Chapter 17
Evaluating Your Funds and Adjusting Your Portfolio
In This Chapter
Understanding the finer points of fund statements
Translating discount brokerage firm statements
Figuring your funds’ performance
Deciding whether to sell, hold, or buy more of a fund
Fine-tuning your portfolio as you get older
After you’ve explored different funds, filled out the application forms, and mailed your money, the hard part is over. Congratulations! You’ve accomplished what millions of people are still thinking about but haven’t gotten off their blessed behinds to do (probably because they haven’t read this book yet).
Now that you’ve started investing in funds (or even if you’ve been doing so for years), of course, you want to know how your funds are doing — specifically, you want to know how much return your funds are generating. You may also be interested in evaluating funds you already owned before you and I met, wondering if your prior holdings are greyhounds or basset hounds.
In this chapter, I explain how to evaluate the performance of your funds and decide what to do with them over time. I also explain why most of the statements you get from fund companies make your head spin and leave you clueless as to how you’re doing.
Deciphering Your Fund Statement
Every mutual fund company has its own statement design. But they all report the same types of information, usually in columns. The following sections present the type of entries you find on typical fund company statements, along with my short explanations of what they all mean.
Trade date or date of transaction
The trade date (or date of transaction) is the date that the mutual fund company processed your transaction. For example, if you mailed a check as an initial deposit with your account application, you can see which date the company actually received and processed your check. If the fund company receives your deposit by 4 p.m. EST, it will generally purchase shares that same day in the bond and/or stock funds that you intended the check for.
Money market funds work a little differently than bond and stock funds. Money market fund deposits don’t start earning interest until the day after the company receives your money. The delay is due to the fact that the fund company must convert your money into federal funds.
Transaction description
In the transaction description column, you find a brief blurb about what was actually done or transacted. In this column, you’re likely to see a few things:
Annual maintenance fee charge: You may see this entry, although not necessarily. (Try to pay these fees outside the account so that more of your money continues compounding inside the retirement account.)
Asset transfer: This term refers to a transfer of money into your retirement account from another investment company or bank.
Capital gains reinvest: Funds may pay capital gains, and you can choose to reinvest those into purchasing more shares in the fund. In order to satisfy the IRS, capital gains are specified, for example, as short-term capital gains or long-term capital gains, for which different tax rates apply. (See Chapter 18 for the reasons the IRS cares, and the consequences for your tax return. And check out the “Capital gains distributions” section later in this chapter for more on the subject.)
Check-writing redemption: On the statement for a money market fund, you may see such entries to show the deduction of a check that has cleared your account (should you use the option of writing checks that draw from the fund — like a checking account).
Contribution: Often, new purchases for retirement accounts are referred to as a contribution (such as 2010 IRA contribution).
Dividend reinvestment: This term simply means that the fund paid a dividend that you reinvested by purchasing more shares of that same fund in your account. (See details in the section “Dividends” later in the chapter if you’re not sure what a dividend is.)
Income dividend cash: If you so desire, you may receive your dividends as cash — the fund company can send a check to you, or it can electronically deposit the money into your bank checking account.
Phone exchange from so-and-so fund: For example, if you moved money into a fund from your U.S. Treasury money market fund by phone, this item may read phone exchange from U.S.T. money fund.
Purchase or purchase by check: If you mailed a deposit, you may see this notation.
Dollar amount
The dollar amount column simply shows the actual dollar value of the transaction. If you sent a $5,000 deposit, look to make sure that the correct amount was credited to your account. Fund companies calculate and credit the appropriate amount of dividends and capital gains to your account. There’s really no need to check these distributions. At any rate, I’m not aware of a fund company making a mistake with these, other than possibly a delay (a few days beyond the promised deadline) in crediting shareholder accounts.
Share price or price per share
The share price (or price per share) column shows the price per share that the transaction was conducted at. When you’re dealing with a no-load (commission-free) fund, such as those that I recommend in this book, you get the same price that everyone else who bought or sold shares that day received. Money market funds maintain a level price of $1 per share.
