What's a mutual fund?

How do mutual funds—and the people who invest in them—make money?

Stock and bond funds make money in 2 ways:

• Income. When an underlying security that the fund invests in pays interest or dividends, the fund is required to distribute those earnings to its shareholders.
• Capital gains. When a fund sells an underlying security at a price higher than what was initially paid, the fund makes a profit. When the fund's total profits exceed its total losses, it realizes a "net capital gain" and is required to distribute those gains to its shareholders. 

Then, as an investor, how do you make money?

• When you receive an income or capital gains distribution from the fund.
• When you sell your fund shares at a price higher than what you originally paid for them.

What's the difference between an actively managed fund and an index fund?

Index mutual funds and ETFs (exchange-traded funds) aim to match the performance of a particular market benchmark—or "index"—as closely as possible. Actively managed funds employ professional management teams who try to outperform their benchmarks and peer-group averages. Because index funds generally trade less frequently, they tend to be more tax-efficient and have lower expense ratios than actively managed funds—which could mean lower costs for you.

Learn more about the differences between actively managed and index funds

What's the difference between index ETFs and index mutual funds?

Index ETFs offer the same low costs, broad diversification, and tax efficiencies as index mutual funds. Similar to conventional index mutual funds, most ETFs try to track an index, such as the S&P 500. The main differences are that ETFs provide real-time pricing and a lower minimum investment than an index mutual fund, because you can purchase as little as 1 share of an ETF.

Learn more about the differences between ETFs and index mutual funds

What's the difference between a load fund and a no-load fund, and why does it matter?

Load funds charge a sales fee, either when you buy shares (a "front-end load") or when you sell them (a "back-end load"). No-load funds—including all Vanguard funds—don't charge these fees.*

Loads have a direct impact on your investments by reducing the amount you ultimately invest or withdraw.

Here's a hypothetical example:

• Initial investment amount: $10,000
• Minus 5% front-end load: $500
• Net investment amount: $9,500

In this situation, your fund's performance would have to make up a 5% "loss" before it broke even.

Should I pay attention to independent fund ratings?

Yes and no.

Mutual fund ratings from independent sources (for example, Morningstar or Barron's) can be a great resource for general information about a fund and a convenient way to compare mutual funds.

But keep in mind that ratings rely heavily on past fund performance. And as we've learned over the last few decades, yesterday's winners can just as quickly become tomorrow's losers.

So be cautious not to place greater emphasis on those ratings than you would on your answers to these questions:

• Do the objectives of the fund match my investment objectives?
• How might this fund fit into my overall investment portfolio?
• What are the risks, and am I comfortable with them?
• Can I find a similar fund at a lower cost?

You can find answers to these questions and more in each fund's prospectus. So to avoid any surprises, make sure you read it carefully before you invest.

What's "total return"?

"Total return" represents the change in value—up or down—of an investment over a specific period. It includes any interest, dividends, or capital gains the fund generated as well as the change in its market value (price).

In most cases, you'll see total returns for 1-, 5, and 10-year periods as well as since the day the fund opened (its "inception date").

See total returns for all Vanguard funds

Why is the return Vanguard reported for my fund different from the return I earned in my account?

Total return figures listed in public settings assume that:

• An investment was made on the first day of the stated period.
• The investment was sold on the last day of the stated period.
• No money was added or subtracted during the stated period.
• All income and capital gains distributions were reinvested.

In real life, your experience was probably a little—or very—different. So your personal return generally won't match the fund's return exactly.

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What's "diversification" and how does it help reduce risk in my investments?

"Diversification" is the strategy of spreading your savings among different types of investments in an attempt to lower overall investment risk. This approach can provide 2 benefits:

• You're already in position to take advantage of the next upswing by investing in both areas of the market—instead of trying to accurately predict when stocks or bonds will "take off."
• Growth in certain segments within your portfolio can help offset potential drops in other segments.

While diversification can never eliminate all the risks involved with investing, it can help lower your overall risk by spreading it around. You can diversity your investment in these 3 ways:

• Across asset classes. Spreading your money among stocks, bonds, and short-term reserves.
• Within asset classes. Investing in all types of stocks (growth and value stocks from small, mid-size, and large companies) and bonds (short-, intermediate-, and long-term bonds from municipalities, government agencies, and corporations). For even more diversification, we suggest you consider investing at least 30% of the bond portion of your portfolio and 40% of the stock portion of your portfolio in international funds.
• Among mutual funds. Gaining access to hundreds—sometimes thousands—of securities through a single fund.

How risky is it to have most or all of my investments with one company?

While diversification could also include spreading your savings across multiple financial companies, we've often heard people talk about how much easier it is to manage their investments when they're all in one place.

So we make sure you can enjoy that convenience at Vanguard—and still have access to a wide variety of investments.

• Choose from more than 185 Vanguard money market, bond, balanced, and stock funds, including international and sector-specific options.
• Access thousands of commission-free ETFs and no-transaction-fee mutual funds from Vanguard and hundreds of other companies.**
• Buy and sell individual stocks, bonds, certificates of deposit (CDs), options, and thousands of other companies' mutual funds through a Vanguard Brokerage Account.