Investing in funds guide
Our simple guide will explain the basics of how to invest in funds, looking at the following:
- Understanding the basics
- Investing online – opening an account
- Choosing your investments
- Monitoring and building on your investments
- Understanding charges
one: Understanding the basics
What is a fund?
The term fund refers to an investment where private investors pool their money so it can be invested in a number of different companies or enterprises. Investing in this way helps investors spread their risk. It also means your investment is managed by a professional fund manager and reduces your dealing costs (as you don’t pay dealing costs on several individual investments).
What is a fund supermarket?
This is where a provider makes it possible for an investor to invest in a selection of unit trusts and OEICs, managed by more than one fund manager, all within one investment account.
For example Interactive Investor's Fund Supermarket has over 2,200 funds which are provided by 90 of the leading UK fund managers. You can invest in any of these funds from the same account.
What is a fund manager?
A fund manager is a City professional whose job is to decide how fund money is invested.
Some fund managers run active funds which aim to beat the market index by picking the best performing shares. Others run passive funds, which aim to match the performance of an index by tracking it. The management fees charged by active funds are higher than for passive funds because the fund manager has to do more work.
Deciding which assets (shares, bonds, gilts, cash) the fund should allocate its money to is known as asset allocation.
What's the difference between a unit trust and an OEIC?
Unit trusts are collective investment funds which allow investors access to a wide spread of shares, bonds, gilts or property. The funds are open ended, meaning that when people invest, more units are created, and when investors cash in their investments, units are cancelled.
The unit price fluctuates to reflect the exact value of the investments held in the fund, with prices usually changing daily.
OEICs work in a similar way to unit trusts, except that they issue shares in a fund, rather than units. The shares still move up and down in line with the fund's underlying assets and the fund is owned collectively by all investors.
The key difference between an OEIC sub-fund and a unit trust is that OEICs are 'single-priced', while unit trusts have a buy price and a sell price. With OEICs the charging structure is more transparent - you get the same price whether you are buying or selling shares.
How much can I invest in funds?
There is usually no maximum investment for direct unit trust and OEIC holdings. There is an annual limit of £11,520 (tax year 2013/14), though, for investments held within an ISA wrapper.
As for minimum investment levels, most fund managers will allow people to invest relatively small lump sums, usually £500 or £1,000. You can also invest with Interactive Investor’s regular investing plan, funds builder, allowing as little as £20 to be invested each month (although £50 or £100 is more typical).
There is a key benefit to investing regular sums in funds, known as 'pound cost averaging'. In simple terms, a regular investment smoothes out the short-term peaks and troughs which occur in volatile stockmarkets. So when markets are low your fund can buy more shares with your money, and when they’re higher, you buy fewer shares.
With lump sum investments there’s a danger you could be buying when the stockmarket is high, which reduces your chances of making a decent return. This may only be a major issue for people with short- or even medium-term investment objectives since historically equities have outperformed bonds, cash and property investments over the long term. Usually the decision between lump sum or regular investments depends more on how much money you have available.
What's the difference between a fund and an ISA?
A fund is an actual investment. An ISA is simply a place or account where you hold funds. Funds held within an ISA account will have special tax privileges and there is therefore a limit to how much you can invest in them annually.
two: Investing online – opening an investment account
Investing online lets you take control of your investment portfolio. You can buy what suits you at a time and price you’re comfortable with. You can also research investments and buy online, all from the same place. It’s then easy to monitor and track your holdings so you can keep a check on how your investments are performing.
Opening an investment account is easy. Simply complete the application form (you will need bank and other details to hand) and apply online.
For more information, and to apply Open an account
three: Choosing your fund investments
Choosing investments - whether it’s inside an ISA or not - is a very individual consideration. People have different ways of deciding where to put their money, from investing in a company you buy services from to the most impartial of analytical calculations.
Before you part with any money you need to work out what’s important to you. You’ll have to consider a number of factors, such as how much risk you want to take, which sector you want to invest in, how much you want to invest, and whether you’re looking for income or for capital growth. If you’re not sure about all or any of these things, we can help.