If you’re concerned that a load was charged, check with the company to see the buy (bid) price and sell (asked) price on the day you did a purchase transaction. If a load wasn’t charged, these two prices should be identical. If a load was charged, the buy price is higher than the sell price, and the purchase on your statement was done at the buy price.
Share amount or shares transacted
The share amount (or shares transacted) column simply shows the number of shares purchased or sold in the particular transaction. The number of shares is arrived at by default: The fund company takes the dollar amount of the transaction and divides it by the price per share on the date of the transaction.
For example, a $5,000 investment in a bond fund at $20 per share gets you 250 shares. You detail-oriented types will be happy to know that fund companies usually go out to three decimal places in figuring shares.
Shares owned or share balance
If money was added to or subtracted from your account, the share balance changes by the amount of shares purchased or redeemed and listed in the prior section, “Share amount or shares transacted.”
In one unusual instance, the number of shares in an account changes even though no transactions have occurred: when a fund splits. If it splits 2 for 1, for example, you receive two shares for every one that you own. This split doesn’t increase the worth of the investments you own; the price per share in a 2-for-1 split is cut by 50 percent.
Why do funds split? It’s a gimmick. In the world of individual securities, stock splits are often associated with successful, growing companies; likewise, mutual fund splits are usually trying to cash in on positive connotations. The fund company wants potential buyers to think that the fund has done so well that the company has split its shares in order to reduce the price; that way, new investors won’t think that they’re paying a high price. But the high price doesn’t matter because fund minimum investment requirements, not the share price, determine whether you can afford to invest in a fund. (Reverse splits can be done as well to boost a laggard fund’s price per share.)
Some exchange-traded funds (ETFs) have split, which may make some sense. The reason is that ETFs trade on a stock exchange, so if an ETF’s share price has risen too high, it may actually keep buyers with small amounts to invest from being able to buy some shares. (See Chapter 5 for details on ETFs.)
Account value
Typically, on a different part of the account statement separate from the line-by-line listing of your transactions, fund companies show the total account value or market value of your fund shares as of a particular day — usually at the end of a given month. This value results from multiplying the price per share by the total number of shares that you own.
Four out of five fund investors care about total account value more than the other totals (at least, according to my scientific surveys of fund investors that I work with!). So you’d think that the fund companies would list on your statement how this value has changed over time. Well, many don’t, and that’s one of the reasons why examining your account statement is a lousy way to track your fund’s performance over time.
Some fund companies show how your current account value compares to the value when your last statement was issued. This comparison sheds some useful light on your account’s performance, but it still doesn’t tell you how you’ve done over longer time periods (since you originally invested, for example). See the later section, “Assessing Your Funds’ Returns,” for how to determine your funds’ performance.
Interpreting Discount Brokerage Firm Statements
Discount brokerage statements may look a bit different from those that mutual fund companies produce. In a discount brokerage statement, the portfolio overview (summary of the value of each fund holding) and the transaction details are usually listed in separate sections. This section breaks down a typical brokerage firm statement.
Portfolio overview
A portfolio overview section on a brokerage account statement lists funds from your various fund companies. As on a mutual fund statement, the number of shares (quantity), price per share (latest price), and market value of the funds held as of the statement date are listed.
Brokerage statements may use terms like long, which simply means that you bought shares and you’re holding those shares. (You may — although I don’t recommend it — actually short shares held in nonretirement brokerage accounts. Shorting shares simply means that you sell the shares first, hope that they decline in value, and then buy them back.) You may also see the term cash or the letter C associated with your fund holdings. These items mean that this fund is a cash holding (as opposed to one purchased with borrowed money).
Account transaction details
An account transaction details section, which summarizes any transactions occurring on your fund holdings since the last statement, often confuses people because transactions seem to be repeated. The apparent repetition occurs because of the silly accounting system of debits and credits that brokerage firms use.
