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Many people are faced with how they should be investing their money. They may see an ad, hear about a hot tip, or read an article. But because there are so many options out there to choose from, it can quickly become too much for anyone to make sense of on their own.
Mutual funds and stocks provide two very different paths to follow when building wealth over time. Both have their advantages and disadvantages and some general rules that investors should follow to stay safe and avoid losing money quickly. However, by understanding those rules, one can use them as guideposts, so they know what is working and what isn’t without needing outside advice all the time. Making decisions based on emotion is a common investing mistake, and it can be the downfall of even the most experienced investor.
What are mutual funds?
Mutual funds are collections of stocks or bonds managed by a professional investment company. When you invest in a mutual fund, your money is pooled with other investors and used to buy shares in various companies or bonds. This diversification reduces your risk because your money is spread out among many different investments.
Instant diversification
Another advantage of mutual funds is that they offer instant diversification. If you want to invest in a single company, you risk losing all your money if that company goes bankrupt. However, your money is spread across different companies with a mutual fund, so you reduce your risk. It allows you to have potential access to more significant returns while taking on less risk than investing in individual stocks.
Fees
Mutual funds also charge fees paid for by all shareholders regardless of whether they actively trade the fund or not. The prices usually include things such as administrative costs and fund manager salaries. These fees can often eat into your returns because they directly decrease the amount that’s available for any gains that might be made from investments within a mutual fund. However, since most people do not spend a lot of time actively trading their mutual funds, it balances out, and the small fee may not make much difference over time compared to what you would pay in payments for other investment vehicles.
Stocks
When it comes to stocks, you buy a piece of a company. It means that if the company does well, your stock will go up in value and vice versa. Stocks can also be traded on a secondary market so that you can sell them at any time. However, stocks are riskier than mutual funds because they are not as diversified. If the company goes bankrupt, you could lose all your money.
Research
Another disadvantage of stocks is that you have to research to decide which stocks to buy. Mutual funds are managed by professionals who make these decisions for you, but you are responsible for picking the right companies to invest in yourself with stocks. It can take a lot of time and effort that you may not spend if you already have a full-time job.
Fees
Stocks also charge fees, but they are mostly limited to trading commissions. While it is still essential to be aware of the costs associated with stocks, most people don’t pay them automatically like they do with mutual funds. If you decide on investing in stocks by picking your own companies, make sure you look into their fees before making a final decision.
Bottom line
In the end, mutual funds and stocks both have their pros and cons, so it boils down to what’s more suitable for your investment needs. Mutual funds offer instant diversification at a relatively low cost, while stocks allow you to invest in individual companies, and their fees tend to be lower. If you cannot afford to spend too much time researching respective companies, then mutual funds may be the better choice for you. On the other hand, if you have time and interest in picking your stocks, then maybe buying shares in individual companies would work better suited for your needs.
