Mutual Fund Investing for Beginners

You’ve probably heard that you should start investing in mutual funds. But when you try to look them up, you may realize that advice isn’t always so easy to follow.

There are thousands of mutual funds to choose from, so it’s hard to know where to start — especially if you’re a beginner. To help you out, we’ve broken down how mutual funds work, the different kinds there are, and where to buy them.

Erika Taught Me

  • Mutual funds offer exposure to a wide variety of securities.
  • Mutual funds can be held in many different kinds of investment accounts.
  • Some mutual funds are more affordable than others — scrutinize a fund’s fee structure before buying its shares.

. . .

What Are Mutual Funds? 

A mutual fund is a bundle of different securities, all sold in one package. Instead of buying a single stock or bond, you can buy a mutual fund that gives you several stocks, bonds, or both. 

For example, if you buy shares of the Vanguard Total Stock Market mutual fund (VTSAX), it will provide exposure to thousands of publicly traded American companies.

Many investors choose a mix of stock mutual funds and bond mutual funds. However, there are many different mutual fund subtypes. For example, you can buy a mutual fund solely focused on tech companies or one that prioritizes sustainability.

Target-date funds are another popular mutual fund. These will automatically rebalance as you get older and approach retirement age. They’ll gradually adjust the risk level to be more conservative.

READ MORE: How To Save for Retirement

How Do Mutual Funds Work? 

There are two main types of mutual funds: actively managed and passively managed. 

Just like it sounds, an actively managed fund has a manager who picks certain securities to include in the fund. An actively managed fund attempts to outperform the overall market. 

A passively managed fund simply tracks an index, like the S&P 500. 

Actively managed funds usually have higher fees than passively managed funds because there is more work involved in handpicking the fund’s securities. 

But even though an actively managed fund’s goal is to outperform the market, that outperformance isn’t guaranteed. If you’re new to mutual fund investing, it’s probably a better idea to buy shares in passively managed mutual funds rather than actively managed.

READ MORE: Active vs. Passive Investing: Which Is Best?

Mutual Fund Costs

When you purchase a mutual fund, you may pay several different types of fees:

  • Expense ratios are charged by the investment companies that manage mutual funds. Expense ratios vary widely, and some companies, like Vanguard, have lower expense ratios than industry averages. 
  • Load fees are commission fees paid to buy or sell shares of a mutual fund. “No-load” funds don’t charge these fees.
  • Redemption fees are charged if you sell your mutual fund shares within a predefined period (typically ranging from one month to one year) after you buy them. A redemption fee legally cannot exceed 2% of the sale amount.

If you’re worried about overpaying for a mutual fund, use the Fund Analyzer provided by the Financial Industry Regulatory Authority (FINRA) to compare multiple mutual funds. This will help you see which fund provides the best return, including its fees.

How To Invest in Mutual Funds

You can buy mutual fund shares directly from investment companies like Charles Schwab, Vanguard, or Fidelity. 

If you have a 401(k) or 403(b) from your employer, the account will likely offer a variety of mutual funds for you to choose from. That said, the selection of mutual funds for these plans will likely be more limited than the range of mutual funds available via an individual retirement account (IRA) or taxable brokerage account.

If you have a robo-advisor account, the robo-advisor may include mutual funds in its selection of prebuilt portfolios. You should be able to check with the robo-advisor’s management team to see which mutual funds are included in your plan.

READ MORE: What Is a 401(k)? Comparing Roth vs. Traditional Plans

Where To Hold Mutual Funds

You can hold mutual funds in several different accounts, including both Roth and traditional IRAs, Roth and traditional 401(k)s, and taxable brokerage accounts. 

You can even purchase mutual funds in a Health Savings Account if you choose to invest your HSA money.  

It’s important to choose your mutual fund vehicle strategically because different account types have different tax rules and investment limits. However, the mutual fund itself will be the same no matter where you hold it. 

For example, whether you buy shares of VTSAX and hold them in an IRA or 401(k), the mutual fund itself will not change.  

Pros and Cons of Mutual Funds

Mutual funds give you exposure to a variety of securities, which is a good strategy for diversifying your investments — you don’t want to put all your money on one stock. 

But like any type of investment, they have advantages and disadvantages.

