Mutual funds, form of investment, where the money of several investors are invested together in a number of actions have advantages compared to individual securities, including diversification and convenience.
Reducing Risk Through Diversification
Investing in only a handful of stocks is risky, because the investor’s portfolio suffers greatly when one of these stocks declines in price. Mutual funds mitigate this risk by holding a large number of shares; value per share falls, it has less influence on the value of a diversified portfolio.
For example, suppose a person owns 10 shares each of two stocks, each share is valued at $100. If the stock price falls by 25%, the portfolio value is reduced from 2000 $to 1750$, a drop of 12.5%. If the portfolio consists of one share of each of the 20 shares, each worth $100, a 25% reduction in the price of shares brings the value of the portfolio from $2000 to us $ 1,975$. This reduction is only 1.25% of the total portfolio.
Mutual Funds Offer The Convenience
In addition, investing in mutual Funds is more convenient than investing in individual stocks because a Fund Manager research stocks and decide which of them to buy. Investor, purchase of shares must make such decisions for themselves. However, the downside of this convenience is a contribution to a Mutual Fund Manager expenses, which reduces the amount investors can earn from the Fund.
While mutual funds are diversified and convenient, whether investing in them is a great way to maximize profits is a matter of debate among economists. Those who support the efficient market hypothesis (GER) consider investors who buy individual stocks tend not to achieve profits as high as the yield of the market as a whole. Thus, they recommend that people invest in index funds, which are mutual funds that track a market index and generally have low expense ratios. Other economists have challenged this hypothesis and claim that the purchase of the shares has the potential for higher returns than mutual Funds.
(For associated reading, see “mutual funds basics tutorial.”)