On Interactive Investor there are a number of ways to get help with which investments to choose, based on your own investment priorities. However, we’d always recommend you get independent financial advice to help with your investment decisions if you are unsure.
Here is how we can help:
1. When you're looking for a particular fund
If you know what you are looking for, or you’re interested in a particular fund, use our fund search tool to find funds quickly.
2. When you want help narrowing your options
If you find the amount of potential funds overwhelming, you can narrow your options by answering a few simple questions about your investment priorities (for example how much risk you want to take). You can then create a shortlist of options to research further.
3. When you're short on time, or want a ready-made selection of funds for an ISA
If you’re looking for funds for your ISA you might prefer the option of a 'ready-made' ISA where funds have been chosen using a set of carefully selected (and transparent) criteria. This can be particularly useful if time is running out at the end of the tax year. We offer a choice of fund-only selections or portfolios including both funds and investment trusts.
4. When the ISA deadline is near and you want more time to choose
If you’re looking for funds for your ISA and are fighting the ISA deadline (the tax year runs 6 April to 5 April annually) you can secure your annual allowance by opening an ISA account and depositing your money. You’re then free to choose your investments at your leisure.
5. Decide on real-time investing or regular investing
Do you want to make a one-off investment, or set up a regular investing schedule? Real-time investing lets you invest when the time is right for you. Whereas regular investing can be a flexible alternative and has the advantage of getting you into a regular investing habit.
Our regular investment service Funds Builder (for investing in funds) gives you the flexibility to decide when, where, and how often you invest – with a minimum investment amount of £20.
We offer a range of tips, ideas and performance information to help you choose the right investment for you.
We offer a range of helpful tools to assist you in narrowing down your investment options for your ISA.
four: Monitoring and building on your investments
Even with long-term investments it is important to keep a regular check on how they are performing. If you are investing with us, you will have access to your account where you can monitor your investments and see their performance progress. Your portfolio also lets you see everything in one place, giving you an overall snapshot view of all your holdings.
It is also important to keep track of your fund details. For example, if the fund manager changes it might affect your view of the fund. You will find plenty of tools and information which will help you to monitor your shares and funds on our trading tools page.
five: Understanding charges
When you invest in funds, it's important to understand how much you will pay in charges. Buying the same fund can incur different levels of charges, depending on which provider you invest through.
All actively-managed funds carry an initial charge, and an Annual Management Charge (AMC). The initial charge can be up to 5%, but in most cases is discounted fully, making your initial entry payment 0%.The AMC is a percentage that’s deducted from your investment returns every year. This charge is automatically reflected in the fund’s price, so you may not even notice it.
Almost all companies you buy your funds from will keep a substantial share of the AMC.
For most funds the annual charge is 1.5%, which is allocated as follows:
- 0.75% goes to the fund manager – for managing the fund
- 0.5% is paid as commission to IFAs (independent financial advisers) or to the provider who sells you the fund. This is widely known as trail commission.
- 0.25% is paid as a fee to the fund platform (eg Cofunds). Fund platforms act as the intermediary between advisers/execution-only brokers and the fund managers.
In some cases the provider who sells you the fund also runs their own fund platform, in which case they keep the platform fee. This means they will keep approximately half of the overall annual management charge.
Where a provider uses an external fund platform, the platform fee may be split. Cofunds is Interactive Investor’s fund platform provider.
How do fund rebates work?
Some companies rebate some of their share of this charge – giving you a fund rebate. However, this is unlikely to be a rebate of all the income and commission they earn on your funds.
Interactive Investor is different. We give you back:
- 100% of the trail commission we’re allocated from your fund’s AMC
- 100% of our share of the fund platform fee we’re allocated from your fund’s AMC
On average, with Interactive Investor, of the 1.5% average AMC, you will receive 0.64% back from us. This will be rebated to you every year you hold your fund investment with us.
This amount can make a significant impact on your returns.
If your fund returns 3%, you’d get 3.64% invested with us (an increase of over 20%).
By reinvesting every year, the compound effect of that extra share can make a huge difference to how much growth or income you make