How Good a Deal Does a Mutual Fund Have to Be to Beat Stock Picking?

Regular listeners of the Motley Fool Answers podcast will know that Alison Southwick and Robert Brokamp are full of excellent investing and personal finance advice. But for this episode -- which they are dedicating totally to listener questions -- they've called in reinforcements: Ross Anderson, a certified financial planner from Motley Fool Wealth Management, a sister company of The Motley Fool.

In this segment, they break down the numbers for a listener who got a really good deal when he bought his mutual funds, but is now pondering whether he's better off moving to individual stock investing. That's not just a question of money -- it's a matter of time.

A full transcript follows the video.

This video was recorded on Feb. 27, 2018.

Alison Southwick: Our next question comes from Matt. "Previously I worked for American Funds." Is that a mutual fund company?

Robert Brokamp: Yes. It's an actively managed mutual fund company for the most part. I don't know if they have an index fund, but it's mostly sold through advisors.

Southwick: Matt was able to buy their mutual funds commission free. "I see that as an automatic 5.75% return." That means that the fees on those funds are like wow.

Brokamp: Yes, that's the upfront commission at the lowest, what they call, break point in the smaller amounts. If you invested more, it would be a lower commission, but that's the amount of a haircut off the top.

Southwick: That is a big haircut. "My question is with the diversified funds available to me with no sales charge, is it worth it to try to pick stocks, too? I know it can be. Unless there are stocks that I really love, is it worth the time and research or should I leave it to the pros?"

Ross Anderson: The 5.75% that he's referencing is really the sales charge. That amount goes to a selling agent or a broker that is having a client invest in that. Being able to bypass that is a good thing, but there is still a cost of investing in a mutual fund which is going to come in the form of the expense ratio. That doesn't mean that it's free investing. It just means that you aren't paying the second tier that's between you and the fund company.

If you're going to compare mutual funds, I think you should really be looking at that set of funds vs. other no-loads and things that you can get into without also paying that sales load. Whether or not you want to choose stocks or offload that to a professional comes down to how much time you want to invest in putting together a portfolio for yourself.

Motley Fool Wealth Management is on the side of the business that is trying to construct portfolios on behalf of our clients. It's for folks that either don't have the time, don't have the interest, or aren't comfortable building their own stock portfolio. I live in that world, but for folks that like getting into the weeds and really finding stocks that they love, I know that that's a huge passion for so many investors.

I would try to ignore what you're considering -- that automatic 5.75% return -- because I think really that's leveling the playing field between your options. Then consider whether or not you want to spend the time.

Brokamp: And, of course, it's not either/ or. You can do both. In fact, I often recommend that people do both. You have a diversified portfolio of low-cost mutual funds and then pick stocks, as well. I've met plenty of people who just find that they love picking stocks. It makes them more engaged in their personal finances. They try to find more ways to save more money, so they can invest more. I think that's great, so it doesn't have to be either/ or. I think a mix of both is pretty good.

Southwick: I think I fall in the camp [of not picking stocks] unless they are stocks that I really love, as Matt writes in his letter. I like investing in companies that I really love, but I don't love digging into income statements, or looking at all the numbers and crunching everything. That's just not me, and that's fine...

Brokamp: And that's perfectly fine.

Southwick: ... and that's OK. Right, Rick?

Rick Engdahl: That's why we have Stock Advisor.

Southwick: That's true. Someone else can do it for you.