The Best Funds for Entry-Level Investors

Although many of us wouldn't want to have to live through our high school days again, one of my friends has a different idea. He wouldn't mind being 18 again, but he'd like to go back in time armed with everything he knows now: how to talk to (and listen to) women, how to whip up a quick meal when hungry, and, most importantly, the value of savoring every day with few real responsibilities.

In a similar vein, many of us probably wouldn't mind turning back the clock on our investment lives. What if we had all had the foresight to open our first mutual fund accounts while still in high school and were savvy enough to have picked great funds?

OK, that's not possible. But what we can do is share the perspective we've gained over the course of our investing lives to help any young people we might know--or even not-so-young people who are getting a late start on investing--get started now and make good investment choices. Many may think they need a lot of money to get started, but I've compiled a list of terrific funds that savvy investors can buy into with a limited amount of cash on hand. Forward this list to any individuals you know who are just starting out in investing or should be.

If You Have $1,000 or More to Invest
To help ferret out good funds with low minimums, I turned to Morningstar.com's Fund Screener, which lets you customize your own fund-selection criteria. I asked it to identify no-load funds that require $1,000 or less up-front. True, many fine broker-sold funds will let you in with low minimums--in some cases less than $100--and a financial advisor can provide valuable guidance to those just starting out. But if you're making lots of small purchases, as many beginning investors are, surrendering a piece of each and every one of those investments to sales charges can make it difficult to grow your nest egg. (For the same reason, I didn't include exchange-traded funds--which must be bought and sold through a broker--in my screens either.)

Because young investors with long time horizons should focus primarily in stock funds, I also asked Fund Screener to home in on domestic-equity funds. In addition, my screen focused on funds that charge less in annual expenses than the average for their categories, boast managers who have been at the helm for five years or more, and rate at least three stars.

Here are some of the highlights.

 Oakmark Select (OAKLX)
This fund recently reopened to investors who buy directly through Oakmark, and we think it's well worth a look. True, the fund is concentrated in its top holdings:  Washington Mutual (WM) soaked up fully 16% of its assets at the end of the year. But manager Bill Nygren is one of the smartest stock-pickers working today, and we also like the fact that Nygren has taken advantage of the relative weakness in blue-chip names to upgrade the quality of the portfolio. (Nygren's other charge, the better-diversified  Oakmark Fund (OAKMX), is also available with a $1,000 minimum.)

 ICAP Select Equity 
Like Oakmark Select, this value-minded fund packs a lot of assets into its top holdings and has a good record of seeing its bets pay off. It too boasts a talented manager in Rob Lyon, who for this offering culls his 20 or so best ideas from the more diffuse  ICAP Equity . In a period in which many fund managers note that they're spying their best ideas overseas, we like that Lyon and his team have long made room in the portfolio for foreign blue-chip stocks. Because Lyon trades frequently, investors who hold this offering should be sure to keep it in a tax-deferred account, such as an IRA.

 Pax World Balanced (PAXWX)
Unlike the previous two offerings, which are strictly stock funds, Pax World Balanced invests in bonds as well as stocks. That gives manager Chris Brown the latitude to adjust the fund's stock and bond allocations as he sees fit. Recently, for example, he has kept the fund's stock-market exposure near 70% of assets because he has been optimistic about equities' prospects and nervous about the impact rising interest rates will have on bonds. That flexibility should appeal to investors seeking all-weather market exposure, as should Brown's distinguished record on this socially screened offering.

 Vanguard STAR (VGSTX)
I omitted this fund from my list of great entry-level offerings when this article first appeared in late 2004, but loyal Bogleheads quickly alerted me to the oversight. And they were right--this offering is a rare Vanguard fund that requires a minimum initial investment of less than $3,000 (you can buy in for just $1,000), and it's a fabulous starter holding. A fund of funds, it invests in some of Vanguard's top actively managed stock offerings and ultracheap bond funds to build a diversified portfolio.

If You Have $500 or More to Invest
Because many funds will let you invest with an even lower minimum if you're opening an IRA account, I turned to the  Premium Fund Screener to identify funds with IRA minimums of $500 or less. (Premium Fund Screener lets you screen using many more criteria than Basic Screener, and it is available to Premium members of Morningstar.com. Click here for a free trial.) From there, I selected many of the same criteria I used for the previous screen, but I also asked the Premium Screener to zero in on Morningstar's  Analyst Picks--our analysts' best ideas within every category.

Premium subscribers can click  here to run the same screen I did. Here are some of the highlights.

 Janus Mid-Cap Value (JMCVX)
In general, we'd urge investors to think twice about adding to funds in the mid-value group right now, given that this part of the market is coming off of an amazing run. But potential investors can take comfort in the fact that this fund's managers won't hesitate to assume a defensive position--and even raise cash--when they think the stocks in their investment universe are getting overheated. We also like the fact that the fund doesn't just stick with traditional value sectors; lately, for example, it has been venturing into some beaten-down technology stocks. That range gives the ability to perform well in a variety of market environments.

 ABN AMRO/Montag & Caldwell Growth (MCGFX)
Although growth funds can be dicey "first funds," as they're often too volatile to serve as stand-alone offerings, this is one we can recommend with comfort. Its manager, Ron Canakaris, is a seasoned hand who focuses on dominant growth companies but won't pay through the nose for them. This moderate tack generally leads to underwhelming returns in raging bull markets, such as 1999 and 2003, but the trade-off is that it holds its ground much better than its rivals when the market is slumping.

If You Have $250 or More to Invest
Finding money to invest while you're young is difficult, and that's why I'm such a big fan of dollar-cost-averaging programs (often called automatic-investment plans). Such plans require that you invest a predetermined sum at regular intervals, usually every month. That helps instill discipline in even the most undisciplined savers, and by putting money to work each month, regardless of whether the market is high or low, you can potentially generate a higher long-term return with lower volatility than if you had invested a big sum of money all at once.

To identify some of the best funds available through auto-investment plans with minimums of $250 or less, I again turned to our  Premium Fund Screener. (Premium Screener is available to Premium members of Morningstar.com. Click here for a free trial.) In an effort to cast a wider net, I didn't screen exclusively on Analyst Picks, but I did use nearly all of the same criteria I used in the previous screen.

You'll notice that funds from some of the big shops that didn't clear our previous screens--including Fidelity and T. Rowe Price--made the cut this time. Here are some of the highlights.

 Fidelity Capital Appreciation (FDCAX)
This offering is more aggressively positioned than any of the ones we've mentioned thus far. Manager Harry Lange is a former technology-fund manager, and he isn't shy about venturing into the volatile sector when he has identified companies with good upside potential. Would-be investors should therefore be prepared to ride out some volatility here, particularly given that Lange also makes room for smaller companies in this portfolio. But we like Lange's strategy of buying growth companies when he thinks they're trading cheaply, and it's certainly hard to argue with his execution of it, as the fund has been a top performer.

 TIAA-CREF Equity Index 
Investors seeking one-stop U.S. stock exposure would do well to give this fund a look. It tracks the Russell 3000 Index, which encompasses the 3,000 largest publicly traded U.S. stocks. True, rivals Fidelity and Vanguard offer cheaper "total stock market" funds, but this fund's $50 minimum initial purchase requirement (available with its automatic-investment plan) is tough to beat for smaller investors. Moreover, its 0.26% expense ratio is reasonable by any measure; the typical large-blend fund charges a full percentage point more per year.

A version of this article appeared Nov. 30, 2004.