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Why invest in mutual funds and not directly in stocks

There are several benefits of investing through mutual funds instead of directly in stocks

Why invest in mutual funds and not directly in stocks

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There are several benefits of investing through mutual funds instead of directly in stocks. Mutual funds combine the savings of a large number of investors and manage it as a single pool of money. So instead of investors figuring out which stock or bond to invest in, professional fund managers do the job.

Equities are complex and the stocks you can buy fall under a bewildering array of sectors and industries, and also vary tremendously in terms of size, financial structure, promoter track record, and so on. When you invest in a fund from a good fund house, there is a full-fledged research department to keep tabs on all this; and there's an experienced full-time fund manager who has years - often decades - of experience making equity investments. Moreover, his track record is publicly known and thoroughly analysed by researchers.

Compared to directly picking stocks, mutual funds are a more suitable route for a lot of people. It simply takes less effort, less time, less experience and less specialised knowledge to get good returns from equity mutual funds than it does from directly trading in equities.

Diversification - the most crucial aspect of investing - is much easier to practice for a fund investor than a stock investor. This is true of all kinds of diversification, including sectoral and asset type. Many fixed income asset types like bonds are simply not available to individual investors.

Besides time, money and diversification, there are other advantages too. Generally, mutual funds are more tax efficient. They are certainly a lot more convenient. Extremely beneficial methods like systematic investment plans (SIPs) are very hard to implement for equities but simple for funds.

When directly picking stocks, you also have to take more effort to overcome your own psychological biases. Basically, what we've said here is that if you are skilled enough, then you can do it. However, equity investors are by nature optimistic and that makes them overestimate their own skills. That's often an expensive mistake.