Pros 

  • Diversification: Mutual funds can hold hundreds or even thousands of different stocks and bonds.
  • Variety: There are many mutual funds on the market, so you can pick the ones that fit your goals. 
  • Low maintenance: Many mutual funds let you automatically invest every month, allowing you a set-it-and-forget-it investment strategy.

Cons

  • Fees: Some mutual funds, especially actively managed funds, charge relatively high fees. These fees can significantly limit your return on investment over time.
  • Investment minimums: Some mutual fund companies require that you deposit a large sum to start investing, ranging between $500 and $5,000.
  • No customization: When you buy individual stocks or bonds, you have total control over what’s in your portfolio. But with a mutual fund, you cannot remove or change the securities in that fund.

FAQs

Can you make money in mutual funds?

While mutual funds can be a great way to invest, they are not guaranteed to make you money. Not all mutual funds are managed well. Also, if you sell your mutual fund shares at the wrong time, you may wind up with a loss. 

Earning money with mutual funds requires patience and you need a diversified portfolio of both stock and bond funds. 

Avoid panicking and selling mutual funds when the market drops. If you’re not sure which mutual funds to choose or how much to invest, consider meeting with a certified financial planner who can help you determine which mutual funds may match your investing goals.

Is the S&P 500 a mutual fund? 

The S&P 500 itself is not a mutual fund; it’s a list of 500 of the country’s biggest publicly traded companies. It also serves as a benchmark for the stock market. 

You can purchase a mutual fund that tracks the S&P 500, like the Fidelity 500 Index Fund or the Vanguard 500 Index Fund. Many investing experts, including Warren Buffett, recommend investing in index funds like those because they expose you to a wide range of companies.

Why are mutual funds good for beginners?

Mutual funds are popular with new investors because you can grab a slice of hundreds of companies just by buying one mutual fund share. This diversifies your portfolio and mitigates damage when a particular market sector is struggling.

For example, if you only buy shares of Tesla and its stock price drops drastically, then your portfolio would be hugely impacted. But if you instead buy shares of a mutual fund that has hundreds of different companies, including Tesla, you’ll be less impacted if Tesla does poorly.

TL;DR

Mutual funds are a way to invest in lots of stocks or bonds (or both) without having to buy each one individually. If you’re investing in mutual funds as a beginner, you’ll probably want to start with passively managed funds, which tend to be more affordable.

For more investing lessons for beginners, check out these episodes of the Erika Taught Me podcast:

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I'm an award-winning lawyer and personal finance expert featured in Inc. Magazine, CNBC, the Today Show, Business Insider and more. My mission is to make personal finance accessible for everyone. As the largest financial influencer in the world, I'm connected to a community of over 20 million followers across TikTok, Instagram, YouTube, Facebook and Twitter. I'm also the host of the podcast Erika Taught Me. You might recognize me from my viral tagline, "I read the fine print so you don't have to!"

I'm a graduate of Georgetown Law, where I founded the Georgetown Law Entrepreneurship Club, and the University of Notre Dame. I discovered my passion for personal finance after realizing I was drowning in over $200,000 of student debt and needed to take action-ultimately paying off my student loans in under 2 years. I then spent years as a corporate lawyer representing Fortune 500 companies, but I quit because I realized I wanted to have an impact; I wanted to help real people and teach them that you can create a financial future for yourself.

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Our aim is to help you make financial decisions with confidence through our objective article content and reviews. Erika.com is part of an affiliate sales network and receives compensation for sending traffic to partner sites, such as MileValue.com. This compensation may impact how and where links appear on this site. This site does not include all financial companies or all available financial offers. This in no way affects our recommendations or article content.

Advertiser Disclosure

Our aim is to help you make financial decisions with confidence through our objective article content and reviews. Erika.com is part of an affiliate sales network and receives compensation for sending traffic to partner sites, such as MileValue.com. This compensation may impact how and where links appear on this site. This site does not include all financial companies or all available financial offers. This in no way affects our recommendations or article content.

Advertiser Disclosure

Our aim is to help you make financial decisions with confidence through our objective article content and reviews. Erika.com is part of an affiliate sales network and receives compensation for sending traffic to partner sites, such as MileValue.com. This compensation may impact how and where links appear on this site. This site does not include all financial companies or all available financial offers. This in no way affects our recommendations or article content.