How to invest in mutual funds

The tried-and-tested way of growing your money is depositing it in a savings account. While this is a nearly risk-free method, one of the downsides to this is that it takes a long time for the money to grow. The interest it earns is often insignificant.

Investing in mutual funds is one alternative strategy if you want your money to earn and grow more. Although there is some risk involved, this can be reduced to a lesser degree if the fund is properly managed.

If you’re new to mutual funds, it’s important to know how to invest in mutual funds and what the best mutual funds are, among other topics. So, let’s dive into the article!

What are mutual funds?

Mutual funds are funds made up of money pooled from a group of investors. They use the funds to invest in a collection of stocks, bonds, and other types of securities, collectively known as a portfolio.

There are many different types of mutual funds. The wide variety of assets in them are chosen to lessen risk and maximize returns on the invested money. Mutual funds are a popular form of long-term investment.

Are mutual funds good for beginners?

Yes. Due to having a diverse portfolio, beginning investors can benefit from lessened risk and potentially higher returns compared to a savings deposit or other investment.

Mutual funds are also less intimidating to invest in compared to, say, the stock market.

Mutual funds are also designed to mimic the stock market; these are called index funds. Index funds are designed to mirror the stock market by investing a small portion of a collection of stocks like North America’s S&P 500 or in Canada’s case, the S&P/TSX. 

Depending on market conditions, it’s possible at times for some mutual funds to perform better than expected. And due to the large volume of mutual funds in Canada, some investment firms can occasionally offer mutual funds at rock-bottom fund fees in a bid to attract more investors.  

Mutual funds continue to be extremely popular with investors of all types. There are currently over a hundred companies offering mutual funds in Canada, and more than 3,400 mutual funds available for sale.

— Coastal Community Private Wealth Group (@CoastalWealthBC) September 6, 2023

How do I invest in mutual funds in Canada?

Regardless of whether you’re a beginner or seasoned investor, there are two possible ways of buying mutual funds in Canada:

1. Consulting financial advisors

This is probably a sound strategy for any investor who is completely new to mutual funds. Apart from wealth management firms, big banks in Canada can refer you to their financial advisors to guide you as you invest in their mutual funds.  These financial advisors can walk you through the many investment options.

2. Using discount brokerages

Should you have some investment knowledge and prefer to try managing your investments fully or in part, then you can buy and sell mutual funds online via a discount broker.

One benefit is that you can find low-fee mutual funds, like Series F or an equivalent low-fee series, from the discount broker. Expect to be charged a trading commission, which can be a percentage of the transaction value or a fixed fee.

If you already have some knowledge on how to invest in mutual funds online, then discount brokerages are the more favorable option. However, when choosing the right discount brokerage, you should consider:

• Their affordability - The services of a discount broker can involve two kinds of fees. There are the transaction fees from their brokerage account, and the fees from the funds themselves, which can include expense ratios and front- and back-end sales loads.
• The funds offered - Some online discount brokerages may have zero-transaction-fee funds numbering in the hundreds, if not thousands, to choose from, along with other types of funds like ETFs.
• Available research and learning tools - It's important to pick a broker who has the knowledge, skills, and tools to help you learn more about a fund before you invest.
• Online user-friendliness - Make sure to check that the brokerage's website or app is one that’s easily navigable and comfortable to use.

What is the best way to invest in mutual funds?

Perhaps the best way to invest in mutual funds is to approach the process methodically; here are the suggested steps:

1. Start with your investment goal in mind

To have a clearer picture of how much money you can invest, you must first determine your financial objective. Are you investing this in a retirement fund? Will you use this as an emergency fund? Maybe you want to put away money for your children’s education.

Whatever your investment goal is, write it down so you can pinpoint your budget, your level of risk tolerance and your time frame for arriving at the desired amount.

2. Choose mutual funds that match your risk tolerance

Knowing your risk tolerance means being aware of your ability and willingness to tolerate risk. This can help you choose how many and what types of mutual funds to invest in.

For instance, if you’re more averse to risk, consider one or more fixed income funds that offer a fixed rate of return.

If you’re less risk-averse and more concerned with growth, then try a few equity funds. If you’re more moderately averse to risk, then choose a number of balanced funds.

Make sure each fund you choose fits with your other investments and your overall investment plan.

3. Take the time to compare fees and performance

Remember that all mutual funds have corresponding fees; some fees can be higher than others. Try to find mutual funds with the lowest fees possible, as these can shrink your returns.

