More Straight Talk on Investing

8Mutual Funds and Exchange-Traded Funds: The Easy Way to Diversify

There is an old saying that the three most important words in real estate are location, location, location. If there are three most important words in investing, they are diversification, diversification, diversification. Diversification will help you manage the risk that's an inevitable part of investing in stocks and bonds.

You can choose to diversify by selecting a variety of individual securities, or you can diversify by investing in a packaged investment product like mutual funds. As I have said previously, I'm an unapologetic believer in funds—both mutual funds and exchange-traded funds (ETFs)—as the vehicles of choice for your serious money. For simplicity’s sake, I'll use the term fund in this chapter to describe the traditional mutual fund and its younger sibling, the ETF.

Securities or Funds?

How do you best participate in the financial markets? Buy individual securities or invest in funds? Which approach is the right one for you? Which approach is likely to lead to long-term investment success? I'm going to be blunt. Despite all that you read on the internet about people striking it rich by investing in individual securities, I strongly urge you not to follow suit. Why? It's too risky, and, frankly, very few of us have the ability to trade stocks repeatedly and successfully. Study after study has proven that to be the case.

When professional investment managers select securities, they pore over ...