Why Would Someone Choose a Mutual Fund Over a Stock
The majority of investors face the dilemma between mutual funds and stocks. The matter is entirely subjective. As per current data, 31% Indians are investing in mutual funds, while 3% of Indians investing in stock markets. It is imperative to have proper knowledge of all investment avenues to make an informed choice.
If you are planning to begin your journey in the world of investment, check out the detailed mutual funds vs. stocks analysis. It will help where you should be investing as per your investment objectives and financial goals.
What Is Mutual Fund?
A mutual fund is basically a pool of money managed by a professional fund manager. Usually, an Asset Management Company (AMC) brings together a group of people with the same investment objective and invests their money in securities such as bonds, stocks, equities or other securities.
The net profitability or income from this collective investment is distributed proportionally among investors after deducting any applicable fees and charges and by computing a scheme's NAV or also known as "Net Asset Value".
Investors can find various types of mutual funds as per their investment purposes. The three significant types of mutual funds are:
- Debt Mutual Fund- These are the kind of mutual funds that generate returns by lending your money to debt instruments like government bonds and other low-risk securities.
- Equity Mutual Fund- If you are looking to invest for the long term and want to gain exposure in the stock market, you can consider this as a viable option. It is a type of mutual fund scheme, where the entire amount is invested into equities of different companies (Small-cap, Midcap, Large cap) to offer diversification and risk reduction.
- Hybrid Mutual Fund- It is a type of mutual fund scheme which invests in more than one equity, debt funds and other asset classes to diversify the portfolio to reduce the risk involved.
Before investing in this financial instrument, it is crucial to assess all the mutual funds and check various aspects like fund performance, NAV, expense ratio, Asset Under Management (AUM), and the fund manager’s experience to make a wise financial decision.
What are Stocks?
In India, the Securities and Exchange Board of India (SEBI) regulates the stock market under the SEBI Act 1992.
Stocks represent a share of ownership in a company. If a company has 1,000 shares of stock and you own 100 shares, then you would own and have a claim of 10% of the company's earnings and assets. As the company expands its business, the stock price usually goes up, offering you the opportunity to sell shares for a higher price. This translates into higher profit.
There are two main kinds of stocks, preferred and common stocks.
- Preferred stocks do not enable the owner the voting rights for making any corporate decisions. However, they are legally entitled to receive certain dividend payments before any dividend can be issued to any other shareholders.
- In contrast, common stocks enable owners' power of voting rights to vote at shareholders' meetings and receive dividends.
Mutual Funds vs. Stocks: Which Is Better?
Here is the list of differences between the two to make you aware.
In stock market, you can invest in individual stocks. Stock market also offers the opportunity to invest in multiple shares. On the contrary, in mutual funds, the entire amount is invested in a diverse portfolio of assets based on your investment objectives or goals.
Ease of Investment
While investing in stock market an investor has to go through all the hassles, from researching their own and opening an account to investing. Whereas in mutual funds you can start investing seamlessly by simply registering in several reputable mutual funds platforms. The investment is managed by professional fund managers.
Cost of Investing
To invest in mutual funds, you need to pay various charges such as expense ratio, exit load, etc. and therefore it involves incurring some costs. However, to invest in the stock market, you need to pay account opening fees. You might also have to pay maintenance charges, stamp duty, brokerage fees, etc. In addition, at times investing in stock market necessitates putting a large sum of money due to market forces.
In most notable mutual funds the return potential is consistent and delivers decent returns through which an average person can fulfil their financial objectives and build massive wealth. Some types of mutual funds will also bear risks. One of the notable advantages of investing in stock market is it delivers high returns. However, the price of shares keeps fluctuating and so comes with a higher risk.
Investment Horizon and Tax Benefits
Investment in stocks can either be for the long-term or short-term. You can earn a better profit when invested in the long run. Investors investing in certain mutual funds can benefit from a tax deduction of up to 1.5 lakhs under Section 80C of the income tax every financial year. On the other hand, in stock markets, one must pay a tax while selling their stocks.
Which Is Better Investment?
Now that you have assessed mutual funds vs. stocks, it is time to answer the question. Both of these investment instruments are great options and offer different features. But when you choose to invest through a mutual fund you are relieved from tracking, analysing, picking, and managing the purchase.
In addition, to achieve a diversified equity portfolio, you must make a large initial investment in at least 15 to 20 stocks. In such a scenario investing in a mutual fund is preferable. If you invest ₹ 1000, you will receive a diversified portfolio across all assets.
After analysing mutual funds vs. stocks, it is evident that both of them are rewarding for an investor. Regardless, you should put your money in any of the two depending on your financial goals, risk appetite and investment objectives. However, if you are constrained by time and knowledge, investing through mutual funds is a viable option to earn decent returns.