How Do Segregated Funds Differ From Mutual Funds?

Mutual funds are investment vehicles that many investors have embraced as a simple and relatively inexpensive method for investing in a variety of assets. Over time, they have become one of the most popular investment tools that allow for diversification by following a specific exchange, with options for both passive and active management. Meanwhile, segregated funds are similar to mutual funds as they have an investment component, but they possess some key differences as well.

Similarities Between the Funds

On the surface, both investment vehicles represent a collective pool of funds that investors pay into. After doing so, typically another party makes the decisions regarding asset allocation and other investment-related choices. Furthermore, all financial assets within each fund are still owned by the organization that is managing the pool of investments, while investors own interest on the assets.

Differences Between the Funds

However, this is more or less where the similarities end. Segregated funds are considered to be life insurance products sold by insurance companies and, as a result, the governing bodies and regulations responsible for overseeing segregated funds are usually the same ones that cover insurance companies.

Another fundamental difference between segregated funds and mutual funds is that segregated funds generally offer a degree of protection against investment losses. For example, most segregated funds will guarantee around 75-100% of premiums paid (minus management and other related costs) in the event of maturity or the policy holder’s death. This differs from mutual funds because, in the unlikely event that all of the underlying stocks that make up a mutual fund become worthless, investors stand to lose all of their invested assets.

Segregated funds also have some other benefits relating to the death benefit portion of their policies, since they double as life insurance policies. Beneficiaries of the policy will usually directly receive the greater of the guarantee death benefit or the market value of the fund holder’s share. However, segregated funds must be held until the contract’s maturity, making them long-term investment vehicles. As a result, segregated funds can also have more restrictions on when withdrawals are able to be made or liquidated from the portfolio with a fee if the transaction occurs before maturity.

Segregated funds must be held until contract maturity, whereas mutual funds can be sold at any time.

With a mutual fund, on the other hand, the market value of the asset is subject to the same estate-related processes that other assets go through, which means it may take some time before any parties receive a payout. Mutual funds are also typically held as longer-term investments, but there is no contract in the same way that segregated funds maintain. Geographically speaking, segregated funds also tend to be more popular in Canada whereas mutual funds dominate in the U.S. market.

In spite of their advantages, segregated funds are not without drawbacks. Due to all the extra bells and whistles that segregated funds offer, fees tend to be higher (on average) than mutual funds. Also, due to the guarantee against losses, segregated funds tend to be more restrictive about their choices for investments, leading to more modest returns.

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