Investment Funds: how do they work, and how could they play an important role in your portfolio?

Investment funds often make up an important part of an investment portfolio and overall financial plan. If you’re not sure how they work or why they can complement your goals, read on to find out.

When you think of investing, you may imagine investing in individual companies through purchasing stocks or shares. You might think of the FTSE 100 – an index of shares of the 100 biggest companies on the London Stock Exchange (LSE). Individual stocks and shares are fairly easy to understand. You give a company some of your money, and you could make a return. However, whilst it is possible to invest solely in individual companies’ stocks and shares, and they may be part of your portfolio, investment funds are spread across multiple companies. Funds are a popular way for people to invest money when they don’t need the additional work (or want to take the additional risk!) of researching and investing in individual companies.

What are investment funds?

In basic terms, an investment fund is made up of contributions from numerous investors. Their money is pooled together to invest in a range of businesses that match the fund’s criteria and risk profile. A fund may also buy a range of assets, such as shares, bonds, or property.

By collectively investing alongside other investors you may be able to access more opportunities and spread the risk involved. It also means you don’t have to actively manage your investment decisions day-to-day, as the fund will decide where the money is invested.

A fund can either be actively or passively managed:

• An active fund will have a team of investment managers that will make investment decisions to try to outperform an index.
• A passive fund will track a stock market or market index, such as the FTSE 100, to determine what to invest in. It may be automated.

There are pros and cons to both options. If you invest through a fund, which type is right for you will depend on your goals and strategy.

3 benefits of using investment funds

1. A fund can help you build a diversified portfolio

A fund will invest in a range of companies and can create diversification within your portfolio.

Diversifying your investments aims to ensure the effect of a downturn in particular industries or areas is potentially balanced by gains in others. This doesn’t mean that your portfolio won’t experience volatility, but it can mean the peaks and troughs aren’t as sharp.

Diversifying through a fund is particularly useful if you’re investing smaller amounts. By pooling your money, you can invest in a greater number of businesses.

2. It means you can take a hands-off approach to investing

Choosing individual investments can be time-consuming and require a lot of research. You may also not feel comfortable doing this.

An investment fund means you can select a fund that’s right for you and then take a hands-off approach, as you won’t need to decide where to invest or withdraw money from.

You should still carry out regular reviews to understand how the fund is performing and whether you’re on track to meet your goals.

3. It can reduce the temptation to react to short-term volatility

Market volatility is part of investing. It can be tempting to react to short-term market movements, which may not align with your long-term plans.

As you won’t be responsible for how the fund is invested, it can make it easier to focus on your overall investment strategy and avoid knee-jerk reactions.

Drawbacks of using investment funds

1. You will have less control over your investments

When investing through a fund, you won’t be choosing exactly where your money is invested. So, you’ll have less control.

For some, this can be a positive thing, but if you have a clear idea about how you want to invest, it could mean that funds aren’t right for you or should only form a part of your portfolio.

2. The charges associated with investing could be higher

You will need to pay fees when using an investment fund. Often, fees are calculated as a percentage of the value of your portfolio. The charges will vary between providers. However, they may be higher than if you manage your investments yourself as you’re paying for a service.

Fees are an important consideration when calculating how well your investments are performing. Keep in mind that you will still need to pay fees if you take a DIY approach to investing.

3. Your capital is at risk

As with any investment, investing through a fund can put your capital at risk. The value of your investment can go down as well as up and you may not get back the full amount you invested. Past performance is not a reliable indicator of future performance, and you must assess your own personal attitude towards and capacity for risk and loss before deciding to invest.

How to choose an investment fund that’s right for you

While you may decide that investing through a fund makes sense for your plans, that doesn’t mean every fund is right for you.

Whether you’re buying individual stocks or using a fund, assessing the suitability of investments is crucial. This means taking your risk profile, goals, and wider financial circumstances into consideration to build a portfolio that’s right for you. We can help with doing this, especially if you’re not sure where to start.

We can help you invest in a way that makes sense for your aspirations, whether that’s to retire early or build a nest egg for your children. If you have any questions or would like to arrange a meeting, please give us a call.

Please note: This blog is for general information only and does not constitute advice. The information is aimed at retail clients only.

The value of your investment can go down as well as up and you may not get back the full amount you invested. Past performance is not a reliable indicator of future performance.