Mutual Funds vs Stocks

Stocks represent ownership in individual companies, while mutual funds can consist of hundreds or even thousands of stocks, bonds, or other assets. You don’t have to choose between the two; both mutual funds and stocks can be included in your portfolio to help grow your wealth and achieve your financial goals.
Difference Between Stocks and Mutual Funds
4 mins read
23-October-2024

While mutual funds offer a degree of risk mitigation through diversification, direct stock investing can potentially yield higher returns but also carries a greater level of risk. The choice between these two investment avenues depends on individual risk tolerance, financial goals, and investment horizon. However, investors need not choose between the two; rather, they can strategically utilize both stocks and mutual funds within their investment portfolio to pursue financial growth and achieve their objectives. In this article, we will explore the differences between stocks and mutual funds, analysing their respective pros, cons, and suitability for various investment goals. By gaining insight into these differences, readers can make informed decisions about how to construct a balanced and effective investment portfolio tailored to their needs.

What are mutual funds?

Mutual funds are a type of investment vehicle that pool money from a group of investors and invest it in a variety of assets, such as stocks, bonds, and money market instruments. This allows investors to diversify their risk and achieve their financial goals easily. Investors own the units allotted to them by the mutual and do not have ownership of underlying assets. Bajaj Finserv Platform is a leading mutual fund investment platform in India that makes it easy to invest in mutual funds.

What are stocks?

Stocks (also known as equity) represent ownership in a corporation/company. When you buy a stock, you acquire a share or partial ownership in that company. These shares entitle you to a proportionate claim on the company’s assets and earnings. There are two main types of stocks: common and preferred. Common stockholders have voting rights and may receive dividends. Preferred stockholders typically receive fixed dividends but have limited voting rights. Historically, stocks have outperformed most other investments over the long run, making them a fundamental part of many investors’ portfolios.

Mutual funds vs stocks – Key differences

S.No.

Parameters

Stocks

Mutual Funds

1.

Definition

They represent the ownership of companies.

Investors are similar to shareholders who own funds or stocks and earn profits from them.

2.

Denomination

Different stocks can have the same or equal value.

Essentially it is a pool of money collected from investors.

3.

Numeric value

Stocks have a definite numerical value.

Mutual funds have net asset values.

4.

Original Issuance

Original issuance is always a possibility.

There is no such possibility.

5.

Risk level

They come with a higher risk level.

The risk factor is comparatively low.

6.

Suitability

Seasoned investors with sound market knowledge have chance of performing better in stocks.

Professionals manage these funds, and both new and seasoned investors can benefit through it.

7.

Diversification

Diversification is only possible if the stocks allow it.

Mutual funds offer more opportunities for diversification.

8.

Return Potential

They offer relatively higher returns.

Depending on the scheme, it provides high to moderate returns.

9.

Market Knowledge

Investors must be well-versed with the market forces to manage stocks effectively.

Market knowledge is rewarding in case of mutual funds as well.

10.

Trading Cost

The trading cost is significantly high.

The expense for funds is retrieved through investors during the investment.

11.

Convenience

Individuals can invest in stocks through Demat and Trading Account. The process to do so is cumbersome and less convenient.

Investing in mutual funds is relatively more convenient and can be initiated within minutes.

12.

Tax Benefits

Investors must pay a tax while selling their stocks.

Several mutual fund schemes offer tax-saving benefits to investors.

13.

Restrictions

It comes with asset-class restrictions.

Investors can put their money in a diversified portfolio.

14.

Investment Horizon

Investment in stocks can either be for the long-term or short-term.

Most mutual funds reflect better results when kept invested for the long-run.

15.

Systematic Plan

Stocks do not extend the feature of systematic investment plans.

Mutual funds come with the feature of the systematic investment plan.

16.

Control Over Investment

Stockholders tend to have relatively more control over their investment.

Mutual funds investors do not have much control over their investments.


Based on the disparity between stocks and mutual funds, it is evident that both types of investments can be rewarding. However, investors should choose between the two based on their capabilities.

Pros and cons of mutual funds

Mutual funds offer diversification and professional management but come with fees and potential for lower returns. Let us explore the advantages and disadvantages of mutual funds in detail:

Pros:

  • Diversification: Mutual funds pool money from multiple investors to invest in a diversified portfolio of stocks, bonds, or other securities, reducing individual investor risk.
  • Professional management: Mutual funds are managed by experienced fund managers who make investment decisions on behalf of investors, leveraging their expertise and research capabilities.
  • Accessibility: Mutual funds offer accessibility to investors with varying investment amounts, allowing even small investors to participate in diversified investment opportunities.
  • Liquidity: Mutual fund units are bought and sold based on their net asset value (NAV), providing investors with liquidity as they can redeem their units anytime, subject to market conditions.
  • Convenience: Mutual funds offer convenience through features like systematic investment plans (SIPs) and systematic withdrawal plans (SWPs), enabling investors to automate their investment and redemption processes.