For example, you might see a line item for one of your funds that shows that 5.953 shares of the fund were purchased at $9.80 per share for a total purchase of $58.34. Where did this odd amount of money come from for the purchase? The next line on the statement tells you the fund paid a dividend of $58.34. It’d be logical and more understandable if these two lines were reversed, wouldn’t it? First the money comes in, and then it’s reinvested into purchasing more shares!
Assessing Your Funds’ Returns
Probably the single most important issue that fund investors care about — how much or little they’re making on their investments — isn’t easy to figure from those blasted statements that fund companies send you. That is, it isn’t easy to figure unless you know the tricks regarding what to look for and what to ignore.
If you’ve just started investing in funds — or even if you’ve held funds a long time — you need to realize that what happens to the value of your stock and bond funds in the short term is largely a matter of luck. Don’t get depressed if your fund or funds drop in value the day after you buy them or even over the first three or six months. When you invest in bond and stock funds, you should focus on returns produced over longer periods — periods of at least one year and preferably longer.
Getting a panoramic view: Total return
The total return of a fund is the percentage change in the overall value of your investment over a specified period. For example, a fund may tell you that its total return during the year that just ended December 31 was 15 percent. Therefore, if you invested $10,000 in the fund on the last day of December of the prior year, your investment is worth $11,500 after the year just ended.
This section explains the three components that make up the total return on a fund: dividends, capital gains distributions, and share price changes. These are the three ways you can make money in a mutual fund.
Dividends
Dividends are income paid by investments. Both bonds and stocks can pay dividends. As I explain in Chapter 12, bond fund dividends (which come from the interest paid by bonds) tend to be higher than stock fund dividends. When a dividend distribution is made, you can receive it as cash (which is good if you need money to live on) or reinvest it into more shares in the fund. In either case, the share price of the fund drops by an amount that exactly offsets the payout. So if you’re hoping to strike it rich by buying into funds just before their dividends are paid, don’t bother. All you may accomplish is increasing your income tax bill!
If you hold your mutual fund outside a retirement account, the dividend distributions are taxable income (unless they come from a tax-free municipal bond fund). When you’re ready to buy into a fund outside a retirement account that pays a decent dividend, you may want to check to see when the fund is next scheduled to pay it out. For funds that pay quarterly taxable dividends (such as balanced or hybrid funds), you may want to avoid buying in the weeks just prior to a distribution (which is usually late in each calendar quarter).
Capital gains distributions
When a stock or bond mutual fund manager sells a security in the fund, any gain realized from that sale (the difference between the sale price and the purchase price) must be distributed to fund shareholders as a capital gain. (Gains offset by losses — so called net gains — are what actually get distributed.) Typically, funds make one annual capital gains distribution in December. Some funds make two per year, typically making the other one mid-year.
As with a dividend distribution, you can receive your capital gains distribution as cash or use it to buy more shares in the fund. In either case, the share price of the fund drops by an amount to exactly offset the distribution.
For funds held outside retirement accounts, all capital gains distributions are taxable. As with dividends, capital gains are taxable whether or not you reinvest them into additional shares in the fund.
Before you invest in bond and stock funds outside retirement accounts, determine when capital gains are distributed if you want to avoid investing in a fund that’s about to make a capital gains distribution. (Stock funds that appreciated greatly during the year and that do significant trading are most likely to make larger capital gains distributions. Money funds don’t ever make these distributions.) Investing in a fund that will make a distribution soon increases your current-year tax liability for investments made outside retirement accounts. About a month before the distribution, fund companies should be able to estimate the size of the distribution.
Share price changes
You also make money with a mutual fund when the share price increases. This occurrence is just like investing in a stock or piece of real estate. If your fund is worth more today than when you bought it, you have made a profit (on paper, at least). To realize — or lock in — this profit, you need to sell your shares in the fund. A fund’s share price increases if the securities that the fund has invested in have appreciated in value.
Tallying the total return
After you’ve seen all the different components of total return, you’re ready to add them all up. For each of the major types of funds that I discuss in this book, Table 17-1 presents a simple summary of where you can expect most of your returns to come from over the long term. The funds are ordered in the table from those with the lowest expected total returns and share price volatility to those with the highest.
