We have all heard the advantages of investing in a mutual fund over trying to pick individual stocks. First of all, mutual funds hire professional analysts that are market experts and devote many hours of study to the various stocks. Unless you want to devote a large portion of your free time to studying financial reports, you won’t have as much information to decide as a mutual fund manager.
Then there is the well-documented advantage of diversification. Risk is reduced by holding several non-correlated investments. But some go up, some go down, and the return levels of the fluctuations or risk are combined.
Finally, a mutual fund offers smaller investors a chance to invest in small increments rather than having to save a large chunk of cash to purchase 100 shares of stock.
Given the above advantages, it’s no wonder that mutual funds have become a very popular form of investing. Now there are thousands of mutual funds to choose from, so how does one select? Here are a few tips:
- Do not be seduced to jump on the recently performing best fund. It may seem safe and rational, but like individual stocks, you want to buy low and sell high, not buy high and pray for more growth.
- Even good funds may need help to overcome the force of the overall market. You should seek funds that can exceed the broad market without increasing risk. Each fund has certain risk parameters that it is required to follow. Read the prospectus closely to understand what these are.
- Limit the number of funds that you own. Unless you are trying to achieve the same returns as the broad market, diversifying into many mutual funds will not reduce your risk or increase your return by much.
- Funds that become too popular and big tend to lose performance. There are several reasons for this..
Find more valuable mutual fund resources at Top 25 Mutual Funds.
One final point to remember is that the type of fund will depend on your investment objectives. Certain funds are designed for your objectives: retirement, income, growth, funding the kid’s college, etc.
If you do not wish to diversify your portfolio using mutual funds or do not like the fees they charge, consider Exchange Traded Funds (ETF) as an alternative. They act and function much in the same way as mutual funds but are traded throughout the day and not after the market has closed. For more information on ETFs, visit ETF.com.
If you live in the middle Tennessee or metro Nashville area and are looking for a Registered Financial Consultant (RFC) or financial advisor, contact me directly. You may still contact me or seek a qualified fee-only RFC near you if you are outside this area.
