Investors striking a balance

Your Money

March 04, 2007|By Andrew Leckey | Andrew Leckey,Tribune Media Services

Most investors are willing to assume some degree of risk in the pursuit of better returns.

But while they will grin and bear meager results for a while, they have little or no patience with investments that actually lose money.

Based on the reality that even trustworthy large-capitalization stocks have the potential to reduce principal, balanced funds that hold a mix of both stocks and bonds are becoming the centerpieces of many individual portfolios.

"Large-cap stock funds were the anchor right up until the time stocks underperformed," said Ryan Caldwell, a portfolio manager of Waddell & Reed Advisors Asset Strategy Fund, a balanced fund in Overland Park, Kan. "There's been a definite switch, with balanced funds finding their way into investor portfolios as a core holding, around which higher-risk investments such as small-cap growth stocks are added."

During the past five years, the annualized return of stock funds has been more than 10 percent, while bond funds delivered just under 5 percent, according to Morningstar Inc. Balanced funds provided an annualized return of a little over 7 percent for that same period.

Because balanced returns are less volatile than those of stocks and stock funds, that result is good enough for many investors.

"We have a Swiss Army knife fund, meaning you can use it any way you want to achieve your goals," said Brad Kinkelaar, co-manager in charge of the stock portion of Thornburg Investment Income Builder "A," a balanced fund in Santa Fe, N.M. "Ours is a perfect fund for retirement because all retirees love to have a growing income stream, reinvesting the dividend now but knowing the income will be there if and when they need it."

Too many investors, though, think a balanced fund is a balanced fund without realizing the many differences among them.

For example, Caldwell and Kinkelaar run aggressive balanced funds. Waddell & Advisors Asset Strategy has 65 percent of its portfolio in stocks, 12 percent in bonds, 8 percent in gold bullion and the rest in cash. The three-year annualized return is 18 percent.

Thornburg Investment Income Builder, with 80 percent in stocks and the rest in cash and bonds, has a three-year annualized return of 15 percent. For larger amounts of money, most experts prefer to buy a first-rate stock fund and an excellent bond fund rather than simply a balanced fund that combines the two. But balanced funds are hard to beat when money is limited, experts said.

"A balanced fund represents one-stop shopping for diversification in accounts with smaller dollar amounts of $5,000 or less," said Mark Balasa, certified financial planner and certified public accountant with Balasa Dinverno & Foltz in Itasca, Ill. "Good uses would be a child's education fund or a brand-new individual retirement account."

Other investor profiles are also suited to balanced funds.

"Balanced funds are best for lower-risk investors or those who don't pay too much attention to their investments and prefer to leave asset allocation up to someone else," said Mark Salzinger, publisher and editor of The No-Load Fund Investor in Brentwood, Tenn. "Stocks and bonds are diversifiers that rarely go down in the same year, so they balance each other out and temper the returns."

Here are Salzinger's balanced-fund recommendations, their portfolio mix and their three-year annualized returns:

Vanguard Wellesley Income, up to 65 percent of portfolio in fixed income; return of 7 percent.

Vanguard Wellington, up to 70 percent in dividend-paying value stocks; return of 10 percent.

Dodge & Cox Balanced, up to 75 percent in stocks and convertible securities; return of 10 percent.

Vanguard Star, a "fund of funds" with up to 70 percent in stock funds; return of 10 percent.

"Look closely at the costs associated with the fund, at whether its mix of stocks and bonds matches your needs, and at how its performance compares to other balanced funds with a similar mix," Balasa said. "A 60 percent stock and 40 percent bond mix is a good match for most folks."

Balasa recommends Vanguard Balanced Index, which invests that mix of 60 percent stocks and 40 percent bonds. It has a three-year annualized return of 7 percent.

Balanced funds have some potential pitfalls.

"One problem with a balanced fund from a fund family is that the family packages its own products in it, so you're not necessarily getting the star performer in both stocks and bonds," said Tom Roseen, senior research analyst with Lipper Inc. in Denver. "Another is risk is duplication of what you may already own in other funds if you're not careful."

The concept of an investor's portfolio becoming heavier in bonds as retirement draws near is considered fundamental. For that reason, noted Roseen, so-called life-cycle funds with specific target dates for the investor's retirement that adjust their asset mix over the years are gaining a larger portion of the overall balanced fund market.

Andrew Leckey writes for Tribune Media Services.

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