• Should I Invest in Stocks or Mutual Funds

  • should i investMutual funds offer diversity and are available to suit almost any investment style. You can invest passively or actively, invest in any country or countries, and invest in one sector or the whole market. Why, then, would anyone bother with individual stocks?

    Many people assume stock-picking is best left to the experts, but they aren’t always right.  There are pros and cons to buying individual stocks versus mutual funds, and which approach is best depends on your own situation.  What’s important is to ensure you are investing using a proven and disciplined system. Here are some of the pros and cons of doing your own stock-picking:

    Pros: 

    1)  You save the cost of management fees.  Even index funds do not invest your money for free.  If you can find a good discount broker, it may cost you less to buy your own stocks than to have someone else manage your money.

    2)  You can invest in micro-cap and small cap stocks that the funds can’t touch.  While smaller stocks are riskier, they are also the source of most of the really big wins in the market.  Most mutual funds can’t invest in these shares, because they would wind up owning a controlling share in the company.

    3)  You can take advantage of special situations where your fund manager doesn’t have a clue.  If you work for a chain restaurant, for example, and you notice that a recent menu change has the customers pouring in, you have knowledge that gives you an inside edge, without violating the rules against insider trading.

    4)  You avoid the tax penalties often generated by mutual funds. When a large number of fund holders decide to redeem their shares, the fund is forced to sell stock to satisfy these claims. This, in turn, generates capital gains that create tax bills for all the shareholders.  You, as an individual, can take your losses when they are most beneficial for tax purposes, and hold your gains as long as you like. In the meantime, those gains generate no tax bills.

    Cons:

    1)  To beat the pros, you must do your homework. If you do not want to research companies and regularly read financial websites and publications, you’re probably better off with mutual funds.

    2)  You need enough money to be able to purchase a diversified portfolio of stock if you want to avoid high risk.  If you have only a few thousand dollars to invest, stick with mutual funds until you have a larger nest egg available.

    3)  You need to be able to ride out the bumps.  The value swings in a mutual fund are usually smaller than those in an individual stock portfolio.  If you panic at the possibility of significant losses, even temporarily, you’re probably better off in a conservative mutual fund or out of the market entirely.

    4)  You need to trust yourself enough to go against the grain.  If you can keep your head and buy a bargain when everyone else is panic-selling, you’ll make money.  Similarly, if you can curb your greed and sell a stock that has gone too far, too fast, you’ll avoid the worst of the bubbles and downturns.

    If you believe you’re the type of individual who might benefit from individual stock investing, start slowly. Develop a theoretical portfolio first, and see how it does. Read everything you can get your hands on, but don’t react to every piece of news about your stocks. Give them some room to run, and don’t be surprised if you’re soon beating the experts.

    Beating the experts requires building expert knowledge and learning to rule out emotion. It also involves treating investing as a lifestyle where it fits like a glove into your daily routine and you take the time to educate and build the expert skills.

    The rewards to investing successfully fully out way mutual funds in that you develop the skills and take charge of your own financial future. You become equipped with the tools to readily build your portfolio over time.