Mutual Funds: Advantages and Disadvantages (2024)

Mutual funds are one of the most popular investment vehicles for many investors. They come with many advantages, such as advanced portfolio management, risk reduction, and dividend reinvestment; however, there are many disadvantages to consider as well, such as high expense ratios and sales charges, tax inefficiencies, and possible management abuses. Before investing in one, read on to learn more details about the advantages and disadvantages of investing in mutual funds.

Key Takeaways

  • Mutual funds are a popular investment choice in the U.S., allowing for investors to pool capital into a professionally managed investment vehicle.
  • Investors have to pay fees for investing in mutual funds, which cover the costs of the fund doing business and the salaries of the professionals managing it.
  • Mutual funds come with many advantages, such as advanced portfolio management, dividend reinvestment, risk reduction, convenience, and fair pricing.
  • Disadvantages include high fees, tax inefficiency, poor trade execution, and the potential for management abuses.

Mutual Funds: An Overview

Mutual funds pool together investments from shareholders to invest in securities, such as stocks, bonds, and other assets. There are a variety of funds covering different industries and different asset classes and they are managed by professional portfolio managers who seek to achieve capital gains for the fund's investors. Investors are charged various fees for the services that mutual funds provide.

When an investor invests in a mutual fund, they are seeking exposure to a variety of assets, do not have voting rights, and may be subject to certain rules, requirements, and certainly fees. Most mutual funds are managed and offered by large investment management companies, such as Vanguard and Fidelity.

Some of the advantages of mutual funds include advanced portfolio management, dividend reinvestment, risk reduction, convenience, and fair pricing, while disadvantages include high expense ratios and sales charges, management abuses, tax inefficiency, and poor trade execution.

Advantages of Mutual Funds

There are many reasons why investors choose to invest in mutual funds with such frequency. Let's break down the details of a few.

Advanced Portfolio Management

When you buy a mutual fund, you pay a management fee as part of your expense ratio, which is used to hire a professional portfolio manager who buys and sells stocks, bonds, etc. This is a relatively small price to pay for getting professional help in the management of an investment portfolio.

Dividend Reinvestment

As dividends and other interest income sources are declared for the fund, they can be used to purchase additional shares in the mutual fund, therefore helping your investment grow.

Risk Reduction (Safety)

Reduced portfolio risk is achieved through the use of diversification, as most mutual funds will invest in anywhere from 50 to 200 different securities—depending on the focus. Numerous stock index mutual funds own 1,000 or more individual stock positions.

Convenience and Fair Pricing

Mutual funds are easy to buy and easy to understand. They typically have low minimum investments and they are traded only once per day at the closing net asset value (NAV). This eliminates price fluctuation throughout the day and various arbitrage opportunities that day traders practice.

As with any type of investment, the specifics of your budget, timeline, and profit goals will dictate what the best mutual fund options are for you.

Disadvantages of Mutual Funds

However, there are also disadvantages to being an investor in mutual funds. Here's a more detailed look at some of those concerns.

High Expense Ratios and Sales Charges

If you're not paying attention to mutual fund expense ratios and sales charges, they can get out of hand. Be very cautious when investing in funds with expense ratios higher than 1.50%, as they are considered to be on the higher cost end. Be wary of 12b-1 advertising fees and sales charges in general. There are several good fund companies out there that have no sales charges. Fees reduce overall investment returns.

Though similar to mutual funds, exchange-traded funds (ETFs) are a different type of investment vehicle, which are traded like stocks and generally come with lower costs and are easier to invest in.

Management Abuses

Churning, turnover, and window dressing may happen if your manager is abusing their authority. This includes unnecessary trading, excessive replacement, and selling the losers prior to quarter-end to fix the books.

Tax Inefficiency

Like it or not, investors do not have a choice when it comes to capital gains payouts in mutual funds. Due to the turnover, redemptions, gains, and losses in security holdings throughout the year, investors typically receive distributions from the fund that are an uncontrollable tax event.

Poor Trade Execution

If you place your mutual fund trade anytime before the cut-off time for same-day NAV, you'll receive the same closing price NAV for your buy or sell on the mutual fund. For investors looking for faster execution times, maybe because of short investment horizons, day trading, or timing the market, mutual funds provide a weak execution strategy.


  • Advanced portfolio management

  • Dividend reinvestment

  • Risk reduction

  • Convenience and fair pricing


  • High expense ratios and sales charges

  • Management abuses

  • Tax inefficiencies

  • Poor trade execution

What Are the Risks of Mutual Funds?

No investment is risk-free and while mutual funds are generally low-risk because they invest in low-risk securities, they are not completely risk-free. The securities held in a mutual fund may lose value either due to market conditions or to the performance of a specific security, such as the stock of a company if the company performs poorly. Other risks could be difficult to predict, such as risks from the management team or a change in policy regarding dividends and fees.

What Are Certain Advantages of Mutual Funds?

Mutual funds have plenty of advantages, including diversification, professional management, low costs, and convenience.

Are Mutual Funds Better Than Stocks?

Determining what is a better investment depends solely on the specific investor, their investment objectives, and their risk tolerance. Mutual funds allow for ease of access to a wide array of investments/companies, which increases diversification. They also carry lower risk because of that fact as opposed to investing in just a few stocks.

