Archive for Sunday, July 14, 2002

How to decide whether to change your investment mix

July 14, 2002


I'm not at all happy with my investment portfolio's performance during the past couple of years far from it. But despite the losses, I'm still sleeping at night.

That's because I'm satisfied with my long-term plan, which calls for putting the lion's share of my investments into several index funds, primarily one that matches the performance of the Standard & Poor's 500. I'm almost entirely into mutual funds individual stocks and bonds are just too risky.

Overall, my sleep-at-night portfolio is designed to ride out market downturns, give market-matching performance over time, not be too greedy and to minimize management fees and annual taxes. When things are bad, I just figure, well, everything will be fine in 10, 15 or 20 years, when I retire and start drawing from those accounts.

I could be wrong, of course. But what's the alternative? During these long periods, stocks have almost always beaten bonds and cash.

Still, it makes sense to sit down every once in a while to see whether your investment strategy still fits your needs.

That's especially the case when the markets are in turmoil, as they are these days. The average diversified stock fund fell by 12.21 percent in the first half of the year, while long-term funds investing in U.S. bonds eked out a 1.33 percent gain, according to Lipper, the fund-tracking company.

If you have not already received them, you should shortly get your quarterly statements from fund companies, brokerages and financial advisers. Here are some things to consider as you review them:


Assess the performance of each holding relative to others of its type. The easiest way is on the Web site of Morningstar Inc., the other big fund-tracking company.

Go to, enter the fund's ticker symbol and click Total Returns for the line marked "+/- Category". Also look at the next line, "% Rank in Cat." If your fund beats its category, great so long as it doesn't offset that with bigger losses or smaller gains at other times. The "Trailing Total Returns" section that comes next on the page will help you assess that.

Look deeper. Examine each fund's taxes and fees. An investor incurs income tax on interest and dividends paid by the stocks or bonds owned by the fund. Capital gains tax is triggered when the fund manager sells fund holdings at a profit. Unless the fund is in a tax-deferred account such as an IRA or 401(k), these payments are taxable every year, even if you reinvest the money in new shares.

So it's best to own funds that have low tax bills. You can assess this in the "Tax Analysis" portion of the Total Returns section. You want the highest "Tax Cost Ratio" you can get.

Fees are the charges deducted from your account to pay for fund company's expenses and profit. If your fund is trailing others in its category, it may be because the fees are higher. This data is found under "Nuts and Bolts."


Once you're satisfied that you own the funds you want to, or have found new ones that look better, make sure you have the balance you want among stock funds, bond funds and money market funds.

For guidance from Morningstar on determining the best asset allocation, click on the portfolio button, then on the asset allocator button in the tool box. I also like the asset allocation guide offered free at the Web site of Quicken, the financial software company. It's under the Investing section at You'll have to create a portfolio to use it.

One caution: Asset allocation may be the most important investment decision you make, and it's a complex area. While most financial software packages have guidance on this subject, beware of following a computer's instructions too robotically. A machine might advise you to shift money from one asset to another. But if you look closely at the program's projections on returns and risks, you might find that the change would produce too little improvement to justify the commissions and taxes triggered by following its directions.

Also, many allocation programs include a survey to assess the investor's goals and tolerance for risk. The programs take all your answers at face value and don't do anything to correct any misconceptions you might have. If you indicate you're scared to death of loss, the program might steer you to an asset allocation that's too conservative, while a human advisor might tell you your fears are excessive.

Stay the course. During the 20th century, stocks earned annual returns averaging about 10 percent. Keep in mind that a long-term investor could have earned that only by keeping his money in the market all the time. If you sell when prices are down and wait for them to rise substantially before you risk buying again, you won't earn the long-term averages assumed in your asset-allocation plan.

Rebalancing a portfolio often means going against your instinct. Today, for example, it could mean selling some of your bond-fund shares and using the money to buy stock funds.

Tax-wise selling

If you decide to unload just some of the shares you own in one asset, sell the ones that will serve you best at tax time. If you gradually built the holding by purchasing shares at varying prices, you can sell just the shares with the smallest gains or the largest losses generally those bought at the highest prices. Your broker or fund company can tell you how to do this.

Continue investing. By putting money in at regular intervals, such as every month or quarter, you can overcome the unceasing dilemmas suffered by investors who use a less disciplined system.

Think positive. During down periods, the new money you invest buys more shares. Those shares will earn gains if the market returns to its former highs.

For the past couple of years the darling of my portfolio has been an unsexy fund that holds insured Pennsylvania municipal bonds. It's up about 5 percent this year. That doesn't seem like much, until you realize it beats the average stock fund by about 20 percentage points.

So, if investment worries threaten to keep me up at night, I just count my Pa munis and sleep like a lamb.

Commenting has been disabled for this item.