Are Mutual Funds Worth It?

Most indexes I'm aware have a minimum of 20 stocks and some have hundreds. Lot of work to do it yourself, especially if you ever sell.

Advantages for an index fund: Transaction costs Diversification Recordkeeping Rebalancing Liquidity Ability to invest a little at a time Effort

Some asset classes are very difficult to build a decent diversified portfolio unless you are investing very very large quantities of money

Disadvantages: Management fees (though at as little as 10bp, that's not much of a criticism) Certain asset classes aren't well covered by decent indices Tax management (ie. tax loss selling - also not much of a criticism, as one may certainly sell off some lots and as long as they are not reinvested in the same index, no problem)

For the vast majority of investors, those advantages outweigh the disadvantages so enormously that it's amazing.

Most people don't have enough funds to hold a diversified portfolio, nor do they have the time and knowledge to manage their own portfolio of stocks.

Picking funds is as difficult as picking stocks.

Many funds have low management fees and it's difficult to hold stocks over a long period of time so brokerage fees aren't much of an improvement.

An advantage of a full service brokerage is that you can borrow against your investments to meet emergency needs to avoid bad tax consequences.

investors need diversification, but having only one fund doesn't give all the advantages of diversification. It's better to have an assortment of funds and stocks. I feel more comfortable with about 30 stocks, but if an investor has a considerable amount in broad funds, the number of stocks can be less.

ETFs allow an investor to get into markets (foreign and commodity) that aren't available through conventional stock buying.

-- Ron

On some mutual funds, the fees are so low that they are not material. For example, fees on Vanguard index funds are usually under

0.2%.

Also, using your discount broker, you can buy securities that represent some stock index, for example symbol SPY represents 1/10 of S&P500. SPY has very low management fees and some advantages over mutual funds.

Where can people go to find out which funds and stocks to own? The problem with financial experts is that there are so many of them and past performance isn't a good sign of future performance.

I don't see why people shouldn't take the time to get some knowledge about economics and investing especially when they will end up having several years of income tied up in investments. 25% of the US population has at least a 4 year college degree and they should be able to acquire financial knowledge.

-- Ron

Personally I use Morningstar. But that's getting advice from financial experts.

I have been investing in the stock market for over 20 years. I have an advanced degree. I have some knowledge of how to evaluation stocks. Yet, I have neither the time nor the knowledge to evaluate a number of stocks to put myself in a diversified portfolio.

Sure, they can acquire some average amount of financial knowledge. But remember that "stockpicking" is a competitive activity, so any investor is compating with others, including some bright people. So, to make more money than average, by picking stocks, you have to know much more than average.

While I have noticed a correlation between education and income, my experience has been that there is no general correlation between education and good money management skills (budgeting, cash flow management, investing).

-HW "Skip" Weldon Columbia, SC

Some brokerages allow reinvestment of distributions for ETFs without incurring a transaction.

Brian

Most people, even educated people, have neither the time nor the inclination to become investment experts. They often, very reasonably, feel that their time is best spent doing the things they are best at - and financially, that's often just a matter of them doing their jobs, whatever they are.

There's no need for investing to be a full-time job or even for it to suck up much of their time. But there is an enormous incentive within the industry to try to sell the notion that it can only be done by experts and that folks need complex products. Most folks don't, and most of their investing needs can be handled through very simple portfolios. But how to tell this quiet truth over the din of advertising and "advisors" selling products (with some of the slickest marketing materials I've ever seen)?

Sadly, it's almost as difficult to pick an advisor as it is to pick a fund or a stock. But there are some good guidelines out there and folks either need to spend a lot of time educating themselves, or they have to choose to trust someone, sometime. And much of the value of a great advisor is not even the selection of stocks or funds - a great advisor helps an individual with other issues which may outweigh the security selection choices by a long shot - things like getting them to max out retirement plans (or at least get the full value of an employer match), titling assets and accounts correctly and naming appropriate beneficiaries, making sure they have the right kinds of insurance, etc and how to take advantage of tax issues (like tax loss harvesting), and maintaining discipline.

It'd be nice if there were more unbiased investor and financial education out there. Folks should know how to balance a checkbook (even if they don't actually do so - and whether to bother balancing it each month or not is a whole other discussion). Folks should understand compound interest. And marginal tax rates. But who's going to teach all that? At the moment, folks need to be self-motivated and capable of distinguishing the real education from the sales materials. And it's that latter problem which may be hardest of all.

