The mutual fund prospectus is essential reading for any prospective investor. However, this document is often written by the fund's legal department—with disclosure requirements in mind rather than the provision of understandable investment information. When you are comparing several funds, how can you hone in on the salient features of each?
Some funds employ the fund profile to introduce their funds. The profile is a slim sketch of a mutual fund's critical character points. The format of the profile is a standard nine points in a specific sequence, and the discussion is lean. The same information will appear for each mutual fund in a family, in the same place and in the same form.
A step-by-step walk-through of the nine points will give you an idea of what the profile can tell you. The nine points can also be used as a guide if you are looking at a fund's prospectus or information at a fund's Web site. To illustrate the nine points, parts of various funds' profiles appear in italics under each point, followed by comments on what to look for and what to expect.
Point 1: Investment Objectives/Goals
The fund seeks to provide long-term capital growth and some income through investments primarily in common stock.
What to Look for: The example is a mutual fund portfolio of common stock, with all the risk/returns inherent in equities. The investment strategy section will give more details, but mention of income and capital appreciation implies more mature stocks that are likely to pay dividends. Is it particularly specific on details? No, but you now would have some idea of what the portfolio in general would look like and how it would behave. The asset class question is answered.
Point 2: Investment Strategy
The fund invests primarily in domestic and foreign stocks, but may also invest in debt securities. Although there are no limits on the amount of assets that may be invested in any security, the fund intends to spread its holdings among many companies and industries. In selecting investments, the fund focuses on companies that pay current dividends while offering the potential for growth of earnings.
What to Look for: Well, the example is not a sector fund concentrating in one or a few closely allied industries. The fund's strategy is to be diversified by firm and industry—a less risky approach than sector concentration. The option of holding debt securities is no surprise, since stock funds do hold cash but rarely move significantly into bonds. But where did foreign securities come in? The trend among managers of domestic equity funds is to have and use the flexibility to invest overseas. While not operating as a global fund, significant foreign holdings of up to 25% of the portfolio are not uncommon.
Does all this "flexibility" make you uncomfortable and unsure of what this fund is really all about? It should. That's why an examination of the semiannual or annual report is necessary. The report lists the holdings of the fund broken down by stock versus debt securities; and within stocks by industry and usually by domestic versus foreign. Since this fund is focusing on firms that pay a current dividend, then the annual report should confirm a listing of more mature firms rather than small emerging stocks.
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