A Guide To Mutual Fund Investing In Australia

Investing in mutual funds, or managed funds as they are known in Australia, can be a great way to diversify your portfolio and reduce risk. These funds pool money from multiple investors, which a professional fund manager then invests in a range of assets such as shares, bonds, property, and commodities. This allows individual investors to access a wide array of investments that would otherwise be difficult or costly to access.

There are two main types of managed funds: actively managed funds, where the fund manager tries to beat a specific benchmark, and passively managed funds (or index funds), which aim to replicate a market index. Actively managed funds tend to have higher fees due to their more resource-intensive management style, while passively managed funds are considered a form of passive investing with lower fees.

When investing in managed funds, it's important to do your research and understand the different types of funds available, as well as the associated risks and fees. You should also review the Product Disclosure Statement (PDS) provided by each fund, which details the fund's strategy, risks, fees, and more. It's also a good idea to compare the performance of different funds over a longer period, such as 5 to 10 years, to get a better indication of how they might perform in the future.

In Australia, there are many options for investing in managed funds, including popular choices like the Vanguard Australian Shares Index Fund, the Macquarie Australian Shares Fund, and the Magellan Global Fund. These funds cater to different strategies, risk profiles, and financial objectives, so it's important to research and consider professional advice before investing.

Understanding the different types of managed funds

Managed funds are a type of investment where your money is pooled with other investors and managed by a professional fund manager. There are thousands of managed funds to choose from, each with its own investment strategy, level of risk, expected returns, and costs. The fund manager is responsible for the day-to-day operations and making all investment decisions based on the fund's objective and strategy.

Single Asset Managed Funds

These funds invest in a single asset class, such as shares, property, or bonds. Some examples include:

• Very low-risk, short-term investments like short-term money market deposits, government bonds, and bank bills.
• Fixed interest or bond funds that invest in low-risk securities like government bonds, bank bills, or mortgage-backed securities.
• Property loans (mortgages), which can be high-risk depending on the quality of the borrowers and the purpose of the loan.
• Residential, commercial, or property development funds, which may carry high risk and have restrictions on withdrawing funds at short notice.
• Share (equity) funds that invest in listed companies in Australia and/or overseas, offering higher potential returns but also higher risk.

Alternative Investment Funds

These include hedge funds and funds that invest in private equity, derivatives, and commodities. They can be high-risk, and financial advice should be sought before investing.

Mixed Asset or Multi-Sector Managed Funds

These funds invest in a range of assets, typically with around 85% in shares and property, and the rest in cash or fixed interest. The risk level of these funds is usually high, and they aim for higher returns.

Actively Managed Funds

In these funds, the manager selects the stocks based on their own convictions. Actively managed funds tend to have higher costs and aim to beat the performance of a benchmark.

Passively Managed Funds

These funds tend to be lower cost and aim to match the performance of a benchmark rather than beat it. Exchange-traded funds (ETFs) are usually passively managed.

Unlisted Managed Funds

Unlisted managed funds are the most common type of managed investment funds in Australia. The price of units is set by the fund manager, not on a traded market. To buy or sell units, you must deal directly with the fund manager.

Listed Managed Funds

Listed managed funds trade on the share market, and investors can buy and sell units through a finance broker. These funds are typically not actively managed, and the unit price can be higher or lower than the net asset value (NAV) of the fund.

The pros and cons of investing in mutual funds

Mutual funds are a popular investment choice in the U.S. and Australia, allowing investors to pool their money into a professionally managed investment vehicle. A fund manager then buys and sells assets, such as cash, shares, bonds, and property, on their behalf.

Pros

• Advanced portfolio management: You get access to professional fund managers who buy and sell stocks, bonds, etc., for a relatively small fee.
• Dividend reinvestment: Dividends and other interest income sources can be used to purchase additional shares in the mutual fund, helping your investment grow.
• Risk reduction: Most mutual funds will invest in anywhere from 50 to 200 different securities, achieving reduced portfolio risk through diversification.
• Convenience and fair pricing: Mutual funds are easy to buy and understand, typically have low minimum investments, and are traded only once per day at the closing net asset value (NAV), eliminating price fluctuations throughout the day.
• Built-in diversification: Mutual funds invest in a large number of companies, reducing the impact of any one company performing poorly and providing strong performance without excessive risk.
• Professional management: The fund manager does all the work of constantly buying and selling securities for you, so you don't have to worry about making investment decisions.
• Low fees: Some mutual funds have very low expense ratios, as low as 0.03 or 0.04% annually of your invested assets, which is tremendously cheap and keeps more of your money working for you.