Cons:

  • Fees and expenses: Mutual funds charge fees and expenses, including management fees, administrative costs, and sales charges, which can erode overall returns over time.
  • Lack of control: Investors in mutual funds delegate investment decisions to fund managers, relinquishing control over individual investment choices and timing of transactions.
  • Market risk: Mutual funds are subject to market risk, and fluctuations in market conditions can impact the value of the fund's underlying investments, leading to potential losses for investors.
  • Overdiversification: While diversification is a key advantage of mutual funds, overdiversification can dilute returns and limit the potential for significant gains, especially in high-performing sectors or stocks.
  • Tax implications: Mutual fund investments may be subject to capital gains tax, dividend distribution tax, and other taxes, depending on the type of fund and the investor's holding period, potentially reducing overall returns.

Understanding these pros and cons can help investors make informed decisions about whether mutual funds align with their investment goals, risk tolerance, and financial objectives.

Pros and cons of stocks

Pros:

  • Potential for high returns: Stocks offer the potential for high returns over the long term, especially in growing companies or emerging sectors.
  • Ownership stake: Investing in stocks provides shareholders with partial ownership of the company, entitling them to voting rights and a share of company profits through dividends.
  • Liquidity: Stocks are highly liquid assets, allowing investors to buy and sell shares relatively quickly on public stock exchanges.
  • Diversification opportunities: Investors can diversify their portfolios by investing in a variety of stocks across different industries, regions, and market capitalisations.
  • Hedge against inflation: Stocks have historically provided a hedge against inflation, as companies can adjust prices for goods and services to reflect rising costs.

Cons:

  • Volatility: Stocks are subject to price fluctuations and market volatility, which can result in significant short-term losses and fluctuations in portfolio value.
  • Risk of loss: Investing in stocks carries the risk of partial or total loss of invested capital, especially in the case of bankruptcy or poor company performance.
  • Lack of control: Shareholders have limited control over company decisions and management actions, as major decisions are often made by company executives and boards of directors.
  • Emotional investing: Stock market fluctuations and media hype can lead to emotional investing decisions, such as panic selling during market downturns or overconfidence during bull markets.
  • Research and due diligence: Successful stock investing requires thorough research, analysis, and due diligence to identify quality companies, understand market trends, and make informed investment decisions.

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Frequently asked questions

Which is safer, mutual fund or shares?

While direct stock investment offers the potential for higher returns, it also entails a correspondingly higher level of risk. Diversified mutual funds can mitigate this risk by spreading investments across multiple securities. The choice between individual stocks and mutual funds is a complex one, influenced by individual risk tolerance and investment goals. Careful consideration of the advantages and drawbacks of each option is essential for making informed investment decisions.

What are the different types of shares?

Common shares, also known as equity shares, and preference shares are the two primary types.

What is the difference between shares and mutual funds?

While individual shares offer investors direct ownership and selection of specific equities, mutual funds provide a diversified portfolio of assets managed by professionals. This pooled investment approach allows investors to benefit from expert decision-making and risk mitigation, aligning with their financial objectives and tolerance for volatility.

Are Mutual Funds affected by the stock market?

Yes, Mutual Funds can be influenced by stock market movements since they invest in stocks, bonds, and other securities. Changes in the stock market can impact the overall value of the mutual fund's portfolio.

Mutual funds or stocks—which one offers more security?

Mutual funds typically offer more security compared to individual stocks because they spread investments across various assets, reducing the impact of market fluctuations. However, the level of security depends on the specific mutual fund or stock chosen.

Mutual funds vs stocks - Which is better?

Mutual funds offer diversification, professional management, and lower costs. Stocks can be riskier but potentially deliver higher returns. For most investors, a diversified portfolio with both mutual funds and stocks is a balanced approach.

Why choose stocks over mutual funds?

Stocks allow direct ownership in companies. Investors can participate in company decisions and benefit from individual stock performance. However, stocks are more volatile and require research and expertise.

Is it wise to invest in stocks?

Yes, but with caution. Stocks offer growth potential, dividends, and long-term returns. Understand the risks, diversify, and invest for the long term.

Should I invest in 100% stocks?

Consider your risk tolerance and time horizon. While 100% stocks may offer high returns, it is risky during market downturns. Diversification with a mix of assets is often a better strategy.

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Disclaimer

Bajaj Finance Limited (“BFL”) is an NBFC offering loans, deposits and third-party wealth management products.

The information contained in this article is for general informational purposes only and does not constitute any financial advice. The content herein has been prepared by BFL on the basis of publicly available information, internal sources and other third-party sources believed to be reliable. However, BFL cannot guarantee the accuracy of such information, assure its completeness, or warrant such information will not be changed. 

This information should not be relied upon as the sole basis for any investment decisions. Hence, User is advised to independently exercise diligence by verifying complete information, including by consulting independent financial experts, if any, and the investor shall be the sole owner of the decision taken, if any, about suitability of the same.