- The Washington Times - Tuesday, February 11, 2003

Mutual fund investors long have been advised to strive for diversification in their portfolios, but that goal may seem difficult for a brand-new investor or one who has just a few thousand dollars to invest.
No matter how experienced you are, or how big your investment, you still can put together a diversified portfolio with a variety of funds such as large-, mid- and small-capitalization, as well as domestic and international and stock and bond funds.
Smaller investors seeking diversification may want to start with so-called life-cycle mutual funds, said Eric Tyson, author of "Mutual Funds for Dummies."
These funds are labeled by date, so investors select them based on when they plan to retire. A 20-something investor, for example, would buy a 2040 fund, which right now would comprise mostly stocks but would decrease its equity position and increase its bond holdings as retirement nears.
Along the same lines, there are also life-stage funds, although these don't automatically change their holdings over the years. It is up to investors to move to other funds as they get older.
Many fund families, including Vanguard Group and Fidelity Investments, offer life-cycle and life-stage funds.
Mr. Tyson also recommends smaller investors look at balanced funds, which hold both equities and bonds.
Employer-sponsored 401(k) plans also present opportunities for diversification but investors need to guard against holding too much of their company's own stock. The collapse of Enron Corp. drove that lesson home: When Enron filed for bankruptcy protection in December 2001, its workers lost about $1 billion in retirement savings that were largely invested in company stock.
Investment pros generally say investors should devote no more than 15 percent of their portfolios to any particular stock, or even a particular asset class such as large-cap growth funds or small-cap value funds.
Many investors have too much invested in large-cap mutual funds, which own shares of the largest companies, such as Microsoft Corp. and General Electric Co, said Paul Merriman, president of Merriman Asset Management in Seattle and publisher of Fund-Advice.com.
Large-caps were preferred because this sector helped fuel the late 1990s bull market. But that ride was an anomaly, Mr. Merriman said, as large-cap stocks for the most part have underperformed their small-cap counterparts in the long term. The reason is that there is less risk to investing in bigger companies, and thus the reward is smaller.
"We should not expect to get higher returns in lower-risk investments," he said.
Mr. Merriman recommends a systematic approach to diversification in which investors choose different asset classes over the course of nine years. The plan works best for investors with individual retirement accounts, because, unlike 401(k) investors limited to the options chosen by their employers, they can pick any funds they want.
The nine classes to which Mr. Merriman advises investors commit over the years in order of when they should start are: U.S. small-cap value, international small-cap value, U.S. large-cap value, international large-cap value, emerging markets, U.S. small-cap blend, international small-cap, international large-cap, and U.S. large-cap.

ASSOCIATED PRESS

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