The time has come: You’re actually beginning to invest for retirement. But when you sit down to start putting your portfolio together, you find that the options are endless. So where do you even start?
Welcome to Wise Investing, a new series of quick tip articles to help you put good investment wisdom into practice. We’ve written a lot about some of the theories behind investing and retirement planing. With this new series, we want to offer some quick, easy-to-digest tips that will help you put some of that wisdom into practice. Think of these as a series of “Do’s and Don’ts” that will guide you through everyday investing decisions.
Today’s first lesson: Do invest in funds that have a long track record of success.
Whether you’re setting up an investment account through your company’s retirement plan or through an independent vehicle such as an IRA, there’s a good chance that mutual funds will be a big part of your strategy. We’ve written about our affinity for mutual funds before — they allow you to hold stock in a wide array of companies without having to buy each stock individually, and they are managed by teams of dedicated professionals who will probably be much more successful in the market than you could be on your own.
The problem, though, is that there are thousands of different mutual funds out there, and they are not all created equal. So how do you know which ones to include in your portfolio?
Look for a long track record of success. When picking mutual funds, we always want to place our money into the hands of people who have demonstrated wisdom and competency over a long period of time. Every mutual fund that you look at should give you a prospectus that includes a lot of information about the fund’s track record and past performance. It’s important to look carefully at those numbers.
There are a lot of different ways to categorize mutual funds. The most basic ways are to group them according to the kinds of stocks they invest in — large companies, small companies, tech companies, pharmaceutical companies, etc. — or even according to the level of risk involved in their investing. “Aggressive growth” funds are going to invest in smaller companies that can turn in big financial rewards or staggering losses. “Income” funds are going to be focused on the stocks of large, stable businesses that don’t have a lot of potential for large growth but that pay steady dividends.
But I don’t want yo to get too caught up in the category of the funds that you’re looking at. Rather, I want you to look at the performance of each fund as you decide whether to put any of your money in it. How long has that fund been around? If a fund averages 20% returns, but has only existed for three years, then stay away — those gains sound promising, but three years is not long enough to establish a track record of success. Those quick, recent gains may just be a fluke.
When picking mutual funds, you want to find fund that have been around for decades. Ten years is a good minimum, but you should really look for funds that have been going for 20 years, 30 years or more. Why? Because a fund that has been around for a long time has existed through a number of economic cycles. They’ve been around during booms and busts; they’ve earned money and lost money. And when you look at how the fund has performed over its lifetime, with all of those outside factors considered, you get a much better idea of how successful it really is.
If you’re picking funds for your company’s retirement plan, there’s a good chance that you’re limited to a few dozen funds offered by one particular investment company. If you’re picking on your own for an IRA, the options are virtually limitless. But your basic strategy should be the same: Always look for funds with a long track record of success. Don’t look just at the numbers for last year, or even the last 10 years. Look at how the fund has performed over its lifetime to get a sense for what you can expect to happen with your money there.
You have a lot of decisions to make when you put your investment plan together. But focusing on mature, successful mutual funds will be one of the best things that you can do for your portfolio.
Photo by Charley Cowins. Used under Creative Commons License.