Portfolio Tune Up With stocks recovering and bonds looking risky, it may be time to adjust your investment mix. Here we help four families make smart fund choices
By Donna Rosato and Cybele Weisser

(MONEY Magazine) – When it comes to reaching your financial goals, knowing what's ahead for the economy, the market and interest rates is only the beginning. You also need to know how to put that information to work and how to position your portfolio to profit in today's environment.

In the pages that follow, you'll meet several investors who are at a crossroads: a young saver ready to buy her first fund, a soon-to-be married couple poised to blend two portfolios, a family planning for retirement and college for three children, and a couple with decades of investing behind them and just a few years left in the work force. All have made great strides--and all should make adjustments.

Before you pick individual investments, you need to develop a long-term strategy. So for each of our real people, we've come up with a stock and bond allocation. These portfolios should be right for them--as well as for other investors in similar situations. And we've looked back at how each blend would have performed over the past 10 years, a time that includes the bull market of the 1990s, the bear market that followed and our current recovery. Finally, to fill those portfolios, we provide timely fund choices from the MONEY 100, our list of the nation's best mutual funds. (For more, see "The MONEY 100" on page 74.)


Mimi Torrance is saving money, keeping a lid on debt and even planning for her retirement. Now the 24-year-old has to learn about stocks

As a general assignment reporter for the News Sun in Waukegan, Ill., Mimi Torrance has interviewed dozens of cash-strapped retirees. What they tell her--unsolicited--time and again is, "You're young. You have to start saving now." Those encounters go a long way toward explaining why this 24-year-old acts and thinks well beyond her age. "I want to retire nicely and not worry about whether Social Security will be there for me," she says. Torrance already has enviable money-management habits. All she needs now is more investing savvy.

The list of what Torrance is doing right is impressive. Living at home with her mother in Arlington Heights, Ill. has helped her save and avoid credit-card debt. She's locked in a 4% rate on her $18,000 student loan, ensuring that her payments will stay at $120 a month. Last year, Torrance signed up to have $40 a week automatically taken from her paycheck and put in the bank; when she got a raise in February, she bumped that up to $400 a month in hopes of saving enough to rent her own apartment soon. She puts 5% of her salary into her 401(k), where it is divided between two large-cap stock funds, a balanced fund and a bond fund. And Torrance isn't afraid to negotiate. Before buying a $16,000 Honda Civic, she researched prices online and refused to let the dealer intimidate her. "I said I was leaving if they didn't give me the price I wanted," she recalls. She got it.

Despite Torrance's budgeting prowess, she concedes that she knows little about investing. In May she opened a Roth IRA with $1,000 of her savings--and hopes to add another $1,000 this year--but she's left it parked in a low-yielding money-market account.

With retirement decades away, Torrance can be aggressive. She has ample time to weather market swings, so she should aim for growth by investing 95% of her IRA in equities. She can keep it simple with a low-cost index fund that mirrors market returns. A good choice is Vanguard Total Stock Market Index, which gives her broad stock exposure for a razor-thin expense ratio of 0.2% (compared with 1.3% for the average stock fund). As a cushion against volatility, Torrance should put 5% in bonds (and increase that allocation gradually). Again, a long-term horizon means she doesn't have to worry about interest-rate swings. For a diversified bond fund, go with Vanguard Total Bond Market Index. Finally, Torrance should have $100 of her monthly savings deposited directly into her IRA. That way she will continue to save for retirement even as her expenses increase.

THE MOVES --Shift Roth IRA from cash to stocks --Make retirement savings automatic --Stick with low-cost index funds

FEEDBACK: drosato@moneymail.com; cweisser@moneymail.com.


For young retirement investors like 24-year-old Mimi Torrance, the key to reaching financial goals is to save regularly and stick with stocks for the long term. A portfolio that's 95% stocks and only 5% bonds is extremely volatile. Thanks in part to a gut-wrenching 20.5% drop in 2002, it would have lost money (almost 5%) over the past five years. But over the past 10 years, that mix delivered a compound annual return of 11.2%.

How this stock-bond mix would have fared over the past 10 years:


NOTES: Annualized return is from June 1994 to May 2004. "Worst year" is worst calendar year.

SOURCE: Ibbotson Associates.

STOCKS: Vanguard Total Stock Market Index 95% BONDS: Vanguard Total Bond Market Index 5%

Contact information on page 70.


Jessica Orsina and Andy Sullivan are bringing two distinct investment styles to their marriage. What they need is one plan

When Andy Sullivan first spotted Jessica Orsina, he was in a lot of pain. A pitcher for his college baseball team, he was being treated for a broken ankle in the varsity training room at Boston College, where Orsina played lacrosse. Nevertheless, he struck up a conversation. Four years later the couple are planning a September wedding. They've bought a two-bedroom apartment in Boston's hip Charlestown neighborhood. Both recently boosted their 401(k) contributions--Sullivan from 6% to 8%, Orsina from 4% to 6%. And they even started a 529 college savings plan for the children they plan to have. "We're the first of our friends to get married and buy a place," says Orsina. "That's forced us to make smarter decisions with our money and save more."

