Mutual Funds

For many people a mutual fund presents one of the easiest ways to get involved in the stock market. Rather than buy specific stocks, mutual funds allow you to pool your money with a bunch of other investors and buy a collection of stocks together. This pooling of money also makes it possible for the group to hire a money manager to choose the stocks, which can yield better returns than if we were to all choose stocks on our own. So let's take a closer look at mutual funds and their advantages and disadvantages.

Advantages

Mutual funds can be a great way to start investing as they offer some distinct advantages.  First off, you're going to get some kind of professional management of the fund when you go the mutual fund route.  If you don't want to spend a lot of time researching individual stocks and bonds and you prefer someone who lives and breathes the stock market to take care of things, then a mutual fund might be a good bet for you.

Next, a mutual fund means diversification.  When you choose to go with a mutual fund, your money goes into several different stocks.  If something should awful happen to a company, you can breathe a bit easier because not all of your money is tied up in only their stocks.  In other words, your money is spread around, making the risk a little less, well, risky. 

Lastly, it's pretty easy to get involved in a mutual fund.  You won't need a business or financial degree, just some money you're willing to invest.  As an added bonus, it usually doesn't take a huge chunk of change to get started.  As mutual funds are numerous, with most banks even having their own, the cost to buy some shares can be relatively small.

What's the Catch?

As with anything, there are some potential negatives that need to be explored when considering mutual funds.  First off, the manager might simply stink.  Who's to say that the professional you get with your mutual fund is going to be any better at choosing and investing than you are?  Plus, if the fund does poorly and ends up losing money, the professional still gets paid.  Speaking of money, you'll want to watch the fee amount closely.  While good professional management of the fund is a nice feature, it doesn't come cheap.  Too much spent in fees can make the whole foray not worth it in the long run.

Taxes, too, can rear their not-so-pretty heads where mutual funds are concerned.  As part of a fund, you can get stuck with some taxes.  If your fund makes strides and has a gain, you'll get a payout in a form of a distribution.  Of course, this is taxable (wouldn't you be worried if it weren't?).  If your take is pretty sizable, this might not be such a big deal; however, if the return was just okay, the tax bite can hurt.  And don't think you can avoid this if you reinvest that distribution; you'll still have to pay Uncle Sam.  Watch out, too, if you sign up right before a distribution is set to come up.  You could potentially be paying taxes on stuff that happened before you and your money showed up.

There are a wide variety of mutual funds with different advantages and disadvantages. One of the most popular types that we'll look at in upcoming posts are index funds, which simply buy all the stocks in a stock market index. Each different type has advantages and disadvantages that we'll explore in more detail. For many people however, mutual funds can offer a lower risk way to dip their toe into the pool of the stock market.

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