Last month, we talked about managing the assets in your 401(k) or other investment portfolios and that the first step was asset allocation. Once you have established what the right mix of stocks, bonds, and cash should be for your portfolio, it is time to select the right mutual funds to implement your asset allocation.
Starting with stocks, as a general rule, I usually overweight large stocks in the portfolio. The reason for this is that large company stocks tend to be more stable, with lower volatility and risk, and better able to withstand an economic downturn than small company stocks. Therefore, your core holdings in stocks should be large-caps (capitalization = stock price X # of shares outstanding). Next, should come mid-caps, then small caps, and international. There are special considerations associated with international investing, including the risk of currency fluctuations and political and economic events. As an example, if you decide to put 50% of your portfolio in stocks, you might want to have 25% in large company stocks, 10% in mid-caps, 5% in small-caps, and 10% in international. The percentages should be determined by your particular situation, including your time horizon and tolerance for risk. Once you know the amount to go into each asset class, it is time to pick the right funds.
I could write a book about methods for evaluating mutual funds, but let me give you just a brief overview today. There are many factors that should be considered in selecting a mutual fund. Investors should consider a fund’s investment objective, risks, charges, and expenses carefully before investing. The prospectus, which contains this and other important information, is available from your Financial Advisor and should be read carefully before investing. The investment return and principal value of an investment will fluctuate, so that an investor’s shares, when redeemed, may be worth more or less than their original cost. The track record and investment style of the manager are among the important considerations. He (or she) makes the investment decisions and is responsible for the performance of the fund. If possible, I like to see a manager with at least a ten-year track record with good performance in good and bad markets. Performance is important, but so is risk. I like to select funds with volatility that is lower than average. Of course, cost is a factor too. I avoid funds with expense ratios that are too high compared to others in their category. With thousands of mutual funds to choose from, the task of finding the right funds might seem daunting. If you don’t have the time or inclination to do the proper research, you might want to hire a professional to help. The additional cost may be offset by improved investment results.