Mutual funds do not always increase in value

Mutual funds rise and fall based on the performance of the stocks, bonds, or other securities they hold. When the companies in a fund's portfolio perform well, the fund's value goes up. When those companies struggle or the broader market declines, the fund's value goes down. You can lose money in a mutual fund, including losing part of your initial investment.

The direction a fund moves depends on market conditions, economic cycles, and the specific investments the fund manager chose. A fund that gained 12% last year might lose 8% this year. This is normal and expected, not a sign that something went wrong with your fund or your decision to invest in it.

Key Takeaways

  • Mutual fund values fluctuate daily based on changes in the value of the securities they hold, and losses are possible.
  • Stock funds tend to be more volatile than bond funds, meaning their values swing more dramatically up and down.
  • Market downturns can cause significant temporary losses, but historically markets have recovered over longer time periods.
  • The fund's stated objective and holdings determine how much risk you take on, so reading the prospectus matters before you invest.

How daily price changes work

Each mutual fund has a net asset value (NAV), which is the price per share. This price changes every trading day after the market closes. The NAV is calculated by taking the total value of all the securities in the fund, subtracting any expenses, and dividing by the number of shares outstanding.

If the stocks or bonds the fund owns went up in value that day, the NAV goes up. If they went down, the NAV goes down. You see this reflected in your account balance. If you own 100 shares of a fund and the NAV drops by $2 per share, your holding loses $200 in value that day, even though you did nothing and the fund manager did nothing wrong.

Why stock funds drop more than bond funds

A stock fund's value swings more dramatically than a bond fund's because stock prices are more volatile. Stocks can gain or lose 5% or 10% in a single month based on company earnings, economic news, or investor sentiment. Bonds are generally more stable because they represent fixed debt obligations with set interest rates.

This does not mean stock funds are bad investments. Historically, stocks have returned more over long periods than bonds have. But the trade-off is that you experience larger temporary losses along the way. A fund holding 100% stocks might drop 20% in a bad year. A fund holding 60% stocks and 40% bonds might drop 12% in the same year. The mix of holdings determines your risk level.

Market downturns and recovery

During recessions or market crashes, mutual fund values can fall sharply. The 2008 financial crisis saw many stock funds lose 40% to 50% of their value. The 2020 COVID-19 market shock caused declines of 30% or more in some funds within weeks. These are real losses if you sell during the downturn, but they are temporary if you hold through the recovery.

Historical data shows that markets have recovered from every major downturn in U.S. history, though recovery timelines vary. Some recoveries take months; others take years. The longer your time horizon before you need the money, the more time a fund has to recover from a downturn. Someone investing for retirement 30 years away can weather a 40% drop more easily than someone who needs the money in two years.

What happens if you sell during a decline

Losses become permanent when you sell a fund while its value is down. If you buy a fund at $50 per share, it drops to $35, and you sell, you have locked in a $15-per-share loss. If you had held through the recovery and the fund returned to $50 or higher, you would have recovered that loss.

This is why investment professionals often recommend staying invested through market cycles rather than trying to time the market by selling before downturns and buying back in afterward. Most investors who try to time the market end up selling low and buying high, which locks in losses and misses recoveries.

Reading the fund's objective and risk level

Every mutual fund has a stated objective that describes what it invests in and what risk level to expect. An "aggressive growth" fund targeting young investors will hold mostly stocks and will fluctuate more. A "conservative income" fund targeting retirees will hold mostly bonds and dividend-paying stocks and will fluctuate less.

The fund's prospectus — a document you can request or download — lists the holdings, the manager's strategy, and historical performance. Historical performance does not predict future results, but it does show you how much the fund has moved up and down in the past. If a fund dropped 25% in 2008 and 15% in 2020, you know it is volatile and should only invest money you will not need for several years.

Fees and expenses reduce returns

Even when a fund's underlying securities perform well, fees and expenses reduce the amount of gain you actually receive. Mutual funds charge management fees, administrative costs, and sometimes sales commissions. These costs are deducted from the fund's returns before you see your results.

A fund that gained 10% before expenses might deliver only 9.2% to you after a 0.8% expense ratio is deducted. Over decades, this difference compounds significantly. Lower-cost index funds often outperform higher-cost actively managed funds partly because they have fewer expenses to subtract from returns.

Frequently Asked Questions

Can a mutual fund go to zero?

A mutual fund can decline significantly, but it going to zero is extremely rare. It would require every single holding in the fund to become worthless simultaneously, which almost never happens. More commonly, a fund declines 20% to 40% during market downturns and recovers over time.

What is the difference between a loss and a decline in value?

A decline in value is a temporary drop in the fund's price. A loss is permanent when you sell the fund while it is down. If you hold through a recovery, a decline becomes a gain instead. This is why time horizon matters — short-term investors lock in declines as losses, while long-term investors often recover them.

Should I move my money out of a mutual fund when the market drops?

Selling during a downturn locks in losses and means you miss the recovery. Most financial guidance recommends staying invested according to your original plan and time horizon. If you cannot tolerate the volatility, you may have chosen a fund with too much risk for your situation, and you should consider a more conservative fund going forward.

Do all mutual funds perform the same way in a market downturn?

No. Stock funds decline more than bond funds. Domestic funds may decline differently than international funds. Sector-specific funds (like technology or healthcare) can decline more or less than broad market funds depending on what is happening in that sector. Your fund's specific holdings and strategy determine its behavior.