How to Read a Prospectus

The most valuable information on any fund is found in the prospectus. Read it carefully.

The three most important items to look for in any prospectus are the investment objectives, costs and performance. Most fund prospectuses give a short description of the fund's objectives and the type of securities in which the fund invests in the opening paragraphs of the prospectus. By reading this description, you can determine if the fund meets your investment goals.

Example

You would pay the following expenses on a $1,000 investment, assuming (1) 5% annual return and (2) redemption at the end of each time period:
1 year - $9
3 years - $28
5 years - $49
10 years - $108

Fees. To make shopping for a mutual fund easier, SEC rules require funds to identify all fees and charges such as sales loads or annual fund expenses in a standardized table displayed at the front of each prospectus. These rules require prospectuses to include a hypothetical example of how a $1,000 investment with a 5% rate of return would be affected by expenses over one, three, five and ten years. Both load and no-load funds have annual management fees and operating expenses which are charged to the fund. They are reflected in the share price and are not charged directly to the shareholder. In addition, some funds have 12b-1 plans used to cover the cost of advertising and marketing. The total expenses of the fund include the management fee and other expenses, including the cost of a 12b-1 plan if the fund has one.

Other Expenses shows fees associated with the many related services that fund companies provide to shareholders. These may include the printing and mailing of reports and statements, 24-hour telephone service, automatic reinvestment of distributions and other conveniences for which the shareholder pays no transaction fees.

Performance. The year-by-year record of a fund's results can be found in the condensed financial statement found in every prospectus. This lists such figures as net asset values (or individual share prices), expenses and dividend distributions. This per-share data is in table form that gives the fund's annual performance over the past 10 years (or life of the fund if it is younger than that). Some funds may include a graph showing how a $10,000 investment in the fund would have fared over the years.

Statement of Additional Information. In addition to the prospectus, funds publish a "Statement of Additional Information" which covers the complex items not necessary to make an investment judgment. If you are a potential investor, the fund must send you this statement at no charge when you request it.

It includes more details on investment objectives, biographies of directors and officers, all the expense items, contract provisions of the agreement between the advisor, the fund and audited financial statements.

All funds must also send their shareholders an audited annual and semiannual report, and many also send quarterly reports. Mutual funds are allowed to combine their prospectus and annual report, but most do not. The annual report describes the fund activities over the past year and provides a listing of all investments included in the portfolio of the fund.

Investor Protection

Mutual funds are governed by strict federal and state regulation. Laws enacted in the 1930's and 1940's ensure that prospective investors are informed of the risk involved, and that each fund is managed and operated in the best interest of its shareholders.

Under federal law, all mutual funds are required to register with the Securities and Exchange Commission (SEC). They must present the Commission with regular, comprehensive disclosures of their operations. In addition, each fund must provide shareholders with reports detailing all portfolio holdings, and it must furnish shareholders and prospective investors with an up-to-date prospectus. The prospectus contains full disclosures on the fund's management, investment objectives, purchase redemption procedures and other business practices, including 12b-1 and other distribution charges, if any.

Most states also require funds to register with their own securities commissions (which are responsible for enforcing state securities laws) before permitting funds to distribute shares to their residents.

In addition, mutual funds must adhere to specific rules regarding the sale, distribution and advertising of mutual funds. Ads or sales literature must be carefully worded and explained. These steps further ensure that potential investors are aware of the benefits as well as the potential risks involved in mutual fund investing.

Mutual Fund Rankings

Mutual fund rankings, ratings or other evaluations of fund performance can provide an important way for you to compare your fund's past performance with other funds. Unfortunately, investors often interpret these rankings as recommendations, or even as projections for future performance, which they clearly are not.

Your best protection is being an informed investor. Request prospectuses from the funds you are considering and read them carefully to understand their goals, risk factors, performance record and procedures for buying and selling shares.

Professional ranking services, financial magazines and investment newsletters are the most prominent sources for this information, but there are others -- and not all present the same information or use the same criteria for evaluating funds. As an investor, you should be aware of how these reports differ and how this information can be used by you in making sound investment choices.

Rankings or ratings provide another piece of important information that can be used in the selection of fund investments, but they should not be used as the only basis for your decisions. You still need to do your homework on the funds you are considering. Identify your goals and evaluate a fund's ability to meet your goals within your investment timeframe and at the level of risk you are able to accept.

All performance rankings and ratings show how a fund has performed in the past and is no guarantee that it will continue to do so. Rankings are a good barometer, however, for determining if a fund has been well-managed over the years, or if it has consistently performed in a particular manner.

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