Metrics Money Management, LLC generally prefers to invest in
individual stocks, rather than shares of equity mutual funds.
Mutual funds offer diversification, and make sense for small portfolios. However, for portfolios above a certain
size, equity mutual funds suffer from certain disadvantages.
First, using funds rather than stocks
adds approximately 1%, and sometimes more, to portfolio costs, a significant drag on long term performance.
Second, successful funds often quickly balloon in size, severely reducing the number of attractive investment opportunities
available to the fund manager. For this reason funds that performed well with a small asset base often do much worse
once the fund becomes popular.
Third, funds are subject to large inflows and outflows of cash, which
may cause unwanted taxable distributions. With individual stocks, investors can better control his or her tax liabilities.
Fourth, fund performance and style is difficult to predict. Studies have shown that investing in equity
mutual funds that have done well in the recent past generally results in underperformance in the future, as performance tends
to revert to the mean. Even highly regarded fund managers may change course and begin to invest in a new manner.
Owning several funds may result in considerable overlap of sectors and companies, making portfolio diversification more difficult.
For these reasons we prefer to apply a quantitative strategy to
equity selection that permits us to control the profile of our clients’ portfolios.
On the other hand, investing in fixed income mutual funds often makes sense.
The costs of buying and selling certain categories of individual
bonds may be high, and the pricing less certain. Bond mutual fund managers can often obtain better prices by buying
in large quantities which may justify paying the fund’s management fee. Of course, the expense ratios for fixed
income funds are usually much lower than those for equity funds.
Certain types of bonds, such as high yield corporates, require specialized expertise that a large
mutual fund company can afford to maintain.
Bond
funds are less subject to large movements of cash into and out of the funds, and taxable capital gains less significant than
with equities.
For these reasons we often
use bond funds to best gain fixed income exposure for our clients.