Instead of buying shares in individual companies, funds give you access to lots of shares, bonds or other assets in a convenient package. By investing in this way, you can spread risk and ensure your investments all serve a particular area or theme.
When you invest in a fund, such as a ‘unit trust’ or ‘open-ended investment company’ (OEIC), or an exchange traded fund (ETF) you are buying units in a portfolio alongside other investors. Each unit in the collective portfolio has a fund price called the Net Asset Value (NAV), which is determined by the value of the underlying assets.
Investment Trusts offer a similar ‘collective' investment in the form of a publicly traded company, with shares listed on a stock exchange and traded throughout market hours.
A brief history of fund investment…
The first UK fund was launched in 1931 by M&G. Called the 'First British Fixed Trust', it held the shares of 24 leading companies. It took inspiration from US ‘mutual funds’, which were introduced much earlier in the 1890s.
Investment Trusts are older still. The first, Foreign & Colonial, offered exposure to a portfolio of overseas government bonds – hence the name – in 1868. However, the principle of pooling capital from lots of investors into funds dates all the way back to traders in Amsterdam in the 1770s.
With a wide range of fund investments available to UK investors, running into the tens of thousands, let’s explore why they make a great investment shortcut.
1. Save time
Some investors are highly active and enjoy researching and choosing their own individual shares, bonds and other investments. However, it takes time and discipline to monitor the stock market in detail and react appropriately to company news.
Funds offer a useful solution. These spread your investment – and risk – across dozens of different companies and are either managed by a professional fund manager (in the case of ‘active’ funds) or designed to simply track a particular index (in the case of ‘passive’ funds or ‘trackers’). While it can be a challenge to devote enough time to monitor a portfolio of individual shares, it’s a lot easier to keep tabs on a range of funds.
2. Instant diversification
Diversification – spreading a portfolio among various assets – can be time-consuming with individual shares. An equity fund manager typically selects a range, usually 50 to 100, which means less reliance on the performance of any one company. The same applies to other asset types such as bonds; each comes with a level of risk that can be partially mitigated by not having all your eggs in one basket.
A global tracker can, for instance, be a good, basic option for DIY investors when you are not able to spend time researching investments. They tend to provide simple and low-cost exposure to share markets around the world. Investing doesn’t have to be complicated with this sort of product – especially when you are starting out. But remember the value of investments can fall as well as rise; investors may get back less than invested.
3. Gain a manager’s expertise
Managers of ‘active’ funds decide when to buy and sell stocks in the portfolio. Investing with an experienced fund manager takes away a lot of the hard work. You gain the expertise of professionals with an established investment process in their respective areas.
Fund managers often engage directly with company management and typically analyse a business thoroughly to understand whether its shares represent good value. Although they inevitably make mistakes, they can also sometimes keep you from the major pitfalls within an asset class. When considering the best funds to invest in for a given area, active management can be particularly worth considering in more niche sectors where proprietary research can genuinely gain an edge.
Good quality managers have the potential to outperform their market or benchmark, though they tend to cost more and won’t necessarily get their calls right consistently.
4. Invest across multiple asset classes with ease
Using funds means you can easily invest across a range of asset classes, which can help reduce portfolio volatility (the extent of ups and downs) while still aiming to generate decent returns. Alongside equity and bond funds there are more specialist investments in areas such as property, infrastructure assets or commodities.
Unit Trusts and OEICS are categorised by the Investment Association into 45 different sectors, which define the areas in which they can invest. This means investors can easily identify funds that might meet their needs and compare them with each other.
When you select funds, you should understand what each one aims to do and the role each plays in your portfolio, as well as have a good understanding of the objectives and risks involved, so check the fund’s Key Investor Information Document in particular, and all other relevant fund literature, before investing.
If you already have some ideas on where to invest but need some help choosing individual funds, then our Preferred List can help. Our Research Team has created the list to highlight what we consider to be good-quality options in each of the major areas for new investment.
It’s also possible to invest in funds that provide diversification across a range of areas and asset classes rather than targeting a certain one. If you aren’t confident in making investment decisions these ‘multi-asset’ funds could be a convenient solution. For instance, our Multi-Asset Fund range provides diversified portfolios in one easy-to-buy investment, managed and monitored by experts.
5. Costs can be lower
By pooling your money with other investors you might save money on transaction costs compared to building a portfolio of individual shares, especially for modest-sized portfolios.
Passive funds, which simply aim to provide performance similar to a particular index such as the FTSE 100, are usually cheaper than active ones, but generally won’t outperform the market they are designed to follow in the longer term – however, neither should they significantly underperform it. A range of passive fund options that we believe offer good value are also featured on the Charles Stanley Direct Preferred List.
Types of investment funds
Today, there are many different types of funds to choose from when constructing your investment portfolio:
- Unit Trusts and Open-ended investment companies (OEICs) – these funds expand and contract the number of units or shares in issue, according to investor demand. The more people invest, the bigger the fund gets. The portfolio manager buys assets with inflows or raises cash to fund outflows accordingly. Unit Trusts and OEICs are much the same thing, apart from OEICs operate as companies whereas unit trusts are structured as trusts.
- Exchange-traded funds (ETFs) – much like a Unit Trust or OEIC, ETFs allow you to join a collective portfolio of investments. But the main difference is they can be traded in real time on an exchange just like individual shares are, whereas the others are traded only once a day and you won’t know the precise price until the deal is confirmed.
- Investment Trusts – these have a fixed number of shares which investors can buy and sell on the stock market. It is ‘closed-ended’ in the sense that when investors buy or sell the shares the Trust’s pool of assets doesn’t change. There can be advantages to investment trusts, but they can also be riskier compared to an equivalent open-ended fund.
How many funds should I invest in?
Investing in index funds that follow a broad benchmark such as the S&P 500 or MSCI World provides a certain level of diversification, but it means significant exposure to large US companies that dominate owing to their size. As well as investing in exchange-traded funds or other funds that follow the major markets, lots of investors therefore like to select other funds to invest in to further diversify their portfolios.
A collection of 10-20 funds spanning different asset classes and geographical regions should allow you to construct a balanced and complementary portfolio that meets your objectives and how much risk you are happy with.
Find out more: How to build a portfolio
Nothing on this website should be construed as personal advice based on your circumstances. No news or research item is a personal recommendation to deal.
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