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The Financial Planning Center Comprehensive Financial Planning
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How Mutual Funds Work |
This section covers mutual fund education designed to help beginners and professionals alike. There are many aspects of mutual funds an investor should understand before a mutual fund purchase is made.
The information below discusses returns, the goals of a mutual fund, and the risk associated with different asset categories to achieve these goals.
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How Mutual Funds Work Costs you Wont Find in a Prospectus How an Investment in a Mutual Fund Makes Money Investment Company Act of 1940
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How Mutual Funds Work Every mutual fund has a goal - either growing its assets (capital gains) and/or generating income (dividends) for its investors. Distributions in the form of capital gains (short-term and long-term) and dividends may be passed on (paid) to shareholders as income or reinvested to purchase more shares. For tax purposes, keep track of your distributions and cost basis of purchased/reinvested shares. Like any business, mutual funds have risks and costs associated with returns. As a shareholder, the risks of a fund and the expenses associated with fund's operation directly impact your return. Returns As an investor, you want to know the fund's return-its track record over a specified period of time. So what exactly is "return?" A mutual fund's return is the rate of increase or decrease in its value over a specific period of time usually expressed in the following increments: one, three, five, and ten year, year to date, and since the inception of the fund. Since return is a common measure of performance, you can use it to evaluate and compare mutual funds within the same fund category. Generally expressed as an annualized percentage rate, return is calculated assuming that all distributions from the fund are reinvested. Since average returns can sometimes "hide" short-term highs and lows, you should evaluate returns for a time period of several years-not just one year or less. A fund that has a high return in one year may have experienced losses in other years-these fluctuations may not be apparent in its average return. While a fund's return shows its track record, keep in mind that past performance is no guarantee of future results. When using returns to compare funds, always use net returns. Net returns are the true returns of both load and no-load funds after deducting all costs and expenses. |
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