Dear readers: I haven’t focused much on investing in the last year or so. To be frank the reason: The anecdotal commentary from you (thank you) is because so many folks are struggling with the financial basics just to get on with their daily lives — that they have little energy, time, or excess cash left for additional investment assets.

However, with United States investment market indexes recently hitting highest valuations ever, and while conservative analysts predict a pullback at some point, now is as appropriate a time as any to review the most common investment structure out there, the mutual fund.

Mutual funds, appearing more popular than ever, continue to hold one of the dominate leads in the world investment landscape. Long a steady favourite for pension funds, and perhaps now for small capital market investors who have dropped out of active US (or other country) trading markets.

See article relative to “Mom and pop have left the building” by Barry Ritholtz: Where have all the traders gone? Investing Bloomberg View.* Mr Ritholtz included a chart prepared by Chen Zhao for a Bank Credit Analyst report (BCA Research 2014) that tracks since 2003-2005 to present a significant statistic — that active trading volume has dropped 60 percent on the New York Stock Exchange and 75 percent on the Nasdaq, the largest stock market in the US (http://www.nasdaq.com/).

Mutual funds are well documented and researched. The Investment Company Institute (www.ici.org) is an industry-funded organisation in the US that collects, compiles and analyses mutual fund flows on a global basis. The ICI first Quarter 2014 report ** notes that the monetary assets of global mutual funds represented by 43 countries increased from 22.9 trillion in 2009 to 30.8 trillion, a 35 percent increase in five years!

Categorised by type, we see more than 77,110 funds invested: 37 percent equity funds, 23 percent balanced/mixed funds, 19 percent bond funds, four percent in money market funds.

Impressive statistics. Of course, the number of mutual fund choices are more limited for the individual investor here in Bermuda, while the decision-making process can be confusing and individually intimidating. The assumption is often made that mutual funds all have the same basic structure. The answer, of course, is Yes and No.

So we start this series on mutual funds in Bermuda: what they are, where they are, how they are structured, are they right for you, when or if should you buy them, and why should you consider them. Most individuals, far too preoccupied aren’t aware that their pension funds, for example, are held in mutual funds (pools of your investor money) that can be invested in many different underlying securities, such as money market instruments, stocks, bonds, Exchange-traded funds, commodities, currencies, mortgages / debts, hedge funds, and real property assets.

In this series, we review mutual funds to understand how they work — in basic everyday language.

1. What they are? And what they are not. Never forget that mutual funds, including money market mutual funds are NOT guaranteed — but they are segregated. An important topic we will fully explore.

2. What’s in them? We will use a basic investment review here as well as discussing the impact of serious recent changes to the net asset value structure of money market funds as legislated by the US Securities and Exchange Commission.

3. How do they work? Understanding common mutual fund types.

4. What kind of risk are you taking by investing into mutual funds? If you don’t understand the risk, you should never buy it. BTW, a six percent return in our current very low interest rate market is a risk.

5. Does your mutual fund model borrow money (leverage) to increase high returns? How can you find this fact out? It is there — in the prospectus small print.

6. What does an asset allocation mean to you?

7. What do they cost? You have to do the math.

8. How to compare various name brands and in-house proprietary brands?

9. Who is selling mutual funds in Bermuda?

10. What experience is required of the financial salesperson?

11. Understanding financial salesperson credentials, from the brand licence to the bare minimum.

12. Why should you even like mutual funds?

13. What should you invest in?

14. Your Bermuda National Pensions are invested in mutual funds.

One. What mutual funds are and what they are not.

To start with, picture a mutual fund as similar to an operating company. We all know that a successful profit-generating company is a firm of individuals that may, for instance, produce or sell clothes, cars, technical services, or food products to you. The mission of a mutual fund company is to manage a group of investments (for a profit) on your behalf, using your money to benefit you.

The structure of the mutual fund resembles a company more than you realise. It may be incorporated or held in a special form of a trust. The mutual fund legal structure contains a very specific set of operating and managing guidelines, that must be adhered to in order to comply with international mutual fund administrative standards.

Funds must be registered with a global identifying number listed on an exchange, but unlike individual securities, are not traded on an exchange, but with the mutual fund company.

Mutual funds are held separate and segregated — KEY words. Keep that in mind, legally segregated from creditors, segregated from the bank’s own money or customer deposits, generally, and from finance brokers / advisers touching the cash within.

We will compare them to bank savings accounts, term deposits, certificates of deposit, monies labelled as money market funds (that are not) and like type deposits in banks, insurance companies and other financial institutions. They are not the same — at all.

Do not confuse mutual funds with private equity funds, non-public Real Estate Investment Trusts, ETFs (exchange traded funds), annuities, and others. Those structures are different kettles of fish indeed and will be covered in separate Investment Primer articles.

How do you know the difference?

More next week.

Sources:

*Where Have all the Traders Gone? Ritholtz Chart, Bloomberg View, June 28, 2014. http://www.bloombergview.com/articles/2014-06-26/where-have-all-the-traders-gone-ritholtz-chart

** The Investment Company Institute: http://www.ici.org/research/stats/worldwide/ww_03_14

This article is for general investment education purposes only. The article is not intended to be used, nor cannot be used, for investment, tax, financial planning, legal or any other advisory services. Individuals need to seek the guidance of qualified licensed professional investment personnel for their own personal financial situation.

Martha Harris Myron CPA CFP JSM Masters of Law: International Tax and Financial Services; appointed to the Professional Tax Advisory Council, American Citizens Abroad, Geneva, Switzerland. The Pondstraddler Life™ Consultancy: Planning, Publications, Presentations

Focus on the international tax, immigration, investment, retirement, legacy, and related financial challenges to the lifestyles of internationally mobile individuals and their businesses residing, working, crossing borders, and straddling ponds in the North Atlantic Quadrangle. Specific focus for residents of Bermuda, the premier international finance centre. Contact: martha@pondstraddler.com