The past few months have been hard on all of us. The market's going further down each day. Our portfolios have been red for a while. Everything looks cheap, but we've been afraid to buy. What could we have done to limit the red ink?
Follow a classic investment strategy.
One of the most classic preventive strategies is "index plus a few." This involves putting the bulk of your money in a broad-market index, then supplementing that with a few individual stock picks. It's a great way to build up the core of your portfolio, reduce volatility in bear markets and increase upside during good times, and keep turnover low.
Great returns for doing nothing
The Vanguard Total Stock Market (VTSMX) broad-market index has returned more than 8% per year over the past 10 years. Not bad for a low-cost, low-stress, low-commitment option that makes you do nothing.
But, really, you wouldn't be reading if you weren't interested in doing something. While you can maintain your core investment in an index fund (and Vanguard Total Stock Market is a great one), the "plus a few" strategy can help you beat the market over time. But "plus a few" does not necessarily mean individual stocks. Individual stocks have a lot of volatility, and to avoid seeing red in your portfolio, you need to diversify. You might have expertise in one particular sector, maintaining the majority of your investments there, but you can juice up your returns by investing outside your circle of competence.
With a few carefully chosen mutual funds, you can diversify your portfolio while putting your money in the hands of a competent management team -- one that knows those unfamiliar markets and companies.
Consider, for example, if you'd supplemented your Vanguard Total Stock Market investment five years ago with Dodge & Cox International Stock. You might not be familiar with all the companies in India, China, and Russia in which the fund invests, but that's why you depend on a team of managers with 17 years of experience at the helm. This fund has been a star so far, returning more than 17% annually for the past five years. The fund managers have chosen phenomenal companies in these emerging markets, using the growth of Sony (NYSE:SNE), GlaxoSmithKline (NYSE:GSK), and Honda (NYSE:HMC) to build a diversified core.
And if your "plus a few" are funds rather than stocks, your everyday commitment to your portfolio is still minimal.
How to choose
Because 75% of all mutual funds underperform the market, it's important to choose carefully. When looking at funds, pay heed to these important mutual fund metrics:
- Management tenure. The longer a fund manager has been leading a fund, the better.
- Expense ratio. Most actively managed funds underperform their benchmarks because of a high expense ratio, so it's best to find a fund with high returns and a low expense ratio.
Dodge & Cox International's expense ratio is just 0.70% -- not much to pay to have someone else's expertise in the foreign markets drive your returns. And with managers who have such wide and deep experience, you can be assured that your money is in competent hands.
The Foolish bottom line
While it's sound to put the bulk of your portfolio in a broad market index, a "plus a few" strategy can really build your returns. If you'd like to add some Dodge & Cox International-pedigree funds to your portfolio, our own resident fund geek, Shannon Zimmerman, can help. He has years of experience studying mutual funds, and as the advisor for Motley Fool Champion Funds, he has now made it his mission to uncover the very best actively managed funds.
No matter which sector you're looking to to drive returns, you can find a great fund to do it, with less volatility than an individual stock. If you aren't familiar with how to research specialized health-care companies (an explosive industry), for example, Shannon has a fund that can instantly diversify you into this sector, with holdings such as UnitedHealth (NYSE:UNH), WellPoint (NYSE:WLP), Caremark Rx (NYSE:CMX), and Wyeth (NYSE:WYE).
A classic "plus a few" strategy using select mutual funds can improve your returns, and you won't need personal expertise in high-growth sectors. If you'd like to get some help from Shannon, and gain access to all of his current fund picks, click here to join Champion Funds free for 30 days. His picks are beating their relevant benchmarks by nine percentage points overall. In fact, today at 4 p.m. ET, a brand-new fund pick will be disclosed to subscribers. If you take a free trial, that's one more top-secret fund you can add to your classic portfolio.
Fool sector head Shruti Basavaraj has her own portfolio of classic investments, but she's more concerned with the rumors that chocolate won't be considered a classic ice cream flavor anymore. She owns many types of chocolate, but does not own shares of any company mentioned above. UnitedHealth is a Stock Advisor and Inside Value pick. GlaxoSmithKline is an Income Investor pick. The Fool's disclosure policy is a classic.
