Your guide to mutual funds

9 minute read

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We’re all investing in something important to our future. Whether it’s creating your ideal retirement, funding your child’s education, or saving for your dream home, investing wisely now will help make your life feel richer down the road.

The future is the great unknown right now, but what actions can you take today to secure it? Furthermore, what actions can you take that will result in substantial returns when you’re ready to cash out?

Even if you’re just getting your portfolio started, or haven’t even started at all, you’ve likely heard of others investing in mutual funds. Let’s get deeper into what they are, how they work, and what types are available for you to invest in.

What are mutual funds?

They’re called mutual funds for a reason! In the stock market, investors buy shares from one another. But with mutual funds, investors buy shares right from the fund, usually through a mutual fund advisor who buys them for an investor.

Mutual funds are investments that pool money from many different people and invest those funds for specific objectives. Each shareholder of this pool of money participates proportionally in the gains or losses of the fund. You can buy funds in your non-registered or registered account, such as a Tax-Free Savings Account (TFSA), Registered Retirement Savings Plan (RRSP), or Registered Retirement Income Fund (RRIF).

How do mutual funds work?

Now that you know what mutual funds are... how do they work? You might have some of these questions, and we can answer them.

Who manages my mutual funds?

Mutual funds are managed by fund managers. They can work well for all types of investors, especially smaller investors who may see lower returns, but also potentially gain higher returns through access to higher-yielding securities, such as stocks and bonds.

How does the market affect my mutual funds?

If the mutual fund performs well, you perform well. But, if the mutual fund performs poorly, you perform poorly. This is why a risk assessment is performed when you sit down with an advisor prior to buying a mutual fund. This assessment will determine how much market volatility you’re comfortable with before you invest.

How much money can I make from my mutual funds?

It depends on your investment, the market, and timing. You can potentially earn dividends on the mutual fund, and also capital gains/losses from the change in market value. Depending on the fund, dividends are paid out each quarter or yearly or not at all, and capital gains are paid once per year, but only if the funds are sold. Just be sure to keep track of what you make on your mutual funds, because they will be taxed as income. See the Government of Canada’s guide to income tax on mutual funds.

Can my investments make a difference?

They sure can! Responsible investing is a strategy that incorporates environmental, social, and governance (ESG) screening criteria into the selection and management of investments. You don't necessarily have to compromise on performance either, because companies with strong ESG practices have a track record of achieving better financial results over the long term.

Advantages of mutual funds

There are some strong advantages to mutual funds, including:

Portfolio diversification

One of the greatest advantages of mutual funds is how they allow you to diversify your portfolio. You can invest in many different types of mutual funds, with stocks and bonds being the most common.

Easy to start

You don’t have to be a stockbroker to get the most out of your investment with mutual funds. You can add your contribution to the pool, and let it get sorted out with the rest for the best results.

Actively managed

Your mutual fund portfolio is managed more by a portfolio manager on your behalf, so you don’t have to be tuned into the market 24/7 to know your investments are in good hands.

Disadvantages of mutual funds

Mutual funds also present a few caveats that are worth thinking about:

Higher risk

Just like anything related to investing, you choose to undertake a significant amount of risk when you choose a mutual fund. It may dip low, and it also may take a longer time to see a return, but mutual funds also have the potential to earn more over the long run.

Management expense ratio (MER)

As mentioned earlier, mutual funds are entirely managed by parties monitoring market changes and making decisions in the best interest of your portfolio. This work comes at a cost, called a management expense ratio, and varies depending on how managed the fund is.

Fees & commission costs

You know what they say: Sometimes, you have to spend money to make money, and mutual funds often come with strings attached. All mutual funds have fees or commissions that could eat into your investment.

When to choose a mutual fund

Now that you have a rundown of what mutual funds are and how they work, how do you know if they’re the right investment tool for you?

You can handle higher risk: If you’re a more risk-adverse investor, a mutual fund is probably not going to let you sleep at night. We never want you to invest in anything you’re not comfortable with, so we recommend mutual funds for those who are willing to take on some risks to see returns.
You want a tax-efficient income stream: The great thing about mutual funds is that you can invest them through registered accounts with tax benefits. Plus, your contributions will help offset your tax bill.
You’d like to invest in long-term growth: If you’re willing to let your investment accumulate contributions for 5, 10, 15, 20 years or even longer, a mutual fund could possibly see returns when you are ready to cash it out.