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Mutual Funds

Mutual funds are known as open-end investment municipal bond funds. Among money market funds,
companies because they are required to issue shares and there are also taxable money market funds and tax-exempt
redeem (buy back) outstanding shares upon demand. money market funds. As in the case of stock funds, many
Closed-end funds, on the other hand, issue a certain num- subcategories exist within each main category of bond and
ber of shares but do not stand ready to buy back their own money market funds. In addition to these, there are spe-
shares from investors. Their shares are traded on an cialty or sector funds, which invest in a particular segment
exchange or in the over-the-counter market. They cannot of the securities market. Examples include biotechnology
increase or decrease their outstanding shares easily. A fea- funds, small-company growth funds, technology funds,
ture common of both mutual funds and closed-end funds index funds, and social criteria funds.
is that they are managed investment companies, because
they can change the composition of their portfolios by
adding and deleting securities and altering the amount MUTUAL FUND SHARE PRICING
invested in each security. Unit investment trusts are not By law, mutual funds are required to determine the price
managed investment companies like the mutual funds of their shares each business day. They release their prices
because their portfolio consists of a fixed set of securities the same day for publication in the next day’s newspapers.
for life. They stand ready, however, to buy back their Daily prices of mutual fund shares can also be obtained
shares. directly from the fund’s offices or Web sites of commercial
venders of financial information.
TYPES OF MUTUAL FUNDS The share price represents the net asset value (NAV)
There are four basic types of mutual funds: money mar- per share, which is the current market value of a fund’s
ket, stock (also called equity), bond, and hybrid. This clas- assets net of its liabilities. The liabilities include securities
sification is based on the type and the maturity of the purchased, but not yet paid for, accrued fees, dividends
securities selected for investment. Money market funds payable, and other accrued expenses. The NAV per share
invest in securities that mature in one year or less, such as is obtained by dividing the NAV by the number of shares
Treasury bills, commercial paper, and certificates of of the fund outstanding at the end of the day. A buyer of
deposits. They are often referred to as short-term funds. mutual fund shares pays the NAV per share plus any
Stock, bond, and hybrid funds invest in long-term securi- applicable sales load (also known as a front-end load).
ties, and as such are known as long-term funds. Hybrid Sometimes, the sales load is collected when shares are
funds invest in a combination of stocks, bonds, and other redeemed and is known as a back-end load. Funds that
securities. According to the Investment Company Insti- have a sales load are known as load funds and use a sales
tute (ICI), the national association of the U.S. investment organization to sell their shares for a fee. Funds that sell
company industry, there were 8,044 (7,101 long-term and shares directly and do not have a sales load are known as
943 short-term) mutual funds in the United States and no-load funds. The sales load often differs from fund to
55,528 outside the country at the end of 2004. The total fund, and it is subject to National Association of Security
investment by U.S mutual funds amounted to $6.8 tril- Dealers (NASD) regulation. When an investor sells a
lion (stock=$4.04 trillion, bond=$808 billion, share, it is the NAV that the seller usually receives. Some
hybrid=$383 billion, money market=$1.61 trillion) and mutual funds may charge a redemption fee if the shares
by non-U.S. funds to $3.5 trillion at the end of 1999. The are held for less than a specified period.
total assets of U.S. mutual funds are less than the total
assets of U.S. depository institutions, which stood at $7.5
trillion at the end of 1999. BENEFITS AND COST OF
INVESTING IN MUTUAL FUNDS
Mutual funds also differ in terms of their investment
Mutual funds provide investors with a way to diversify
objectives, as outlined in their prospectuses. The ICI clas-
sifies mutual funds into thirty-three investment objective their investment under professional management, which
categories. The main investment objectives within the most investors may not be able to obtain on their own.
stock funds include capital appreciation, total return, and Since the funds operate with a large pool of money, the
world equity. Within each of these objectives, there are investors benefit from economies of scale, such as a lower
subcategories. There are two groups of bond funds: tax- trading cost and a higher yield. Besides delivering attrac-
able bond funds and tax-free bond funds. Main categories tive yields, many funds provide their investors with such
in taxable bond funds are corporate bond funds, high- services as check-writing privileges, custody (as a service),
yield funds, world bond funds, government bond funds, and bookkeeping. Investors also benefit from the knowl-
and strategic income funds. The main tax-free bond fund edgeable investment choices of securities and investment
categories are state municipal bond funds and national objectives that funds offer.

ENCYCLOPEDIA OF BUSINESS AND FINANCE, SECOND EDITION 531