4/23/2014 8:15 PM ET|
'Lazy' portfolios for your retirement
From the 'No-brainer' to the 'Margarita,' these simple but effective index-fund portfolios can help long-term investors meet their goals with minimal management.
You know all that advice you hear about stock investing? You should ignore most of it.
If you're investing for a long-term goal such as retirement, then keeping it simple with a portfolio of three to six broad-based, low-cost mutual funds can pay off in the long run. Rebalance on occasion, and you'll be well on your way.
Consider this: A portfolio composed of three such funds from Vanguard Group -- 40 percent in the Vanguard Total Stock Market Index Fund (VTSMX), 20 percent in the Vanguard Total International Stock Index Fund (VGTSX) and 40 percent in the Vanguard Total Bond Market Index Fund (VBMFX) -- beat 5,000 variations of similarly composed portfolios of actively managed funds more than 80 percent of the time over a 16-year period (1997-2012), according to a recent study coauthored by Rick Ferri, founder of investment-management firm Portfolio Solutions.
Even with just three funds, that type of portfolio "is extremely diversified," says William Bernstein, author of "The Investor's Manifesto" and a principal at Efficient Frontier Advisors. "You basically own almost every significant equity offering in the world."
The hard part is figuring out what percentage of your portfolio to devote to each asset class. That will depend on your risk tolerance, financial situation and time horizon. If you're not sure, there's always that handy rule of thumb: Put a percentage equal to your age in bonds and the rest in equities.
Or take your cue from a number of "lazy portfolios" that can act as a guide.
For example, the "Margarita" portfolio developed by Scott Burns, chief investment strategist with AssetBuilder and a syndicated columnist, entails investing about one-third of your savings into each of three funds: Vanguard Inflation Protected Securities (VIPSX), Total Stock Market Index and Total International Stock Index.
That portfolio is up about 14 percent annualized over the past five years and 6 percent over 10 years.
Bernstein's "No Brainer" portfolio consists of investing 25 percent in each of four index funds, all from Vanguard Group: their 500 Index Fund (VFINX), European Stock Index Fund (VEURX), Small-Cap Index Fund (NAESX) and Total Bond Market Index Fund.
That portfolio enjoyed an annualized return of 17 percent over the past five years; 7 percent over 10 years.
"You don't need to have eight funds. You can do it with two or three and have a great portfolio," says Bill Schultheis, who developed the "Coffeehouse" portfolio. He's the author of "The Coffeehouse Investor" and principal of Soundmark Wealth Management in Kirkland, Wash.
Tactical, or not?
What about preparing for big-picture events -- for example, the prospect of rising interest rates that are bound to inflict more damage on your bond holdings?
Some "lazy portfolio" proponents discourage investors from trying to time the market. Others say it makes sense to consider moves in anticipation of such events.
"Take any buy-and-hold approach, you'll do OK, but we would suggest that even the most fundamental, the simplest form of tactical asset allocation could make a considerable difference," says David Kudla, chief executive of Mainstay Capital Management, a fee-only financial advisory firm.
Kudla says that, for example, in 2013 he shifted his bond holdings out of all but high-yield bond funds (the returns of which are more closely tied to credit risk than interest-rate risk).
Is that the right strategy for the average retirement investor? Some say no.
"Tactical asset allocation is a very tough game to play," says Jeremy Stempien, director of investments at Morningstar Investment Management.
Also, there's the question of when to re-enter the market. "When people get scared out of stocks or bonds," Burns says, "the question they can never answer is the really crucial one: What is the signal for you to reinvest?"
Invest a little time
Easy investing doesn't mean set it and forget it. If you don't occasionally take some simple steps to manage risk -- such as rebalancing when the market's gyrations push your portfolio too heavily into one asset class or another, and reassessing your risk tolerance as you get older -- you may set yourself up for failure.
Also, you'll need to research the funds offered in your 401k or other investment vehicle. You've noticed that Vanguard's index funds play a starring role in the portfolios cited here -- not surprising given that the creator of index funds offers a big selection of low-cost products.
See whether similarly low-cost, broad-based index funds are offered by your plan, or even inexpensive managed funds.
According to 401k ratings firm BrightScope, about 81 percent of 401k plans offer at least one index fund, but that doesn't mean you'll have access to the specific funds cited by the portfolios here.
Plenty of companies still neglect to provide a strong lineup of low-cost index funds in their 401k's. "If you've got a lousy plan . . . then really where you should be spending your effort is in organizing your fellow employees," Bernstein says.
Worst-case scenario: Find one or two acceptable funds and invest enough there to get any employer match. Then, invest your other retirement savings through an IRA where you'll have access to a wide array of investments.
Be honest: Will you rebalance your investments to make sure they stay within your desired asset allocation?
If not, consider a target-date or life-cycle fund. With these one-stop products, you invest in one fund, which invests in a number of well-diversified mutual funds on your behalf. The fund is rebalanced for you.
"The more real people I get to know, the more I am convinced the simpler the solution, the better the solution," Bernstein says. "They can't handle the math demands and the emotional demands of buying something that's done poorly and selling something that's done well, which is what you have to do."
Another benefit of target-date funds: In some 401k's, they include a more diverse group of funds than is offered in that retirement plan's investment menu.
But check the fees. Some charge above the cost of the underlying funds. If so, consider creating your own lazy portfolio.
And keep things in perspective. The real key to retirement success is saving more and spending less, Schultheis says. "Focus on the things that are important: your asset allocation and how much you save while you're working or spend while you're retired."
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