Individual investors often wonder if they should put their money in stocks or mutual funds. If their portfolios already contain both, they wonder if they have the right mix of mutual funds and stocks. An investor wants a good return on her investment, but she needs to limit risk to a level that suits her financial goals. Mutual funds and stocks have similarities that make both of them an appropriate purchase.
Stocks are securities that corporations issue to distribute ownership of the corporation among shareholders. If you own stock in a company, you own a piece of the company. Stocks are often considered a long-term investment, as values may fluctuate significantly in the short term. As an individual investor, you decide which corporations to invest in, how many shares of stock to buy and how long to hold your shares.
Mutual funds are similar to stocks because the funds hold shares of stock from many different companies. Mutual funds are trusts that investment companies maintain for groups of individual investors. The company combines the funds of many investors, purchases a variety of securities on their behalf and manages the portfolio for them. A mutual fund can contain bonds, stocks or other securities. The mix of funds is virtually unlimited. For example, there are mutual funds that are based on companies that trade on a particular exchange, companies that appear on a specific index, companies that sell certain types of goods and companies that appeal to a certain demographic.
Mutual Fund Advantages
There are several advantages to investing in a mutual fund. Mutual fund managers specialize in picking strong investments. Most have more time and resources available to them than the individual investor has to research stocks. In addition, mutual funds bring instant diversity to a portfolio, spreading risk over a wide range of companies. An individual who invests heavily in one company's stock instead of diversifying by investing in mutual funds risks much of his wealth on that company's performance.
The advantage of investing in individual stocks is that the investor has complete control over her portfolio. She cannot tell a mutual fund manager to sell a company's stock when she thinks it will drop in value, nor can she tell the manager when to buy a stock that she thinks is a good value. She can, however, buy and sell individual stocks as she pleases. A sophisticated investor who has the time and know-how to research publicly held companies may create a diversified portfolio of her own by investing in a variety of stocks.