Mutual Funds
9 Great Reasons to Own Funds
You hold the biggest selection of super investments in the palm of your hand.
By Thomas M. Anderson, Associate Editor, Kiplinger's Personal Finance
April 2007
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Editor's note: This article is adapted from Kiplinger's Mutual Funds 2007 guide. Order your copy today.
Mutual funds really boil down to one thing: financial power. With funds, you can harness some of the world's best investment minds, and you can buy everything from small-company stocks to big-company stocks to foreign stocks to bonds to real estate. You also get the power of diversification, which ensures steady returns. With some funds you can even, in effect, hire experts who will manage a whole portfolio for you.
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Of course, power comes at a price. But in the case of mutual funds, that price can be dirt cheap. You can start investing for just a few hundred dollars in some cases, and you'll pay experts pennies on the dollar annually to manage your investments.
Recognizing these extraordinary benefits, about 96 million investors have poured $10 trillion into funds. If you're a stranger to funds, or you need a refresher course, here are the top nine reasons to own them.
1. Cash in on big returns
Over time, stocks of big companies have made about 10% per year, on average, and stocks of smaller companies, about 13% a year. Compare that with the sub-5% return from a bank account or even short-term Treasury bills, and funds that invest in stocks and bonds blow away the competition.
Of course, you may think you can do better than the best fund managers by buying individual stocks. That's possible, but you're not likely to beat their returns when you factor in risk. Once you consider the reduced risk that comes with investing in a broad portfolio, the returns look better and better.
2. Hire top-notch help
When you invest in a mutual fund, you hire professionals. These pros don't dabble in stock picking on evenings and weekends; they do it full-time. And they don't get their tips by tuning in to Jim Cramer on Mad Money. Pros have access to company management as well as reams of stock analysis and more advanced technology than Yahoo Finance.
Mutual fund managers level the playing field between the experts and the amateurs. Some of the best money managers in the business offer mutual funds. Take a look at the two Bills: Bill Miller, who bested Standard & Poor's 500-stock index 15 years in a row at Legg Mason Value, and Bill Gross, who is known as the king of bond investing. They handle money from pension funds, wealthy clients and average fund investors like you. Hundreds of other fund managers have earned impressive records, too—though for every star, there are ten mediocre or poor managers.
You live a busy life. Do you have time to pore over market data and fiddle with your portfolio every day? Probably not. Professional management frees you to focus more on the things you really care about.
3. Diversify for cheap
Managing a big portfolio of individual stocks and bonds is expensive, and trading costs can quickly eat up your profits. By comparison, funds are cheap.
You can find plenty of good funds that invest in large-company stocks and charge less than 1% of assets per year. For bond funds, expenses should be even lower.
A 1.5% expense ratio is reasonable for funds that invest in small-company and international stocks. But some of the best funds in these categories cost less. Dodge & Cox International, one of our favorite funds, charges only 0.7% annually.
Small differences in fees have a big effect on your return. Let's say you invest $100,000 in Stock Fund A, which charges a 1% fee, and another $100,000 in Stock Fund B, which charges 2%. If both funds return 8% a year, you'll have $195,250 in Fund A after ten years and only $176,400 in Fund B. That's an $18,850 difference because of a one-percentage-point difference in fees. (For more on fund fees and expenses, see How to Choose Winning Funds.)