "50 Ways To Mutual Fund Profits" both by Irwin
Professional Publishing, and "Getting Started In Mutual
Funds," and "Your Life Insurance Options," by John
Wiley & Sons.
Gail Liberman has been a frequently
quoted source by national financial medi a as editor of Bank Rate
Monitor, North Palm Beach, FL. Ms. Liberman began her 23-year
career as a journalist with the Associated Press, United Press
International and United Feature Syndicate before helping to
launch the national publication that tracks bank interest rates
and trends nationally. She has been a guest on numerous radio
programs and has been quoted in The Wall Street Journal, Money
Magazine, USA Today, The New York Times, and Business Week. She
has appeared on PBS's "Nightly Business Report," and
ABC's "Good Morning America."
Ms. Liberman and Mr. Lavine are
co-authors of "Improving Your Credit and Reducing Your
Debt," by John Wiley & Sons, New York. |
