Oct 238 min read

Mutual Funds vs. Stocks: Understanding the Differences

Updated: Oct 27

Mutual funds and stocks are both investing options, but they require to be approached differently. Potential buyers need to be conscious of other variations between stocks and mutual funds and the procedures involved in investing in them. They will be better equipped to understand both possibilities and make a better choice with a good understanding of both. In the long run, investing in stocks and mutual funds may assist you earn gains that exceed inflation. Before investing, you should think about how much risk you are willing to accept. You will need to take a greater risk to get better profits. In this article, we will highlight the key difference between mutual funds and stocks in detail.

Understanding Mutual Funds and Stocks

Before explaining the points of difference between mutual funds and stocks, we will talk a bit about the basis. Stocks have a far higher risk than mutual funds. By dispersing your capital across various fields and sectors, the varied equity mutual fund reduces investing unpredictability. At the same time, choosing proper stocks before investing your money requires a lot of research. Specialists undertake the research for equities mutual funds, and an experienced fund manager monitors your investment. The mutual fund house charges yearly management fees for this service, which is not free. Now let us highlight the differences between stocks and mutual funds point by point.

Tracking Your Investment as a Beginner

If you are new to investing in stocks and have little to no knowledge of the stock market, mutual funds are the best option. This is because you have an investment advisor checking over the funds and the risk is reduced. Furthermore, several equity fund varieties are readily available and you can choose the most suitable approach to achieve your financial objectives based on your willingness to take risks.

For instance, index funds and exchange-traded funds (ETFs) are good alternatives if you want to invest passively. By monitoring and replicating a market index, it provides you with results that match it. Also, it has an easier expenditure proportion than actively managed funds.

Investing in mutual funds offers you the advantage of working with a fund manager who has a wealth of knowledge and experience in the industry. You don't need to bother about selecting stocks or keeping track of them and allocating funds. Whenever it comes to financial investing, this kind of service is not available. Choosing and tracking your investment is your obligation.

Understanding Risk and Return

Equity-diversified mutual funds are known to offer the benefit of diversifying a portfolio, which lowers risk. Still, the profitability of one stock is unable to make a substitute for the performance of another, and stocks are vulnerable to market swings. Further, depending on your risk acceptance, you may be concerned about making investments in mutual funds. For instance, if you are looking for a passive investment that provides returns consistent with a market index, you may invest in index funds. When compared with a sector fund that exclusively invests in stocks from one sector, it is less risky. Depending on the risk and return you are looking for, you can invest in index funds, flexi-cap funds, sector funds, ELSS, or large-cap funds.

Tax Gains from Mutual Funds and Stocks

Investing in stocks does not provide any tax advantages. Nevertheless, if you invest in taxation-saving mutual funds referred to as equity-related saving plans, or ELSS, you are permitted a tax deduction under Section 80C up to a maximum amount of Rs 1.5 lakh annually. You can invest in ELSS to get both tax savings and an inflation-beating return.

The Concept of Diversification

It would be challenging for a small investor to include at least 25 to 30 stocks in a well-diversified portfolio. Shareholders can acquire an array of portfolios under the guidance of a mutual fund manager by placing money into equity-diversified mutual funds. Purchasing fund units enables you to make investments in several stocks. In addition, you might utilize a structured investment plan, or SIP, which consists of continually submitting modest payments to an equity mutual fund scheme.

Cost of Investment

An equity-diversified mutual fund that invests in about 50 stocks is one option available to you. It minimizes the cost of investing while safeguarding your money from stock market volatility. Diversifying a stock portfolio over 50 stocks, for example, may require a significant financial investment. However, if you invest in equity-diversified mutual funds, which are considerably less costly, you can achieve this with simplicity. You can also take advantage of rupee cost averaging by investing just Rs 500 per month in equities mutual funds through the SIP.

Time

Investing in equity funds allows you to avoid spending a lot of time researching individual stocks. The investigation department identifies appropriate stocks, and the fund administrator looks after your investment. Before investing in an equity fund, you should, however, review the key factors, including the fund's portfolio, fund manager's investment approach, assets under management, and AMC track record.

Control over Investment

The fund manager selects which equities to include in the portfolio for equity mutual funds. What stocks have been selected and for what duration are outside your control? As an investor, you are unable to sell some of the stocks in your portfolio if you invest in equity mutual funds. Nevertheless, since he chooses when to buy and sell, an individual investor in stocks has greater authority over the investment than the person who invests in mutual funds.