Know also which fees you pay directly, like sales charges, and what fees the fund itself pays, such as management fees and operating expenses. Always note that the fund’s management fee and operating expenses are what make up a fund’s Management Expense Ratio or MER.

Compare the MERs of the mutual funds you’re considering against the performance of funds similar to them. By checking the past performance of mutual funds, you can have an idea of how they performed under certain market conditions.

Be careful about making future assumptions based on past performance – this is no guarantee that a mutual fund will perform that way in the future.

4. Choose the right financial advisor or mutual fund company

When investing in mutual funds, buy only from registered professional managers and investment firms. Keep in mind that no individual or firm can sell or advise on mutual funds without being registered with the appropriate provincial securities regulator.

5. Complete the application and buy the funds

As part of the application process when buying a mutual fund, you might be asked to give some personal information. This can include the level of risk you’re willing to take on and the extent of your investment knowledge.

According to securities laws, the financial advisor you hire must obtain this information from you before giving any investment advice. After that, you can sign the form to complete the mutual fund purchase. Don’t forget to keep a copy for your personal file!

A word on Fund Facts

Since May 30, 2016, mutual fund companies are required to provide investors with a copy of Fund Facts before they make the decision to buy a mutual fund. So, before buying, be sure to read the Fund Facts or simplified prospectus along with other disclosure documents.

In most cases, you can access documents such as the most recent financial statements and management reports on a mutual fund’s performance to help you decide if it’s the right one for you. Such documents should be available from your advisor and/or the mutual fund company’s website.

Can I get monthly income from mutual funds?

Yes, but that depends on the fund. If you want to get a regular income, there are a number of mutual funds that can pay out distributions or dividends monthly, quarterly, or annually. The amounts paid out can vary depending on the amount invested, the fund’s performance, and the nature of the fund’s investments. As a mutual fund shareholder, you may be given the option to choose the frequency of your payouts.

How much money do you need to invest in mutual funds?

Some mutual funds require a minimum investment ranging from $500 to $1,000 but this can vary from fund to fund.

As for subsequent placements into the mutual fund, you can choose to contribute as little or as much as you wish.

What’s a good Management Expense Ratio (MER) to look for in a mutual fund?

The average MER for mutual funds in Canada is around 2.53%, which you can usually see on the simplified prospectus or Fund Facts for a mutual fund.

The MER is a significant value. This indicates the management fees and other costs of managing the fund like marketing and accounting.

The return you see on a mutual fund is net of the MER. For instance, if your mutual fund reflected a gain of 10%, the actual figure would be more like 12.25%, as the MER was already deducted from the earnings.

What is buy-and-hold investing?

As opposed to the buy-and-sell strategy, buy-and-hold investing is a strategy that simply involves what it implies: buying investments like stocks, bonds, or mutual funds, then holding onto them for the long term.

In the case of mutual funds, the buy-and-hold strategy is more favorable. Like the mutual fund, this investment strategy is long-term. This allows investors to maintain a relatively stable portfolio across the long-time horizon and isn’t as concerned with short-term losses.  

Some advantages of buy-and-hold is that this strategy outdoes actively-managed portfolios most of the time, lessens fees, and defers taxes on capital gains.

How should I manage my mutual fund portfolio?

A sound, sensible way to manage your mutual fund portfolio is to make a plan (as detailed above) and stick to it. Rebalance your mutual fund portfolio at least once a year, ensuring that it stays diversified.

If one type of investment in the fund made good gains and now occupies a bigger share of your gains, you can take those gains and reinvest them in the other investments to balance the portfolio.

Another element of good portfolio management is to avoid chasing performance. Resist trying to get in on a fund after discovering that it did well last year – this almost never works out well for anyone.

Remember that the investing cliché “past performance is no guarantee of future performance” is a cliché for good reason! And although this doesn’t necessarily mean you should stick to the same portfolio or fund forever, the other extreme of constantly chasing good performance isn’t advisable. Simply aim for balance.

Finally, unless you use the mutual fund to get regular income, reinvest any dividends to continually grow the fund.

How to invest in mutual funds: final thoughts

Investing even in seemingly simple and manageable mutual funds can still be intimidating and overwhelming. To build up your mutual fund, a sensible beginner strategy is to make a plan, consult qualified financial advisors or registered firms, then start with a small amount and a small portfolio.

This is preferable to investing a substantial amount on a sizable fund from the get-go, then getting put off mutual funds completely if you lose big.

Did this article on how to invest in mutual funds convince you to take the plunge? Which financial institution and which type mutual funds are you considering for your first foray? Let us know in the comments!