Investing in Mutual Funds: Pros & Cons
When reviewing the pros and cons of investing in mutual funds, always keep in mind what matters to you. A factor important
to one person may not be relevant to you.
By discussing the pros and cons of mutual funds, I do not mean to imply that investing in mutual is an “all or nothing”
approach. You can invest directly in stocks, bonds and treasuries and still buy mutual funds.
The Pros: Why Invest In Mutual Funds
How mutual funds can be a good way to invest in stocks, bonds and other securities:
- Professional money managers run mutual funds. (Be sure to read the first point in “The Cons: Why Not Invest In Mutual
Funds” below.)
- You spread out your investment risk when you own shares in a mutual fund rather than buying individual stocks or bonds
directly. This is an important investment strategy called diversification.
- Mutual funds can be cost efficient becuase they buy and sell large amounts of securities which can mean lower
transaction costs (commissions) than you would pay on your own.
- Mutual funds enable you to invest in a specific sector (for example, precious metals) that would be difficult as an individual
investor. See the section about sector funds for more info.
- Mutual funds are the only investment option for many 401(k) plans. If this is your situation, then you are better off
investing in your 401(k), getting matching contributions from your employer and selecting mutual funds wisely
than you are not investing any money into your 401(k).
- Some mutual funds set a low dollar amount for the initial investment and later purchases. This helps investors who do not have
a lot of money to invest.
- You can sell your mutual fund shares at any time (less any fees and expenses charged when you sell). This is called
liquidity, another important investment strategy.
The Cons: Why Not Invest In Mutual Funds
Reasons why mutual funds may not be a good way to invest in stocks, bonds and other securities:
- Professional money managers run mutual funds. Yes, this item also appears in the “The Pros: Why Invest In Mutual
Funds” section above. Why? Because many money managers charge a big fee for not being able to pick stocks any better
than the average investor.
- Many mutual funds do not perform as well as the average return of the stock market
- Some investors do better investing on their own
- Some mutual funds have high fees and expenses that reduce your investment return
- You may have to pay taxes each year on the fund’s capital gains for shares you buy and hold (that is, that you do not sell).
This differs from individual stocks where you pay capital gains taxes only when you sell and make a profit. See
Investment Basics, Taxes & Mutual Funds for more info.
Next: Mutual Funds Defined
