Mutual fund investing is a multi-trillion dollar business that many investors rely on to diversify their portfolio. There are many articles around sprouting about the advantages of this form of investing, but not so much has been written about the drawbacks. So here they are – in 7 simple steps.
Disadvantages of mutual funds 1) The diverse nature of mutual funds does reduce the amount of risk involved with mutual funds, but at the same time this is also an inherint disadvantage due to dilution. This means that if one security takes off, the benefit to the mutual fund will only be small as this is just one of many which make up the fund’s holdings. The result is that few mutual funds do exceptionally well, and investors looking for outstanding returns will be put off by this.
Disadvantages of mutual funds 2) Mutual funds are government regulated but they are not insured for losses. The FDIC insures for losses of some kinds occured by banks and credit unions, but not for mutual funds. As a result, although it is very unlikely, there is the chance that the entire investment can be lost.
Disadvantages of mutual funds 3) Mutual funds do not guarantee returns. Something like 75% of funds do not even meet the major market indexes. Some critics consider that many so called professional mutual fund managers are no better at picking stocks than the everyday investor.
Disadvantages of mutual funds 4) You lose a certain amount of control when you put your money into mutual funds, as with someone else deciding which securites to buy and sell, it can be hard to manage the tax consequences of your portfolio.
Disadvantages of mutual funds 5) The fees involved with mutual funds can be quite high. They typically charge about 1.5% per year management fees, as well as sales commisions and redemption fees. With some funds, particularly the ones which buy and sell on a regular basis, these costs can add up fast.
Disadvantages of mutual funds 6) Mutual funds are generally very liquid, but most of them cannot be bought into or sold during the trading day. This can only take place right at the day’s end, when calculations for the day are complete. This is not a problem for the majority of investors, but for a select number of very active investors, this is a considerable drawback.
Disadvantages of mutual funds 7) The large mutual funds can find it hard to find enough good companies. If, for instance, a fund has $10 billion to invest but rules limit their investment into a single company to $50,000, then the fund would have to find 200 companies to invest in, and to do this it may have to bet on companies that are not of the highest standards.
Keep in mind that these disadvantages relate to mutual funds in general. There is an enormous amount of mutual funds available, with different strategies and styles. These drawbacks are a general rule of thumb, but for any particular mutual fund they may not all apply.
For more information on mutual funds, go to: http://en.wikipedia.org/wiki/Mutual_fund”>en.wikipedia.org
