What is a fund

A fund is a type of investment that starts with a pool of investor capital, deployed by a fund manager according to a set of financial goals, providing access to a very wide range of investment opportunities, both broad and specialised. In short, it enables multiple investors to collectively purchase securities, whilst retaining ownership and control of their shares. As with a listed company, a fund is collectively owned by its shareholders, with a board of directors overseeing the governance and regulatory compliance.

Investors may buy into actively managed funds to gain specialist expertise in a particular asset class/region/sector and where exposure might otherwise be difficult or expensive. They also might not have the time to research and manage the investment themselves, preferring instead to utilise the expertise of a fund manager.

How funds work

A fund’s specific appeal will be based on its objectives, which could be as simple as exceeding its benchmark, capital appreciation or delivering a regular income. The strategic direction of the fund and its day-to-day running, including the portfolio composition and when stocks are bought and sold, is controlled by a fund manager. They use their specialist knowledge to choose the assets, with each investor owning a portion of the total fund. The investment objective and policy of the fund dictate what the fund manager purchases.

Fund styles – active vs. passive

Active

Funds managed actively are those where fund managers use their expertise to manage investment portfolios, usually with the aim of outperforming an agreed benchmark. Advantages of actively managed funds include:

  • the ability of active managers to tailor portfolios to investors’ precise requirements
  • the ability to adjust risk parameters according to changing market conditions
  • the chance that an actively managed fund will outperform its benchmark

Drawbacks of actively managed funds include higher charges and the possibility of underperforming its benchmark.

Passive

Passively managed funds are the opposite of actively managed ones. A passive fund aims to replicate the broader market (for example an index like the S&P 500) and will typically charge lower fees than an actively managed fund.

While passive investors believe that the market will deliver positive returns over time, drawbacks of passive investing include market risk, in other words, when the overall market falls, this will be reflected in the returns of a passively run fund. As passive funds are designed to track their benchmarks, they will not be able to outperform.

Some popular fund types

These funds are often based on a single asset class such as stocks, bonds or property, but they may also have a specific country or regional focus.
This is an increasingly popular fund structure, comprising investments in different types of asset classes such as stocks, bonds, property, alternatives and cash. Exposure to each asset in this type of fund will vary according to the fund manager’s investment outlook and can either be gained by investing directly in the asset class or through a ‘fund of funds’ structure.
Sector funds concentrate on specific industries in the economy, for example, ‘healthcare’ or ‘tech’. Thematic funds are broader based. They identify a theme, which could be narrowly defined as in the case of water-linked companies, or wider like emerging ‘growth’ companies, and then invest in a range of stocks linked to that theme.
Also known as a ‘fund of funds’, this is simply a fund which invests in other funds, selected either from the same manager or from the broader investment universe. The composition of a multi-manager fund will depend on the strategy that is being promoted. They are usually regarded as suitable for investors with a moderate risk appetite and can provide exposure to a variety of asset classes.
Whilst investors may have similar goals, their personal circumstances will vary and that is one of the main reasons why there is no ‘right answer’ when considering the type of funds that should be owned. A popular choice is to diversify by constructing a portfolio with a mix of fund types. This could include a broad market allocation to passive or multi-asset funds, alongside some thematic or regionally focussed exposures, depending on the investor’s goals.
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