What’s a Mutual Fund?
So, you've heard the term "mutual fund" thrown around, but what exactly is it? Let's break it down.
What is a Mutual Fund?
A mutual fund is like a big basket of investments, managed by professionals who pool money from multiple investors to buy a variety of stocks and bonds. Think of it as a team effort to grow your money. If you’re currently working with a financial advisor to manage your investments, your money is most likely sitting in mutual funds.
Pros and Cons of Mutual Funds
Pros:
Diversification: Since mutual funds invest in a mix of stocks and bonds, they spread out the risk, reducing the impact of a single investment's performance.
Professional Management: Mutual funds are managed by experienced professionals who make investment decisions on your behalf, saving you the hassle of researching individual stocks. (Note that Index Funds and ETFs also save you this hassle).
Cons:
Fees: Most mutual funds come with high management fees and other expenses, which can eat into your returns over time.
Lack of Control: When you invest in a mutual fund, you're entrusting your money to the fund manager's decisions, which may not always align with your personal preferences or goals.
Looking Deeper At The Fees:
Let’s take a minute to dive a bit further into the fees. Let’s say you invest $200/month from age 25 to age 65, and your money grew on average at 7% per year (a fairly conservative estimate).
If there were no fees, you’d end up with about $512,000 for your retirement.
If there was a 0.2% fee (common with ETFs & index funds), you’d end up with about $486,000.
If there was a 2% fee (common with mutual funds), you’d end up with $304,000.
That’s almost $200,000 paid in fees for a mutual fund! Yikes!
That 2% mutual fund fee isn’t a one-time fee. It’s charged over and over again each year, even if the mutual funds that you invested in didn’t increase (or worse, decreased) in value.
ETFs and index funds still have fees (after all, they do the work of picking and monitoring the stocks for you), but they tend to be MUCH lower than mutual fund fees, which leaves you with more money to retire with.
The only way to avoid fees entirely is by investing in individual stocks, however this comes with much more risk. That’s why we prefer ETFs and index funds, as we feel their fees are well worth being able to sit back while they do the work, without eating away at our retirement nest egg too much.
Also note that mutual funds tend to charge additional fees, such as sales load commissions that are paid to 3rd party brokers, so make sure you’re aware of all the fees before signing up!
If you’re interested in seeing more about how fees can impact your long-term investment earnings, here’s a great tool to play around with: Get Smart About Money.
KEY TAKEAWAYS:
Mutual funds offer diversification and professional management, making them suitable for investors seeking a hands-off approach.
Be mindful of fees and expenses associated with mutual funds, as they can have a huge impact on your overall returns.
If you can’t already tell, we’re not big fans of mutual funds. They used to be a great option back when investing required calling into the stock market to purchase a stock, but the industry has come a LONG way since then. We now have websites and mobile apps that make it incredibly easy to purchase index funds and ETFs with similar benefits but significantly lower fees, leaving you with more money for retirement.
About The Authors
Amanda and Siobhan found a shared passion for personal finance shortly after completing their MBAs in 2018. Amanda excelled as a Director of Product in the tech industry, while Siobhan established herself as a leader in e-commerce before transitioning to academia as a Professor.
In 2020, they joined forces to found Hiver Academy, a platform born from their own experiences and triumphs in conquering student loans and building wealth. Realizing that financial success is within reach once the complexities are simplified, their mission now revolves around empowering individuals to achieve financial freedom.
With a wealth of knowledge and a commitment to demystifying money and investing, Amanda and Siobhan are dedicated to helping others navigate the path to success.
