Mutual Funds and
Retirement Planning
When you call the plumber to your house, you will usually follow him around to make sure that he gets every little detail right, yet many of us give our life's savings to a fund manager and tell him "see ya' in 40 years" without a second thought.
Today, millions of investors put their money in mutual funds. If you decide to take this approach and let an expert manage your money, make sure you know the fund's investment policy. Many mutual funds look good on paper, but loads and fees can erode your gains.
You should also be willing to tolerate the level of risk of your
fund. Research the history of the mutual funds in which you want
to invest and make sure the fund's goals coincide with yours.
Order a prospectus that explains the details of the mutual fund.
Research mutual funds as you would research a stock to maximize
your gains.
An advantage of investing in mutual funds is that they automatically
provide diversification. Even with a small amount of money, you
may own shares of hundreds of stocks or bonds because mutual funds
pool money from lots of small investors and invest in a large
portfolio with many securities. Keep in mind that, like stocks,
there are risky funds with high yields and safe funds with lower
yields. To be successful in mutual fund investing, you must be
patient and use the fund as a long-term investment vehicle. 
Although mutual funds have taken the brunt of criticism from financial
experts worldwide, they remain one of the most popular investment
media ever invented. The main reason is that it provides an opportunity
for small investors to participate and benefit from the market
on equal terms with larger investors.
Pioneers of the mutual fund industry truly invented a "better
mousetrap" when they devised this new financial scheme seven
decades ago. Indeed, the idea of pooling the financial resources
of individuals under the direction of a professional money manager
to diversify broadly in the securities markets was arguably one
of the more important developments of modern finance.
Today, some US$4.5 trillion is entrusted to fund managers worldwide.The
first principle of mutual fund investing is the broad diversification
afforded to investors. Diversification greatly reduces, and can
even eliminate, the specific risk that comes with the ownership
of just a few individual stocks and bonds. (Of course, not even
a broadly diversified portfolio can eliminate the market risk
of price volatility.)
For individual investors, cost is the main factor which limits
diversification to other securities. For example, an investor
with $10,000 to invest could achieve reasonable diversification
by purchasing ten different stocks. However, the transactions
costs of acquiring the stocks would be extremely high. Allowing
for the "drag" of these commission costs, it could take
years for an investor to recoup the costs of putting his money
to work.
What's more, the level of diversification afforded by ten stocks
would be woefully inadequate relative to the typical mutual fund.
For the same $10,000 investment, an individual could purchase
both a diversified stock fund and a diversified bond fund, or
a single balanced fund.
For a young investor of more limited means (say, $2,000 or $3,000),
mutual funds are the ideal vehicle to own a diversified mix of
stocks and bonds. Diversification, then, is at the very heart
of mutual fund investing, and it would be impossible to overstate
the critical role diversification plays in an intelligent investment
program.
Another advantage of investing in mutual funds is access to professional
investment managers.This is important because few investors have
the time or expertise to manage their personal investments on
a daily basis or to investigate the thousands of securities available
in the financial markets.
Managing an investment portfolio goes beyond simply selecting
and supervising the fund's holdings. A fund manager is also responsible
for placing at the forefront the interests of the fund shareholders
and for maximizing long-term investment results within stated
investment parameters. However, investors would be well advised
to investigate how a fund is managed and at what cost.
And cost does matter! Because of their operating costs, only one
in every five actively managed equity funds can be expected to
outpace the market in the long run (after taxes, only one in seven).
This strongly suggests that investors should either focus on low-cost
funds or simply own the market via an index fund, at least for
a core portion of their stock portfolio.
Mutual fund shares may be acquired or liquidated at a moment's
notice at the fund's next determined net asset value per share.
Owning securities individually, of course, is also apt to provide
a reasonable level of liquidity. However, mutual funds can easily
be converted into cash at a fraction of the cost you would incur
in selling individual stocks or bonds. Moreover, the ability to
switch easily among different investment options provides remarkable
flexibility in building a diversified portfolio, especially considering
the costs involved in buying and selling individual securities.
However, the intelligent investor is one who carefully selects
a mutual fund and then holds it for an extended period - even
a lifetime.
Like most things in life, when all else fails, fall back on simplicity.
This, too, holds true for investing. The simplicity of the mutual
fund concept - along with their four basic principles of diversification,
professional management, liquidity, and convenience - has helped
to make mutual funds the most popular medium for investing.
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