Top 6 Benefits of Investing in Mutual Funds

See the Top Advantages and Benefits of Investing in Mutual Funds

A woman sits at a desk at work and discusses her mutual fund with a coworker.

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There are many good reasons to invest in mutual funds. Mutual funds are easy to invest in, professionally managed, versatile, and diversified. Learn more about the aspects of these funds that can work to your advantage and decide if you should invest, and discover six benefits of investing in mutual funds.

1. Investing in Mutual Funds Is Easy

Building a portfolio of stocks and bonds can be complex for novice investors. The time, effort, and knowledge you need to research and analyze a dozen or more stocks can be a huge challenge for most people. Then. you need to think about all the trades you'll need to make to build your portfolio plus the ongoing research and thought required to maintain it. Still, when it comes to mutual funds, you can get started with just one fund.

You'll need to do a little research to find a fund that meets your goals and your level of risk. Decide how many years you want to invest and how much risk you can take. For instance, if you have a lot of time and can stand some risk, a stock or bond fund might be for you. If you need something lower risk and have a date in mind for when you'll need to use the money you earn, you could look at a target fund. Once you find a fund, you'll find that the choices within that fund have been made for you by an expert who has done the research for you.

2. Mutual Funds Are Managed

One of the main reasons mutual funds are easy to invest in is because they're professionally managed. Rather than choosing, buying, and selling stocks or bonds yourself, you have a skilled fund manager doing it for you. Professional management is at the core of how mutual funds work. When you buy shares of funds, you're pooling your money with other investors. Managers use this pool of money to buy the stocks or bonds that end up forming one portfolio.

Think of mutual funds as baskets of things to invest in. Each basket has its own goals and a manager. This expert also has a team of analysts that assist in doing the research to find the best things to put in the basket. When it comes to management, mutual funds fall into two main categories. These are active management and index funds.

Managers of active funds will use their expertise to try and "beat the market." They'll attempt to outperform a certain benchmark, such as the S&P 500 index. Still, the manager of an index fund will not try to beat the index but will instead buy and hold a basket of stocks that will replicate the holdings and performance of the index.

3. Mutual Funds Are Diversified

The nature of mutual funds as pooled and managed investments means that you can meet one of the most vital standards of smart investing: diversification. To diversify means to spread market risk by holding a variety of securities, rather than just a few. Most funds invest in dozens or hundreds of stocks or bonds within one basket.

Depending on the type of fund, diversification can be met with as little as one or two funds. When building a portfolio of mutual funds, you would be smart to buy several funds in different categories. This becomes even more vital as assets and goals grow more complex over time.

The reason why diversification matters is that putting your money into just one or two securities can be too risky. For instance, if you buy just a few stocks and those stocks see big declines in price over a short period of time, your portfolio will see a big drop in value. But if you buy a fund that holds 100 stocks, and a few of those stocks see price declines, the impact on your account value is less.

4. Costs Are Low for Mutual Funds

Investors tend to overlook many aspects of building and managing a portfolio. This is even more true when it comes to investment fees and costs. Depending upon the brokerage firm, you could be charged commissions for each purchase or sale of single securities, such as stocks. This can add up to hundreds of dollars per year, per account, depending upon the frequency and size of trades.

The good news is mutual funds can cost much less. A fund manager will place all of the trades that need to happen to maintain the fund portfolio, but you may only need to pay one low expense. Be sure to ask about costs up front. Investing in mutual funds can end up being more costly than buying individual investments.

Buy no-load mutual funds with low expense ratios to keep costs low. Costs can also be kept low by investing with one of the best no-load mutual fund companies like Vanguard, Fidelity, or T. Rowe Price. They all have a diverse choice of no-load funds with low expense ratios.

5. Choose the Best Fund for You

Investment goals are unique for all investors. There are several categories of funds that can suit any investment need. Some of the most common reasons to invest include retirement and education, each of which may require different funds to suit the needs of the investor.

Target retirement funds are good examples of low-cost, diversified funds made to meet a variety of timespans. This category of funds will invest in other mutual funds that combine to be suitable for a certain age range of the investor. These funds are grouped by decade. For instance, a 25-year old investor may expect to retire in 35 to 45 years. Therefore a fund like Vanguard Target Retirement 2050 (VFIFX) can work well in a 401(k) or IRA for this investor.

For most people, retirement is a long-term investment goal. But there are mutual fund types, such as money market funds or bond funds, that work well for most short-term needs. You may also combine types of funds to tailor your specific goals.

6. Mutual Funds Are Versatile

All of the plusses of mutual funds combine to offer flexibility. They're simple enough to be understood and used by beginners. Yet, they are also varied enough to be used by professional money managers, who often use them to build portfolios for clients.

As a new investor, you may buy your first fund to start saving for retirement. A large investment firm might use the same fund in a portfolio of funds for a major client, such as a wealthy trust client or an endowment fund used by a major university or non-profit organization.

Disclaimer: The information on this site is provided for discussion purposes only, and should not be misconstrued as investment advice. Under no circumstances does this information represent a recommendation to buy or sell securities.