Advantages And Disadvantages Of Mutual Funds

Advantages And Disadvantages Of Mutual Funds

Mutual funds are a type of investment where investors pool their resources together to invest in diversified assets. However, it is important to note that when you invest in a mutual fund, you do not become an owner of the assets in the portfolio. Instead, you own a unit of the actual fund.  There are many different types of mutual funds but the most common ones include stocks, bonds and other money market assets. There are many different advantages and disadvantages of investing in mutual funds.

One of the often cited advantages of mutual funds is that they allow investors to invest in a diversified portfolio at a relatively lower cost. However, many mutual funds earn returns that are significantly lower than many other investment assets.

 

Advantages

Built-In Diversification

Investing in a diversified portfolio can be very expensive. The nice thing about mutual funds is that they allow anyone to hold a diversified portfolio. The reason why investors invest in a diversified portfolio is because it increases the expected returns while minimizing the risk.  Therefore, many see mutual funds as a cost effective way to achieve this.

Liquidity

Another nice advantage to mutual funds is that the assets are liquid. In financial jargon, liquidity basically refers to converting your assets to cash with relative ease. Mutual funds are considered liquid assets since there is high demand for many of the funds in the marketplace. Since this is the case, an investor can convert the asset to cash by quickly selling it to another investor.

Professional Management

Mutual funds do not require a great deal of time or knowledge from the investor because they are managed by professional fund managers. This can be a big help to an inexperienced investor who is looking to maximize their financial goals.

Ease of Comparison

Mutual funds are also convenient because they are easy to compare. This is because many mutual fund dealers allow the investor to compare the funds based on metrics such as level of risk, return and price. Because the information is easily accessible, the investor is able to make wise decisions.

A scale showing the euro and the dollar.

Disadvantages

Cost

One downside to mutual funds is that they have a high cost associated with them in relation to the returns they produce. This is because investors are not only charged for the price of the fund but they will often face additional fees. Depending on the fund, commission charges can be significant. You will also need to pay a fee that will go towards the fund manager.

Index Does Better

In some cases, the stock index may outperform the mutual fund. However, this is not always the case as it depends in large part on the mutual fund the investor has invested in, as well as the skill set of the fund manager. Therefore, it is a good idea to do your research before investing in a fund. If the historical data indicates that it consistently underperformed compared to an index, then it is not a wise investment.

Fees

The fees that are charged will depend on the type of mutual fund purchased. If a fund is riskier and more aggressive, the management fee will tend to be higher. In addition, the investor will also be required to pay taxes, transaction fees as well as other costs related to maintaining the fund.

Unpredictable

Although expected returns will be quoted, it is impossible to find a mutual fund with a guaranteed return. This is because all assets carry some degree of risk. However, some mutual funds will carry a higher level of risk than others depending on how well it is diversified.

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