Mutual Fund Self-Investment: A Guide To Getting Started

Investing in mutual funds is a great way to build a diversified portfolio without a lot of extra cost or hassle. Mutual funds are investment vehicles that allow groups of investors to combine their financial resources to purchase large portfolios of stocks, bonds and other securities.

There are three basic ways to purchase mutual funds online: through investment companies, investment-cum-financial services companies, or brokerages.

Before investing, it's important to decide on your investment goals, pick the right mutual fund strategy, research potential mutual funds, and set up an investment account. You'll also need to decide which mutual funds to buy and how much money you want to invest.

Once you've made these decisions, you can open an investment account and purchase shares of mutual funds. It's also a good idea to set up a plan to keep investing regularly and consider your exit strategy.

Choose an investment platform

There are several options for investment platforms, each with its own advantages and disadvantages. Here are some of the most common choices:

• Investment companies: You can buy mutual funds directly from investment companies that offer and manage them. This option often provides a wide range of funds, from passive index funds to actively managed equity funds and high-yield bond funds, catering to different investors and investment goals. One significant advantage of buying directly from mutual fund companies is the absence of sales commissions or brokerage fees, allowing more of your investment dollar to go directly into the fund. However, the downside is that your investment options are limited to that company's family of funds. Examples of investment companies include T. Rowe Price, American Century, and Dodge & Cox.
• Investment-cum-financial services companies: Some investment companies, such as Vanguard and Fidelity Investments, have expanded their offerings and now allow you to use an in-house account to buy and sell mutual funds and exchange-traded funds (ETFs) offered by other firms. This option gives you access to a wider range of funds but may come with additional transaction fees or commissions if you choose funds outside of their proprietary offerings.
• Online brokerage accounts: Opening an online brokerage account will likely be the most expensive option, as these accounts typically charge a transaction fee or commission for each trade and may also have account setup or maintenance fees. However, they provide access to a vast universe of mutual funds from various fund families. Examples of online brokerages include ETRADE and Betterment, as well as traditional brokerages like Charles Schwab and Merrill Lynch, which have also launched digital platforms.

When choosing an investment platform, it is essential to consider factors such as fees, the range of investment options, customer service, and the ease of use of their trading platform. Additionally, some platforms may offer features such as automated investing, robo-advisors, or portfolio rebalancing services, which can be beneficial for those who want a more hands-off approach to investing.

Decide on your mutual fund investment goals

Before investing in mutual funds, it is important to identify your investment goals. Ask yourself: Are you investing for a long-term goal, such as retirement or your child's education, or a shorter-term goal, like buying a home or a car in the next few years?

If you are investing for the long term, stock mutual funds are a great choice as you will have plenty of time to ride out the inevitable ups and downs of the stock market. If you are saving for the short term, a bond market mutual fund might be a better option.

If you are only a few years away from your goal, you should focus on minimising risk so you don't fall short of money when you need it. You might want to invest 30% in stock mutual funds and the rest in bond funds.

If you are nervous about investing heavily in stocks or have a mid-term goal that's five to ten years away, you may want to reduce the potential for rapid changes in investment value by opting for balanced mutual funds, which invest in both bonds and stocks.

If you'd prefer to avoid the hassle of picking a portfolio allocation, consider investing in a target-date fund, which will adjust its holdings to lower-risk assets as the target date approaches.

Once you've identified your mutual fund investing goals, you can pick funds with the right investment strategy. For example, if you are investing for long-term goals, your mutual fund allocation should probably be 70% to 100% in stock-based mutual funds to position yourself for the most investment growth.

Remember, mutual funds are a great way to build a diversified portfolio without a lot of extra cost or hassle.

Pick the right mutual fund strategy

Picking the right mutual fund strategy is essential to achieving your investment goals. Here are some tips to help you choose the right approach:

