Risks of Mutual Fund Investing | Reasons not to invest in Mutual Funds

• Mutual funds can drop in value if market corrects itself. Also, if you’re investing in a load fund, you’re paying as high as 6% up front to acquire the shares that can even drop in value later. For example, let’s say you’re investing in American funds mutual funds. Most mutual funds offered by them have a load of 4-6%, so a $4,000 investment will result $3,760 in your account balance. Now this fund must return at least 6.4% in next year just to get back to your original investment of $4,000. If you’re in bear market, you could easily lose another 5%-10% of your initial investment, making it more difficult to make money on your investment.
•  There is no guaranteed rate of return with mutual funds as there is with CDs and Treasury securities. Since risk is higher, the likelihood of greater earnings is increased. You must also pay close attention to redemption fees. Some funds have as high as 2% in redemption fees and expense ratios. If your accounts balance is significant, fund expense ratio and redemption fees can take a heavy toll. Some mutual funds put too much emphasis on short-term returns, while mask their long-term returns. If you’re not careful, you might get sucked in a mutual fund with high volatility and low returns.
•  Unwanted taxable distributions can also be a disadvantage. Funds are required to pay out 98% of their dividends, interest, and capital gains annually. Taxes must be paid on these distributions, even if you never received them but instead reinvested them in additional shares. Unfortunately, sometimes you can also owe taxes even if your fund lost money for the year. However, this is a non-issue, if funds are held in a tax-deferred account such as a 401(k) or IRA.
•  Record keeping for tax purposes can be hard work. Investors who are not meticulous about keeping track of fund purchases and sales may end up paying higher taxes than are actually owed at the time of sale because of a miscalculation of their cost basis. This is the amount of your original deposit, plus additional contributions and reinvested dividends and capital gains. The amount of taxes you pay will vary depending on the method you use to calculate your gain or loss (e.g., average price, first-in, first-out, or specific identification). Thus, it is important to keep every annual statement for as long as you own the fund.