What is a Mutual Fund? - How to Invest
Channel: Investing4Dummies
Date: 2012-05-08

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Define Mutual Fund. If you said Mutual Funds are:

1. Pools of Money

2. Managed by a professional or a team of professionals for a fee

3. Created with a specific set of investment goals

Then you answered correctly! 
If not, don't worry, that's exactly why we made this video.

What is a mutual fund? Simply put, a mutual fund is a pool of money managed by a group of professionals in order to achieve specific investment goals. In other words there are people called mutual fund managers, who specialize in one specific area of the financial markets and then take their knowledge and organize a maximize profits given what they think is risk-appropriate. So when you buy a mutual fund, you are really just buying the service of the mutual fund manager. You are outsourcing very specific investment decisions. 

If you have a portfolio with many mutual funds (and thus many mutual fund managers), you are like a person purchasing a baseball team. You could try and play all the positions and you might even do well at it. But then again, why do that when you can hire people who are really good at just one position? That way the first baseman can focus on being really good at playing first base, and the pitcher can practice his curveballs. Similarly if you have a portfolio with mutual funds you are hiring people to look after certain areas of the markets for you. If you buy, say, a precious metals fund, a healthcare fund, and an energy fund, then you have a team of experts working for you: one group working only on precious metals, one group only on healthcare, and one group only on energy. 

The benefits of this are pretty obvious. People like to outsource difficult and complex decisions because they are often less qualified than the experts. That's why we go to the doctor when our cough medicine isn't working. With a team of experts monitoring each market sector, your portfolio can be more intelligently diversified and potentially more successful (assuming you choose good mutual fund managers). 

There are also other advantages because there are lots of laws that govern mutual funds -- Laws that mandate things like liquidity (easy access to your money), and transparency (easy access to knowing what is being done with your money).  This way you can always know what your money is being invested in and you always have access to your money. That is why it is called your money after all.