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Mutual Funds Prospectus Basics

By law, every mutual fund is required to provide its investors and prospects with a prospectus. The latter includes the most important and fundamental information about the particular mutual fund. Whenever you decide that a certain mutual fund is the right parking place for your money, be sure to carefully examine its prospectus.

What you should look at in any prospectus?

  1. Investment objectives
  2. Performance
  3. Cost

Almost from the first paragraph of a prospectus you can understand whether the fund is suitable for your financial needs, since it includes information on the objectives of the mutual fund. Additionally, information on the types of securities traded by the mutual fund is provided.

Fees Information

SEC requires every mutual fund prospectus to include in its beginning information on the types of fees it charges and the corresponding amounts. This will greatly facilitate your search for the right mutual fund. Additionally, mutual funds are required to include an example of what fees an investor will pay if s/he invests $1,000 with a 5% rate of return. This example should include information on the effects over specific time periods such as one, three, five and ten years.

When reading a mutual fund's prospectus you should be aware that every mutual fund be it no-load or load, charges annual management fees and other administrative fees. These are not directly charged to the investor, but instead are included in the share price. Many mutual funds will charge you a 12-b fee, which should also be reflected in the prospectus. This fee is needed for the coverage of marketing and advertising expenses needed to publicize the mutual fund and attract additional clients. Finally, information on the total expense of the mutual fund should be included in the prospectus, which reflects management fees and other expenses incurred by the mutual fund.

Every mutual fund prospectus includes a section usually named "Other Expenses". This section includes fees charged for the supplementary services that mutual funds offer to their clients.

Performance Information

In every mutual fund prospectus information on its performance can be found. This information can be extracted form the financial statement provided. This information is usually provided in a table and reflects the performance of the fund over a ten-year time period. Statistics on NAV, expenses and dividend distribution is provided in the table.

Statement of Additional Information

Upon request investors can receive Statement of Additional Information that includes different complex issues that are not an obligatory part on investment decision making. This document is printed in addition to the prospectus and is freely provided.

Information that can be found in the Statement of Additional Information includes:

  • Investment objectives
  • Biographies of directors and officers
  • Details on expense components
  • Contract provisions of the agreement between the mutual fund and its advisor
  • Fund financial statements
  • Audited financial statements

In addition to the prospectus, some mutual fund companies send their investors and prospects annual reports that describe fund activities and information on the investments that are part of the fund's portfolio.

Mutual Fund Regulations

Many laws have been enforced on behalf of investor protection. These laws require mutual fund to sufficiently inform their investors and prospects of the risk factors involved. Additionally, mutual funds are required to act in the best interest of their investors.

Federal law regulations require mutual funds to be registered with the SEC (Securities and Exchange Commission). Some states require mutual funds to register with the local securities commission before taking any further actions. Details on the activities of the mutual fund should be provided to the SEC on regular basis. The federal law also requires that mutual funds regularly provide their shareholders with reports on portfolio holdings and prospectus.

Strict regulations are also in force for the sale, distribution and marketing of the mutual funds. No ambiguities regarding the meaning of advertisements are allowed, so that the clearest information is provided to the potential investors.

Mutual Fund Performance Evaluation

Rankings of the performance of mutual funds are widely available, which facilitates the comparison of mutual funds. These can be found in financial magazines, investment newsletters, or professional ranking services. You should be aware of the fact that the ratings from one source to another may greatly differ.

You can use such ratings to make comparisons between different mutual funds and choose the best one that suites your financial needs. You should, however, not thoroughly rely on them and request a prospectus from the mutual fund directly to see for yourself and verify the given information. You should also keep in mind that ratings are done on the basis of past performances and no guarantee is given that the mutual fund will continue to perform in the same way since market conditions are extremely dynamic.

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