Cons

• High fees: Some mutual funds have high expense ratios of 1% or more, and there may be additional sales loads or commissions charged by brokers and fund companies, reducing overall investment returns.
• Tax inefficiency: Distributions from mutual funds are taxable investment income, which can result in a higher-than-expected tax bill at the end of the year, especially for those in high-tax states.
• Poor trade execution: Mutual funds are traded only once per day after the market closes, which may result in a different order price than expected if manual orders are placed.
• Management abuses: There is a risk of management abuses, such as unnecessary trading, excessive replacement, and selling losers before quarter-end to fix the books.

Overall, mutual funds offer a convenient and diversified investment option with professional management, but it is important to carefully consider the potential fees, tax implications, and management risks before investing.

How to choose a fund manager

When choosing a fund manager, it is important to understand the different types of funds, the associated risks and potential returns. This will help you select a fund manager that aligns with your financial goals and risk tolerance. Here are some key considerations:

• Types of Managed Funds: There are two main types of managed funds: actively managed funds and passively managed funds. In actively managed funds, the fund manager actively selects stocks based on their own research and convictions. Actively managed funds aim to beat the market and generate higher returns but also come with higher fees. On the other hand, passively managed funds, such as exchange-traded funds (ETFs), aim to match the performance of a specific market index or benchmark. They tend to have lower fees and are more cost-effective.
• Performance and Track Record: Evaluate the fund manager's performance and track record. Look at their long-term returns over 5 to 10 years, rather than just their short-term gains. Compare their performance against relevant market indices or similar managed funds to assess if they are meeting or exceeding expectations.
• Fees: Managed funds charge various fees, including establishment fees, contribution fees, management fees, performance fees, and adviser service fees. These fees can significantly impact your overall returns. Compare the fee structures of different fund managers and consider the potential impact on your investments.
• Risk Assessment: Different managed funds carry different levels of risk. Understand the specific risks associated with the types of funds you are considering. Assess your own risk tolerance and ensure that the fund manager's investment strategy aligns with your comfort level.
• Investment Objectives: Different fund managers have different investment objectives and strategies. Choose a fund manager whose objectives match your own financial goals and time horizon. For example, if you are investing for the long term, ensure the fund manager's strategy aligns with your long-term objectives.
• Diversification: Diversification can help reduce risk and improve portfolio performance. Consider selecting multiple fund managers or funds that invest in different asset classes to spread your investments across various sectors, industries, or countries. This can lower the overall risk of your portfolio.
• Product Disclosure Statement (PDS): Before choosing a fund manager, carefully review their Product Disclosure Statement (PDS). The PDS contains essential information about the fund, including the assets they invest in, associated risks, benchmark returns, and complaint procedures. It will help you make an informed decision and understand the fund's suitability for your investment goals.
• Expert Advice: If you are unsure about selecting a fund manager, consider seeking advice from a licensed financial adviser. They can provide personalised guidance based on your financial situation, goals, and risk appetite.

The fees involved in mutual funds

When investing in mutual funds in Australia, there are a number of fees to be aware of. These fees can vary greatly and can have a significant impact on your overall returns.

Types of Fees

Mutual fund fees generally fall into two categories: annual fund operating expenses and shareholder fees. Annual fund operating expenses are ongoing fees that cover the cost of paying managers, accountants, legal fees, marketing, and so on. Shareholder fees, on the other hand, are sales commissions and other one-time costs incurred when buying or selling mutual fund shares.

Annual Fund Operating Expenses

These fees, also known as mutual fund expense ratios or advisory fees, typically range from 0.25% to 1% of your investment in the fund per year. Actively managed funds, where the manager actively selects stocks based on their own convictions, tend to be more expensive than passively managed funds, which aim to match the performance of a benchmark.

