MUTUAL FUNDS

As I mentioned in previous posts, I sometimes use mutual funds rather than investing directly in stocks. Some sectors of the market are more difficult to analyze due to unique accounting or business traits. Sectors like banking, real estate investment trusts (REITS), master limited partnerships (MLP), are good canidates for using a mutual fund for investing. There are some things to know before handing over your money to a mutual fund company. The first thing I look at in a mutual fund is the fees they charge to manage your money. Naturally, you will have to pay for the expertise they bring to the table, your job is to not overpay. Some mutual fund families specialize in low fees which is good for the investor, however, be aware that customer service may be lacking. The second thing I look at in a mutual fund is what is in the portfolio. I "kick the tires" by checking some of the stocks in the top ten holdings. Basically, if I wouldn't buy these stocks (due to high valuations) or any other reason, I look elsewhere. I also look at past performance even though this is not predictive of future returns. The fact is that 80% of mutual fund managers cannot beat the performance of an unmanaged index which is their benchmark for performance. If a fund has had superior returns than the index and other competing funds, look to see if the same manager is still there. Long tenured fund managers with index beating performance are rare. Don't buy a fund based on the performance of a hot manager who is no longer in charge. Finally,pay attention to when distributions are made to fund shareholders. If a fund usually makes a distribution in December, I would not buy into it before the distribution date. The reason is that some of your investment is just handed back to you, creating a tax liability and reinvestment task. This is only true in taxable accounts, retirement accounts don't have this problem.
     This is just a brief overview of mutual funds. Investing through mutuals can be an easy way to gain exposure to stocks but can also be a way to get mediocre returns with high fees. The pitfalls are many so learn the basics. A very popular way to invest in mutual funds for the last 20 years has been to buy a low fee index fund from a company like Vanguard or Fidelity. These are unmanaged funds that will track the general market like the S&P 500 index. Some experts predict that managed funds will outperform in the coming years. Only time will tell. A competing product to mutual funds has emerged in recent years. It is called an Exchange Traded Fund (ETF). Billions of dollars have left traditional mutual funds and flowed into ETFs. I will explain the differences in my next post.