Investing in Mutual Funds for the Long Haul

As a former financial planner, most of the clients that I helped were middle class families struggling to get by. They didn't have thousands or tens of thousands of dollars sitting around to invest. Normally, we were able to adjust their spending so that the client was able to free up a few hundred dollars a month for investment purposes, mainly targeting their retirement or college savings for their children.

So with only a few hundred dollars a month to invest, how could they go about accomplishing their goals and dreams? The answer was to invest in mutual funds.

A mutual fund is professionally managed pool of money where investors of all sizes, whether they be small investors who could only invest a few dollars a month or those with thousands of dollars, pool their money together into a mutual fund of money. This money is then managed and invested by the management team of the mutual fund.

The management team will make investment decisions based upon the objective of the fund. For example, some mutual funds invest in bonds while others will invest in either small companies looking to grow significantly or into larger companies for a slower and more steady rate of growth.

For a small investor, mutual funds have several advantages:

1) Diversification -the typical mutual fund will invest in anywhere from 100 to 300 different companies. The reason this is done is to manage risk. The management team may buy some telecommunications stocks and offset these purchases with similar stocks in the retail sector. In this way all of your eggs are not invested in one basket.

There is an exception however. If you invest in a mutual fund that only deals with one sector of the market (such as technology) you could still be exposed to steep losses if there is a downturn in those sectors.

This is why it is important to seek out a variety of mutual funds (ie: investing in bonds, small-caps, large-caps)

2) Initial amounts to open accounts. Most of the clients I saw were not able to start accounts with large amounts of money. But depending upon the company you are dealing with, you can start an account with an automatic draft from your checking account of $100 per month.

3) Professional money management-perhaps the biggest advantage to mutual funds is the fact that you have a professional management team working on your behalf to grow your accounts. They make the investment decisions.

But there is one point to make you aware of:

Most money managers don't beat the market.

The stock indexes that are the benchmarks that money managers look to beat are most likely the Dow 30 and the S&P 500. And 80% of the time, they don't.

This means that 4 out of 5 times just putting your money into an Index fund (a mutual fund that will mirror one of the indexes such as Vanguard's S&P 500 Index fund) will do better than the professional money manager.

And are there disadvantages to mutual funds? Yes, there are:

1) Fees-every mutual fund comes with fees that come out of your investment profits, or losses. These include sales fees (which could be 5.75% of your initial investment) plus management fees for as long as you have your money invested in the mutual fund. There are, however, no-load mutual funds that you should look into (in this case, a load is the sales fee).

So, if I was to give you advice regarding investing in mutual funds, I would recommend that you look into a group of no-load mutual funds (no sales fee) that are NOT professionally managed but instead are index funds. Read the prospectus carefully, as that will outline the internal fees of the mutual fund which would reduce the overall quality of your investment.