This article is from the How to Start an Investment Program tutorial, author unknown.
Before you turn your money over to a mutual fund company to invest, you should have some idea of the type of fund you want to invest in. These days, the choices have become increasingly complex almost as difficult as choosing from among the new types of posterior composites.
I will try to simplify things for you, only introducing the more popular equity funds. Bond funds (corporate, tax free, and junk) are also among the universe of mutual funds available, but for the long term investor, they simply won't bring you the type of returns that equities will. Here are examples of the more popular equity funds available:
Growth Funds are those in which the manager invests in the stocks of large and medium sized companies that are well established and expanding at a considerable and steady rate. These funds are for relatively aggressive investors who are looking to increase the worth of their capital, and who do not need income from the fund to meet current living expenses.
Funds from this group have the best chance to beat the S&P average, but have not done so consistently in recent years. Knowing the track record of the manager of the fund should be an integral part of your fund selection. This can make a considerable difference in long term performance.
VALUE FUNDS are so called because their strategy is to focus on companies that are believed to be under valued in relation to earnings, underlining assets, cash flow or growth potential. Oftentimes companies found in this type of fund have gone deep into debt to buy necessary assets, with the benefits to be reaped when the debts are paid off. For example dentists should be able to easily relate to companies in this category. Didn't your income increase substantially when your start up practice loan was paid off?
EMERGING GROWTH FUNDS also known as maximum capital gains funds, invest primarily in small companies that have the potential for the greatest increase in stock price. These funds must be monitored closely as they tend to climb fast, but they can retreat even faster if the market starts to turn down. The track record of the fund manager should be investigated thoroughly before investing, as should the fund's three year performance.
SECTOR FUNDS are those that allow an investor to bet on a single industry or sector of the economy. Fidelity Investments, for example, currently has 30 "select" funds that allow an investor to choose from such diverse industries as airlines, computers, telecommunications, and biotechnology. If the right sector is chosen, the investor can have an excellent chance of beating the S&P average, but the risks are greater here than in other types of funds. People with a special knowledge about the prospects in a certain industry are the best candidates for investing in sector funds.
There are other types of stock funds such as closed-end funds, international and country funds, and hybrid stock-bond funds (convertible funds) that may meet the needs of some, but, in my opinion, not the long term investor. If you have a particular interest in investing in a fund of this sort, my suggestion would be to read as much as you can about the objectives of the fund and learn who the manager is and his/her track record. Closed-end funds and country funds can be especially risky.