The Smartest Way to Invest for Retirement

Meet Joe Investor. Joe is an ordinary, average person. He has a wife, 2.5 kids, and a dog. Joe is a diligent saver and has built up a comfortable retirement savings. Having maxed out his annual contributions to his 401(k), Joe has started a second account earmarked for retirement.

So how does Joe decide to invest this retirement money? If you said by choosing several low-fee, high-quality, diversified mutual funds, you're wrong! This is Joe Investor, remember? Joe invests the whole lot in two or three mid-cap stocks that his brother, a stockbroker, assured him were going to go through the roof. Needless to say, the stocks plummet, and Joe has lost a significant portion of his retirement savings. What went wrong?

A better way
Joe's situation is certainly a familiar one. We can all remember stories from the late 1990s about the people who invested their entire portfolio in a few high-flying tech stocks like Cisco (Nasdaq: CSCO  ) , Yahoo! (Nasdaq: YHOO  ) , or Microsoft (Nasdaq: MSFT  ) , only to see their gains vanish in the bear market of 2000-2002. It may be too late for them, but Foolish investors already know that there is a better way to save for retirement -- by investing in mutual funds.

Mutual funds are ideal for those of us who recognize that there is very little chance that any one of us, as an individual stock picker, is going to be able to do better than the overall market. After all, there are literally tens of thousands of well-paid, highly trained investment professionals with a lot of letters after their names out there that are competing with you for the best opportunities. Why not delegate the stock-picking function to one of these professionals? With all the staff and resources fund managers have at their fingertips, who do you think is going to uncover a great, undervalued stock first: you or them?

The name of the game: diversification
The truth is that mutual funds are the low-stress way of investing for retirement. You can gain more diversification by putting your money in two or three well-diversified funds than you could from searching out and investing in 20 or 30 different individual stocks. And picking the right funds can help pave the way to a worry-free retirement. For example, check out what your portfolio would be worth today if you had invested in any of these funds only 10 years ago.

Fund

10-Year Cumulative Return

What a $10,000 Portfolio Would Be Worth Today

Royce Opportunity (RYPNX)

422%

$52,209

Julius Baer International Equity (BJBIX)

377%

$47,700

Hartford Capital Appreciation (ITHAX)

348%

$44,842

Source: Morningstar. Data as of March 31.

Of course, there is no guarantee that all funds will do as well as this, but by owning several different mutual funds, you have effectively diversified away the risk of having any one particular stock blow up on you and negatively affecting your portfolio. And mutual funds are the perfect way to diversify -- plus, you can get someone to do it for you, instead of slogging through dozens and dozens of stocks on your own.

Low risk, high reward
Retirement accounts are the one place where Foolish investors don't want to take on any additional risk. After all, your future financial security is riding on this money! So while it's true that most investors have a long time horizon when it comes to their retirement funds, this is one area where you don't want to play fast and loose, jumping in and out of whatever stocks you think are hot right now. You should be thinking more along the lines of a buy-and-hold strategy. So find a few good mutual funds that you want to hold on to for a long time, and leave the trouble of managing your money to them. Besides saving early and saving often, that's the smartest move you can make to ensure that you reach your retirement goals.

And now that he knows better, even Joe Investor would agree.

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Now that you know what mutual funds can do for you, find out more about which ones can help you meet your retirement goals. The Fool'sChampion Funds newsletter brings this information right to your doorstep. Fool fund expert Shannon Zimmerman takes an in-depth look at which funds might be right for your portfolio. Start your free 30-day trial today.

Fool contributor Amanda Kish lives in Rochester, N.Y., and does not own shares of any of the companies or funds mentioned herein. Microsoft is an Inside Value recommendation. Yahoo! is a Stock Advisor pick. The Fool has a disclosure policy.


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