by Selecting a new mutual fund usually brings on one of two emotions. People are either excited or turn into a nervous wreck about the entire process.
We hope to set your mind at ease today.
Before you venture into selecting a new mutual fund there are a two tasks we recommend completing prior.
- An emergency fund is established and funded
- You currently own a mutual fund that follows the S&P 500 or the total stock market and it is the cornerstone of your portfolio
Questions to Ask Yourself Before You Buy Your Next Mutual Fund
When you want to select a fund for growth there are a few questions we recommend asking yourself:
- Do I want to invest in a mutual fund that contains stocks?
- Will the fund target companies in certain industries (energy, healthcare, real estate)?
- Will they be large cap, mid cap, or small cap stocks?
- Do I want to invest in a mutual fund that has bonds?
- Do I want government bonds that have a tax advantage?
- Do I want corporate bonds that have higher yield for more risk?
- Do I want to invest in US based companies or international markets?
- What risk am I prepared to take?
- Is this better for me than increasing my investment in mutual funds I already own?
Narrowing Down Your Choices of Mutual Funds
In the questions above let’s say you decided that you wanted to invest in a stock fund and you are not sure if it should contain large cap or mid cap stocks.
You have determined that bond funds won’t meet your growth target, you are ok with higher risk, and you want to explore beyond mutual funds you already own.
You head on over to our friends at Vanguard and look at the 131 mutual funds they offer. You can do this activity at any company or brokerage that offers mutual funds. We are using Vanguard as an example. We recommend that you find a company that you are comfortable with, that has the lowest fees possible, and is an established company.
Arriving at Vanguard’s mutual fund page you see a screen that looks similar to below. They show you the 1,5, 10 and since inception returns for the fund.
You scan down the list and for this exercise, you are looking for serious growth, you locate two funds that you want to dig deeper.
The two funds you locate are:
- Mid-Cap Growth Index Admiral Shares which in 2020 had a 34.48% return on the market. That’s compared to the 18.6% of the S&P so it outperformed against the index of your core fund in your portfolio.
- Vanguard U.S Growth Fund which in 2020 had a 58.57% return vs the 18.6% for the S&P 500 and a 5 year run of 22.69%.
You now have two funds to perform additional analysis to determine which one is right for your portfolio.
Reviewing Funds in Additional Detail
It’s important to dig into the details of the funds. Selecting just off the most recent return is called “return chasing”. It’s critical to know what stocks make up the mutual fund so you can be confident that they are investing in companies you know, ones that you believe will outperform the market, and in sectors that are growing and not shrinking.
Vanguard Growth Fund
Digging into the Vanguard Growth fund you notice the following:
- 43.4% of the fund is invested in the Information Technology
- 21.20% of the fund is in companies in the consumer discretionary
- 13.10% is in the communication services
77% of the fund is in the 3 industry verticals listed above. If those meet industries that you believe will outperform the market it’s worth digging into details to see which stocks the fund actually owns.
If you don’t believe in the stocks the fund is buying this may not be the fund for you.
The top 10 stocks in this fund, which make up 37.3% of the fund are companies that many will know. They include names such as Amazon, Microsoft, Apple, & Tesla.
This particular fund owns 248 different companies and these are just the top 10.
One of the great parts of Vanguard is they make it easy to see all of the holdings of the fund.
With another click we notice they also own companies like Alphabet (Google), Wayfair, Uber, Nike, & Home Depot. While this fund carries a risk level 4 out of 5 it’s also made up of companies that are established and growing fast.
The expense ratio of this fund is .38% so that is something you want to consider in your final decision.
Vanguard Mid-Cap Growth Index Fund
Digging into the Vanguard Mid-Cap Growth fund you notice the following:
- 33.3% of the fund is invested in the Technology
- 14.80% of the fund is in companies in the industrials
- 16.70% is in healthcare
Right off the bat this fund is made up differently in it’s investments by sector. Of note is that it is invested far more heavily in healthcare than the growth fund.
In the growth fund 10 stocks made up 37% of the fund assets however in the Midcap the top ten largest holdings made up only 13% of the assets. This means these top 10 will have far less influence on the overall fund returns compared to the growth fund.
Let’s look at the holdings and see what kind of companies we find.
These companies, with the exception of Twitter and Chipotle, are less recognizable to most consumers.
Docusign is a fast growing company that IPO’d recently and the Match group owns data apps like Tinder and Hinge.
This fund is made up of 162 holdings compared with 248 in the Growth fund.
Looking into some of the details you can find other companies that are more recognizable such as Roku, Trade Desk, Pinterest, and Dollar Tree.
Taking Action & Selecting the Fund That’s Best For You
The 10 year returns for these funds are 15.91% for the mid cap and 18.4% for the US Growth fund. It’s worth noting the US Growth fund has been around since 1959 and has averaged 11.27% whereas the mid cap fund hasn’t been around for even 10 years.
Before you make your purchase look in detail at the companies that make up the portfolios of each fund. Do some digging to see which companies are growing faster. Which companies are positioned to continue rapid growth, profitably, over the next 10 years.
After you have done that you can decide which fund is best fit for your portfolio.
Twins Rules for Financial Success
As with all of our content here we want to encourage you to follow three core rules :
- Have an Emergency Fund/Squirrel Funds
- Invest for the Long Term
- Invest Automatically & Consistently
