What’s A Mutual Fund?

You will hear about different types of investments, things like individual stocks or bonds, mutual funds, exchange traded funds, REITs, and even limited partnerships. They are all a slightly different, so it makes sense to have a little understanding of what these are and how they work.

Let’s start at the beginning. What’s an individual stock or bond?

This one is pretty straightforward and something we covered in an earlier chapter. An individual stock is stock in a single company. For example, shares of Apple or shares of Ford or shares of Coca Cola. If you own 100 shares of Nike, you own, well, 100 shares of Nike. That’s it. You have 100 shares of an individual company. The same thing is true of individual bonds. You can buy individual bonds for Nike, or Home Depot, or Chevron. Individual stocks or bonds are single investments into a single, and therefore individual, company.

Let’s build on that.

About 100 years ago, someone came up with a different type of investment. Not a new asset class, like, “Hey! Let’s invest in dandelions.” They came up with a new way to invest. They created something called a mutual fund, and they are really popular even today. As an investor, you will almost certainly invest in a mutual fund if you haven’t already.

https://youtu.be/ZrS49B0FI9M

All right, already! So what’s a mutual fund?

Instead of investing in a single individual investment like a stock or bond, a mutual fund invests in a whole basket of them. When you buy a mutual fund, you are buying the whole enchilada, which means you own a piece of each of the investments in the basket.

It’s like those straight from the farm vegetable boxes you can buy. I did that once. I opened the box, and I didn’t even recognize half the vegetables in it. Carrots, I knew. Corn, I recognized. I think I saw a couple of tomatoes. But the other stuff? Who knows? Too bad, though. I bought the box. I can’t pick and choose only the vegetables I like and want. I get all of them.

Same is true with a mutual fund. You get everything.

And here is something many investors don’t realize: a mutual fund is just the basket. It is the device or structure that holds stuff.

Don’t assume that if you own a mutual fund, the basket is filled with stocks. It may be, but it could be filled with bonds instead.

Or maybe a mixture of stocks and bonds. Maybe some real estate. Again, the mutual fund is just the basket. It tells you that this mutual fund you have owns some other things, but it doesn’t tell you what those things are.

Does that make sense? Good. But our work isn’t done. There’s a new kid on the block that may just be better than a mutual fund. You’ll learn what it is in the next lesson.

The proceeding blog post is an excerpt from Get Money Smart: Simple Lessons to Kickstart Your Financial Confidence & Grow Your Wealth, available now on Amazon.