Let's be very (very) clear — mutual funds are lot safer than stocks (and also bonds, company fixed deposits or gold).
There is a very (very) simple logic behind... what makes mutual funds so safe to invest in.
But before that: Let's get the RIGHT perspective about "what is a mutual fund".
As I have often cautioned, do not look at mutual fund as an investment. Rather, I consider it as a process — whereby (a) a large number of people, (b) hand over their money to an expert, (c) to manage it on their behalf.
Legally speaking, mutual fund is a Trust that collects small amounts from a large number of investors and creates a pool of money called a 'mutual fund scheme'.
This corpus is then invested by a professionally qualified and experienced fund manager, to the best of his / her Expertise, Experience and Aptitude. In this endeavour, the fund manager is supported by a team of skilled research analysts.
Depending on the objective of the particular mutual fund scheme, the corpus is invested in Equity, Debt or Gold (or a mix of the same). Hence, you have a wide variety of mutual funds viz. equity funds, debt funds, gold funds and hybrid funds.
Now, coming to the crux of this article:
First, with a limited amount of money, you could at best buy a few stocks. This makes your direct equity portfolio quite concentrated. Whereas, a typical equity fund would have 30 to 50 stocks in its portfolio, giving you a diversified portfolio even if you invest just Rs.500. It is but obvious that a diversified portfolio is lot safer than a concentrated portfolio.
Second, is the superior stock selection in mutual funds. Most aam investors are just not qualified to identify the best stocks to buy. Fund managers, on the other hand, are well educated and experienced in such matters. Nor do the aam investors have the huge research capabilities of a mutual fund company. Given this, it would be utter foolishness to believe that an aam investor can do a better job than a professional fund manager.
Three, we all know that businesses go through ups and downs. Therefore, a regular watch on the portfolio is necessary, to churn it suitably. From time to time, bad stocks must go and good stocks should replace them. This is the daily job of the fund manager. Whereas, an aam investor wakes up only in a blue moon to assess his portfolio. This naturally increases the portfolio risk.
Last but not the least, an aam investor is sure to panic when the stock markets crash (or become too greedy during boom periods). The professional fund manager, on the other hand, handles such volatility with calm and composure. This makes the mutual fund a lot safer than an aam investor's extreme reactions.
As Nick Murray has beautifully commented "Think of Equities as the best birthday present you ever got in your whole life... and Mutual Funds as the box the present came in."
There have been numerous instances of default by companies and banks (especially co-operative banks) on their fixed deposits, bonds and debentures. People are often attracted to invest in these products, as they offer higher interest rates than the fixed deposits of the nationalized banks.
But, just one default may be enough to wipe out many years of extra interest, that you may earn on such high-interest schemes.
Whereas in debt mutual funds, the fund managers are extra cautious and diligent in investing your money. They invest mainly in quality companies.
Second, they keep regular track of the performance of such companies. And when they see any signs of downturn in such companies, they quickly offload the investment. Aam investors hardly take such proactive action to protect their investments.
Third, like equity funds, the total corpus is spread is across many companies. So, even in the rare cases of default by a company or two, the damage is limited. At best your returns might get slightly affected. But, you will not lose your "entire" investment in a debt mutual fund.
Thus, debt funds are any day a safe alternative to directly buying bonds, debentures, company fixed deposits. Do you know How To Select The Low-Risk High-Yield Debt Funds?
There have been numerous instances of jewellers palming off inferior 18 karat gold as 22 karat or even pure 24 karat gold. Sometimes, this fact becomes known after many years, when people go to sell their gold. That's when they realize that the gold sold to them was impure.
Whereas, gold bought by the fund managers on your behalf, is always of the highest purity i.e. 24 karat. Besides, this purity is certified by a reputed and independent agency.
Second safety feature of gold funds / ETFs is the PRICE.
There is often a mark-up, over the prevailing international price, on the gold that you buy from a jeweller. Similarly, when you sell, margin is deducted and you get only the net price. Moreover, these mark-ups and margins are not transparent or uniform. In fact, two jewellers across the street may offer different buy / sell prices.
Whereas, gold bought or sold by the fund managers on your behalf, is always at the international prices. This saves you lot of money on buy / sell margins levied by the jewellers... thus enhancing your returns.
Thus, both on price and purity, gold-based mutual funds are safer than gold bars, coins or jewellery.
Concluding: Professional fund management, high level of diversification and the regular portfolio monitoring makes a mutual fund lot safer to invest in, than taking direct exposure to stocks, bonds, company deposits or gold.
In short: Mutual fund is an ideal choice for an ordinary and small investor, busy with his vocation, family and social life.
There is a very (very) simple logic behind... what makes mutual funds so safe to invest in.
But before that: Let's get the RIGHT perspective about "what is a mutual fund".
