Everything you need to know about mutual funds

Are mutual funds the same as funds?

Many countries refer to the term mutual funds differently, which can understandably cause confusion for investors. To clarify, here’s what they are called in several well-known locations:

• USA: Mutual funds
• Hong Kong: Mutual funds, Unit Trusts
• Switzerland: Mutual funds
• UK: Funds
• France: OPCVM (Undertakings for Collective Investment in Transferable Securities, or UCITS)
• India: Mutual funds

What to look for when choosing mutual funds

When investing in mutual funds (or funds), there are so many options that it can be difficult to know what to look for to help you meet your investing goals.

To make things easier, here are a few things we think you should consider:

The first thing to check is the set of rules that define which investments the manager of a mutual fund is allowed to make. These rules, called a mandate, can cover various factors, such as the types of instruments used or how much of the fund is allocated to specific areas. For example, a Global Equity Fund would need to invest in stocks, not bonds, from across the globe.

It’s also important to think about the fund’s asset classes. Is it focused only on stocks, or does it include bonds, cash, or alternative investments? Alternative assets can include anything from wind farms and forests to infrastructure projects like roads or other investments that aren’t traded on traditional exchanges.

Geography is another key consideration. Some mutual funds target specific regions, such as South-East Asia or North America, while others focus on individual countries like India, China, or the UK. Certain funds even concentrate on particular stock indices, such as the S&P 500 or NASDAQ 100 in the United States, or the FTSE 100 in the UK. This focus allows you to invest in areas that might otherwise require significant research.

Finally, think about trends and themes. Are you interested in biotechnology, artificial intelligence, or supporting companies with strong ethical profiles? Whether your focus is on real estate, robotics, or other sectors, there’s likely a mutual fund that matches your values and interests.

What is the difference between a mutual fund and an ETF?

Exchange-traded funds, commonly referred to as ETFs, are similar to mutual funds in that both instruments bundle securities together to offer investors diversified portfolios.

However, there are 3 main differences:

• When. Mutual funds only trade at the end of the day, at a price based on their net asset value (NAV), while ETFs trade throughout the day, just like regular stocks.
• Who. Mutual funds are actively managed by professional portfolio managers, whilst ETFs are often passively managed and are designed to track a specific index.
• How much. Mutual funds typically have a higher operating cost than ETFs, since mutual funds are actively managed, which mean professional portfolio managers analyse, research, and coordinate the administration of the funds.

How are mutual funds traded?

The nature of mutual funds—where groups of investors pool their money and invest together—means they are not traded like regular stocks.

A mutual fund typically holds several assets, which may include individual stocks, bonds, cash positions, and other investments. At a set time each day, the value of all individual holdings in the mutual fund is calculated. This means the face value of each investor’s holding in the fund does not change throughout the day, as it is only updated once daily.

When investing in a mutual fund, an investor pledges a sum of money, which is then invested the next time the mutual fund’s value is calculated. The fund’s value represents the collective value of all its underlying investments, such as stocks, bonds, or cash.

For example, if the total value of a mutual fund is EUR 10,000,000 and an investor contributes EUR 5,000, the fund’s value increases to EUR 10,005,000, and the investor owns 0.05% of the fund.

In some cases, a new investor may simply take over shares from another investor who is exiting the mutual fund. Either way, owning mutual fund shares means holding a fraction of the entire portfolio. This ensures that risk is distributed across a broader, more diversified range of investments than an individual investor could achieve alone.

If you want to sell your part of the mutual fund, the process works in reverse. You place a “sell” order, and your share in the mutual fund is liquidated by the end of the day. The money is then wired back to your account.

Trading mutual funds allows you to enjoy a wide and diversified portfolio without spending valuable time monitoring charts throughout the day.

What are the advantages of trading mutual funds?

There are some excellent benefits for investors when they invest in mutual funds. Here are our top 5:

Mutual funds offer instant diversification, which can help improve your risk-adjusted return. By investing in a mutual fund, your portfolio spans a variety of instruments—such as stocks and bonds—across different industries and regions. A diversified portfolio is generally seen as less risky than owning individual stocks, as it spreads your risk across multiple assets.

