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Editor's note: This article is adapted from Kiplinger's Mutual Funds 2007 guide. Order your copy today.
What a difference the past decade has made for Greg and Jeff Clark. In 1996, the brothers borrowed money to buy a failing Mount Pleasant, S.C., pet-supply business, where Jeff worked as a manager. They set to work transforming the store and within two months, Indigo Creek Pet Food Center was profitable. The store has since thrived by catering to affluent customers with high-end products that are tough to find elsewhere in the area.
As Indigo Creek's success has grown, so have the brothers' investment portfolios. They now own the building that houses the store, as well as a slew of investment properties in nearby Charleston. The rest of their investments are spread among a mix of individual stocks, index funds and actively managed mutual funds.
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Greg, 38, and Jeff, 36, are well on their way to meeting their investing goals. Jeff, a newlywed, hopes he'll be able to pay off his mortgage in two to three years. Greg dreams of buying a second home one day -- perhaps a cabin in the mountains. And within ten years, both brothers are planning to retire from the pet-supply business. Making their nest eggs stretch through retirement is their top goal. "We need to have a solid portfolio that's always growing, no matter what's happening with the store," says Jeff.
You don't have to start a business or buy property to get on track to reach your own financial goals. But you will need to assemble a portfolio, which begins with picking the right funds (see How to Choose Winning Funds).
Just as important as the funds themselves is the way you mix them. And before the mixing can begin, you'll need to think about your investment goals, time horizon and stomach for risk. "You need to engineer a mix that gives you the best bang -- but still lets you sleep at night," says Kyra Morris, a financial planner in Charleston. This article will give you the tools to construct your own portfolio, as well as three well-diversified portfolios you can adopt as your own. These models use actively managed funds, but you can easily substitute index funds or exchange-traded funds.
Why diversify?
History proves that different types of stocks take turns leading the market. Some go out of favor -- or go gangbusters -- for years at a time. For example, the past five years have been unkind to funds that invest in stocks of big, growing companies. Meanwhile, funds that specialize in small and midsize companies that are underpriced ("value" stocks) have enjoyed supercharged returns. Many analysts and money managers now believe that the tide is finally turning for large-company growth stocks.
Such shifts in style are largely unpredictable, so you won't have steady growth if you invest in only one type of stock. Given that over long periods of time, small-company stocks provide greater returns than large-company stocks, you'll want at least one fund that invests in the little guys. But because stocks of small companies are riskier, you should also devote space in your portfolio to larger companies, which are less volatile. Invest in funds that seek growth stocks as well as those that specialize in value stocks. Growth companies are typically those with rapidly accelerating sales and profits, while value stocks aren't growing as quickly and are considered cheap relative to their peers.
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