Types of mutual funds (2024)

With so many to choose from, the mutual fund market can seem overwhelming—but we can help.

On this page:

• How do I choose?
• What is the difference between active and passive funds?
• What are some types of funds?

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• Pros

  Pros

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• Cons

  Cons

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  • Actively managed funds

    These are funds with portfolio managers that select investments that seek to outperform a benchmark.

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  • Pros

    • Opportunity for outperformance: As active funds aim to beat an index, they typically offer you the potential to make higher returns than benchmarks.
    • Defensive measures: Managers have the ability to respond tactically to market opportunities. In other words, active managers can respond actively to changing market environments.
    • Tax management: Active managers typically try to buy low and sell high, which can generate taxable gains. Some managers, however, also aim to harvest losses to minimize taxable distributions.

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  • Cons

    • Expensive: Fees are generally higher due to frequent buying and selling, managerial salaries, and research costs.
    • Active risk: While active managers are usually trying to choose investments to earn high returns, there is a risk that they will choose poorly, which can hurt the fund’s performance.
    • Underperformance: On average, actively managed funds have historically performed worse than their benchmarks over long time periods. While some funds have outperformed, most have not.

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    • Index funds

      These are funds where managers aim to mimic a specific index, replicating its holdings and performance.
      

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    • Pros

      • Low fees: Managerial oversight is generally less expensive, since managers are mostly mimicking what's already in the index.
      • Transparency: Since index funds aim to track published indexes, which typically don't change frequently, it's usually clear what the fund likely holds at any time by looking at the index.
      • Tax efficiency: An index fund's typical "buy and hold" strategy doesn't usually generate large capital gains taxes.

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    • Cons

      • Lack of flexibility: Managers are usually restricted to a specific index or predetermined set of investments, no matter what happens in the market.
      • Performance constraints: By definition, passive funds will rarely, if ever, beat the index they are tracking.
      • No downside protection: In a down market, the fund's return will potentially be as bad as the index it tracks.

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  What are some types of funds?¹

  • Equity funds

    These funds invest in U.S. or foreign stocks. Some are index funds, while others are actively managed. Typically, they're defined by the size of the companies they invest in ("small-cap," "mid-cap," or "large-cap") or their investment objective ("growth," "income," etc.).

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  • Fixed income funds

    These funds buy investments that pay a fixed rate of return, like government bonds and investment grade corporate bonds. They may give your portfolio the chance to earn income.

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  • Asset allocation funds

    These funds will allocate a specific amount to fixed income and equities depending on the fund's goal. They typically offer income and growth potential in one fund.

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  • Index funds

    These funds comprise a portfolio of securities that attempt to mimic the performance of a specific index, such as the S&P 500® index. They offer a low-cost, straightforward way to track an index that's generally more tax efficient than actively managed funds.

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  • Target date funds

    A type of asset allocation fund where the mix of securities and asset classes—equities and fixed income for example—gradually shift as your target date for needing the money (usually for retirement) draws near.

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  • Money market funds

    These funds generally invest in cash equivalents such as U.S. Treasury bills and CDs. They're lower-risk investments and tend to offer better returns than savings accounts, but they are not insured by the FDIC.

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  • Commodity funds

    These funds invest in companies involved in commodity-intensive industries such as energy exploration and mining. While these funds can be a great hedge against inflation, they can also be more volatile than most stock funds.

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  • Environmental, Social and Governance (ESG) funds

    These funds consider noneconomic principles in their selection and weighting of securities, such as environmental responsibility, human rights, or religious views. Can also include funds that avoid investing in certain industries, such as defense, alcohol, tobacco, or gambling.

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  Next steps

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