Now that you've learned the answer to the question, "What is an equity fund?", it's time to answer, "What are equity funds useful for in an investment portfolio?". Why would someone consider adding them to their holdings; investing their hard-earned cash into one of the countless equity funds available today?
The short answer is that equity funds are used as a way to buy into a portfolio of stocks. By purchasing shares in the mutual fund that holds the portfolio, the shareholder (you) can effectively take indirect ownership in a large basket of securities. Equity funds are a way for those who want to own businesses to do it without starting their own company, investing in local companies, or picking stocks themselves.
Besides that, for most investors, it comes down to five core benefits that equity mutual funds offer that aren't always available with other types of securities.
1.) Equity Funds Offer Widespread Diversification for a Very Small Initial Investment
Most equity funds keep less than 1% to 5% of assets in any individual stock. For the average small investor to achieve the same portfolio diversification, he or she would need hundreds of thousands of dollars. Unless you inherited a large amount of money, that probably isn't possible in your late teens or early twenties, especially if you had to pay your own way through trade school, college, or professional training of some sort.
2.) Equity Funds Offer Professional Management of Your Money For a Low Fixed Fee
The business model behind equity funds is that the portfolio management company charges a set fee, ranging from as low as 0.10% to as high as 2.00% or more. This fee is applied annually based upon the Net Asset Value (NAV) of the equity fund's portfolio. In exchange, the investors put their money into the fund and the portfolio manager spends his or her time making the buy, sell, and hold decisions. For someone who doesn't want to think about reading annual reports of 10K filings, that can be an appealing arrangement.
3.) Equity Funds Can Be Used to Invest In Specific Sectors, Industry, or Even Countries
Whether you want to invest in pharmaceutical stocks or in Asian companies, equity funds come in countless shapes, sizes, flavors, and varieties to help you create the portfolio you desire. If you just want to own a broad swath of stocks that represent the biggest enterprises in a country, you can do that, too. In fact, there is a good chance that if you can think of it, there is probably an equity fund that invests in it.
5.) Equity Funds Can Often Be Purchased Without Paying Brokerage Commissions
Every penny you have to spend on bank fees, brokerage commissions, and asset charges is a penny that can't be working for you, generating dividends, interest, and rents. The more you save, and the less you pay, the richer you can become. It's basic math. One of the big benefits of equity funds is that, more often than not, if you open an account directly with the mutual fund itself, you can avoid brokerage fees altogether. This is especially true if you enroll in an automatic savings plan that allows the fund to regularly take money out of a savings or checking account at your bank each week, month, or quarter.
Over time, this benefit can be enormous. Consider an investor who wants to regularly invest $250 every week for 40 years. He would have had to pay a $10 commission to his stock broker if he bought his equity fund shares through the middle man. By going directly to the fund company, his annual cost savings could be as high as $520. If the underlying fund generated a 9% compounded annual rate of return, that would result in an extra $175,700 in future wealth by retirement! The exact same equity mutual fund, the exact same underlying stocks, the exact same portfolio managers; vastly different result.
Learn More About Investing in Equity Funds
To learn more about how you can invest in equity funds, pitfalls of mutual fund ownership, and other considerations that could help, or hurt, your bottom line, read The Complete Beginner's Guide to Investing in Mutual Funds. Since equity funds, by definition, own stocks, you may want to take the time to read The Complete Beginner's Guide to Investing in Stocks, as well.