Too many funds means that you’re buying the market, at an above market price

If you’re a new investor, then you might have started by buying units in an index fund. These are cheap, with expense ratios as little as 0.5%. Given your initial experience, you may have then dipped your toes in the world of mutual funds by purchasing, say, the BMO Income Fund.

And then you starting learning about the benefits of diversification. You might invest stick a few thousand dollars in a resource fund, more in US equity income. Then you hear about the crazy potential of the emerging markets, the stability of large European companies, the fantastic upside of oil juniors, the steady growth of American midcaps, the impressive growth of gold funds, and the fantastic opportunities in technology. Soon enough, you could find yourself owning units in as many as twenty funds.

This is a mistake. A mistake I made when I first started investing is that I ended up with fifteen finds. In my inexperience, I thought diversification meant investing in many different mutual funds . But at the end of the year (and for several years), I never made more than I could have done in an index. By “diversifying”  (I put that in quotes for a very good reason) too much, I basically bought all the companies that would typically be represented in an index (and in the ratios roughly present in an index). However, since mutual funds cost more than index funds (as much 2.5% for the more specialized funds), so I was paying more for the privilege.

Most ordinary investors (and by that I mean working people, on an ordinary income) need no more than five or six funds that have low correlations with each other. Only invest in more if you’re particularly interested in specific sectors.

One thought on “Too many funds means that you’re buying the market, at an above market price

  1. Great info Samir. Thanks for the information – you are right, sticking to just a few index funds will give you good diversification.

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