• Long-term goals: For long-term goals, such as retirement or a child's education, consider allocating 70% to 100% of your mutual fund investments in stock-based mutual funds to maximise growth potential. "Growth funds" are a good option as they invest in companies expected to grow faster than others, offering the potential for large gains but with higher risk. Examples include the Vanguard Growth Index Fund (VIGAX) and Fidelity Growth Discovery Fund (FDSVX).
• Mid-term goals: If you're nervous about investing heavily in stocks or have a goal within five to ten years, consider balanced mutual funds that invest in both bonds and stocks. This approach reduces the potential for rapid changes in investment value. Options include the Vanguard Wellesley Income Fund (VWINX) and the American Funds American Balanced Fund (ABALX).
• Near-term goals: For goals just a few years away, focus on minimising risk by investing around 30% in stock mutual funds and the rest in bond funds. Income-oriented mutual funds like the PIMCO Total Return (PTTAX) and the Vanguard Equity Income Fund (VEIPX) can provide a steady income through interest payments.
• Target-date funds: If you want a hassle-free approach, consider target-date funds. These funds automatically adjust their holdings based on a specific target date, gradually shifting from riskier assets like stocks to lower-risk assets like Treasury bonds as the date approaches.
• Past performance: While not a guarantee of future success, consider how a fund has performed historically relative to similar mutual funds or benchmark indices. This can indicate how well the fund meets its stated goals.
• Expense ratios: Annual fees charged by mutual funds can impact your investment returns over time. While the industry average is 0.57%, there are many funds that charge less. Actively managed funds typically have higher expense ratios than passively managed funds.
• Load fees: These are sales commissions charged by brokers when buying or selling a mutual fund. Try to avoid load fees by choosing "no-load" funds, which don't charge commissions.
• Management: Actively managed funds, which aim to beat the performance of an underlying index, usually come with higher fees. On the other hand, passively managed funds or index funds aim to duplicate an index's performance and typically have lower fees. Historically, passively managed index funds have outperformed their active counterparts over the long term.

Research potential mutual funds

There are thousands of mutual funds to choose from, but not all of them will be a good fit. It's important to do your research before investing your money in a mutual fund. Here are some key factors to consider when researching potential mutual funds:

• Investment Objective: Define your investment objective. Is this money for retirement, a house, a car, or something else? Each of these scenarios calls for different approaches and asset classes, which will lead you to different categories of mutual funds. For example, if you're investing for retirement, a money market fund may not give you a high enough return. On the other hand, if you're planning to spend the money on a vacation in a year, you probably don't want to invest in risky biotech stocks.
• Performance: Look at the fund's performance over the past five and ten years. While past performance doesn't guarantee future returns, it can be a good indicator of how the fund is meeting its goals. Compare the fund's performance to similar mutual funds or benchmark indices. Also, consider the manager's tenure, especially if the fund is actively managed. If the current manager has only been with the fund for a short time, they may not be responsible for its long-term returns.
• Fees and Costs: Mutual funds typically charge various fees, such as expense ratios, load fees, and transaction fees. The expense ratio is the annual fee charged by the fund, usually a percentage of the value of your investment. While most expense ratios are below 1% or 2%, these fees can impact your returns over time. Load fees are sales commissions charged by the broker when buying or selling a mutual fund. Try to avoid load fees if possible, as they can eat into your returns. Transaction fees are charged when you buy or sell the fund and can also add up over time.
• Minimum Investment: Mutual funds usually have a minimum investment requirement. Make sure you are aware of the minimum investment required for the funds you are considering, as you don't want to be priced out of your first choice.
• Management: Consider the fund's management style. Actively managed funds aim to beat the performance of an underlying index and typically charge higher fees. Passively managed funds, or index funds, aim to duplicate the performance of an index and usually have lower fees. Historically, passively managed index funds have outperformed actively managed funds over the long term.
• Diversification: A well-diversified portfolio can help ensure long-term outperformance and stability. Consider investing in different types of assets, such as international funds, bonds, real estate, or fixed-income funds, to create a more well-rounded portfolio.
• Long-Term Growth: Remember that past performance does not guarantee future results. Focus on finding funds with strong historical performance and experienced fund managers to maximize the potential for long-term growth and minimize short-term risk.

Set up a plan to keep investing regularly

Once you've started investing in mutual funds, it's important to set up a plan to keep investing regularly. Your brokerage trading platform can help you set up recurring investments on a daily, weekly, or monthly basis so you don't have to remember to deposit money into your account every time you want to invest.

Not only does this help you grow your money, but it can also help you pay less per share thanks to an investing principle called dollar-cost averaging. By investing a set dollar amount regularly, you reduce the risk of buying a lot of mutual fund shares when prices are extremely high. On the other hand, because you're investing a set amount of money, your money buys more shares when prices are low. Over time, this may reduce the average price you pay per share.

It's also a good idea to set up a plan to check in on your investments at least once a year. This will give you a chance to rebalance your portfolio and ensure that its asset classes still match the level of risk you want to take on to meet your goals. If this prospect sounds daunting, you might consider using a robo-advisor, an automated platform that generally offers this service as part of its management services.

Frequently asked questions