But one thing the young couple haven't put much thought into is how their disparate retirement portfolios fit together. The two approach investing differently, and their 401(k)s show it. Sullivan, 26, is an aggressive risk-taker. A salesman for payroll processor Paychex, he has nearly 70% of his 401(k) in company stock and the rest in an international stock fund. Orsina, 24, who works in marketing at an ad agency, takes a more balanced approach. Her 401(k) is spread across five funds, with 20% in bonds and cash and 80% in stocks.

At their age and with less than $40,000 in their 401(k)s, Sullivan and Orsina are right to put most of their money in equities--but they need to rebalance to reduce their overall risk. Their portfolio is more than half Paychex--a dangerous overweighting. No matter how bullish you are on your boss, you shouldn't tie your investments and pay to a single source. Having more than 10% of your money in one company dramatically increases your volatility and risk of a devastating loss. (Many workers still make this mistake. A recent Hewitt Associates study found that one-fourth of employees at major firms have more than half of their 401(k)s in company stock.)

For a better mix, Sullivan and Orsina should put half of their combined 401(k) balances in large-cap growth stocks (including the 10% in Paychex). Classic growth stocks do well late in a bull market, as well as when interest rates rise, so a growth stock fund such as Growth Fund of America would be a timely pick. To further diversify, they should put 20% in small stocks (Orsina's small-cap fund, Fidelity Low-Priced Stock, has a history of above-average returns with below-average volatility) and 20% in international (her 401(k)'s Fidelity Diversified International is a MONEY 100 fund). With inflation heating up, a fund that focuses on commodities can hedge against rising prices. A good choice:

T. Rowe Price New Era, which invests in natural resources companies such as ExxonMobil. Sullivan and Orsina don't need to devote more than 10% of their retirement savings to bonds. A fund that has the flexibility to invest in both short- and long-term bonds, such as Fremont Bond, can best ride out rising rates.

THE MOVES --Cut back on risky company stock --Create a single mix for the retirement funds in their 401(k)s --Add an inflation hedge


As investors in their twenties, Sullivan and Orsina should keep the bulk of their retirement savings in stocks. With a five-figure portfolio, they have enough money to spread that stake among large-cap, small-cap and international funds. Such diversification should boost returns and reduce risk. That blend would have posted an annualized return of 2% over the past five years vs. a 2% decline in the S&P 500.

How this stock-bond mix would have fared over the past 10 years:


NOTES: Annualized return is from June 1994 to May 2004. "Worst year" is worst calendar year.

SOURCE: Ibbotson Associates.

LARGE-CAP STOCKS: Growth Fund of America, T. Rowe Price New Era 50% SMALL-CAP STOCKS: Royce Total Return 20% INTERNATIONAL STOCKS: Fidelity Diversified Intl. 20% BONDS: Fremont Bond 10%

Contact information on page 70.


The Kelleys have ignored their portfolio for nearly two years, and it shows. Now's the time to rethink their investment choices

The day starts early in the Kelley home in Cape Elizabeth, Maine. Martha, 42, rises at 5 a.m. to run before her sons Peter, 14, Patrick, 11, and Eamon, 7, wake up. She's back by 6:30 a.m. to help her husband Chip get the boys ready for school. Afternoons are spent shuttling the kids to hockey, soccer and baseball practice. (A lawyer, Martha gave up practicing eight years ago to stay home full time.) Martha and Chip do marathons and triathlons, so even weekend days start at 6 a.m. Their active lifestyle doesn't leave much time for monitoring their investments. "It's the bottom of the priority list," says Chip, 43, a Bank of America senior vice president. That's changing.

The Kelleys got a wake-up call last fall. Their six-figure 401(k) and children's college savings are heavily invested in Columbia and Putnam funds, two families tarnished by the mutual fund trading scandal. When the headlines led them to take a hard look at their investments, they were horrified to see that their scandal-tainted funds were also underperformers, trailing the market and similar funds. "It's been demoralizing," says Chip. "I would love to be able to retire at 62, but I don't think it's economically feasible."

Like many families, the Kelleys are investing for retirement and their kids' education at the same time. "We want them taken care of and us taken care of so we're not working until we're 75," says Martha. The trouble is, the Kelleys have been overly aggressive with their sons' college custodial accounts, which are invested entirely in international equity funds. With their oldest son just four years away from college, the Kelleys need to be more conservative. While they can invest their younger children's college funds mainly in stocks, they should be shifting the 14-year-old's money into short-term bonds and cash.

