Getting the best returns out of mutual funds isn't just a matter of finding and buying the best funds. There are a handful of timeless investing rules and mutual fund investing tips to maximize performance. Instead of chasing after performance, you can follow five simple ways that can help maximize returns.
So without further ado, and in no particular order, here are five ways to maximize mutual fund performance.
- No-load funds help you keep down costs while investing, maximizing your returns.
- Use index funds and dollar-cost averaging to create returns and lower risk.
- Aggressive mutual funds and sector funds can help you diversify, reduce risk, and keep your portfolio growing.
- Learn how to allocate different assets to keep your portfolio performing, such as using bonds and bond funds.
Use No-Load Funds
Costs matter tweaking your portfolio to get better returns from your investments. When it comes to keeping costs down, it should go without saying that no-load funds are better than load funds. Since you're not paying any loads, you have more money working for you, increasing performance. All else being equal, the fund that does not charge a load will keep more money in the pockets of investors than the ones that charge loads.
For example, say one broker has two funds you can choose from. One fund has a front-load of 5%, the other has no load, and you have $10,000 to invest. The front-load fund will charge you $500 upfront to get into the fund. Therefore, your initial investment is reduced to $9,500 in the loaded fund. However, you'd begin investing with all $10,000 in the no-load fund.
Use Index Funds
Index funds boost returns similarly to reason using no-load funds. By keeping costs low, you can keep more of your money working for you, thereby boosting total returns in the long run. But the advantages of index funds don't stop with lower costs. These passively managed funds also eliminate manager risk, which is the risk that poor management decisions can reduce the fund's performance.
For example, an actively managed mutual fund manager could select stocks they thought were going to perform well; instead, they might produce sub-par returns compared to a benchmark like the S&P 500 Index.
With all due respect to actively managed funds (they are one of the few ways to "beat the market"), the fund manager's added risk is always a part of investing in these funds. However, index funds don't carry the same manager risk, although they will still have market risk.
Index funds don't always beat actively managed funds, but their low costs and lower relative market risk make them smarter choices for better long-term performance.
Dollar-Cost Average Into Your Mutual Funds
Dollar-cost averaging (DCA) is an investment strategy that implements the regular and periodic purchasing of investment shares. The strategic value of DCA is to reduce the overall cost per share of the investment(s). Additionally, most DCA strategies are established with an automatic purchasing schedule. An example includes the regular purchase of mutual funds in a 401(k) plan. This automation removes the potential of the investor to make poor decisions based upon emotional reactions to market fluctuations.
In different words, a DCA purchase strategy not only keeps money flowing into your investments but also buys shares in all market conditions, including down markets where share prices are falling. Simply put, you buy no matter what the conditions are and take advantage of the long-term rise of prices. You can set up your own DCA by establishing a systematic investment plan (SIP) at your chosen brokerage firm or mutual fund company.
Buy Aggressive Mutual Funds or Sector Funds
Many investors think if they want to get higher returns, they need to invest in high-risk funds. However, this is only partially true. Yes, you do need to be willing to take on more market risk to obtain above-average returns. But you can do it in a way that minimizes risk by diversifying across the different types of aggressive funds.
Examples of aggressive mutual fund types are large-cap growth stock funds, mid-cap stock funds, and small-cap stock funds. You can diversify across all three of these fund types and stick to the low-cost, no-load funds. This can increase the odds of beating the market over the long run, especially for periods longer than 10 years.
Also, sector funds can be inherently riskier than broadly diversified funds. However, adding a sector fund to a portfolio can reduce overall market risk if the fund helps diversify the portfolio.
Sectors that have historically beaten the broad market indexes in the long run include the healthcare and technology sectors.
You don't need to rely on aggressive mutual funds alone for the potential to obtain higher long-term returns. Investment selection is not the number one factor that impacts a portfolio's returns—it is asset allocation. For example, if you were fortunate enough to buy above-average stock funds in the first decade of this century, from the beginning of 2000 through the end of 2009, your 10-year annualized return wouldn't have likely beat average bond funds.
Although stocks normally outperform bonds and cash over long periods (especially for three years or longer on average), stocks and stock mutual funds can still perform worse than bonds and bond mutual funds for periods of less than 10 years.
So if you want to maximize returns and keep market risk to reasonable levels, an asset allocation that includes bonds can be a smart idea. For example, let's say you want to invest for ten years and you'd like to maximize returns with stock mutual funds. But you want to keep the risk of losing your principal down to a reasonable level. In this case, you could remain aggressive with an allocation of 80% stock funds and balance out the risk with 20% bond funds
The best mutual funds will be ones that combine an appropriate allocation that suits your tolerance for risk and your long-term investing goals. In addition, once you've identified your investment objective, your money may work harder in mutual funds that have low expenses.