Stock Funds Definition
Stock mutual funds are gateways into financial markets. To buy in, you purchase stock fund shares directly from fund companies, stockbrokers or insurers. These purchases may be made as part of a variable annuity, 401(k), IRA or regular taxable accounts.
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Identification
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Corporations issue shares of stock to raise cash from investors. Shareholders receive ownership stakes in the corporation. Share price valuations tend to fluctuate alongside corporate profits. Shareholders make money on dividend payments and capital gains. Corporations pay dividends out of net income, while capital gains refer to share price appreciation.
Stock mutual funds are investment pools that specialize in buying stocks. One share of the stock mutual fund represents one claim to the fund's underlying pool of assets. You may vote on issues directly pertaining to the fund. These voting rights, however, do not apply to the companies held within the mutual fund.
Benefits
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You may opt to purchase stock mutual funds for instant access to professional money management and diversification. Highly trained mutual fund managers buy and sell securities on the investors' behalf. Passive mutual funds, however, are associated with index funds, in which the investment pool simply holds a group of stocks for the long term. All mutual fund styles allow you to participate in a diversified portfolio. One mutual fund share carries asset claims to an investment pool of dozens of different stocks.
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Types
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Stock funds may target investments according to industry, geography or corporate size. Higher potential returns also carry increased risks. For example, a relatively conservative large-capitalization U.S. stock fund would buy into corporations such as Microsoft, ExxonMobil and Coca-Cola. An emerging-market stock fund that focuses upon Nigerian companies would score large profits -- if Nigeria were to transform into a world power. This fund would also suffer large losses -- if the Nigerian government were to collapse due to military coup.
To manage risks, you would buy into stock funds that focus on separate sectors. Your Nigerian stock fund could provide strong returns during a period when U.S. stocks were in decline because of a domestic recession.
Considerations
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Mutual fund expenses adversely affect your bottom line. Mutual fund expenses may come in the form of front-end loads, back-end loads and management fees. Loads are charged as a percentage of your investment principal when you either buy or sell the fund. Loads are generally charged on actively managed mutual funds sold through brokers. Loads are sales and marketing commissions, and may total up to 5.75 percent of your investment principal. Management fees generally pay the mutual fund company less than one percent of your account balance annually.
Warning
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Stock mutual funds are less tax efficient than individual stocks. With an individual stock, you can strategically sell shares to manage your capital gains taxes. With a mutual fund, the fund manager trades stocks at his own discretion. You may then be forced to pay expensive taxes on your mutual fund capital gains distributions each year.
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