The Retirement Corporation of America

Bulletproof Your Mutual Fund Portfolio

IT'S IMPOSSIBLE TO put together a mutual fund strategy that never has a bad year. Over time, the stock market tends to lose in one year out of four. But you can minimize the damage that a losing year does to your investments. Here are Six Sound Rules for Safer Investing:

•  Rule #1: Diversify, diversify, diversify. There's no magic answer to how much diversification is enough. Most experts say you should own at least three kinds of stock funds: growth, growth-and-income, and international multi-country. They recommend owning at least two bond funds (short-term and intermediate-term) plus a money market fund for liquidity. If you are over 40, keep at least 40 percent of your stock investments in growth-and-income funds. They don't do as well as other stock funds in bull markets, but they don't suffer as much in bear markets.

•  Rule #2: Know your risk tolerance. Think how you would feel if the market plunged 25 percent. That can happen, as it did in the bear market that lasted from 2000 into 2003. Then decide how much you want to allocate to stock funds. If you decide that figure is 60 percent of your investment money, don't let the percentage drop below 50 percent—no matter how jittery you get—or rise above 70 percent—no matter how bullish you get.

•  Rule #3: Be a value investor. Buy stock funds that invest in well-managed companies with valuable franchises. Or buy funds that invest in a broad range of more than 200 stocks. Such funds have compiled superior records through thick and thin.

•  Rule #4: Invest regularly through good times and bad. Remember, when the stock market takes a tumble, it's time to add to your stock funds. It's the worst time to sell. In the months following the 1987 stock market crash, mutual funds recovered their losses in an average of 18 months. After the 1990 market drop, it only took six months. The worst mistake inexperienced investors make is to buy when stocks are rising and sell when they are falling. The best time to buy is when stocks are cheapest and the best time to sell is when they are most expensive. Since you can't ever be sure just when those "best times" might be, the best strategy is to keep investing on a regular basis, no matter what the markets are doing.

•  Rule #5: Be emotionally prepared for the rough spots. You can't stop the world from turning and you can't stop the markets from gyrating. If you've carefully chosen a long-term, diversified investment strategy, give it time to work.

•  Rule #6: Evaluate your portfolio's overall risk level at least twice a year. A bull market may lift the stock portion of your portfolio well above your target level. Use new money as you get it to add to the bond portion of your portfolio. Or consider giving appreciated shares in your stock funds to charity to avoid selling them and having to pay taxes on a big capital gain. If you must sell some stock funds, sell the shares you bought most recently to minimize capital-gains taxes.