Mutual funds typically provide access to a broad range of investments at a relatively low cost. They often come with lower fees and transaction costs compared to the frequent buying and selling of individual stocks, which can otherwise eat into your returns over time. However, the costs for mutual funds can vary, so it’s important to review the specific expenses associated with each fund.

When you invest in mutual funds, your portfolio benefits from the expertise of professional fund managers. These managers evaluate companies, monitor markets, and make informed decisions to help optimise performance and manage risk. This ensures your investments are cared for with consistent, professional oversight.

Building a diversified and well-balanced portfolio on your own takes a lot of time and expertise. With mutual funds, professional fund managers handle the research, portfolio monitoring, and risk management for you. This allows you to focus on your priorities while still enjoying the benefits of a thoughtfully managed portfolio.

Mutual funds open the door to a wide range of investment opportunities, including niche asset classes that may not be available to individual investors. These could include areas like alternative assets, such as wind farms, forests, or infrastructure projects. These options provide opportunities for better diversification throughout different economic cycles and allow you to align your portfolio with your interests, values, and goals.

In addition to these advantages, mutual funds often come with ratings from independent providers like Morningstar. These ratings can help you assess a fund’s past performance, particularly its risk-adjusted return, compared to similar funds.

What are the disadvantages of trading mutual funds?

While mutual funds have great advantages compared to investing in individual stocks, there are also a few disadvantages that you may want to consider before investing in them.

If you invest in mutual funds, you give up control and leave the decision to select, buy, and sell specific stocks to the mutual fund manager. These decisions may not always align with your preferences. No matter how you may feel about some of the holdings, you have no say in what the mutual fund invests in.

Mutual funds do not disclose their holdings and trading activity in real time. They usually report holdings on a delayed basis—upwards of 60–90 days, or sometimes even longer. This means you will not be able to see exactly how your money is being invested at any given time.

While mutual funds aim to optimise returns and manage risk, there is no guarantee they will outperform the overall market or match the returns of a well-selected portfolio of individual stocks. Mutual fund managers, like any market participants, can make poor choices or miss opportunities. Make sure to evaluate a mutual fund carefully before investing.

For most markets, mutual funds trade once a day after the market closes. This limits the possibility of swift reactions when significant market movements occur.

Mutual funds have distinct advantages compared to stocks; however, investors can still add both to their portfolio. Mutual funds and individual stocks are not mutually exclusive—it’s more a matter of personal preferences, taking into account how much experience and time you have, and your personal investment goals.

Are there risks with trading mutual funds?

At Saxo, we always strive to be transparent about any possible risks when you invest.

Mutual funds are often considered an investment opportunity that helps lower market risk through diversification. However, here are some risks you may want to consider:

There is always a risk that the value of a mutual fund may decrease due to broader market fluctuations. Any potential gains or losses in the market will be reflected in the value of the mutual fund, as it mirrors changes in the value of the underlying securities.

Imagine trying to sell your old car but finding few buyers in the market. You might have to lower your price or wait a long time to find a buyer. This is an example of liquidity risk, which occurs when certain assets are difficult to sell quickly without losing value. Liquidity risk can also affect mutual funds that invest in such assets. For instance, a mutual fund holding exotic investments may need to sell them at a discount or wait until buyers are willing to pay the desired price. The difference between the price at which you can buy and sell an asset is called the spread, and it is usually larger for illiquid assets compared to liquid ones.

Mutual funds can have embedded costs, which may vary significantly depending on the fund. These costs can affect the fund’s performance over time, with higher costs having a greater impact on long-term returns.

Depending on the type of mutual fund, there may be additional risks, such as currency risk, interest rate risk, credit risk, or geopolitical risk.

Why invest in mutual funds?

When you invest in a mutual fund, your money is managed by professional portfolio managers who make informed decisions about how to allocate your investment. This level of advanced portfolio management can be a significant advantage for those who may not have the time or expertise to manage their own investments.

Mutual funds typically invest in a wide range of securities. This diversification can help mitigate risk, as the poor performance of some investments can potentially be offset by the strong performance of others. Reduced portfolio risk is achieved through diversification, as most mutual funds invest in anywhere from a few to several hundred different securities—depending on their focus.

Mutual funds are easy to buy and are offered by many different issuers, providing access to a variety of funds, many of which may operate with similar mandates. This accessibility increases competition within the industry, which can benefit investors by offering more choices and competitive pricing.

