Imagine you are craving a dessert and a cake springs to your mind. Now you have two options of fulfilling your craving – baking a cake yourself or ordering in a pastry.
Which do you think would be a better alternative for you?
Ordering in a pastry, obviously, because –
• You get multiple options. If you want you can pick two or more different types of pastries
• Since it is made by baking experts, there is no chance of the pastry turning out to be bad (provided you choose a good confectioner)
• It is cost-effective (you can get more than one pastry at the cost of baking the cake yourself)
Overlay the same scenario in stock investing. You can invest in individual stocks through stock trading (baking a cake) or you can choose to invest in a readymade bouquet of stocks (ordering a pastry) if you choose mutual funds. Needless to say, mutual funds trump the stock market under most circumstances.
Why mutual funds?
Mutual funds exhibit qualities that give them a distinctive edge. These qualities include the following –
• Asset allocation
When you bake a cake, you have to pick one type of cake. With the option of ordering, you can order multiple pastries at the cost of baking one cake.
Mutual funds invest in a portfolio of stocks. This asset allocation helps in risk diversification. Stock trading, on the other hand, is placing bets on a handful of stocks. If your stocks devalue, you lose money. In mutual funds, however, even if some stocks get devalued, other stocks might not. This helps prevent a total loss of your investment and gives stability to the portfolio.
• Professional investment
The taste of your cake would depend on your baking skills which, let’s face it, if you are not experienced, might go wrong. With a pastry, however, you can depend on the cooking skills of expert bakers who are doing what they are meant to do.
Mutual fund investments are also managed professionally. Expert fund managers allocate the investments into different stocks based on their expertise and study of market dynamics. Unless you are well-versed with the market dynamics and are a seasoned stock trader, you might make a wrong stock selection which would pose a threat to your returns. Mutual funds do not need you to be a financial expert. The fund managers make the stock selection and you can relax.
• Suitable for small investors
Baking a cake is suitable if you have to feed your whole family. If you are flying solo, ordering a pastry is much more convenient.
With mutual funds, you can invest small amounts and still get exposure to a variety of stocks of the portfolio. Stock trading is suitable for large investors having considerable funds at their disposal to invest in different stocks and create a diversified portfolio. So, while mutual funds are accessible by all, stock trading is suitable for a select few who have the funds and the expertise needed to generate profits on their trading.
Moreover, with mutual funds you don’t have to time the market (if you choose SIPs) and also save taxes with the ELSS scheme. If you invest in debt mutual funds you can gain exposure to fixed income instruments if you are a risk-averse investor and still get inflation-adjusted returns. Moreover, debt funds yield positive returns even when the stock market is falling or is in a bearish phase.
So, in the choice between mutual funds and stocks, it boils down to a few considerations –
• The time on your hands to learn stock market mechanisms and pick the best stocks
• The amount of money that you want to invest
• Access to market related information and research
• Professional expertise
Compare yourself to a team of professional fund managers. If you can pass on all the above-mentioned considerations and fare better over a team of professionals, stock trading would be an ideal avenue. However, if you have apprehensions about any of these points, don’t experiment with your money. It is your hard-earned money after all! Pick mutual funds and let a team of professionals handle your investments.