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Table 17-1 Components of a Fund’s Returns |
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|
Funds |
Dividends |
+ |
Capital Gains |
+ |
Share Price Changes |
= |
Total Return |
|
Money market funds |
All returns come from dividends |
None |
None |
Lowest expected returns but principal risk is nil |
|||
|
Shorter term bond funds |
Moderate |
Low |
Low |
Expect better than money funds but more volatility |
|||
|
Longer term bond funds |
High |
Low to moderate |
Low to moderate |
Expect better than short-term bonds but with greater volatility |
|||
|
Stock funds |
None to moderate depending on stock types |
Low to high depending on trading patterns of fund manager |
Low to high |
Highest expected returns but most volatile |
|||
Focusing on the misleading share price
You probably know someone who’s always glued to his computer screen or favorite wireless mobile device to check on the share prices of individual stocks and how much they’ve gone up or down.
Unfortunately, mutual fund share prices are also reported on various financial Web sites and through other media outlets. I say “unfortunately” because all too many fund investors, perhaps taking a cue from individual-stock owners, look to daily or other short-term-oriented sources of fund pricing information.
If you follow the price changes in your fund(s) every day, week, month, or other time period, you won’t know how your fund is doing. Referring to Table 17-1, you can see that share price is but one of the three components that make up your total return. And to make matters worse for the share-price hawks, another one of the three components — dividends — directly affects share price. When a fund makes a distribution to you, you get more shares of the fund. But distributions create an accounting problem because they reduce the share price of a fund by the exact amount of the distribution. Therefore, over time, following just the share price of your fund doesn’t tell you how much money you’ve made or lost.
The only way to figure out exactly how much you’ve made or lost on your investment is to compare the total value of your fund holdings today to the total dollar amount you originally invested. If you’ve invested chunks of money at various points in time, this exercise becomes much more complicated. (Some of the investment software I recommend in Chapter 21 can help if you want your computer to crunch the numbers. Frankly, though, you have easier, less time-consuming ways to get a sense of how you’re doing.)
Figuring total return
As I mention in the “Account value” section earlier in the chapter, fund companies make determining your total return in the fund from the information they provide on their statements almost impossible for you.
Regardless of the time period over which you’re trying to determine your funds’ total return, here are the simplest ways to figure total return without getting a headache:
Call the fund company’s toll-free number or visit its Web site. The telephone representatives can provide you with the total return for your funds for various lengths of time (such as for the last three months, the last six months, the last year, the last three years, and so on). Most fund companies post similar information on their Web sites as well.
Examine the fund’s annual and semiannual reports. These reports provide total return numbers.
Keep a file folder with your investment statements. That way, you can look up the amount you originally invested in a fund and compare it to updated market values on new statements you receive. You can make a handwritten table or enter the figures in the software I describe in Chapter 21.
Check fund information services and periodicals. Fund information services and financial magazines and newspapers carry total return data at particular times during the year. Some, such as The Wall Street Journal, carry this information daily. See my favorite Web sites in Chapter 21.
If you’ve made numerous purchases in a fund, you may want to know your effective rate of return when you also factor in the timing and size of each purchase. The only way to make this calculation is with software. However, you don’t need to know the exact rate of return for your overall purchases in order to successfully evaluate your fund investments. Comparing your funds’ performance over various time periods to relevant performance benchmarks is sufficient. (I explain how to do just that in the next section.)
Examining online charts of mutual fund prices over time on financial Web sites provides an inaccurate picture of a fund’s total return. The reason is that most online charting services fail to correct for the effect of fund distributions (for example, capital gains and dividends). Take a simple example of a fund that begins the year at $20 per share and in late December is at $22 per share. Thus, it has increased 10 percent. However, further suppose it makes a distribution of $2 per share and thus ends the year at $20 per share. With an online chart, it would appear that the fund dropped sharply at year-end and provided no return for the year when in fact shareholders were rewarded with a 10 percent return. (Charts on fund company sites that show the change in value of an investment in a particular fund correct for this problem and do accurately show the returns of a fund over time.)
