Domestic stock funds offer exposure to the world’s largest, most liquid equity market, and can give investors the ability to own stocks in some of the world’s most successful companies. Because many of these US stocks have historically delivered attractive risk-adjusted returns, domestic stock funds have traditionally been a core component of many portfolios with long-term time horizons.
When you buy shares in a domestic stock fund, the money you invest is pooled with money from other investors and is primarily used to buy stocks issued by US companies. Most funds own hundreds of such stocks, something that would be impractical if you were buying individual stocks on your own.
However, while all domestic stock funds invest in US companies, not all funds take the same approach. Some funds specialize in companies of specific sizes or market capitalizations, while others specialize in companies that invest according to a specific style, such as growth or value. Other funds may be more broadly diversified beyond a specific market cap or style, and may emphasize current income, capital appreciation, or some combination of the two. These funds generally hold stocks issued by a broad range of companies from different industries, different parts of the US, and different sectors of the economy.
Understanding these different approaches, as well as both the risks and potential rewards of domestic stocks, is the first step in helping you find the fund or funds that most closely match your investing needs.
Advantages of domestic stock funds
Domestic stock funds typically own many individual stocks across different industries, which can reduce the chances that the performance of a single stock or a single industry can negatively impact the performance of the entire portfolio. Certain types of domestic stock funds, such as blended funds, are also diversified across different investing styles and different-sized companies. Domestic stock funds can offer exposure to the world's largest, most liquid equity market, which can give investors the ability to own shares in some of the world’s most successful companies.
Capital appreciation and income
If you're looking to invest in the long-term health of the US economy, domestic stock funds can offer significant appreciation potential. For those saving for retirement or other similar longer-term goals, this kind of potential growth can play an important role in helping your savings keep pace with inflation. In addition, many domestic stock funds invest in companies that pay regular dividends, which could help generate income.
Liquidity and convenience
All mutual funds allow you to buy or sell your fund shares at each day's net asset value. You can also elect to have income from dividends and capital gains distributions automatically reinvested in a fund, which can potentially compound over time and help drive long-term returns, or make additional investments at any time. For most stock funds, the required minimum initial investment may be substantially less than what you would have to pay to build a diversified portfolio of individual stocks.
Risks of domestic stock funds
Loss of principal
The performance of each stock fund is determined by the performance of its stock holdings. When stocks go down in price, the value of your investment in the fund will go down in price as well. If you need to sell your fund when stock prices are low, you may lose money on your initial investment. In addition, although mutual funds are by definition diversified investments, diversification can't guarantee a profit, nor can it protect you against a loss.
Potential tax consequences
When stock funds either receive dividends or sell stocks that have gone up in value, the money is distributed to shareholders of the fund in the form of a distribution. As a shareholder in the fund, you're responsible for paying taxes on those distributions. In some cases where funds have held on to stocks for long periods of time, you may receive capital gains distributions, and thus be responsible for paying taxes, even in a year when a fund provides negative returns.