Investing in mutual funds

For those without the time, interest or skills to study stocks and decide which to invest in and when, mutual funds (and their cousins, exchangetraded funds, or ETFs) can be a perfect solution. For best results, though, learn the basics about them first.

For starters, while it’s reasonable to review a fund’s recent performance, don’t jump into any fund just because it posted boffo results recently. To some degree, a terrific return isn’t the result of the fund manager’s brilliance, but of good luck — at least over the short term. (And many fund managers invest only for the short term.) An amazing return in one year may well be followed by a poor return the next. Remember, too, that an amazing multiyear average annual return may be the result of one unusually strong year, with the rest of the years unremarkable.

Next, aim to minimize the fees you pay. You can look up funds at sites such as Morningstar.com, where you’ll find each fund’s “expense ratio” listed. That summarizes its annual ongoing fees, expressed as a percentage of your assets. A ratio of 1% on an investment of $5,000 means an annual fee of $50.

Fees are part of why most stock mutual funds fail to perform as well as the market average or their benchmark index. According to S&P Global, fully 82.5% of all domestic large-cap stock mutual funds underperformed the S&P 500 Index over the past 10 years (as of mid-2021).

Given the dismal performance of many mutual funds, then, it’s well worth considering just sticking with low-fee, broad-market index funds, such as those that track the S&P 500 index of hundreds of America’s biggest companies. You’ll pay minuscule fees and will earn close to the market’s average instead of possibly vastly underperforming it.

Learn more about mutual funds at Fool.com in our “Investing Basics” nook. You might also read “The Little Book of Common Sense Investing: The Only Way to Guarantee Your Fair Share of Stock Market Returns” by John C. Bogle (Wiley, $25).