Assessing your funds’ performance
Whenever you examine your funds’ returns, compare those returns to appropriate benchmark indexes. Although many stock market investors may have been happy to earn about 10 percent a year with their investments during the 1980s and 1990s, they really shouldn’t have been because the market averages or benchmark indexes were generating about 15 percent per year.
You should compare each mutual fund to the most appropriate benchmark given the types of securities that a fund invests in. For the bond and stock funds that I recommend in Chapters 12, 13, and 14, I provide descriptions of the types of securities that each fund invests in. The following sections offer a brief rundown of the benchmark indexes you’ll find useful. (I present benchmarks for the types of funds most people use for longer term purposes, such as retirement account investing.)
Don’t get too focused on performance comparisons. Indexes don’t incur expenses that an actual mutual fund does although, as you may know, expenses among funds vary tremendously. Remember all the other criteria — such as the fees and expenses and the fund company’s and manager’s expertise — that you should evaluate when you consider a fund’s chances for generating healthy returns in the years ahead (see Chapter 7).
Bond benchmarks
A number of bond indexes exist (see Table 17-2) that differ from one another mainly in the maturity of the bonds that they invest in; for example, short-term, intermediate-term, and long-term indexes.
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Table 17-2 Bond Indexes |
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|
Year |
Barclays Short-Term Bond Index |
Barclays Intermediate-Term Bond Index |
Barclays Long-Term Bond Index |
Barclays U.S. GNMA Index |
Barclays High Yield (Junk Bond) Index |
|
2000 |
8.9% |
12.4% |
16.2% |
11.1% |
–5.9% |
|
2001 |
9.0% |
8.8% |
7.3% |
8.2% |
5.3% |
|
2002 |
8.1% |
13.0% |
14.8% |
8.7% |
–1.4% |
|
2003 |
3.4% |
6.0% |
5.9% |
2.9% |
29.0% |
|
2004 |
1.9% |
5.3% |
8.6% |
4.4% |
11.1% |
|
2005 |
1.4% |
1.8% |
5.3% |
3.2% |
2.7% |
|
2006 |
4.2% |
3.8% |
2.7% |
4.6% |
11.9% |
|
2007 |
6.1% |
5.0% |
3.6% |
7.0% |
1.9% |
|
2008 |
–1.1% |
–4.7% |
–3.9% |
7.9% |
–26.2% |
|
2009 |
13.5% |
19.0% |
16.8% |
5.4% |
58.2% |
|
5-year annualized average |
4.8% |
4.7% |
4.5% |
6.0% |
7.8% |
|
10-year annualized average |
5.9% |
7.0% |
7.5% |
6.3% |
7.4% |
Many more specialized indexes exist than those listed in Table 17-2; for example, indexes for municipal bonds, treasury bonds, and so on. So if you’re looking at these different types of funds, take a look in the fund’s annual report to see which index it compares the fund’s performance to. But don’t assume that it’s using the most comparable index.
U.S. stock benchmarks
The major U.S. stock indexes (see Table 17-3) are distinguished by the size of the companies (large, small, all sizes, and so on) whose stock they’re tracking. The Standard & Poor’s 500 index tracks the stock prices of 500 large-company stocks on the U.S. stock exchanges. These 500 stocks account for more than 70 percent of the total market value of all stocks traded in the United States. The MSCI 1750 index tracks 1,750 smaller company U.S. stocks. The MSCI Broad Market index tracks all stocks of all sizes on the major U.S. stock exchanges.
