Investment funds are very popular at the moment. This is not surprising as it is a lot easier to invest in an investment fund instead of investing in shares. But what is an investment fund? And what should you look out for when you select an investment fund? In this article you can read everything you need to know about investment funds.
What is an investment fund?
An investment fund is a fund that invests in name of a big group of clients. Many funds invest in a mix of shares or bonds. There are also funds that focus on other investment products like derivatives. When you deposit some money within an investment fund, you will receive participation. If everything goes well with the investments of the fund, you will achieve a positive return.
How can I invest in an investment fund?
You can invest on your own in an investment fund, but it has to be done at a broker. A broker is a party that can help with the realization of buying and selling investment products. You can chose to actively trade the values of investment funds or you can decide to buy a long-term participation.
Speculate on the price of an investment fund.
You can choose to speculate on the price of the investment fund. This way, you’re participating in short-term trade. It is also possible to speculate on a decrease of the market. By short selling a fund, you can obtain a positive result when the markets are crashing. A good firm to actively trade in the prices of investment funds is Plus500. You can try out the different opportunities for free with a demo:
Buying participation in an investment fund
Most people choose to invest long-term in an investment fund. When you deposit money within an investment fund you receive a participation. When you participate in a fund, you will be able to claim a partial revenue of the fund. Would you like to know where you can buy the cheapest participation in an investment fund? Click the following button to compare the best brokers for buying participation in investment funds:
The different types of investment funds
Investment funds come in all shapes and sizes. Most funds have a specific point of focus. A fund can focus on a specific sector or region for example. Another type of fund, are the funds that focus on a specific investment product. Below, we discuss the different types of investment funds:
- Share funds: these funds invest in a bunch of shares.
- Bond funds: these funds invest in bonds or loans.
- Mix funds: these funds diversify their investments in shares & bonds.
- Hedge funds: these funds speculate on the market with derivatives.
How does an investment fund work?
The principle of an investment fund is simple. An investment fund tries to collect as many funds as possible from potential investors. As an investor, you have to pay certain costs to be able to invest in a fund.
The fund managers subsequently decides where the funds will be invested in. In most countries investment funds needs to make the essential investment information available for everyone. The investment policy can be found in these documents. In these documents, an overview of all risks and costs is included. It is recommended to read this information carefully before you deposit your money in a fund.
What do I need to look out for when selecting a fund?
Before you start your quest for an investment fund, it is important to determine what your own focus points are. What is your investment plan? How long would you like to invest? What risks are you willing to take? If you have determined the aforementioned, you can research and compare some funds.
It is important to research the different funds in order to determine in what investment products they invest. Does the firm invest in shares or bonds for example? Examine what the division of these products within the fund is. When a fund invests a lot of their capital in one specific share, the spread of the risks is very limited.
It is also important to examine the costs of the investment fund you are considering. You need to pay managing costs to every fund and in some cases you’ll need to pay extra costs if the fund achieves good results. Costs can reduce the potential investment results greatly. It is therefore recommended to invest in a fund that charges low costs.
What is the difference between open-end and closed-end funds?
Most investment funds are open-end. With these funds, it is possible to join in on the fund whenever you’d like. New deposits will be distributed over the current investments of the fund. This ensures that the results of the existing participants will not be influenced when someone new wants to join. Most open-end investment funds can we freely traded on the exchange.
Some investment funds are closed-end. The amount of participations is restricted with these funds. When the fund opens, investors may enrol. The value of a closed-end fund is more comparable with the value of a share. The value in this specific fund is determined by supply and demand on the exchange and not by the actual value of the fund. A closed-end fund can be traded with a premium.
How much does investing in a fund cost?
When you’re investing in a fund, you will always need to pay managing costs. The cheapest funds charge a cost percentage of approximately 0,5%, while other funds may charge 2%. Be aware of funds that charge high percentages. It is very hard to beat the market as an investment fund and high transaction costs may take away a big piece of your yield.
Besides the managing costs, you will also need to pay transaction costs when buying participation at your broker. That’s way it is essential to find out how much you will have to pay to buy investment fund participations at your broker.
What are the pros of investing in an investment fund?
Investing in an investment fund has its pros. We will discuss the most important advantages of investing in funds.
You can diversify small investments by using an investment fund. When you would invest $100 monthly, it would be very expensive to diversify your investment. Every time you have to pay the same transaction costs, over and over.
By using an investment fund you can decide to invest in a basket of stocks or bonds with a small amount. This can significantly reduce your risk!
When you invest in an investment fund, you can benefit from the knowledge of the fund manager. The average investor has a lack of time and limited knowledge of shares. The average fund has employed a team that analyses everything all day long. Chances are that team will find the exact thing you would have missed.
Access to exotic markets
Some markets or sectors are rather hard to approach as a private investor. It can be very hard to invest extensively in real estate for example. Likewise, it can be very hard to invest in upcoming markets like Brazil and India. Using a fund to invest can save you a lot of money, while still profiting of the currency movements of these markets.
If you choose a fund with low transaction costs, you will save a lot on your investments. If you would buy each share yourself, it would cost you a lot of money. These lower costs give you the opportunity to reach a higher yield!
What are the cons of investing in an investment fund?
Investing in an investment fund doesn’t only have pros unfortunately. We will discuss the most important cons of a fund in this section.
When you use a fund to invest, you fully outsource the management of your investments. You won’t have a say in what investments the fund will carry out. Would you like to invest in specific shares? In that case you might want to buy the shares yourself at a broker.
The price of a fund lags behind
The price of an investment fund is not updated very frequently. Most funds only update the value of their fund once a day. Some funds even update their results only once a week, once a month or even less frequently. With most funds it is therefore only possible to join the fund on set, daily moments.
Even with investment funds, you can stumble upon a negative yield. During tough economic times, it is normal that funds will perform poorly. Even funds that claim that they can beat the market, will perform worse than normal.
What are the risks of an investment fund?
With every type of investment it is possible that you will lose money. You will risk a fall in value of the money you invest. It may be wise to invest with a periodic amount. By doing so you will avoid investing in a fund when the market has just reached a new top.
What is the difference between an active and a passive investment fund?
An active investment fund tries to beat the market. They try to do this by buying and selling their shares actively. Because of the high amount of transactions and analyses that need to be carried out, the managing costs of an active investment fund will be significantly higher. In reality, most active funds won’t be able to beat the market.
A passive investment fund (also known as an index fund) doesn’t trade actively. They try to track a specific index or market as carefully as possible. A perfect example of this is an investment fund that tries to stimulate the Dow Jones.
How should I invest in a fund?
If you want to build up a large capital, it is highly recommended to look for a fund that spreads the risks over a large amount of regions and investment products. Next, you can deposit a certain amount periodically into the fund. This way, you’ll avoid the risk of joining a fund at the wrong moment.
This way of investing can get you a high yield in the long term. This is due to the force of compound interest or interest on interest. If you would reinvest the profits you achieve with the fund, it will be possible to achieve a return of more than $1.000.000 over an extended period.
What is an ETF or Exchange Traded Fund?
An ETF is an investment fund that is traded like a share on the stock market. You can buy or sell the ETF with your broker. The value of an ETF fluctuates due to the price changes of the underlying securities.
What is a hedge fund?
A hedge funds is a special type of investment fund and is characterized by higher risk. A hedge fund can trade in all sorts of derivatives. Besides that, a hedge fund can take short positions. By taking these short positions, the fund can speculate on a fall of prices. Some hedge funds use leverage. By applying leverage the fund can invest partially with borrowed money.
A hedge fund can potentially achieve high yields. However, the risk of investing in a hedge fund is a lot higher as well.