Difference Between Mutual Funds and Stocks

The following table shows a summary of the differences between mutual funds and stocks:

	Mutual Funds	Stocks
Definition	Investors are similar to shareholders owning funds or stocks and earning profits from them.	Stocks represent the ownership of companies.
Denomination	A pool of money collected from investors.	Different stocks may have the same value.
Numeric value	Have net asset values.	Have a definite numerical value.
Risk level	Comparatively low.	Higher risk level.
Suitability	Professionals manage these funds, making them apt for new and seasoned investors.	Seasoned investors with good market knowledge have a better chance of maximizing profits.
Diversification	Offer more opportunities for diversification.	Only possible if the stocks allow it.
Return Potential	High to moderate returns Depending on the scheme.	Relatively higher returns.
Trading Cost	Expense retrieved through investors during the investment.	Trading cost is significantly high.
Convenience	Relatively more convenient and can be initiated within minutes.	Cumbersome and less convenient as the investment is done through Demat and Trading Account
Tax Benefits	Several schemes offer tax-saving benefits to investors.	Investors must pay a tax when selling their stocks.
Investment Horizon	Most funds reflect better results in the long run.	Investment can either be for the long-term or short-term.
Control Over Investment	Investors do not have much control over their investments.	Stockholders have relatively more control over their investment.

Which is Better: Mutual Funds or Stocks?

Here are the reasons why some investors choose to invest in mutual funds rather than stocks.

Professional Management: Purchasing mutual funds minimizes the need for evaluation, following, and planning. All of this will be managed on your behalf by an expert fund manager. The suitability of mutual fund investments for passive investors is a significant distinction between them and the stock market.
Diversification: You must make investments in at least 15 to 20 stocks if you want to widen your stock market portfolio. As a result, a substantial upfront investment will be required. Even if the investor is just investing Rs. 1,000, mutual funds could help in diversifying when compared to share market investments.
Lower Cost: You can bargain with brokers when purchasing or disposing of mutual funds to obtain better prices. It will minimize your mutual fund investment costs. But you won't be able to bargain while purchasing shares. You have to maintain an active depository account to place funds in the stock market.

Conclusion

Your investment objectives and risk tolerance will determine whether you choose mutual funds, equities, or bonds. This additionally depends on your favorite approach to investing. Choosing mutual funds could make sense if you're a new investor or want a better possible risk-return balance. Direct stock and bond purchasing may be a better choice if you want total control over the funds in your account. Creating a portfolio that incorporates all three options is an additional option.

FAQ

Q1. What is the difference between a mutual fund and a stock?

Owning individual stocks is not a requirement when it comes to investing in mutual funds. The fund that you own transacts in various types of bonds, equities, and other assets as a part of the process. On the other hand, stocks imply direct ownership in a company.

Q2. Are mutual funds safer than stocks?

Mutual funds are considered safer as they offer diversification and professional portfolio management, which can help spread and reduce overall risk. While they cannot be totally risk-free, they provide a better risk-return ratio than individual stocks. Debt mutual funds that only invest in fixed-income assets tend to be more stable than individual bonds due to the benefit of diversification.

Q3. Who manages mutual funds and stocks?

Professional fund managers registered with the Securities and Exchange Board of India (SEBI) oversee mutual funds. To select the best organizations to invest in, stockholders are required to have an extensive understanding of financial markets and industry-specific information.

Q4. What is the risk related to mutual funds and stocks?

Since mutual funds are managed by experienced fund managers who make wise investment decisions, they are less hazardous than direct stock investing. Because direct stock investing requires knowledge, expertise, and financial resources to make informed decisions and efficiently manage risk, it carries a higher degree of risk.

Q5. Which is better: mutual fund or stock in India?

Because they are more diversified compared to direct stock investments, mutual funds are often regarded as less risky. When it comes to risk, shares are riskier than mutual funds. There is a never-ending discussion about mutual funds vs the stock market. Before picking the best option for you, you should dig deep into the advantages and disadvantages of both of them.

Q6. Why do investors prefer mutual funds?

Diversification with a broader range of investments than an individual investor could afford is the key benefit of investing in mutual funds. Economies of scale are available in this case, which lowers expenses. Making monthly contributions also promotes wealth growth over time. Because they are typically less volatile, funds have higher liquidity.

Q7. What is the average return of mutual funds?

The average yearly returns of mutual funds have traditionally ranged from 9 to 12%; however, these returns can differ by category and are influenced by market volatility. The average mutual fund return over ten years in India is 20%. Historical data shows that mutual funds have historically produced strong returns, frequently between 9 and 12% each year.

Q8. How do I know if mutual funds or stocks are the relevant investment choice for me?

There isn't a single, all-encompassing answer. Consider factors such as your age, financial goals, risk tolerance, and investment horizon to pick wisely. A financial adviser can help you choose which investing options are best for your particular situation.

Q9. What is the difference between equity and mutual funds?

The purchase of shares in a particular firm is the primary way that investing in equities is different from investing in mutual funds. Conversely, you can create a diversified portfolio with various equities using mutual funds.

Q10. What is the difference between a mutual fund and a share market?

The main difference between shares and mutual funds is that investors in shares are required to open a demat account, pay brokerage fees, and do regular portfolio reviews. The buyer needs to buy Units of any particular plan at the NAV price when acquiring mutual funds; there are no additional brokerage fees or taxes to pay. Professional fund managers who generate returns oversee the funds, and the expense ratio is utilized to adjust the NAV price.