Mutual funds are typically priced once a day, at the end of the trading day. This means all investors who buy shares on a given day pay the same price. Additionally, most mutual funds have low minimum investment requirements, making them an affordable and accessible option for people with varying levels of wealth.

Dividend reinvestment is another reason many investors prefer mutual funds. As dividends and other interest income sources are declared, they can be used to purchase additional shares in the mutual fund, helping your investment grow over time.

How does pricing work with mutual funds?

You may be wondering about the potential added costs or fees associated with mutual funds.

While mutual funds have various costs, the primary cost to consider is the ongoing cost. This represents the annual fee for managing the mutual fund and covers operational costs, administrative expenses, and management fees. The ongoing cost is deducted from the mutual fund’s assets and is reflected in its net asset value (NAV).

Mutual fund prices are influenced by several factors, including market conditions—such as changes in overall market performance, economic indicators, or investor sentiment—and the performance of the underlying assets, such as securities, alternatives, or derivatives held by the mutual fund.

The issuer of the mutual fund typically calculates a price (NAV, or net asset value), which represents the value of all underlying instruments divided by the number of units in circulation. NAVs are usually calculated daily, but for certain instruments, they may be calculated less frequently, such as on a weekly or monthly basis.

What are the different types of mutual funds?

There are several types of mutual funds, including:

• Money market mutual funds. These mutual funds invest in short-term, low-risk, high-quality bonds.
• Bond mutual funds. These carry a higher risk than money market mutual funds and make long-term investments in bonds as specified in the mutual fund’s investment objective.
• Stock mutual funds. These mutual funds invest directly in corporate stocks.
• Balanced or mixed mutual funds.  These mutual funds invest in a combination of assets, including stocks, bonds, and other mutual funds.
• Alternative investment mutual funds. These mutual funds invest in non-traditional assets such as direct infrastructure, derivatives, private equity, and non-listed products.

A helpful way to determine which mutual fund to choose is by reviewing the mutual fund’s KID (Key Information Document). The KID contains basic information about the instrument, including its investment objective, associated costs and charges, historical performance, and other key characteristics.

What is the difference between actively managed mutual funds and index mutual funds?

• Actively managed mutual funds.  Actively managed mutual funds, on the other hand, aim to outperform the market. These funds are managed by experienced portfolio managers who select instruments they believe will exceed benchmark performance. This approach often involves higher costs, which is why actively managed mutual funds are generally seen as a higher-risk choice.
• Index mutual funds.  Index mutual funds are designed to track—rather than beat—a specific index, such as the S&P 500. They are typically a low-cost way to invest and are often considered a low-risk option for investors.

How do dividends work with mutual funds?

Dividends are the investor’s portion of a company’s profits. Mutual funds that own dividend-paying or interest-bearing securities indirectly pass those cash flows on to investors in the mutual fund. The company approves the amount based on its financial results. Any such distributions from the underlying securities essentially just adds the cash to the total net assets of the mutual fund.

Dividends also represent a portion of a company’s profits. Companies that are thriving financially often transfer a portion of their profits to shareholders in the form of dividends. Each shareholder gets a set amount for each share held.

In a high-dividend-yield mutual fund, this income can actually be a major percentage of its total return. The mutual fund sets the frequency of dividend payouts, so the dividends paid out to investors may not correspond 1:1 with what the fund receives.

Mutual funds can also be issued in accumulating versions (non-dividend paying) where any sort of income derived from the underlying securities is essentially reinvested into the strategy of the mutual fund.

Alternatively, a mutual fund may also be categorized as INC or DIST, which are terms commonly associated with the way mutual funds distribute income or dividends to investors. This income may be a pass-through of the underlying value of the fund, but through a sell-off portion of the gains, it could also be a portion of the actual return that is paid out to investors.

As the money is received, it is held as cash or in highly liquid low-risk debt instruments (sometimes called cash equivalents). Because of this extra cash, the AUM (the total value of the assets under management) goes up, and you will also see the NAV (net asset value) go up, due to these dividends coming in.

Typically, the dividend of e.g., stocks, is equal to the drop in price. Therefore, the receival of dividends has no impact on the mutual fund's value. Then, as the mutual fund manager finds the right opportunity, he takes these dividend payouts to invest so that this money grows too.