FastFacts: Stock & Bond Mutual Funds

The basics: According to the Investment Company Institute(as of year-end 1997) there are currently 6809 open-end mutual funds. This includes 3021 stock funds, 2772 bond funds, and 1016 money market funds.

When you invest in a mutual fund, your money is pooled with the money of thousands, and sometimes millions, of other people and invested in a portfolio of stocks, bonds, cash, or other securities depending on a fund's objectives. As a shareholder, you share in a fund's gains, as well as its losses. Here’s how:

• First, when a fund earns interest or dividends from any money market instruments, bonds, or stocks it holds, it passes these earnings onto you as income dividends.

• Second, if a fund sells securities that have increased in value, it may pass these earnings on to you as capital gain distributions. You can opt to receive these distributions in cash, or have them automatically reinvested in the fund to buy more shares.

• Third, if a fund holds onto securities that have increased in price, and if you then sell fund shares at a higher price than you paid for them, you have a capital gain. Conversely, if you sell fund shares for less than you paid for them, you incur a capital loss.

The risks: Unlike credit union or bank savings deposits, mutual funds are not insured or guaranteed by the NCUA or FDIC, or any other government agency. Nor are they guaranteed by any credit union, bank, or other financial institution, no matter how or where their shares are sold.

The Securities and Exchange Commission and state securities officials require that mutual funds provide full disclosure of information so investors can make informed decisions, but this regulation doesn’t eliminate the risk of losing money. Therefore, you can sell fund shares on any business day, however, the amount you'll get back depends on how the fund's investments are valued at the time, and any applicable fees.

How funds are categorized: The Investment Company Institute classifies funds according to their stated basic investment objectives, such as aggressive growth, growth, and growth and income.

Morningstar, the mutual fund research firm, has a different system aimed at making it easier for investors to compare and select funds, and to help investors more accurately allocate the assets in their portfolio. Morningstar’s system sorts stock funds by the size of their holdings and their actual investment style. For example, U.S. stock funds are classified as large-cap, medium-cap, or small-cap, and are categorized as growth-oriented, value-oriented, or a blend of the two. Bond funds are categorized by their maturity --- short-, intermediate-, or long-term, and split into high-, medium-, or low-credit quality groups.

Mutual funds are also categorized according to whether they’re actively or passively managed. Traditional actively-managed funds seek to outperform the market. In contrast, passively-managed funds, commonly known as index funds, seek to track the performance of a target stock or bond market index.

Index funds hold all or a representative sample of the same securities that make up their benchmark index, such as the S&P 500, the Wilshire 5000, or the Russell 2000. Many corporate and public pension plans invest in index funds to manage a portion of their employees’ retirement funds.

How funds are priced: A mutual fund’s share price is called its Net Asset Value – or NAV. This is the market value of all the fund’s securities, minus liabilities and expenses, divided by the total number of shares outstanding. The NAV changes as the value of a fund’s holdings rise and fall, and as the fund buys and sells securities. The NAV is the amount per share you would receive if you sold your shares, less any deferred sales charges.

You can determine the value of your fund holdings by multiplying the current NAV by the number of shares you own. You can’t tell from the NAV, however, how much you’ve gained or lost in a fund. That’s because when a fund pays out its realized capital gains to shareholders, the fund’s share price is reduced by the amount of the distribution, since the shareholders, not the fund, now have those earnings.