Stock mutual funds and index mutual funds are two types of mutual funds that are often considered the same. Because the two types of mutual funds have a portfolio of certain stocks. These two mutual funds also generate a higher profit potential than other types of mutual funds, even though they also carry a high level of risk.
For those of you who are new to index mutual funds, it may be difficult to distinguish between stock mutual funds and index mutual funds. Because both of them have portfolios consisting of stocks, so you must ask what’s the difference, aren’t they both stocks?
However, it should be noted that the two are different species, and even have significant differences in several ways.
1. Portfolio and Management
The mutual fund portfolio consists of stocks selected by investment managers according to the strategy they use. When you are going to choose a stock mutual fund product, try to read the prospectus document provided. There you will find how the investment manager will manage the portfolio, what stocks to choose and other important matters related to the strategy to be implemented in managing mutual funds.
Meanwhile, the index mutual fund portfolio consists of stocks that make up the composition of the index used as a reference. For example, if an index mutual fund refers to the LQ45 index, then the mutual fund contains 45 stocks included in the LQ45 index or a list of the 45 most liquid stocks on the IDX. So, in this case the investment manager does not choose the types of company stocks that will be included in the portfolio, but rather refers to the composition of the index. This means that if the index is revised, the investment manager will also revise the stocks in the index mutual fund portfolio.
In addition, because equity funds are selected based on the strategy used by investment managers, they are managed actively. That is, the investment manager will actively carry out trading activities to make a profit. This also relates to the objective of equity funds, which is to gain profits that exceed the performance of the index. However, because there are more trading activities, the management fees charged to mutual fund investors are also higher than index mutual funds.
Index funds themselves are passively managed, which is why their costs are lower. The investment manager will only allocate investor funds to stocks that are exactly the same as stocks in a particular index. Then, the performance of the portfolio will depend on the performance of the index. The investment manager will also make changes to the portfolio composition, if the index composition is also changed.
2. Performance
It was mentioned earlier that stock mutual funds are created to exceed index performance. This means that the potential profit for equity funds can be greater, although it does not mean that stock mutual funds will always generate more profits than index funds. Because after all, investment managers trade actively in equity funds. So the potential loss is also greater.
On the other hand, because the performance of index mutual funds follows the performance of the index used as a reference. Thus, the return on investment will be determined by the performance of the index which is influenced by many companies. That way, the rate of return can be more stable as long as the stock market is in good condition. Unlike the last few years, where the stock market experienced a downturn due to the global pandemic which made almost all stocks perform poorly.
Stock mutual funds vs index mutual funds, which is better?
Between stock mutual funds and index mutual funds, both of them have certain advantages. For example, stock mutual funds excel in terms of potential returns that can be generated. Meanwhile, index mutual funds are superior in terms of management fees and more stable profit potential. Based on these advantages, everyone can have different views about which type of mutual fund is better. For investors who want stable but higher returns compared to other types of mutual funds, then index funds are a better choice. However, if investors want high investment returns, then equity funds will be considered better.
So, in essence, any type of investment instrument, not only between stock mutual funds and index mutual funds, can be the best choice depending on the needs or goals of investors. Some investors may refer to stability over the potential for large profits and some may hold the opposite view. So that it is impossible to judge an investment instrument as better than other investment instruments, without considering the needs and objectives of the investors themselves.
In terms of investment strategy. Equity mutual funds actively select stocks based on analysis of market trends, company performance and other factors. These mutual funds may also engage in buying and selling of stocks to optimize returns. In contrast, index mutual funds follow a passive investment strategy and do not actively trade stocks. Their goal is to match the returns of the chosen index, not outperform it.
As a result of the management of equity funds that are actively managed by investment managers, equity funds have fluctuating performance. These mutual funds can outperform stock indexes in general (beating market performance), but they can also underperform market performance. This is greatly influenced by the skills of the investment manager in choosing the stocks included in the mutual fund portfolio. Whereas in index mutual funds, their performance is similar to the index that is the reference for this mutual fund. So it’s impossible for an index mutual fund to be better or worse than the stock index that it’s based on
In terms of risk, index mutual funds are generally safer than equity funds. Because this mutual fund does not try to outperform the market, it only imitates the performance of the index it is referring to. Unlike stock mutual funds, which are riskier than index funds, the investment manager tries to make the performance of these mutual funds higher than market performance. This results in more risks being taken by equity fund managers. However, the risk level of this equity fund depends on the investment strategy and risk profile used by the equity fund manager.
Investors in both types of mutual funds own a share of the investment fund, and the value of their investment fluctuates based on the performance of the underlying stock. However, stock mutual funds have higher volatility and potential for higher returns, whereas index funds offer a more stable and predictable investment option.
