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Does Your Portfolio Pass the Test?

Independence Day sparked all sorts of debates with my neighbor. Over a couple of rather unhealthy plates of barbecue, we got to chatting about everything from parenting to Social Security to immigration to financial independence.

Funds, not stocks
Many times I've tried to convince my neighbor, a well-established design engineer for a major defense contractor, to try stock investing. He simply won't do it. He's convinced that he has neither the time nor the talent to pick securities on his own.

I'll admit that, at first, I thought he was being unreasonably gun-shy. After all, he's well-versed in the nuances of the aerospace and defense industry and he's excellent at math. But then I realized that his resistance isn't really about time or talent -- it's about comfort. For him, picking stocks is stressful, and he has enough to worry about.

That's why funds are a better choice for him. As we talked about financial independence, he wondered whether his fund portfolio strategy was helping him to get ahead. I wondered, too.

Five minutes to find a contender
So, Fool that I am, I convinced him to leave the party and head to the basement where the computers are. Once there, I asked whether we could run a five-minute test on the funds he owns. He agreed, and I pointed my browser toward Yahoo! Finance.

We began with his largest holding: Vanguard Windsor (FUND: VWNDX  ) . I was looking for four things:

  • Fund style: A style tells you what kind of investments the fund makes and why. For Windsor, it's large-cap value stocks. This means that the fund tends to invest in blue chips trading at reasonable valuations. Current top holdings include Citigroup (NYSE: C  ) , Cisco Systems (Nasdaq: CSCO  ) , Applied Materials (Nasdaq: AMAT  ) , and Alcoa (NYSE: AA  ) .

  • Low fees: Windsor scores well here, too. Its 0.36% expense ratio means investors will pay only $3.60 annually for every $1,000 they have invested in the fund. It's also a full percentage less than the category average.

  • A tenured manager: For Windsor, it's Marilyn Fedak, who has been at the helm since 1999. That's a good sign, as successful stock pickers tend to stay on the job for five years or more.

  • Superior long-term performance: Windsor has made money in nine of the past 10 years and has trounced the category average in eight out of 10 years. What's more, Windsor is ahead of its peers by more than one percentage point annually over the past five years.

Time to take inventory
So far, so good, but there were plenty more funds to do. As we researched further, I found that many of my neighbor's funds sported unreasonable front-end loads. For example, he owns American Funds New Perspective (CNPAX), which owns some interesting stocks such as Google (Nasdaq: GOOG  ) and Newmont Mining (NYSE: NEM  ) , but charges 5.75% upfront to get invested, and then adds 0.17% in 12b-1 marketing fees to its otherwise respectable 0.82% expense ratio. Not so good.

All told, we spent about a half-hour researching specific funds. I then asked my neighbor three more questions, all of which I believe are just as relevant for any fund investor:

  1. Is your portfolio balanced? My neighbor's is. He has a wide selection of value, growth, and foreign funds in his portfolio. You can find out how you rank by checking the fund style for every position you own. Do you have multiple funds of the same style? If so, why?

  2. Are your returns worth the price? Here's where my neighbor's portfolio breaks down. While there are superior funds that charge loads, there are many excellent choices that don't. Paying loads just doesn't make sense for most investors.

  3. Do your managers inspire confidence? Tenured managers run many of my neighbor's funds. That's a good sign, particularly since managers like Fedak have a history of market-beating returns.

Two out of three is pretty solid, but, as my neighbor says, it should be easy to go three for three, especially since his employer offers a variety of fund choices.

The Foolish bottom line
More and more, I believe fund investors, especially those participating within the confines of a 401(k), tend to "buy and forget" about the portfolio they've created. That's a mistake that can prove costly over time.

Fortunately, giving your fund portfolio a check-up isn't likely to take more than 30 minutes. Just follow the steps I've outlined above. And then check back here often. We've got plenty of tips to help Fools make the most of their investing moola in our upcoming newsletter service, Motley Fool GreenLight. Just click here to learn more.

Fool contributor Tim Beyers is in the process of filling out his fund portfolio. He didn't own shares in any of the companies mentioned in this story at the time of publication. You can find out what is in his portfolio by checking Tim's Fool profile. The Motley Fool has an ironclad disclosure policy.


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Tim Beyers
TMFMileHigh

Tim Beyers first began writing for the Fool in 2003. Today, he's an analyst for Motley Fool Rule Breakers and Motley Fool Supernova. At Fool.com, he covers disruptive ideas in technology and entertainment, though you'll most often find him writing and talking about the business of comics. Find him online at timbeyers.me or send email to tbeyers@fool.com. For more insights, follow Tim on Google+ and Twitter.

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