Some investment professionals make the recommendation that the best way to invest in a mutual fund, that invests in stocks, is to purchase only low cost index funds. I think this is crazy and you should buy the best funds and make more money for yourself.
An index fund is a mutual fund that owns all of the stock in the exact proportion as an index such as the S&P 500. The S&P 500 stands for the Standard & Poors 500 that is comprised with the stock of the 500 largest U.S. companies.
What is the logic for the statement? The belief is that about half of the stock mutual funds will be below an average and half will be above an average. Since you never know if your mutual fund is going to be below or above having the average is a good idea. Also, investors of mutual funds can have considerable cost to pay for all of the professionals that run the funds, loads, and 12B-1 fees. If the mutual fund is investing exactly like an index fund then the cost to run it and the fees should be and are lower. You get the average and you are in the middle of the pack.
What this means to me is this. Go buy average performance and pay the least amount of fees because this is a lot better than buying a below average performing fund and paying higher fees. A study that is referenced in this blog indicates that the average fund after fees was below an index by about 2% due to the high cost of fees. A better gameplan is to be smarter than the average investment professional, that is taking money from your pocket, and buy the half of the funds with a better track record without a load so that you have minimal cost.
Let me illustrate why this is a better strategy. When the stock markets closed on Thursday April 17, 2008 the S&P 500 was down 7.0% for the year. One would think that the entire stock market was down. Not true, the Dow Transports was up 9.1%. Also, given the rise in commodity prices, companies in the Energy sector or Material sector had stocks that have risen this year. Somebody is making money, it might as well be you.
Which goal do you want? Avoid a negative consequenc like potentially owning a bad mutual fund and settling for an average mutual fund or go 1st class for only a little more and own the better than average mutual funds.
Are you really average? I don't think so, especially if you are reading this blog.
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