What is a Mutual Fund?

By Cassandra Laymon, CFP®, MBA

Last week we kicked off our series on investing with a definition of stocks and what it means to be an owner. This week, we move on to a more complicated instrument – the mutual fund.

When we were discussing stocks last week, I used the following illustration:

Let’s say you own your own company – a bakery – that you run out of your home. You provide cupcakes and cakes for parties for friends and family. The word spreads about your delicious desserts, and you realize that you can no longer operate out of your kitchen and accommodate larger catering orders that are coming in.  You really need a commercial kitchen, but you don’t have the money to set it up.

What would you do to raise the funds?  Let’s a say three of your friends say, “We really believe in you, and your business. We’ll give you the money to expand, and in return you will pay us a percentage of the profits of your business.” Pretty straight forward, right? That’s stock ownership! 

Let’s continue the theme, with you playing the role of the friend who’s helping to fund the cupcake business.  After a while you see that investing in this business has been a great idea, and you want to invest in more businesses.  Would you decide to invest in more cupcake businesses?

That is a fine idea, until the cupcake fad goes out of style. If you invest in five cupcake shops and then all eventually go out of business, you’re left with nothing.  Instead, what if you invested in a tool rental business, a lawn care company, a bookstore and a clothing company? If any one of those businesses went bankrupt, you would take a loss, but you wouldn’t lose everything.  By investing in a variety of businesses you have decreased your risk of loss. (That’s called diversification, by the way!)

At a very basic level, that is how a mutual fund works. There is a professional manager in charge of buying and selling the stocks. He typically chooses between 50-100 companies to buy stock in and creates a pool that you and thousands of others can invest in together. When you buy a mutual fund, you are getting small shares of all those companies, with a goal of decreasing your risk of loss when any small number of companies are not doing well.

Here is the challenge with mutual funds: When you own small shares of many companies in a mutual fund, you really don’t have any idea what kind of business practices you are investing in.  You may be invested in cupcakes and books and tools and clothing. But you also may be invested in companies that support Planned Parenthood or pornography or any host of other activities that you are against.

While buying mutual funds does make investing according to biblical principles a little more challenging, it is not impossible. First, as Biblically Responsible Investors, we hire research organizations who continuously examine public companies and their business practices, so that we stay as current as possible in monitoring the companies and funds we are invested in (and those we are not).  Second, we utilize money managers who share our beliefs in only investing in companies that are in alignment with our principles.

As more and more Christians become aware of their options to align their investments with their faith values, increasingly more money managers will get the message and create more options for us. The best part of this is that when money managers tell companies, “I won’t own your stock because you support Planned Parenthood,” those companies will get the message and change their business practices.  It’s a very exciting time to be a Biblically Responsible Investor!

If you are wondering what businesses you are supporting in your mutual funds, click here and enter the symbols for your mutual funds.

Example:

Symbol          Fund Name

VFINX           Vanguard 500 Index Fund

We’ll be happy to send you a report so you can know what business practices you are profiting from!

 

 

Financial Planning & Investment Advisory services offered through Beacon Wealth Consultants, Inc.