After reading investing bestsellers like Phil Town's rule #1 and other books which advocate individual stock investing, a lot of investors are moving away from mutual funds. Through these books they are learning that it is possible to learn about different companies, their competitive advantages and valuation strategies. We think it is definitely possible to do all this but don't forget that this is a lot of work, a lot more than you would imagine especially if you are a newbie investor.
It is a lot simpler to choose great mutual funds and let the professional managers handle all the stock picking for you. This is the recommended route for a lot of people. If you are interested in mutual funds, you should think about industry sectors and asset allocation. In simpler words, you should be aware of your risk tolerance or how much risk you are willing to take for the amount of return you are looking for.
As you have seen in the recent past, companies that have made great profits and who are a favorite amongst investors can lose the confidence of people fairly quickly. We are speaking of BP of course and how the environmental damage due to the oil rig explosion caused the company to lose market share so fast. If you are invested in individual companies, you are exposed to such risks to a higher degree.
When you are starting out, we think you begin with no-load index funds. Avoid funds with high sales fees or load associated with them. Less commissions means more money left over for you to invest. Most investing studies have shown that the commissions on funds doesn't correlate with the return or performance of the fund. In simplest terms, higher commissions didn't always translate into a higher return. So, why pay more?
If you are bored by index fund investing and want to be more active in the research side of things, you should different funds by 10-year returns, management fees, sectors and management experience. You should verify whether the management team has been the same during the various years the fund has had good returns. More often than not star money managers move towards managing other funds or lose their Midas touch along the way. Also, don't chase the hottest performers of the last year. A lot of stellar years are followed by terrible returns the year after. You don't want to catch the funds when they are falling off a cliff.
For those of you who want to learn how to achieve the the next level of returns click here.
