Last Updated May 28, 2010 12:36 PM EDT
Should I buy mutual funds rather than stocks?
A mutual fund is a big pool of money, contributed by thousands of people just like you. The manager of that money invests it in stocks, bonds, or both. Your share in the fund gives you a tiny ownership interest in all the fund's investments. You're spreading your money around, which is the right thing to do. There are many different types of funds.
Mutual funds have three big virtues:
1. They make it easy to construct an investment policy. You can match the types of funds with the types of investments you want to hold. An easy call would be international stocks. Instead of hunting for specific foreign companies, you'd buy an international mutual fund. Or say you wanted to bet 10 percent of your money on U.S. stocks that are probably underpriced. Do you know which stocks those are? I don't. But you can buy a "value" fund that specializes in those kinds of companies. Successful investors start with an investment policy and mutual funds make it easy to carry that policy out.
2. They make it easy to rebalance. If the U.S. stock market goes way up, you'll want to sell some of your position and invest the proceeds in an asset that has not performed as well — for example, bonds. If you own individual stocks, however, which ones would you sell? The ones that performed the best? A portion of all the companies you own? Who knows? If you own mutual funds, it's simple — just sell a percentage of your fund shares.
3. They save you from making huge mistakes. If you own a substantial amount of a stock that goes bad, it wrecks your performance. The right mutual funds keep you so well diversified that one bad company won't get you into trouble. For some people, buying mutual funds goes against the grain. You think that your job is to find "great companies" and hold their stocks forever. But "great companies" don't necessarily last. The superstars of 1990 were has-beens by 2000.
The leaders in 2000 soon saw their stocks collapse. In hindsight, you can always find stocks with wonderful long-term records. Going forward, however, you can't know which stocks will be the big winners (or losers) in the decade ahead.
Excerpted from Making the Most of Your Money Now by Jane Bryant Quinn
Copyright 1991, 1997, 2009, by Berrybrook Publishing, Inc. Reprinted by permission of Simon & Schuster, IncBuy the Book