WITH stock and bond markets plummeting one day and surging the
next, many small-time investors are scratching their heads. Should
they reduce their exposure to stocks or bonds, or hang in there and
ride out the rough times?
One way to try to do a little of both without mental anguish is
to invest in hybrid mutual funds that blend stocks, bonds, and cash
in one investment package.
Among funds where managers can move flexibly between stocks and
bonds, a variety called asset-allocation funds has grown
increasingly popular over the last couple of years. Asset
allocation involves trying to find the optimum mix of different
types of investments, often using statistical formulas to assess
current markets. In another class of hybrid fund, balanced funds,
managers rarely shift from a 60-40 blend of stocks and bonds.
Together, balanced funds and flexible-blend funds account for about
12 percent of the $770 billion that Americans have invested in
equity-holding mutual funds.
"Both of these categories have been significantly less volatile
than the stock market," says Amy Arnott, an analyst with
Morningstar Inc., a Chicago company that rates funds. But both
categories have failed to beat Standard & Poor's corporation's
widely used index of 500 stocks, suggesting that long-term
investors who can afford to endure short-term fluctuation in their
investments would do better with heavier exposure to stocks.
With $32 billion invested in them, asset-allocation funds lag
behind balanced funds, which have $58 billion in assets. But the
former group has come on strong, going from only four funds 10
years ago to 75 today. Balanced funds have grown more in line with
the rest of the industry, with the number quadrupling to more than
100 in the last decade.
Boston-based Fidelity Investments, the nation's largest fund
company, saw its Asset Manager fund and its balanced fund both
roughly triple in assets last year, to $9 billion and $4.7 billion,
The asset-allocation idea is "finally getting the due it
deserves," says Jeremy Duffield, a senior vice president at the
Vanguard family of mutual funds, in Philadelphia. Like Fidelity's
balanced and asset-allocation funds, Vanguard's hybrid funds in
those categories have roughly matched the return of the S&P 500
despite their diversified approach.
Flexible funds are for "anybody who wants a diversified asset
pool with somebody calling the shots," Mr. Duffield says. When
markets are fluctuating, "that's where many individual investors
get into trouble. They let their emotions rule their decisions."
Instead, Vanguard's asset-allocation fund is guided by a
"decision framework" created by William Fouse, whose San
Francisco company Mellon Capital Management runs the Vanguard fund.
Mr. Fouse says his model, which looks at the expected risk-adjusted
returns for different investments, will do a far better job than an
The Vanguard fund, now with $1 billion in assets, fell much less
than the overall stock market in a 1990 drop. Though the fund did
not exist until 1988, Fouse says his model would have had most
assets out of stocks prior to the crashes of 1973 and 1987, even
though typically 60 percent of the fund's assets are in stocks.
This year, the Vanguard fund and most peers have been hit by a
simultaneous drop in bonds and stocks. …