The following are some of the fees included in annual fund operating expenses:

• Management fees—The cost of paying fund managers and investment advisors.
• 12b-1 fees—Fees capped at 1% that cover the cost of marketing and selling the fund, as well as other shareholder services.
• Other expenses—These may include custodial, legal, accounting, transfer agent expenses, and other administrative costs.

Shareholder Fees

Shareholder fees can include:

• Sales loads—Commissions paid when buying or selling mutual fund shares, similar to a broker's commission. There are front-end sales loads, paid when purchasing fund shares, and back-end or deferred sales loads, paid when redeeming shares.
• Redemption fee—A fee charged when an investor sells their shares within a short period of purchasing them.
• Exchange fee—A fee charged by some funds when shareholders transfer their shares to another fund offered by the same investment company.
• Account fee—A fee charged for maintaining an account, often applied if the balance falls below a specified minimum investment amount.
• Purchase fee—A fee paid to the fund at the time of purchase, distinct from a front-end sales load.

Other Considerations

In addition to the fees outlined above, fund managers may charge a performance fee if the investment return exceeds the benchmark or target return. There may also be an adviser service fee, which is an ongoing fee paid to your financial advisor for arranging the investment.

It's important to carefully review the product disclosure statement (PDS) and fee table in the fund's prospectus to understand all the fees associated with a particular mutual fund. Small differences in fees can have a large impact on your returns over time, so it's crucial to consider all costs before investing.

How to buy and sell mutual funds

How to Buy Mutual Funds

Mutual funds, or managed funds, pool investors' money to buy assets such as Australian or international shares, bonds, property or cash. The fund manager then buys and sells these assets on your behalf.

• Prepare an investment plan: This should include your financial goals, how long you plan to invest, and what level of risk you're comfortable with.
• Research different types of mutual funds: These include unlisted managed funds, CCIVs, listed investment companies, exchange-traded funds (ETFs), and hedge funds.
• Check the product disclosure statement (PDS): This document contains important information about the fund, including the assets it invests in, associated risks, the benchmark or target return, and how to complain if necessary.
• Compare mutual funds: Look at their long-term performance over 5 to 10 years and compare it to similar funds or index funds. Also, consider the fees using a managed fund fee calculator.
• Diversify your portfolio: Spread your investments across different fund managers and funds that invest in different asset classes to lower your overall risk.
• Consult a licensed financial adviser: If you're unsure about investing in mutual funds, speak to a professional for guidance.
• Choose a broker: You can use an online broking service, which offers lower fees but requires you to make your own investment decisions. Alternatively, a full-service broker will trade on your behalf and provide advice, although they typically charge a percentage of the trade value.
• Buy the mutual fund: You can apply directly to the investment management company or through your broker. For unlisted funds, you may need to submit an application form, while listed funds can be bought and sold on an exchange like the ASX.

How to Sell Mutual Funds

When you're ready to sell your mutual fund investment, here are the steps to follow:

• Check for withdrawal costs: If you hold shares indirectly through a managed fund, review if there are any costs or restrictions associated with withdrawing your money.
• Sell your units: If you hold shares indirectly, you can sell them by selling your units in the managed fund. Contact your broker or use an online trading platform to initiate the sale.
• Understand market volatility: Share prices can change dramatically during times of high market volatility, so consider the broader market conditions before selling.
• Be aware of trading halts: Sometimes, trading may be temporarily halted for a company due to the release of significant news or other factors. This can impact your ability to sell your shares when you want or at your desired price.
• Review share buy-back offers: If your company offers to buy back shares, consider the reasons behind the offer and whether it aligns with your goals before deciding to sell.
• Handle unexpected offers cautiously: If you receive an unsolicited offer to buy your shares, verify the legitimacy of the offer and compare the offered price with the current market price before making a decision.
• Proceed with the sale: If you hold shares directly, you can sell them by placing a trade online or through your broker. There will typically be a fee for each trade.
• Understand settlement procedures: The legal transfer of ownership and settlement of funds typically occur two business days after the trade (T+2). After settlement, the proceeds will be deposited into your bank account.

Remember to keep records of your trades for tax purposes and always do your research before buying or selling mutual funds.

Frequently asked questions