Jonas Elmerraji
Read the prospectus carefully before investing. Sounds familiar, right? But exactly how do you "carefully" read a fund prospectus?
Whether you're about to buy shares of a mutual fund
or an exchange-traded fund (ETF ), or you need to decide what to do with a fund investment that you currently own, you should definitely take the time to parse the prospectus. But sifting through that monster document can be a time-consuming challenge, so here is an A to Z guide to help you get the information you need and point out the material you can skim (or even skip).
What's a Prospectus?
A prospectus is a document that a company uses to describe its mutual fund or ETF that it is offering to the public. Prospectuses are chock-full of information, from how the fund will invest to how it has performed historically. Although this guide will only look at fund prospectuses, it's important to note that when a company goes public (see IPO ) it is also required to file a prospectus.
So where can you get a prospectus? The easiest way is to simply contact the issuer. Call up any large investment management firm like Vanguard, T. Rowe Price, or iShares (Barclays), and they'll be glad to mail out a prospectus to you. Alternatively, most investment firms make prospectuses available on their Web sites as well.
So here is your A to Z guide to things you should consider when you read the prospectus of a fund that you're interested in.
A: Assets
Stocks ? Bonds ? Large-caps ? One of the most fundamental questions about any mutual fund or ETF is "What kind of assets does the fund hold?" As with your personal portfolio (see Allocate Your Assets Like a Pro), the way a fund's assets are divided by class (like equity , fixed income and cash equivalents ) can have a lot to do with the risks and returns associated with that fund. So understanding exactly how a fund is broken up should be one of the first things you check in any prospectus.
Because of its importance, you'll typically find this kind of information at the beginning of the prospectus, in the section explaining the fund's "strategy." The fund's specific holdings (or where to find them) will also be explained later on in the prospectus (see F: Financials).
B: Buying Shares
When it comes to buying shares of a mutual fund or ETF, "some restrictions may apply." That's because many funds have minimum initial investments as well as restrictions for buying additional shares. However, this is much less of a problem for ETFs, where you can begin investing with only one share. Generally speaking, buying restrictions will be toward the middle or end of a fund's prospectus. We'll take a look at selling in a little bit.
C: Charts (and Tables)
If you find a chart or table that catches your eye, let it. There's probably a good reason that graph was included in the prospectus. But keep in mind that not all charts or tables are created equal. It's easy to skew the appearance of a graph by playing with scales, so make sure you look at the actual numbers, not just how high that bar (or line) for this year's gains are compared to five years ago.
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