When it comes to their 401(k) money, the Kelleys have a more appropriate mix--roughly 70% in stocks and 30% in bonds. But they should switch out of underperforming funds, as well as boost their exposure to large-cap growth stocks from 20% to 40%. A top large-cap choice from the MONEY 100 is Thompson Plumb Growth, which buys downtrodden growth stocks. Among Chip's limited 401(k) choices, Columbia Large Company Index, which has kept pace with the S&P 500 over the past five years, has a better long-term record and lower expenses than Columbia Large Cap Growth, his second-largest holding. Adding a fund that focuses on dividend-paying companies can dampen risk. A good option in his 401(k) is Fidelity Advisor Equity Income; from the MONEY 100, T. Rowe Price Equity Income.

In a rising-rate environment, short-term bonds should significantly outperform long-term Treasuries. For the 30% of their portfolio allocated to bonds, the Kelleys should consider a fund such as the MONEY 100's Dodge & Cox Income, which has flexibility to invest in different types of bonds.


--Put more money in large-cap stocks --Get rid of poor performers --Diversify short-term college funds


Delafield 221-3079 Dodge & Cox Income 621-3979 Dreyfus Appreciation 373-9387 Fidelity 343-3548 Fremont Bond 548-4539 Growth Fund of America 421-0180 Loomis Sayles Bond 633-3330 Neuberger Berman Fasciano 877-9700 Oakmark International 625-6275 Royce Total Return 221-4268 T. Rowe Price 638-5660 Third Avenue 443-1021 Thompson Plumb Growth 999-0887 Vanguard 851-4999


Investors in their peak earning years should have at least 70% of their retirement savings in stocks but can temper their risk by including bonds and funds that invest in dividend-paying stocks. Over the past 10 years, this portfolio trailed the market by two points but was one-third less volatile. A 40% stake in large-cap growth makes sense today because the stocks tend to perform well in the later stages of a recovery.

How this stock-bond mix would have fared over the past 10 years:


NOTES: Annualized return is from June 1994 to May 2004. "Worst year" is worst calendar year.

SOURCE: Ibbotson Associates.

LARGE-CAP STOCKS: T. Rowe Price Eqity-Income, Thompson Plumb Growth 40% SMALL-CAP STOCKS: Delafield 15% INTERNATIONAL STOCKS: Oakmark International 15% BONDS: Dodge & Cox Income 30%

Contact information on page 70.


Burned in the bear market, the Ackerlys have already cut the risk in their portfolio. The next step is to preserve the wealth they've built

At the height of the market boom four years ago, Jim and Mary Ackerly were confident that early retirement was right around the corner. Jim, now 59, had stepped down as president of an Atlanta property-management company to work fewer hours as a commercial real estate broker. The couple still had most of their money in stocks, with about 15% in tech-heavy mutual funds. And why not? The torrid stock gains of the '90s had fueled their dream--until the subsequent bear market clipped their portfolio by 25% and delayed their retirement. Fortunately, they found that they didn't mind. "After Sept. 11, we both had a new appreciation for work," says Jim. The Ackerlys also gained a respect for diversification. They have since cut stocks back to about half of their assets and divided the rest between bonds (25%), real estate investment trusts (17%) and cash (2%).

Thanks to last year's stock recovery and real estate gains, the Ackerlys' portfolio has rebounded enough for them to retire today. But they are in no rush. "I feel like I'll just know when the time is right," says Mary, 57, director of communications at Agnes Scott College. Still, with retirement in sight, real estate prices peaking and rising rates posing a threat to bond investors, the Ackerlys should consider some changes. As young retirees, they'll need the growth that stocks provide, but they should gradually scale back their equity holdings to 40% of their portfolio. They should also reduce real estate to 5%. Shifting out of long-term bonds, which will underperform short-term bonds as rates rise, will reduce their portfolio's overall risk. Finally, to hedge against rising prices, the Ackerlys should add a bond fund that holds inflation-protected securities.

THE MOVES --Trim stocks to 40% as retirement approaches --Switch into short and intermediate bonds --Cut real estate to 5% of total portfolio


Bonds offer a smoother ride than stocks do. During the latest bear market, a portfolio with 60% in bonds would have gained an annualized 2.8% vs. a 12% loss for the S&P 500. As interest rates rise, short-term bonds will outperform long-term ones.

How this stock-bond mix would have fared over the past 10 years:


LARGE-CAP STOCKS: Dreyfus Appreciation 30% SMALL-CAP STOCKS: FPA Capital 5% REAL ESTATE: Third Avenue Real Estate Value 5% INTERMEDIATE BONDS: Loomis Sayles Bond 30% SHORT-TERM BONDS: Fidelity Short-Term Bond 20% INFLATION PROTECTED SECURITIES: Vanguard Inflation Protected Securities 10%

NOTES: Annualized return is from June 1994 to May 2004. "Worst year" is worst calendar year. Contact information on page 70.

SOURCE: Ibbotson Associates.