Investment companies known as mutual funds sell fund shares and use the income generated from sales to manage and maintain a portfolio of securities. A mutual fund may choose to focus its portfolio on a particular type of security or combine types of securities as an investment strategy. No matter what it invests in, a mutual fund is considered a marketable security, because it can provide a financial return and is highly liquid.
Definition of Security
A security is a financial instrument or document that represents a claim on the entity that issues the document. A security is also a financial asset that holds monetary value and can be purchased or sold in the appropriate financial market or exchange. Stocks and bonds are commonly known securities. Owning shares of a company's stock represents a percentage of ownership in the company. As the company grows and increases in value, the investor may receive a dividend or monetary return from the company in the form of a higher share price. In the U.S., companies that buy and sell securities are regulated by the Securities and Exchange Commission.
Definition of Mutual Fund
A mutual fund is an investment company that pools the money of its investors and purchases a combination of stocks, bonds or other securities and assets, such as precious metals, futures contracts or money market instruments. The combination of securities held by the mutual fund is known as its portfolio. Each share a fund sells indicates the portion of ownership in the fund portfolio and the revenue generated by the holdings. Investors do not actually own the individual instruments in the fund but hold rights to the fund as a whole. This means that the holdings in the fund can change as the financial markets fluctuate and fund managers buy and sell portfolio holdings.
Types of Mutual Funds
Mutual funds typically fall into three categories: money market funds, stock funds or bond funds. Bond funds are also known as fixed-income funds. Stock funds are also known as equity funds. Each type of fund focuses on the type of security for which it is named. Each mutual fund will have its own risks, fees and potential income. When investing in any security or security fund, it is important to gauge the potential risk against the possible return. The SEC requires all investment companies to provide to the public a fund prospectus and shareholder reports so that potential and existing investors can understand the company or fund investment strategy and weigh the risks of investing against personal requirements. Mutual funds are not guaranteed or insured by the government or any other agency and can lose value.
Mutual Fund Liquidity
Mutual funds are considered to be liquid investments. Liquid investments are those that can be easily returned to cash. Fund shares are redeemed at net asset value, which is figured at end of market close. In addition, each fund may require separate charges or fees at redemption that reduce the actual return on investment. Likewise, fund fees may be charged at the time of purchase that increase the cost of the investment. A review of a fund's prospectus should reveal any required fees and charges.
Other Types of Pooled Investments
There are three types of pooled investment companies with legal definitions: open-end, closed-end and unit investment trusts. A mutual fund falls under the category of an open-end company, because its shares are continually open or offered for sale. Closed-end investments sell a fixed number of shares at one time and then permanently closes the offering. UITs also offer a fixed number of shares for sale at an initial public offering. However, UITs are typically terminated and dissolved on a specific date stated at the time the trust is formed.
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