Mutual Fund Risks

As different mutual fund categories have different risk categories it is hard to compare them on the same playing field. A low or below average risk bond fund, as an example, cannot be assessed the same as below average stock fund. This is because although they are both low risk in their categories stock funds have a higher risk/return potential than bond funds. Cash investments or money markets are usually the most stable but also yield the lowest long-term results. Bonds often experience short term fluctuations but usually generate higher long term returns. Stocks though have usually been subject to short-term price swings but provide the highest long-term returns overall. Often financial managers will recommend funds which incorporate different asset classes and create a balanced or hybrid mutual fund tailored to the customer's wishes. Asset allocation portfolios are special mutual funds that actually invest in other mutual fund classes. The manager can buy sell and shift securities at his discretion between funds according to the changing market conditions.

Risks to mutual funds often reflect the investments that are held in the funds. Bond funds are affected by both interest rate risk and income risk, which also makes their value dependent on the interest rates. Rising interest rates bond values drop and if they drop bond values increase. Short term bond funds are a greater income risk than long-term bond funds. Stock funds however invest in only one single industry and the risks that affect their prices is dependent mainly on industry developments.

Some of the terms for things you should know when looking at risk factors when investing will include: call risk which is the possibility of a falling interest rate causing a bond issuer to redeem prior to maturity date, country risks such as wars, elections disasters etc., credit risk that a bond issuer will fail to repay interest and principal in timely fashion (default risk), currency risk such as returns being reduced due to rise in value of U.S. dollar, income risk-fixed income funds dividends decline because of low interest rates, industry risk- prices may fall due to unexpected development in one or more industries invested in, Inflation or interest rate risks, manager risks where fund manager proves to be incompetent, market risk where overall most bond fund prices will drop and principal risk where an investment will just lose money from the original or invested amount.