How To Allocate Assets With A
Simple Mutual Funds Approach?
Diversification will never grab the headlines in your
newspaper or be the topic of conversation at the water
cooler in the office but it is the smart thing to do.
It will not guarantee the highest returns but it does
smooth out the inevitable volatility (ups and downs)
of the market.
A well
diversified stock portfolio includes---
domestic and
foreign ---
growth and
value---
large, small
and mid-cap stocks.
Most average
investors don’t have the time to spend on this process
and they should keep it simple. They don’t have
time to look at and research a dozen or so individual
stocks or go through multiple fund prospectuses. The
simplest way to achieve diversification is to invest in
index funds. Index funds purchase all or a
representative sample of the stocks or bonds in a
segment of the market. Index funds allow you to hold a
cross-section of large and small companies in every
industry sector. You can also purchase a balanced fund
that holds both stocks and bonds or a “fund of funds”,
which buys shares in other mutual funds.
Some experts
advise that the average investor should consider buying
one or more index funds. These funds will
benchmark (mimic) an index like the S&P 500 Index
or the Wilshire 5000 Total Market Index. With
this approach, you will never do better than the market,
but you won’t do worse.
So, how well
do these funds perform?
Vanguard S&P
500 Index (VFINX)
1 year
5 years 10 years Life of
fund-8/1976
-18.12%
3.63% 11.34% 12.59%
Vanguard
Total Market Index (VTSMX)
1 year
5 years 10 years Life of
fund-4/1992
-16.76%
3.60 10.87% 10.69
Financial columnist
Scott Burns created his "Couch Potato Portfolio”
in 1991. It contains only two funds in a 50% - 50%
asset allocation.
50 % Vanguard 500 Index
(VFINX)
50 % Vanguard Total
Bond Fund Index (VBMFX)
Burns reported that
"over the last 15 years (through 12/31/2001), the 50 -
50 portfolio provided an annualized compound return of
10.96%.
Burns also has his "Aggressive"
Couch Potato Portfolio.”
75% Vanguard 500 Index
(VFINX)
25% Vanguard Total Bond
Fund Index (VNMFX)
He reports that "over
the last 15 years (through 12/31/2002), the 75 - 25
portfolio provided an annualized compound return of
12.30%.”
For
investors who prefer a one mutual fund portfolio, you
could take a look at the Vanguard Balanced Index Fund
which combines the Wilshire 5000 Total Market Index
and the Lehman Aggregate Bond Index. The
fund places 60% of its assets in the Wilshire 5000
(which represents the entire U.S. stock market) and 40%
of its assets in the Lehman Aggregate Bond Index (which
represents the entire U.S. bond market). Since its
inception (11/92) it has produced a return of 10.61%
percent (through 12/31/2001).
Still
another approach would be to utilize a “funds of
funds” approach—you have about 140 to choose from.
Funds of funds are designed to give investors broad
diversification with a single fund. The average fund of
funds holds 10 portfolios, which can range from domestic
to foreign funds, large-cap to small-cap funds as well
as fixed income funds. Peter Di Teresa, senior analyst
with Morningstar, Inc., a financial research firm
states, “It’s the whole gamut of investments in one
package.”
One such
fund is the Vanguard Star fund (VGSTX) which
holds 11 other Vanguard Funds. How has this fund
performed?
Vanguard
Star Fund (VGSTX)
1
year 5 years 10 years Life of
fund-3/1985
-5.80%
6.83% 10.53% 11.31%
The last two
years have been challenging times for investors. It’s
not as easy to make money today. Before you invest any
money, check a fund’s performance for the last 3, 5, 10,
15 years or more. Funds that make money over the last 6
months or one year might be good funds to invest
in. However, funds that have consistent earnings over a
longer, more significant period of time, can even be
better.
So, which
approach will you follow?
