Question

Modules 8, 9, and 10 discuss stock valuation, risk and return, portfolios, and diversification. If you were choosing to invest in the stock market (and perhaps you do), would you choose to (1) select stocks yourself (2) invest in an actively managed mutual fund, or (3) invest in an index mutual fund? Justify your answer with facts and critical thinking. You might also need to qualify any personal preferences or practical restrictions that influence your choice.  

Answer 1

The decision on how to invest in stock markets depends on preferences and personal choices. An actively managed mutual fund is managed by highly skilled fund managers who strive to generate alpha over the market index. A market index on the other hand is a type of passive investing. According to me, a proportion (around 40%) of the capital must be invested in an index mutual funds. These mutual funds provide stable returns and are generally not extremely volatile. Other proportions (around 40%) must be invested into actively mutual funds. The leftover proportion (20%), I would invest using selecting stock myself. Since there are restrictions on individually managing stocks, only 1/5th of the portfolio is kept open to selecting stocks myself. The rationale of this is on one hand market index funds would provide less volatile returns, actively managed funds would strive to generate excess returns. A small proportion (selecting stocks yourself) is held for selecting stocks oneself, which could involve highly volatile returns. Hence, the rationale is to overall balance the portfolio and investments.