|
Table 17-3 U.S. Stock Indexes |
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|
Year |
Standard & Poor’s 500 Index |
MSCI U.S. Small Cap 1750 Index |
MSCI Broad Market Index |
|
2000 |
–9.1% |
||
|
2001 |
–11.9% |
||
|
2002 |
–22.1% |
||
|
2003 |
28.7% |
||
|
2004 |
10.9% |
||
|
2005 |
4.9% |
7.5% |
6.4% |
|
2006 |
15.8% |
15.8% |
15.7% |
|
2007 |
5.5% |
1.2% |
5.6% |
|
2008 |
–37.0% |
–36.2% |
–37.0% |
|
2009 |
26.5% |
36.1% |
28.8% |
|
5-year annualized average |
0.4% |
1.8% |
1.0% |
|
10-year annualized average |
-0.9% |
n/a |
n/a |
If you’re evaluating the performance of a fund that invests solely in U.S. stocks, make sure to choose the index that comes closest to representing the types of stocks that the fund invests in. Also, remember to examine a stock fund’s international holdings. Suppose, for example, that a particular stock fund typically invests 80 percent in U.S. stocks of all sizes and 20 percent in the larger, established countries overseas. You can create your own benchmark index by multiplying the returns of the MSCI Broad Market index by 80 percent and the Morgan Stanley EAFE international index (which I discuss in the next section) by 20 percent, and then adding them together.
International stock benchmarks
When you invest in funds that invest overseas, you should use a comparative index that tracks the performance of international stock markets. The Morgan Stanley EAFE (which stands for Europe, Australia, and Far East) index tracks the performance of the more established countries’ stock markets. Morgan Stanley also has an index that tracks the performance of the emerging markets in Southeast Asia and Latin America (see Table 17-4).
|
Table 17-4 International Stock Indexes |
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|
Year |
Morgan Stanley EAFE |
Emerging Markets |
|
2000 |
–14.2% |
–31.8% |
|
2001 |
–21.4% |
–4.9% |
|
2002 |
–15.9% |
–8.0% |
|
2003 |
38.6% |
51.6% |
|
2004 |
20.3% |
26.7% |
|
2005 |
13.5% |
32.8% |
|
2006 |
26.3% |
29.7% |
|
2007 |
11.2% |
39.4% |
|
2008 |
–43.4% |
–53.3% |
|
2009 |
31.8% |
78.5% |
|
5-year average |
4.0% |
15.9% |
|
10-year average |
1.6% |
10.1% |
You should know that emerging markets are volatile and risky. As I discuss in Chapter 13, diversified international funds that invest in both established and emerging markets offer a smoother ride for investors who want some exposure to emerging markets. More-diversified funds also aren’t as constraining on a fund manager who believes, for example, that emerging markets are overpriced.
If you do invest in the more diversified international funds that place some of their assets in emerging markets, remember that it’s not fair to compare the performance of those funds solely to the EAFE index. So how do you fairly compare the performance of this type of fund? Well, if an international fund typically invests about 20 percent in emerging markets, then multiply the EAFE return in the table by 80 percent and add to that 20 percent of the Emerging Markets index return. For 2009, for example: 0.318(0.8) + 0.785(0.2) = 0.411, or 41.1 percent. With this computation formula, you can see how any international fund that invested in emerging markets in 2009 couldn’t help but look good in comparison to the EAFE index. (The numbers in Table 17-4 also suggest why you shouldn’t be too impressed with an emerging markets fund that boasted of a 60 percent return in 2009 — if it did, it was well below average!)
The hard part is finding out the percentage of assets a fund typically has invested in emerging markets. Some international funds don’t report the total of their investments in emerging markets. For the international funds I recommend in Chapter 13, I provide some general idea of the portion they’ve invested in emerging markets. Also, you can peek at a fund’s recent annual or semiannual report, in which the fund managers detail investments held for each country.
Deciding Whether to Sell, Hold, or Buy More
Investors often ask me, “How do I know when I should sell a fund?” The answer is relatively simple: Sell only if a fund is no longer meeting the common-sense criteria (which I outline in Chapter 7) for picking a good fund in the first place. Stick by your fund like a loyal friend as long as it is
Generating decent returns relative to appropriate benchmarks and the competition
(Even one or two years of slight underperformance are okay if the fund’s five- and ten-year numbers are still comparatively good.)