The Bottom Line

Mutual funds are a great way for investors to gain exposure to a wide variety of assets without having to specifically purchase investment securities one by one. They also allow an investor to leave the investment decisions up to a professional. While they can be a great and safe investment, they do not come without their flaws and issues.

Before investing, make sure to take your time researching the right mutual fund for you, being aware of the types of investments, risks, and costs associated with each particular fund you are considering and how they fit into your investment objectives.

Mutual Funds: Advantages and Disadvantages (2024)


Mutual Funds: Advantages and Disadvantages? ›

Mutual funds have pros and cons like any other investment. One selling point is that they allow you to hold a variety of assets in a single fund. They also have the potential for higher-than-average returns. However, some mutual funds have steep fees and initial buy-ins.

What are the advantages of mutual funds? ›

Mutual funds offer several benefits to investors, including professional management, diversification, liquidity, low cost, tax benefits, affordability, safety, and transparency. However, investors need to consider several factors before investing in mutual funds.

What is the main disadvantage of a mutual fund? ›

Disadvantages include high fees, tax inefficiency, poor trade execution, and the potential for management abuses.

What is the primary advantage of mutual funds? ›

Answer and Explanation: The correct answer is option B. mutual funds allow people with little money to diversify. Diversification is enhanced through the exposure of a multitude of stocks.

What is downside in mutual fund? ›

Downside risk is a general term for the risk of a loss in an investment, as opposed to the symmetrical likelihood of a loss or gain. Some investments have an infinite amount of downside risk, while others have limited downside risk.

Is it good idea to invest in mutual funds? ›

Mutual fund investments when used right can lead to good returns, keeping risk at a minimum, especially when compared with individual stocks or bonds. These are especially great for people who are not experts in stock market dynamics as these are run by experienced fund managers.

Is it good to have mutual funds? ›

Mutual funds offer diversification or access to a wider variety of investments than an individual investor could afford to buy. There are economies of scale in investing with a group. Monthly contributions help the investor's assets grow. Funds are more liquid because they tend to be less volatile.

Why people don t invest in mutual fund? ›

As the funds are invested in market instruments, they carry certain stock market risks like volatility, fall in share prices etc., which deters us from investing in mutual funds. As we don't want to lose money, we often let it stagnate in our savings accounts.

Is mutual fund good for long term? ›

Long-term mutual funds offer several advantages for investors seeking to build wealth over time. These benefits include: Compounding: Long-term mutual funds harness the power of compounding, where returns are reinvested, leading to exponential growth of the investment over time.

Which is not a benefit of a mutual fund? ›

Final answer: The option that is not a benefit of investing in a mutual fund is the guarantee to out-perform the market, as no investment can offer such a guarantee. The correct option is B.

What type of risk would it be to invest in a mutual fund? ›

While mutual funds offer potential benefits, investors also face risks like market fluctuations. Market risk is a primary concern as the value of securities can go up or down based on changes in market conditions.

What is mutual fund in simple words? ›

A mutual fund is a pool of money managed by a professional Fund Manager. It is a trust that collects money from a number of investors who share a common investment objective and invests the same in equities, bonds, money market instruments and/or other securities.

How do I buy and sell mutual funds? ›

Mutual funds can be bought and sold directly from the company that manages them, from an online discount broker, or from a full-service broker. Information you need to choose a fund is online at the financial company websites, online broker sites, and financial news websites.

Who should not invest in mutual funds? ›

Mutual funds are managed and therefore not ideal for investors who would rather have total control over their holdings. Due to rules and regulations, many funds may generate diluted returns, which could limit potential profits.

Why are mutual funds not risky? ›

All investments carry some degree of risk and can lose value if the overall market declines or, in the case of individual stocks, the company folds. Still, mutual funds are generally considered safer than stocks because they are inherently diversified, which helps mitigate the risk and volatility in your portfolio.

Which is riskier stocks or mutual funds? ›

A mutual fund provides diversification through exposure to a multitude of stocks. The reason that owning shares in a mutual fund is recommended over owning a single stock is that an individual stock carries more risk than a mutual fund. This type of risk is known as unsystematic risk.

What are the 6 benefits of investing in a mutual fund? ›

Top 6 benefits of investing in Mutual Funds
  • Diversification: ...
  • Variety in securities and investment strategies: ...
  • Variety in modes of investment and withdrawal: ...
  • Professional Fund Management: ...
  • Discipline of investing regularly: ...
  • Affordability:

What are the advantages of mutual funds quizlet? ›

Mutual funds offer many benefits. Some of those benefits include: the ability to invest with small amounts of money, diversification, professional management, low transaction costs, tax benefits, and the ability to reduce administrative functions.

What are two benefits of owning a mutual fund as an investment? ›

However, in reality, they are pretty simple in their investment philosophy and offer investors a host of benefits such as diversification, professional money management, economies of scale, transparency, and liquidity, to mention a few.

What is the advantage of a mutual fund quizlet? ›

What is the main advantage of a mutual fund? They give small investors access to professionally managed, diversified portfolios of stocks, bonds, and other securities.

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