How mutual funds work

These funds are open-ended funds, meaning they can get larger or smaller depending on the number of investors who wish to buy into them.

As more people invest in the fund, the number of underlying shares grows; as they sell, the number reduces.

While offshore funds are exempt from tax, meaning any gains can be reinvested back into the fund without being taxed, how much tax you pay depends on your circumstances, such as the country you live in at the time.

There are two types of property funds: ‘Bricks and mortar’ property funds, and property company funds, such as Real Estate Investment Trusts (REITs).

‘Bricks and mortar’ property funds invest in the buildings themselves. The fund takes responsibility for finding properties, handling the deals, seeking tenants and maintaining the buildings. You get a share of the rents paid by the property tenant, plus returns if the value of the properties owned by the fund increases.

While most property funds generally hold a cash buffer to meet short-term withdrawals, it may be difficult to redeem your investments at times of market stress. This is because the fund manager must sell physical property to meet redemptions, which may take time.

Property company funds invest in the shares of property companies. Global property funds can hold shares in Real Estate Investment Trusts (REITs), which are listed on the stock market and their fund price reflects the value of the properties they own.

Exchange traded funds are similar to the funds mentioned above except that they act like a share themselves, and are openly traded on a stock exchange such as the FTSE All Share. Most ETFs aim to perform in line with a specific index or commodity (like gold) and often have low management fees. Find out more about ETFs.

These are funds registered as public limited companies (PLCs) with their own management teams and boards of directors. They can invest in public and private companies, have a specific number of shares in issue and are traded on a stock exchange themselves. Find out more about investment trusts.

Passively managed funds attempt to match or track the movement of a stock market index.

Your investment reflects proportionately the companies listed in a particular index, like the FTSE 100, and the stock market dictates how well your investment does.

Actively-managed funds invest in a collection of companies the fund manager feels can outperform the index. To identify these funds, they analyse company fundamentals, meet the management and work to maintain a balance of good companies that aims to perform better than the market average in various market conditions, but this is not guaranteed.

These funds don’t track the movement of a particular stock market index.

A fund of funds invests primarily in other investment funds rather than directly into individual companies.

They provide an alternative to putting together your own portfolio of funds, monitoring and making changes. They provide ready-made portfolios managed by expert fund managers.