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When you put money into a mutual fund, it becomes part of an investment pool managed by professionals who buy stocks, bonds or other assets on behalf of the fund. As assets in the fund rise in value, your share of the fund will also increase in value. The opposite will happen if asset values fall.
Every mutual fund has associated costs, which can vary widely from fund to fund. You can find information about a fund’s costs in its simplified prospectus.
Sales charges: Sales charges are the commissions that you may have to pay when you buy or sell a fund. If you pay this charge when you buy the fund, it’s called an initial sales charge or front-end load. If you pay it when you sell, it’s called a deferred sales charge or back-end load. Some funds are sold on a “no-load” basis, which means you pay no sales charge when you buy or sell.
Management expense ratio (MER): Each mutual fund pays an annual fee to a management company for managing the fund and its investments. Mutual funds also pay their own operating expenses. These include legal and accounting fees, custodial fees, bookkeeping costs and other expenses.
The management expense ratio (MER) is the total of the management fee and operating expenses shown as a percentage.
You don’t pay management fees or operating expenses directly. These expenses affect you because they reduce the fund’s returns – and the return you get on your investment.
Trailing commission: Depending on the pricing structure of the mutual fund you purchase, the management company may pay a portion of its management fee to the firm you dealt with as a trailing commission (or trailer fee). This commission is for the services and advice you get from the firm. It’s usually based on the value of your investment and is paid for as long as you own the fund. Firms may pay a portion of the trailing commission to their advisors. If your advisor operates on a “fee for advice” model, you generally negotiate an asset-based fee rate that you pay directly to your advisor’s firm for advice and service.
Equity mutual funds hold shares issued by individual companies. The manager often specializes by, for example investing in Canada or globally, or in large, mid-size or small companies. Equity mutual funds are designed for investors who can accept some volatility of returns and who are looking for long-term capital growth.
Fixed-income mutual funds hold a number of different types of fixed-income assets, including government bonds, investment-grade corporate bonds and high-yield corporate bonds. Money from these investments is used to purchase additional fixed-income assets or to provide income for investors.
As the name suggests, balanced funds hold both fixed-income assets and stocks – often in almost equal amounts. Balanced funds own both types of securities because historically bonds have tended to hold their value better when stock prices have fallen, while conversely the stock market has tended to make up for periods of lower-yields in the bond market.
An asset allocation fund contains a mix of equities, bonds, cash and cash equivalents, with the fund manager adjusting the asset mix based on changing market conditions.
Speciality mutual funds hold equities or fixed-income securities in a specific geographic region (such as Asia or India) or sector (such as information technology or infrastructure).
Index mutual funds hold equities or fixed-income securities chosen to duplicate the returns of a specific index, such as the S&P/TSX Composite Index.
An income fund holds assets that generate specific returns, such as dividends and interest income. This cash flow is then distributed to investors at a specific rate.
Managed solutions are the fastest-growing category of mutual fund, and often include multiple funds in a single portfolio. This allows the manager to diversify across multiple sectors to build portfolios reflecting an investor’s risk profile: from conservative (all fixed income) to aggressive (all equities).
Unlike a product such as a guaranteed investment certificate, the returns on mutual funds are not guaranteed. Past performance is no guarantee of future performance and the value of a fund can rise or fall over time.