As I have often cautioned, do not look at mutual fund as an investment. Rather, I consider it as a process — whereby (a) a large number of people, (b) hand over their money to an expert, (c) to manage it on their behalf.
Legally speaking, mutual fund is a Trust that collects small amounts from a large number of investors and creates a pool of money called a 'mutual fund scheme'.
This corpus is then invested by a professionally qualified and experienced fund manager, to the best of his / her Expertise, Experience and Aptitude. In this endeavour, the fund manager is supported by a team of skilled research analysts.
Depending on the objective of the particular mutual fund scheme, the corpus is invested in Equity, Debt or Gold (or a mix of the same). Hence, you have a wide variety of mutual funds viz. equity funds, debt funds, gold funds and hybrid funds.
Now, coming to the crux of this article:
What makes Equity Funds safer than directly buying shares?
There are four safety features in a mutual fund that makes it safer.First, with a limited amount of money, you could at best buy a few stocks. This makes your direct equity portfolio quite concentrated. Whereas, a typical equity fund would have 30 to 50 stocks in its portfolio, giving you a diversified portfolio even if you invest just Rs.500. It is but obvious that a diversified portfolio is lot safer than a concentrated portfolio.
Second, is the superior stock selection in mutual funds. Most aam investors are just not qualified to identify the best stocks to buy. Fund managers, on the other hand, are well educated and experienced in such matters. Nor do the aam investors have the huge research capabilities of a mutual fund company. Given this, it would be utter foolishness to believe that an aam investor can do a better job than a professional fund manager.
Three, we all know that businesses go through ups and downs. Therefore, a regular watch on the portfolio is necessary, to churn it suitably. From time to time, bad stocks must go and good stocks should replace them. This is the daily job of the fund manager. Whereas, an aam investor wakes up only in a blue moon to assess his portfolio. This naturally increases the portfolio risk.
Last but not the least, an aam investor is sure to panic when the stock markets crash (or become too greedy during boom periods). The professional fund manager, on the other hand, handles such volatility with calm and composure. This makes the mutual fund a lot safer than an aam investor's extreme reactions.
As Nick Murray has beautifully commented "Think of Equities as the best birthday present you ever got in your whole life... and Mutual Funds as the box the present came in."
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| Mutual Fund is my MOST PREFERRED investment. What about you? |
What makes Debt Funds safer than directly buying bonds, debentures, company fixed deposits?
The biggest safety feature of debt funds is regarding the DEFAULT RISK.There have been numerous instances of default by companies and banks (especially co-operative banks) on their fixed deposits, bonds and debentures. People are often attracted to invest in these products, as they offer higher interest rates than the fixed deposits of the nationalized banks.
But, just one default may be enough to wipe out many years of extra interest, that you may earn on such high-interest schemes.
Whereas in debt mutual funds, the fund managers are extra cautious and diligent in investing your money. They invest mainly in quality companies.
Second, they keep regular track of the performance of such companies. And when they see any signs of downturn in such companies, they quickly offload the investment. Aam investors hardly take such proactive action to protect their investments.
Third, like equity funds, the total corpus is spread is across many companies. So, even in the rare cases of default by a company or two, the damage is limited. At best your returns might get slightly affected. But, you will not lose your "entire" investment in a debt mutual fund.
Thus, debt funds are any day a safe alternative to directly buying bonds, debentures, company fixed deposits. Do you know How To Select The Low-Risk High-Yield Debt Funds?
What makes Gold Funds safer than directly buying gold?
One safety feature of gold funds (or gold ETFs) is the PURITY.There have been numerous instances of jewellers palming off inferior 18 karat gold as 22 karat or even pure 24 karat gold. Sometimes, this fact becomes known after many years, when people go to sell their gold. That's when they realize that the gold sold to them was impure.
Whereas, gold bought by the fund managers on your behalf, is always of the highest purity i.e. 24 karat. Besides, this purity is certified by a reputed and independent agency.
Second safety feature of gold funds / ETFs is the PRICE.
There is often a mark-up, over the prevailing international price, on the gold that you buy from a jeweller. Similarly, when you sell, margin is deducted and you get only the net price. Moreover, these mark-ups and margins are not transparent or uniform. In fact, two jewellers across the street may offer different buy / sell prices.
Whereas, gold bought or sold by the fund managers on your behalf, is always at the international prices. This saves you lot of money on buy / sell margins levied by the jewellers... thus enhancing your returns.
Thus, both on price and purity, gold-based mutual funds are safer than gold bars, coins or jewellery.
Concluding: Professional fund management, high level of diversification and the regular portfolio monitoring makes a mutual fund lot safer to invest in, than taking direct exposure to stocks, bonds, company deposits or gold.
In short: Mutual fund is an ideal choice for an ordinary and small investor, busy with his vocation, family and social life.
