One-Stop Shopping for Mutual Funds
by Suzanna de Baca
Wednesday, April 30, 2008
provided by Bankrate.com


Portfolios must change over time to reflect an investor's needs and goals, but selecting, rebalancing and keeping up the proper mix of investments can be time-consuming and confusing for many individuals. Asset allocation funds aim to accomplish the dual goals of creating diversification and meeting growth or income needs in one fund.

But, as with any investment, these aren't meant to be put on autopilot. Investors still have to watch the performance of the fund, even if the portfolio was constructed to meet risk tolerance or a target retirement date.

There are several different types of asset allocation mutual funds, but the most common are referred to as life-cycle funds and lifestyle funds:

● Life-Cycle: Created with a future date in mind, the portfolio rebalances to become more conservative as the investor gets closer to the target date.
Lifestyle: A portfolio of cash, stocks and bonds that remains fixed and is designed to meet the risk tolerance of the investor.

● Life-Cycle: Target Date Funds

Life-cycle funds are created with a specific future date in mind, such as retirement. "For example, a 2030 target date would mean the investor expects to retire in that year," says Kevin Morris, director of marketing for Principal Funds, a member of Principal Financial Group based in Des Moines, Iowa.

"From an academic point of view, it generally holds true that a shift from equities to fixed income as you age is a good idea," says Tony Cherin, professor of finance at San Diego State University College of Business. In a life-cycle fund, the mix generally starts out with a higher proportion of equities and gradually reallocates to include more fixed income as the investor ages and/or nears the target date.

Lifestyle: Balanced Mix of Funds

Lifestyle funds, also called balanced or target-risk funds, are a fixed mix of stocks, bonds and cash equivalents usually split into three risk-oriented groups: aggressive, moderate and conservative. Unlike life-cycle funds that shift their risk profile over time, the mix of investments in lifestyle funds stays the same.

"In lifestyle funds, typically the consumer makes choices based on individual risk tolerance," says Morris, adding that there is usually a questionnaire to help consumers determine their risk profiles.

What Mix of Investments Is Right?

At various stages in life, different investment strategies are required to achieve long-term goals. Asset allocation is the strategy to minimize risk and maximize returns by putting money into different investment instruments.

For example, when an investor is young, growth and its associated risk are often more palatable because the time horizon is typically long. Toward retirement, many investors are looking for income and preservation of capital.

"With allocation funds, you don't have to think about the risk and rebalancing as much as if you are doing it on your own," says Alan Goldfarb, a Certified Financial Planner with Weaver and Tidwell Financial Advisors in Dallas.

These funds can be particularly helpful for busy or novice investors who don't have the time or desire to manage their fund mix regularly, but who still recognize the need for ongoing diversification in a portfolio that gradually shifts from growth to the generation of income that is generally required later in life.

Growing in Popularity

Asset allocation funds have grown in popularity in recent years and are now widely available for investors in their taxable accounts as well as in many retirement accounts, such as employee-sponsored 401(k)s. They are offered by numerous mutual fund companies.

By the end of 2007, there were 289 lifestyle funds and 315 life-cycle funds available on the market, representing $402.5 billion in consumer assets, according to Financial Research Corp.'s fourth quarter 2007 report on life-cycle funds.

Michael Shore, spokesman for the Investment Company Institute, the professional association for the fund industry, says the ease of use is one of the main drivers behind the growing popularity of allocation funds. "Life-cycle and lifestyle funds are like one-stop shopping."

What Are the Risks?

As with any investment, consumers must look at a variety of factors before committing retirement assets or taxable money to a fund. Just because the underlying funds are packaged in a manner consistent with risk tolerance or a target retirement date does not guarantee that the performance will automatically be great.

"Try to pick the right fund family," says Cherin. He recommends that consumers research the company, managers or underlying funds included in the allocations.

Goldfarb cautions investors who are interested in target date funds to understand that their true needs in retirement may not match up exactly to what the fund targets. He points to research that shows that spending typically spikes in the first few years of retirement and then reverts back to normal, or lower, after the first few years.

"If the technical target date is the day you retire, does that really mean you'll be all in bonds? Look at beyond the target number to see what you'll really need long term," he says.

Are Allocation Funds Right for Everyone?

While Morris says that allocation funds are "appropriate for nine out of 10 people," especially in small or retirement accounts, he counsels that they are not the right investment for everyone.

"For that handful with an inheritance, money sitting somewhere else, or where retirement is more complex ... there might be other alternatives," he says.

Material discussed is meant for general illustration and/or informational purposes only and it is not to be construed as tax, legal or investment advice. Although the information has been gathered from sources believed reliable, please note that individual situations can vary, therefore the information should be relied upon when coordinated with individual professional advice.

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