When you hear about a retirement account, or a “401k”, most individuals do not want to buy a single stock – there is a lot of risk, and it requires you to pay a lot of attention to your portfolio. Most investors saving for the long-term do not necessarily want to pay attention every day, they would rather have a professional do the work for a safer return.
Mutual Funds are an easy way for investors to build a diversified portfolio of stocks and other assets without having to constantly obsess over day-to-day stock movements.
Here’s how it works:
Mutual Funds and ETFs are similar because they both hold a big basket of different assets that an individual investor can buy all at once, but they have some key differences.
Mutual Funds are managed directly by a fund manager, who continually re-balances the holdings to achieve better returns while still saying within the Fund’s stated goals and risk level. This means you have a professional who is always actively looking out for the best interest of the investors of the fund.
ETFs usually track an index or commodity. The fund manager is trying to match the returns of the ETF to that index, not control risk or reward. For example, several ETFs exist that match the S&P 500, or Dow Jones Industrial Average. As of 2020, there are more than 7,000 different ETFs for different objectives (many of which overlap, created by competing investment firms).
Some investors like to be very hands-on with their portfolio, and they will usually buy some stocks. But most investors do not want to monitor their portfolio on a day-to-day basis (or just do not have much faith in their investing ability), and are more likely to invest in mutual funds and ETFs. Of course, you can always invest in both!
Now that you know a bit more about Mutual Funds and ETFs, close this lesson to continue the game!