Not raising the fees that it charges and not charging more than the best of the competition
Still managed by a competent fund manager
The only other reason to sell a fund is if your circumstances change. For example, suppose that you’re 50 years old, and you inherit a big pot of money. You hadn’t been planning to retire early, but with oodles of money suddenly at your disposal, maybe now you’re thinking that early retirement isn’t such a bad idea after all. This change in circumstances may cause you to tweak your portfolio so that you have more income-producing investments and fewer growth investments.
This section deals with two special situations that require further thought and reflection: down markets and the acquisition of your funds by another company.
Handling bear markets
No one enjoys losing money. Most people find it unpleasant and at times stressful. If you follow my advice in the rest of this book, you know that I advocate building a diversified portfolio of funds and investing for the long term, not tomorrow. Eventually, you’ll suffer a down period. Anyone who was investing in the early 2000s and late 2000s understands firsthand that stocks and stock mutual funds can drop significantly. So for handling such bear (down) markets in your funds, here is my advice:
Don’t watch your funds too closely. Tracking your fund’s prices daily or even weekly is sure to make you a nervous wreck if you’re doing so because you fear a market slide. Don’t dwell on daily news reports of the latest stock market gyrations. Remember that you’re investing for future years, not next week and next month.
See the glass as half full, not half empty. When certain types of funds that you own decline in value, don’t get depressed. If you’re still feeding new money into purchases (or perhaps reinvesting distributions), remind yourself that your next purchases will be at lower prices. If you’re retired and not making more purchases, you surely have the wisdom that good days and periods follow difficult ones. Be patient for improvement.
Look at your portfolio’s performance, not individual funds. The whole point of diversifying is so that some of your funds may go up while others are down. So, when some of your funds do decline, remember to assess the performance of your entire portfolio, and you may be pleasantly surprised that things aren’t as bad as you may have thought.
Buy value (and different assets) if you dislike volatility. Stock funds that focus on value-oriented stocks (please see Chapter 13) tend to be less volatile. You can also dampen the gyrations in your portfolio by investing in different types of assets (bonds, real estate, and so on).
Dealing with fund company consolidations
The fund industry is increasingly competitive, and some fund companies (usually those of the larger variety) swallow other (usually smaller) fund companies. Such mergers can lead to problems, but you can steer clear of them:
Financial firms, including fund companies, have been known to put deposits into the wrong account or to lose track of certain accounts altogether. During the transition period, be vigilant about ensuring that your account information, including recent transactions and current balances, is correct.
The new parent company in a merger may jack up fees or make other unfavorable changes to your fund. Use the straightforward criteria that I outline earlier in this section to determine what you should do post-merger.
Tweaking and Rebalancing Your Portfolio
Over longer periods of time, you may need to occasionally adjust your portfolio to keep your investment mix in line with your desires. Unless you experience a major change in your circumstances, I advocate adjusting your investment mix every three to five years (see Chapter 10). Suppose that at the age of 40, you invest about 80 percent of your retirement money in stock funds with the balance in bonds. By the age of 45, you find that the stock funds now comprise an even larger percentage (maybe 85 percent) of your investments because they’ve appreciated more than the bond funds have. You are also appreciating (in age, that is) and should in fact be reducing your stock allocation as you get older.
Using the asset allocation guidelines in Chapter 10, you decide that at the age of 45, you now want to have about 75 percent of your money in stock funds. The solution is simple: Sell enough of your stock funds to reduce your stock holdings to 75 percent of the total and invest the proceeds in the bond funds. Don’t forget to factor in the tax consequences when you contemplate the sale of funds held outside retirement accounts (see Chapter 18).
Trying to time and trade the markets to buy at lows and sell at highs rarely works in the short term and never works in the long term. If you do a decent job upfront of picking good fund companies and funds to invest in, you should have fewer changes to make over the long haul.
If you have a good set of funds, keep feeding money into them as your savings allows. As your portfolio value grows, add a new fund or two to broaden your overall mix. Holding a couple (or several) of each different type of fund makes a lot of sense. (I cover the common sense of fund diversification in much depth in Chapter 10.) Don’t end up with 50 funds though — you won’t keep up with what they’re doing and reviewing their reports.