You've learned how to evaluate funds so that you can answer five key questions: How has it performed? How risky has it been? What's in its portfolio? Who's in charge? And how much does it cost? Those are questions you need to be able to answer whether you're choosing your first or your thirty-first fund. (Yes, some people own that many.)
When selecting your first stock fund, though, you need to focus on a few additional, specific things. Why? Because for some of you, your first fund may be your only fund—or your only fund for a while.
Here are the qualities to look for in your first fund.
Seek diversification
Whether you're investing for a goal that's five or 50 years away, your
first stock fund should be well diversified. That means the fund should
hold a large number of stocks (100 or more) from a wide range of
industries, or sectors. By looking at Morningstar's Fund
Reports on Morningstar.co.uk,
you can find how many stocks a fund owns as well as which sectors it
favours.
What's the big deal about diversification? Funds that own many stocks from many different sectors are generally more stable than funds holding few stocks from only one or two industries.
While you may own some of these more concentrated types of funds at some point in your investment life—say, to rev up your returns or to add some variety to your investments—they aren't suitable first-time investments. (We'll talk more about diversification and when you might focus on concentrated investments in later lessons.)
Favour large companies
Next, focus on funds that buy stocks of large companies. Funds with a
collection of stocks such as Vodafone,
BP
and BAE
Systems may not always offer the most exciting returns, but they
tend to hold up better than smaller companies when times get tough.
Morningstar groups these funds, which are called large-cap funds, into three categories: large value, large blend, and large growth. Large-value funds own stocks that are undervalued, large-growth funds buy stocks that have strong growth prospects, and large-blend funds own a combination of the two.
Which should you choose? Large-growth funds are the most volatile of the three categories, because they tend to own stocks in higher-growth, and therefore higher-risk, sectors, such as health care and technology. Large-value funds are generally less volatile but tend to perform in fits and starts, too, as they have their own pet sectors, such as financials and industrials. When these sectors do well, so will most large-value funds.
Your best choice would be a large-blend fund that owns both types of stocks. It has exposure to all of the aforementioned sectors.
Go with a big family
When buying your first fund, start with one of the larger fund families.
Why? Giants such as Fidelity and BlackRock are closely monitored by the
media and by investors. Intense public scrutiny has made it difficult
for these shops to wield really poor players for too long and while it's
unlikely their funds will top the charts year in and year out, they're
generally reliable.
Going with one of the bigger families has another benefit: Your first fund may not be your last fund, and the big families boast a range of offerings, from domestic large- and small-company funds to international options; taxable and tax-free bond offerings to single-sector funds. It's possible to build an entire portfolio from just one family.
But don't confuse big with diversified. Just because a fund family is one of the indsutry's largest doesn't necessarily mean it doesn't focus its efforts in specific areas of investment.
To see how much variety a family offers, type in the name of the family in our quote search box on Morningstar.co.uk's home page. You'll find a list of Fund Reports for the family's funds. Go through some of the reports to get an idea of the types of funds the group offers or visit the fund family's website.