In the meantime, how much better off would the average investor be if he'd just gone with a 60/40 broad index- based portfolio and left it alone, versus all the ongoing, often conflicting advice out there? It's about as uninteresting and unglamorous as it gets, but the long-term return of such a portfolio is surprisingly good. Since '92, that portfolio has had almost the same compound return as a 100% stock index (a bit under

7%) - with only about 2/3 the volatility. Over the last 10 years, it's beaten the 100% stock index handily. With a little bit of tweaking the asset allocations, it may be possible to beat that - slightly better return and/or lower volatility. But that simple benchmark is a heck of a good starting point, and that portfolio can be built and managed easily for less than 15bp/yr.

At the very least, people with limited spare time can read a couple of books like "Investing for Dummies" or "Mutual Funds for Dummies" and get some basic information, enough to steer clear of scams and avoid major pitfalls. Also, they can make use of many web resources and read newsgroups like this one.

Peter Lynch has long been a proponent that a man who can select a refrigerator or a house or a good restaurant, who can decide on a doctor or a diet, can also select and decide on a portfolio of stocks. All that is required is looking at the company's annual reports, and a history of their earnings. Keep it simple, keep it solid. I have experience with my own portfolio as well as with a handful of funds. In all instances, I outperformed my funds, and frankly, accounting for funds is a nightmare.

I'm not promoting anything here - just providing links to a portfolio of ten stocks I slapped together a couple of months ago because they looked like they'd been slapped down, and to an index Tad suggested, for comparison. The dollar amounts were supposed to be 100k but it ot complicated, I got lazy, and the percentages remain constant comparables.

One big advantage of one's own portfolio I have found is that you decide when to sell or not, and do not have to put up with "surprises" around tax time, "window dressing", short-term gains, high turnover and so forth . It is also much easier to keep track of which companies you own. I will put in a little more work next month and start a simple spreadsheet to keep track of the earnings of the companies. The earnings are the dog that wags the tail (no pun with 'dog' stocks intended).

I would openly invite and welcome any criticism of the portfolio I slapped together. It really is not hard guys. And if I wanted to sell covered calls, I could. I usually wait until the holding period is 12 months.

The one diversified fund I do own was heavily weighted in "Financials" last year, and has lost more than half its value. I did not understand bank reporting, had been told that banks are slow growth, was a little puzzled how banks could grow so quickly, and so I had only a small position in my portfolio. Privately, I thought I was stupid, and was

*sure* the fund's research and analysis was *much* better than mine. Ha. Haha. It does not make me feel better to know they were stupider than I.

And constant vigilance. Just because most folks, with some education and effort, may be capable of managing an adequate portfolio of individual stocks doesn't mean that it's the most effective use of their time or efforts. In fact, for most folks, it's probably nowhere near worth it. Most of us are perfectly capable of baking our own bread, and some of us even make fabulous bread when the mood strikes and time is available. But most of us simply don't have the time nor inclination to bake daily, nor is it even likely to be financially advantageous to to so, either.

Are you kidding? Accounting for a taxable portfolio of individual stocks - unless one pretty much never ever sells anything - is far more complex. And while I'm sure it's possible that you outperformed your funds (I've no idea which funds you have), the vast majority of folks can't even figure out what their performance was, no less be able to reasonably compare it to an index.

Note that I'm not saying you didn't beat your funds or whatever benchmark you feel is appropriate. I am fairly certain, however, that whether you beat them or not, you spent a lot more time on it than most folks are willing to spend. Or need to.

Thanks for the links - I'm looking into Stockalicious for some portfolio analysis now.

You don't normally have much of that in index or index-like funds or ETFs, either. Nor is most of that an issue in an IRA, 401k or other tax-advantaged account, which is probably how most average folks are building their retirement savings, if they are saving at all...

Again, not even remotely reasonable for most folks. Talk to people. Most just don't want to spend the time or even want to know too many details. They just want to set it and forget it. And most folks results would actually be better if they did just that.

[snip]

Ah, yes ... better to give up. No opportunity is left in America.

So everybody, if they study a bit and do a little work, can do better than average?

Brian

Because it is expensive to maintain the portfolio of individual stocks so that it tracks an index. Back of the envelope calculations: The annual turnover of the S&P 500 is on the order of 3%. So figure a total of 15 sell orders and 15 buy orders a year at a cost of $10 per transaction. It will cost you $300 a year to track the index.

The annual expense ratio of a popular S&P 500 ETF, say SPY, is 0.08%.

So an amount invested in the ETF that is less than $375,000 ($300/.0008) will produce lower annual costs than buying a basket of individual stocks.

Many caveats attach to this example, but the point is that, if one wants diversity, low cost index funds are a bargain for many people.

Agreed. Ask the highly trained and well-read financial advisers that bought into Madoff Investments. Everybody can be conned, when greedy, except maybe a Corleone.

Chip

That's how I feel about burning wood instead of oil etc. I've got better things to do. Thumper