Mutual Funds vs. Individual Stocks: What’s the Difference?
Mutual funds? Stocks? Bonds? Do you ever find yourself wondering what the differences are between the types of investments you hear people talking about?
Understanding different types of investments is no easy task, especially if you aren’t immersed in the industry like a financial advisor is on a daily basis.
If you’ve found yourself asking what the difference is between a mutual fund and an individual stock, or if you’ve been using those terms interchangeably, then you’ll want to keep reading.
First, Some Basic Definitions
In order to talk about the differences between these investments, you first need to have a working definition of them:
- Stocks (sometimes also referred to as “equity”) are when you purchase a fraction of an individual company. Units of stocks are referred to as “shares.” You get a portion of the company’s assets as it appreciates in value.
- Bonds1 are units of debt issued by companies or governments that are converted into tradable assets. Typically, bonds are fixed-income instruments, which means that you usually know how much they will return once you are paid back.
- A mutual fund is a collection of stocks and bonds packaged together and operated by a professional money manager, and typically includes funds from multiple investors.
So What’s the Difference Between Mutual Funds and Individual Stocks?
The key difference between individual stocks and a mutual fund is investing in a single company versus investing in a collection. With stocks, you are putting all your investments into one (or more) baskets and investing in a company and their future performance. That definitely isn’t a bad thing, especially if that company is on an upward trend or has a history of performing well.
On the flip side, a mutual fund is money “pooled together” from various investors, and those funds are used to purchase and trade a collection of different stocks and bonds. The performance of your investment is dependent on the performance of the collection overall. This is typically considered to be lower risk because if one stock or bond performs poorly, you still have the other stocks and bonds in your collection that will hopefully still perform well. There is still the chance that multiple stocks and bonds in the collection do poorly at the same time, but the chances are lower than with an individual stock in a single company.
Stock or Mutual Fund? Which One is Right For Me?
While there is no cookie-cutter answer to what your specific investment plan should be without meeting with a financial advisor, generally speaking, you could follow the Rule of 100. This rule is often used as a guideline for how much risk you can have in your portfolio, by subtracting your age from 100. The end result is the percentage of stocks or investments in riskier industries you could have in your portfolio. For example, someone who is 20 years old could generally have 80% of risk in their portfolio, and someone who is 60 would often want to be closer to 40% of risk in their portfolio.
One of the reasons we caution against making decisions only based on a principle like the Rule of 100 is because every person’s situation is different. A hard-and-fast rule isn’t going to take into account the unique circumstances of your life, your long-term goals, or the biggest concerns you are taking into consideration while planning for your retirement.
Another thing to think about is that when it comes to mutual funds and stocks, many people invest in some of both on their own believing they have diversified their investments. However, the same individual stock they have invested in might also be included in the mutual fund they have invested in. Sometimes people end up not diversifying their investments at all because they actually purchase shares from a company twice – once as individual stocks and then again as a part of a mutual fund.
This is why it’s so important to have a professional help you put together a financial plan that works for your unique situation. If you would like specific advice on your investments based on your age, life circumstances, and retirement goals, schedule a free conversation with our team today! We would be happy to discuss what your specific investment strategy should look like to help you meet your financial goals.
210 Financial is more than just numbers. The “210” in our name stands for a childhood home that represented safety, love, and family. That is what we want to provide for everyone that we care for. Welcome home. Welcome to 210.
Investment advisory services made available through AE Wealth Management, LLC (AEWM). AEWM and 210 Financial are not affiliated companies. Neither the firm nor its agents or representatives may give tax or legal advice. Individuals should consult with a qualified professional for guidance before making any purchasing decisions.
All investments are subject to risk including the potential loss of principal. No investment strategy can guarantee a profit or protect against loss in periods of declining values. 1438634 – 8/22
Content prepared by Savage Content Collective
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