Mutual funds are an incredibly popular investment choice among many types of investors. They not only provide great diversification, but you also have a professional making the investment decisions for you. So, what’s not to like? Well, a lot of things, so let’s get into it.
Whenever you have a person, or team of people, actively picking the stocks and bonds that the fund is invested in, it costs money. These fees usually range between 0.5%-2% of what you invest with them. For example, if you invest $100,000 in a mutual fund that has a 1% fee, the fund will charge you $1,000 a year. In the end, you will not only miss out on $1,000 a year but also all the money that the $1,000 would have made you if you were still able to invest it year after year. Over a lifetime, career, or retirement, this can be a substantial amount.
“Well,” you might ask, “don’t mutual funds have higher returns because they have professionals picking the stocks? Aren’t the fees worth it?” Good question. Unfortunately, the data shows that on average 50% of mutual funds do better than the market and 50% of mutual funds do worse. And, statistically, the 50% of funds that beat the market last year don’t have a greater than 50% chance to beat the market this year. This means that it is a 50% gamble to guess which funds will outperform.
Let’s say you got fairly lucky and invested in a fund that matched the market perfectly, meaning if the market grew by 8%, then your fund grew by 8%. You’d still have to pay your mutual fund fees (ie. 0.5%-2%) and your return would be decreased by that amount. So when the entire stock market had a return of 8%, you only had a return of 6-7.5% (depending on the fee). Counting the fees, more than 80% of mutual funds do worse than the market. When picking mutual funds, the numbers are against you.
So, if not mutual funds, what do we invest in? If you are looking for diversification, I’d suggest a low-fee index fund or ETF that mirrors the market. These funds have fees as well, but they tend to be much much lower. This way, you can grow with the market without all the fees eating at your returns.
All this being said, everyone’s situation is different and this advice is not always right for everyone. This article is only intended to educate and not give specific investment advice. It is important to know that, especially in investing, just because something is popular doesn’t make it the best option for you. Make sure to educate yourself so you can make the most of your money and life today.
Dallen Haws is a personal finance and business enthusiast. ASU Grad (Fear the Fork!). Co-founder and Financial Planner at Haws Financial Planning