Mutual Funds Vs Stocks. Which is better investment vehicle for growth?
By Akhil Chugh
Investment is the key ingredient to create wealth for any individual. If you thought of becoming wealthy only with your regular income and your savings then sadly you are ‘wrong’!
To become rich, you need to invest your money in the right place. And your investment can be multiplied only if you invest your money in the correct financial instrument but sadly here only where most of the investors get confused.
Should you opt for direct equity investment or for Mutual Funds?
Which is the ideal investment option – Stocks or Mutual Funds?
This is the common dilemma that an investor faces while starting their investment journey of market-linked instruments to create wealth in the long run.
To understand it better, let’s look at them in-depth:
What is a Mutual Fund?
A mutual fund is a financial asset, where pool of money is collected from many investors and then invested in different securities, such as stocks, bonds, money market instruments, and other assets. Mutual funds are run by professional investment managers, who allocate the fund’s assets proportionally as per the fund’s investment objective and attempt to produce capital gains or income from the investor’s money.
Mutual funds allow an individual or a small group of investors direct access to professionally managed portfolios of investment options. Therefore, each shareholder participates equally in the gains or losses of the mutual fund. Two type of investment routes are available for Mutual Funds – Lumpsum and Systematic Investment Plan (SIP). SIPs allow the investor to make regular investments into mutual funds thus averaging the purchase cost in the long run.
Mutual funds offer professional fund management capabilities and many fund choices. In fact, there are 3 major categories of funds which are – Equity funds, Debt funds & Hybrid fund. And then, there are goal-oriented funds like retirement funds and children’s Fund, plus other variations like index funds, exchange-traded funds, and Fund of Funds options.
To know how to choose a right mutual fund, click here.
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What are stocks?
Stocks are financial instruments giving you the part ownership of the company. When you buy the stock/ share of a company, you share the ownership of that company. Investor earns money through two sources – capital gain (if its price rises) and dividend payments. Stocks trade continuously in stock market and the price changes every minute. If market crashes, stock price can even go to zero if bought without extensive research.
Stocks or Mutual Funds – Which is better investment tool?
Although both these options allow investors to invest in equities, Net Brokers believes that investor should ideally take the Mutual Fund route to achieve their long term financial goals.
Here are the top 7 reasons:
Diversification involves investing in number of stocks across different stocks to reduce the overall risk. If one stock or sector performs poorly, then its losses can be compensated by other well performing stocks making the value of overall portfolio less volatile.
Mutual funds, is known for its diversification as it invests in a number of securities across different asset classes like equity, debt. Generally, the securities are chosen with low correlation to reduce the overall risk. However, individual stock investments are subject to market performance of that stock and are highly volatile. Any negative news or rumour can affect the stock prices adversely wiping out your portfolio value overnight. Large amount of funds are needed to invest in different stocks to achieve a similar level of diversification as in Mutual Funds.
2. Professional Experience:
If you are a new investor with little or no experience in the financial markets, it is always advisable to start your equity investments with mutual funds as not only the risk is comparatively lesser but also because an expert makes the investment decisions. These professionals have the insight and knowledge to properly analyse and interpret financial data to interpret the outlook of a prospective investment.
3. Financial Discipline:
One of the biggest advantages of investing in Mutual Funds is, you have an option to invest regular small amounts over an elongated period of time. Thereby, averaging your purchase cost as you purchase more units when prices are low and less units when prices are high. Timing the market is not relevant anymore with Mutual Funds SIPs and it inculcates the habit of financial discipline.
However, for successful stock investment, it is very important to invest in the stock at the right time to earn capital gains. Thus it requires extensive knowledge and research before investing in any stock.
4. Tax Benefits:
Although the taxation of equity mutual funds and stocks are the same, Equity Linked Savings Schemes (ELSS), a type of Mutual Fund scheme, come under section 80C, which allows investors to claim a deduction of up to Rs. 1.5 Lakh in a year. However, there is no such option for stocks.
The other tax advantage is that when Fund Managers move across stocks, there is no tax to be paid by individual investors, while in the case of direct investing into stocks, an investor will have to pay taxes whenever they exit a stock, depending on the holding period.
5. Varied Investment Options:
There are variety of mutual funds available to achieve your financial goals from equity, debt to hybrid with different proportion of investments into different asset classes. Investor can choose among them based on their risk appetite.
There are many goal-oriented funds also linked to specific goals of an investor from retirement plans to Child’s education plan.
Thus Mutual Funds provide variety of funds based on investors risk profile, time horizon and goals. However, stock investment is only one type of asset class. Though there are around 5000 companies to choose from but the available option is limited to single asset class.
Due to the economies of scale, mutual funds attract lesser transaction costs when purchasing shares and therefore, pay lower brokerages as compared to individual investors. With large investible corpus Mutual fund managers can even negotiate with brokers to get better rates, all of which lead to lower costs while the benefits are indirectly passed on to the unit-holders.
This is not in the case when you buy shares. Plus, you do not have to maintain a Demat account when you invest through mutual funds.
7. Time Efficient:
When you invest directly, you will need to have a lot of time and research into your stock while in the case of mutual funds, you can be passive. The fund manager is the one who invests his time to manage your portfolio.
In a nutshell it would be safe to conclude that you can consider investing directly in stocks, if you are a seasoned investor and have the required knowledge and can dedicate the time and research such investment requires. However the high returns associated with stock investing comes with a fair amount of volatility, which should be kept in mind while dealing with them. If you do not have the required expertise and time, it is best to opt for the mutual fund route to achieve your financial goals. Mutual Funds are handled by professionals hence the chances of potential losses are less.
Net Brokers believes if you are a first-time investor who has not tested the waters in the capital market, then start with mutual funds before trying your hand at stocks.