- The Washington Times - Wednesday, June 8, 2005

Equity funds snapped back last month with an average 4.5 percent return, reversing their dismal performance of March and April, according to Standard & Poor’s. But experts say you shouldn’t mistake the rally in May as a sign that the market is turning bullish.

Domestic equity funds fell an average 3.43 percent in April and 1.9 percent in March, according to S&P.; But all fund investment styles ended the month of May in positive territory, and the S&P; 500, as a whole, gained 3 percent. Small-cap growth funds were the strongest performers, returning 6.5 percent on average, while large-cap value funds turned in 2.6 percent. On a sector basis, technology and consumer discretionary funds led the advance.

Some might see this as a cue to get back into the more aggressive investments that did so well in the past couple of years. But the surge in May likely had more to do with hope that the Federal Reserve will soon end the current interest rate tightening cycle rather than a big shift in sentiment, said Rosanne Pane, S&P;’s mutual-fund strategist.

This is no time to chase performance, she said. With slower corporate growth looming, investors should focus on building a durable portfolio that can weather the market’s ups and downs.

“You protect yourself by having an appropriate asset allocation,” Miss Pane said. ?You need a plan. You need to not be making big bets in any one sector; you need to be diversified across stocks and bonds and other asset classes, always keeping in mind your own goals and time horizon.”

If you are not sure whether you’ve picked the right funds, consider your equity portfolio’s anchor. For most investors, a large-cap blend makes a good primary holding, because it’s likely to focus on big, financially sound stocks, said Christopher Davis, an analyst with Morningstar Inc. Once you’ve chosen your core holding, you can supplement it with other more specialized funds, such as those that invest in small caps or foreign stocks.

A total stock market index can be a great choice for someone making their first foray into investing. Over the very long term, these inexpensive baskets of stock will outperform most actively managed funds. If you would rather take your chances with a manager, be sure to pick one with a good record who isn’t hobbled by high costs, Mr. Davis said.

“The main reason indexing is so successful is not so much that active managers are stupid or incompetent or not good stock pickers. It’s more that they can’t do well enough to overcome their high cost hurdles,” Mr. Davis said. “It’s like a champion track athlete expected to clear hurdles with weights around their ankles. They have high expense ratios, high trading costs and high turnover.”

Morningstar’s list of the best large-blend funds, which Mr. Davis recently revised, includes low-cost index funds from the Vanguard Group and Fidelity Investments, as well as several competitively priced actively managed funds. In both cases, patience and dollar-cost averaging — investing consistently over the long term — will yield the greatest rewards.

The picks:

• Fidelity Dividend Growth (FDGFX) — This fund, which has a 0.89 percent expense ratio, shows both the promise and perils of active management, Mr. Davis said.

• Oak Value (OAKVX): This fund’s experienced management team follows the value strategy of Warren Buffett by investing in undervalued companies with understandable business models, good management and strong balance sheets.

• Selected American (SLASX) — A concentration in the financial-services sector and a willingness to build large positions in top holdings can lead to uneven returns, but this fund has managed to deliver strong results over the long term.

• Vanguard 500 Index (VFINX) and Fidelity Spartan 500 Index (FSMKX) — Investing in the S&P; 500 is an easy and inexpensive way to build a broadly diversified and tax efficient portfolio.

• Vanguard Total Stock Market Index (VTSMX) and Fidelity Spartan Total Market Index (FSTMX) — The advantage of owning a total stock market fund is that you can just buy it and forget about it, as long as you understand you are tying yourself entirely to the whims of the market, Mr. Davis said.

• Vanguard PRIMECAP Core (VPCCX) — Launched in December, this fund is run by the same team that manages Vanguard PRIMECAP, which is now closed to new investors.


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