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This tutorial defines terms that are commonly applied to mutual funds. This glossary of terminology covers varieties of mutual funds, characteristics and expenses. We have organized the definitions according to the following topics:
MUTUAL FUND BASICS
The following terms are important to learn for understanding mutual funds in general. To begin, here is a definition of a mutual fund.
Mutual fund. An investment company that purchases a pool of securities for investors who own shares of the pool. The term Mutual Fund is most often used to mean an open-end investment company that continually buys and sells securities such as stocks and bonds. Mutual Fund holdings match objectives set forth in their charter.
Custodian. A bank that holds the investment assets of a mutual fund.
Redemption. The process of selling of shares back to the fund.
Voluntary plan. An option in some mutual funds that lets investors buy shares on a regular basis.
Withdrawal plan. A plan in which a mutual fund investor receives regular payments from the fund by systematically liquidating shares.
Capital gains and losses. The difference between an asset's selling price and purchase price. If the difference is positive, it is a gain; negative a loss.
Dividends. Portions of a fund's assets that are distributed to shareholders. Dividends may be from interest, capital gains or a return of capital.
Net asset value (NAV). The price of a single mutual fund share without sales charges or commissions. To calculate the NAV, managers add up the fund's assets, subtract the liabilities and divide by the number of shares the public owns. You can find the net asset value in the mutual funds section of the financial pages.
Offering price. The price of a single mutual fund share plus any sales charge.
Read below to see the expenses associated with investing in mutual funds.
MUTUAL FUND EXPENSES
Definitions in this section cover expenses of buying, redeeming and maintaining mutual funds. Here we will cover only sales charges. On the next screen, we will cover other expenses.
Back-end load. A fee levied when one sells shares in a
mutual fund decreasing over time. Another name for back-end load
is contingent deferred sales charge (CDSC).
Front-end load. A sales fee that mutual funds may charge customers when they buy shares. This fee is also called a sales load.
Maximum sales load on purchases. The largest sales load a mutual fund may charge a customer who buys shares. The legal limit is 8.5 percent of the amount invested.
Redemption fee. A fee levied when one sells shares
in a mutual fund, similar to a back-end load. Another name for a redemption
fee is an exit fee.
Sales load on reinvested dividends. A fee if charged for dividends that are reinvested automatically back into a mutual fund.
Total fund operating expenses. The total of all charges for operating a mutual fund. It does not include the sales load. This total can be as high as two percent of the investor's assets, but is usually lower.
Below is a brief list of other type of expenses you might encounter when selecting mutual funds.
Advisory fee. A fee paid as part of a mutual fund's expenses for investment advice.
Custodian fee. The fee that mutual funds pay to the custodian banks for the safekeeping of their assets.
Exchange fee. The charge that may be assessed to transfer from one fund to another within the same fund family.
Management fees. Fees charged to compensate those who run a fund's portfolio.
Maintenance Fee. A fee deducted from a mutual fund to pay for the fund's operating expenses.
12(b)-1 fees. Marketing expenses of mutual funds that are deducted from the fund itself. They are not charged as separate fees. Printing, compensation for brokers who sell shares, and sales literature and its distribution are covered under 12(b)-1 fees.
GROWTH MUTUAL FUNDS
We begin this section with a definition of growth funds and then cover a few examples of types of growth funds.
Growth fund. A stock fund structured to appreciate in value over time. A growth fund may be unlikely to pay dividends because it reinvests as much as possible of its earnings to gain even more growth in value.
Capital gains fund. A mutual fund that seeks its growth only through capital gains. These funds invest in high-volatility securities such as growth and aggressive growth stocks.
Aggressive growth fund. A mutual fund that invests in companies with great prospects to grow (or appreciate) rapidly in value.
Emerging growth fund. A stock fund containing the stocks
of firms still in their infancies and believed to have a lot of
unrealized potential. Most of these funds tend to invest in developing
economies where the potential for growth is presumed to be high.
Risks such as the political and socioeconomic uncertainties often
result in high levels of volatility for these types of funds. Many
emerging growth funds pursue similar investment strategies of aggressive-growth
funds.
Now, let's move on to another popular type of mutual funds - income funds.
INCOME
MUTUAL FUNDS
Income funds come in varieties. They can invest in high-yielding
stocks, preferred stock and, quite frequently, bonds.
Income fund. A mutual fund structured to provide regular
dividends to its investors. Income fund focus on paying dividends
as its top priority. To accomplish this goal they invest in bonds,
money market instruments, and stocks with regular dividend payments.
Preferred stock fund. A fund that invests in preferred
stocks. Preferred stocks often offer higher yields than regular
stock and have a more secure claim on the company's assets.
Bond fund. A mutual fund that invests primarily in debt
securities. Bond funds generally seek to maximize income while also
conserving principal.
Junk bond fund (high-yield bond). A fund made of bonds
that are rated as "below investment grade." They typically offer
higher yields to compensate for the additional risk. Companies that
finance their growth and operations with a lot of debt issue junk
bond funds.
Mortgage-backed bond funds. Funds that invest in bonds
secured by the mortgages of U.S. Government mortgage associations.
The nicknames of some of the more popular ones include Ginnie Mae,
Sallie Mae and Freddie Mac.
Convertible Bond Fund. A bond fund with shares that can
be converted to shares of stock. This conversion, if it is chosen,
must occur by a specific date and at a fixed rate.
Zero-coupon bond fund. A bond fund made of pools of zero-coupon
bonds. A zero-coupon bond is a bond that is sold to an investor
at a discount. It does not pay interest. When it matures, the investor
receives the face value of the bond. The difference between the
face value and the discounted purchase prices is treated as "interest."
OTHER TYPES OF MUTUAL FUNDS
Balanced fund. A mutual fund that seeks growth and income with minimum risk to principal. The growth comes from common stocks. The income comes from high yielding stocks, preferred stocks, bonds, cash and money market holdings.
Index fund. A mutual fund constructed to perform like one of the market indexes (such as the Standard and Poor's 500). Index funds keep pace with its market index but cannot outperform it.
Social responsibility fund. A fund that avoids investing in companies whose products or policies cause harm to persons or the environment. A popular type of socially responsible funds is green mutual funds, which invest in companies that their managers consider environmentally sound.
Total Return Fund. A fund that actively seeks the highest total return (sum of dividends and capital gains) possible. Funds of this type choose dividend-paying bonds and stocks.
Value fund. A fund that actively seeks out securities priced below their industry norms with the hope that they will eventually grow.
All-weather fund. A fund that is structured to perform well throughout all phases of a market cycle. To achieve this goal, fund managers diversify the fund's holdings and choose low- and medium-risk investments.
Asset allocation fund. A mutual fund that periodically shifts its holdings among different investments as a way to reduce risk.
These "other" mutual funds invest in particular areas of the economy or world.
International fund. A mutual fund that buys the securities of foreign firms. They vary dramatically. Some funds may be very conservative while others may be very risky. In general these funds offer diversified portfolios, but they might also subject investors to additional risks, since international political, economic and social forces influence the performance of foreign securities
Money market fund. A mutual fund that invests in short-term debts in the money market. It buys bank money instruments, commercial debt instruments and so on.
Sector fund. Also called a specialized fund, this is a fund that invests in a particular industry, such as energy production, agriculture, telecommunications, medical technology, high technology or utilities.
Multifund. A fund that invests in other mutual funds.
Real estate fund. A fund that invests in real estate market securities.
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