Introduction

Every mutual fund - stock, bond, or money market - is established with a specific investment objective that fits into one of three basic goals:

current income
future growth
both income and growth

In general, growth comes from stock investments, though some funds provide income from dividends they earn. And if you're reinvesting your income, your overall investment grows too, whether it's in a stock fund or a bond fund.

The Risk Factor

Any time you invest in mutual funds, you take a certain amount of risk.

The two most common risks with mutual funds are:
(1) If the worth, or dollar value, of your shares drops because the investments the fund makes lose value.
(2) If your investment's earnings - minus what you pay in expenses - grow more slowly than the rate of inflation. That would mean that money in general is losing value faster than your investment is accumulating value.

Sometimes your investments are at risk because the economy as a whole is in trouble. And sometimes the risk results from decisions the fund manager makes in running the portfolio.

Measuring Risk

Some funds are, by definition, riskier than others because of the kinds of investments with which they stock their portfolio.

A stock fund that invests in well-established companies that pay regular dividends - known as blue chips - takes fewer risks than a fund that invests in small new companies. That's because a small company runs a greater chance of failure.

The same is true of bond funds. Some pay reliable returns because they buy high-rated bonds. Funds that buy riskier bonds run a greater chance of losing value.

Volatility

Risk is measured by volatility, a word used to describe how much and how quickly the value of a fund changes.

The more volatile or unpredictable a fund is, the riskier it is, at least in the short term. That's because you risk the loss of principal, or investment amount. If you had to sell when the price was down, you'd get back less than you put in.

But the same volatility that drove the value down could just as easily send it back up. In this way, a more volatile fund has the potential for greater long-term growth than a more stable fund might.

Management Risk

The good news and the bad news with mutual funds is that, once you've committed to a fund, someone else makes your day-to-day investment decisions.

You always have to consider the possibility that a fund's manager may not buy as wisely as some other manager - and that your fund may do less well than a comparable fund offered by a different company. Or that your manager's investment style, which does well in certain economic conditions, doesn't do so well in others. For example, one style of investing is to focus on undervalued stocks. That works well in some economic conditions, but not in others.

Low Risk Funds

Investment objective: steady income
Kind of fund: US Treasury bond and agency bond: Fund characteristics: safe government-backed securities; only risks are interest rate changes and inflation; What the fund buys: US Treasury bonds issued by government agencies
Investment objective: steady income
Kind of fund: high-rated corporate bond: Fund characteristics: steady income and little risk; What the fund buys: corporate bonds, with maturities dependent on type of fund
Investment objective: tax-free income
Kind of fund: high-rated municipal bond: Fund characteristics: steady, slightly higher income and little risk; What the fund buys: municipal bonds in various maturities
Investment objective: income
Kind of fund: short/intermediate-term taxable and tax-free bond: Fund characteristics: small risk of loss and steady, if less, income; less influenced by changes in interest rate; What the fund buys: different types of bonds in one- to 10-year maturities, depending on type of fund
Investment objective: income and currency gains
Kind of fund: international money market: Fund characteristics: risk tied to changes in currency value; expectation of higher return than US money markets; What the fund buys: Non-US CDs and short-term government securities
Investment objective: safety and some income
Kind of fund: taxable and tax-free money market: Fund characteristics: nearly total safety of capital; income based on current interest rates; What the fund buys: CDs and very short-term government, corporate, and municipal debt

Moderately Risky Funds

Investment objective: strong growth plus some current income
Kind of fund: growth and income: Fund characteristics: growth as well as current income; average risk of loss; What the fund buys: stocks that pay high dividends and show good growth
Investment objective: moderate income and good growth
Kind of fund: equity income: Fund characteristics: income as well as good growth; average risk of loss; What the fund buys: blue-chip stocks and utilities that pay high income
Investment objective: income and growth
Kind of fund: balanced: Fund characteristics: reasonable income and growth; limited losses; What the fund buys: part stocks and preferred stocks (usually 60 percent) and part bonds (40 percent)
Investment objective: primarily income
Kind of fund: income: Fund characteristics: income, but with a little growth; limited losses in down market; What the fund buys: primarily bonds, but some dividend-paying stocks
Investment objective: high income
Kind of fund: international and global bond: Fund characteristics: high income; better yield when dollar is weak and worse when dollar is strong; What the fund buys: bonds in overseas markets (international funds) and overseas plus US markets (global funds)
Investment objective: good income and regular return of capital
Kind of fund: Ginnie Mae: Fund characteristics: income and return of capital, though value and return dependent on changes in interest rates; What the fund buys: securities backed by a pool of government-insured mortgages
Investment objective: imitate the stock market
Kind of fund: index: Fund characteristics: average gains and losses for the market the index tracks; What the fund buys: stocks represented in the index the fund tracks

Risky Funds

Investment objective: above average long-term gains
Kind of fund: aggressive growth funds, also called capital accumulation funds: Fund characteristics: very volatile and speculative; risk of above-average losses to get above-average gains; small if any dividends; What the fund buys: stocks of new or undervalued companies expected to increase in value
Investment objective: best long-term gains
Kind of fund: small company growth: Fund characteristics: very volatile and speculative; risk of above-average losses to get highest gains; What the fund buys: stocks in small companies traded on the exchanges or over the counter
Investment objective: hedge against turmoil in financial markets
Kind of fund: gold and precious metals: Fund characteristics: extremely volatile and speculative, with big risk of loss; What the fund buys: stocks in gold and other precious-metal mining companies and some bullion
Investment objective: growth
Kind of fund: sector: Fund characteristics: extremely volatile funds dependent on right market timing to produce results; What the fund buys: stocks in one particular industry, like energy or transportation
Investment objective: international growth
Kind of fund: international equity: Fund characteristics: volatile; gains and losses depend on stock prices and currency fluctuation; What the fund buys: stocks in non-US companies
Investment objective: above-average growth
Kind of fund: growth: Fund characteristics: volatile; risk of larger losses to get higher gains; What the fund buys: stocks in mid-sized or large companies whose earnings are expected to rise quickly
Investment objective: world growth
Kind of fund: global equity: Fund characteristics: risk of larger losses in falling markets to capture gains in rising ones; risk of changes in currency values; What the fund buys: stocks in US and non-US companies
Investment objective: highest current income
Kind of fund: high-yield bond (taxable and tax free): Fund characteristics: very high income from high-risk bonds in danger of default; What the fund buys: low-rated and junk corporate (taxable) and municipal (tax free) bonds
Investment objective: responsible growth
Kind of fund: conscience: Fund characteristics: average growth with risk of higher losses because of restrictions on investment; What the fund buys: stocks in companies that meet the ethical standards of the fund

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