The first mutual fund in the United States was created in 1924 in Boston. It was called the Massachusetts Investors Trust, now part of MFS Investment Management. The fund was created for local investors to pool their funds to invest in other stocks and bonds of the time.
Mutual funds are part of a larger group referred to as Investment Companies. These companies were officially recognized in 1940 with the introduction of the Investment Companies Act. This brought mutual funds and all others investing in securities under the regulation of the Securities and Exchange Commission, created six years earlier by the United States Congress.
After the legislation was passed into law, mutual funds grew steadily but not spectacularly for the next four decades. It wasn't until the introduction of the Individual Retirement Account or IRA in 1974 and the 401k in 1981 that their sales began to explode. Employees were now given tax-deferred incentives to invest in their own retirement. In 2005, Americans owned $3.7 trillion in IRAs and $2.4 trillion in 401k's. Today, mutual funds account for almost half of this $6 trillion in retirement savings, which would partially explain their growth in recent years.
Mutual funds are companies created specifically to pool shareholders' money in order to buy stocks, bonds and cash. Professional investors allocate assets and manage the portfolio on the shareholders' behalf. Individual investors who choose to do this hand over day-to-day decisions to those better equipped to make these investment decisions. Often, these are chartered financial analysts or MBAs trained in the art and science of investing. Not only do you receive professional investment management, but you also own a diversified portfolio, something most small investors couldn't possibly replicate even with the necessary investment expertise and knowledge. To buy all of the holdings in a particular fund would be cost prohibitive for all but the wealthiest investors.
Most mutual fund companies have a variety of funds to choose from, according to your investment goals and risk tolerance. Vanguard Mutual Funds, for example, has fund portfolios already tailored to specific goals, such as retirement or college savings. They also have a range of "core" funds that are classed by their potential risk (and therefore potential reward), allowing you to choose your own portfolio.
Mutual funds provide the small investor with an opportunity to invest in their future without the need of significant capital. Most fund companies have minimal initial investment requirements as well as automatic monthly investment plans that withdraw a certain amount from your checking account and invest it into the fund of your choice. By doing so you're paying yourself first, one of the prime tenets of retirement planning.