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A fund is cash saved or collected for a specific purpose, often managed professionally with the aim of increasing the value of the fund over time. The most common example of an investment is a mutual fund, which pools shareholders’ money to invest in a portfolio of assets such as stocks and bonds.
In general, a fund is money set aside by individuals, companies, institutions and governments for future use. Some examples of a pooled fund include:
Emergency funds, a “rainy day fund” that people turn to during adverse financial situations.
College funds, which are used to save for higher education, often through what is called a 529 plan.
Target date funds, which are a reserve of cash saved and invested for a beneficiary who will have access to some or all of the funds after a specified period of time.
Foundations and charitable foundations that raise cash from donors to help a designated charity or non-profit organization.
How do funds work?
Investment funds take contributions from fund investors and purchase a portfolio that may include stocks, bonds, short-term debt or a combination of assets. Investors do not actually own the underlying assets, but buy shares in the fund (this is why fund investors are called shareholders). As the overall value of the stocks or bonds in the fund rises and falls, so does the value of the fund’s shares.
According to the U.S. Securities and Exchange Commission, investors often choose mutual funds because they offer:
Professional management. The average investor does not have the expertise to put together and manage an investment portfolio. Instead, fund managers do this hard work for shareholders.
Accessibility. Most mutual funds require small minimum investments.
Liquidity. Fund investors can usually sell their shares at any time.
Instant diversification. Any investment in the shares of one company is inherently risky. Funds reduce this risk because they often invest in a variety of companies, often in different industries. This diversification reduces the risk of losing your principal investment.
Types of funds
Here are some common types of investment funds:
Mutual funds, as mentioned above, take cash from a large group of investors and invest in stocks, bonds and other securities. Shares in mutual funds are bought and sold at the end of each trading day.
Money market funds are fixed income mutual funds that invest in short-term, low-risk debt obligations that can be easily converted into cash. Money market funds usually offer low yields, but current yields are higher (around 2%) due to this year’s interest rate hike.
Index funds are a type of mutual fund whose investments track a specific market index, such as the S&P 500. Index funds are a passive way to invest in the stock market.
Exchange-traded funds, or ETFs, are funds similar to mutual funds and index funds, except that they can be traded like stocks during the day on a stock exchange.
Real estate investment trusts, also known as REITs, are companies that invest in real estate, income-producing properties such as apartment buildings, hotels or shopping malls. They are often compared to mutual funds because they typically invest in real estate.
Hedge funds pool money from pre-qualified investors, usually wealthy individuals and organizations. Hedge funds typically use riskier trading strategies and charge high performance-based fees.
