Should I invest in mutual funds or individual securities?
Mutual funds offer many advantages that are particularly attractive if you have a small amount to invest (i.e., $25,000 or less), or if you don't have the time, experience, or inclination to manage your own investment portfolio. If you invest in an actively managed mutual fund, you get the benefit of the fund manager's professional expertise without the expense of hiring your own investment advisor (although you'll pay mutual fund fees and expenses).
Money invested in a mutual fund is fairly liquid. With some qualifications, you can generally sell your shares back to the issuer at any time if you need cash (there may be "back end" sales charges). Also, the typical mutual fund holds dozens and often hundreds of different securities. If you purchase shares of a mutual fund, you benefit from instant diversification at a relatively low cost. For instance, if you buy into an asset allocation fund, your investment dollars will automatically be spread across multiple asset categories, even if you invest only a few hundred dollars. Even with a mutual fund that invests in only one type of investment, you still have a small stake in many different securities. It would require a much larger initial outlay of cash to purchase a portfolio of individual securities as diverse as most mutual funds. Remember, though, that diversification doesn't guarantee a profit or ensure against a loss.
However, investing in individual securities also has its advantages. You can time the purchase and sale of securities to minimize the tax consequences. You can hold securities long enough to avoid short-term capital gains treatment and realize your losses at a time when you are in the best position to claim them as a deduction. As a mutual fund investor, you give up that control--fund managers do not consult with shareholders before making transactions. Finally, although you may spend more time and money building a portfolio of individual securities, you'll be able to customize your portfolio so that it truly serves your needs. You can invest only in companies you are comfortable investing in, with the level of diversification you desire and degree of risk you're willing to take.