Your Top IRA Picks
Readers weigh in with best ideas for core and explore roles.
We're kicking off an IRA Optimization Week on Morningstar.com this week. In anticipation, I recently asked participants in the Personal Finance forum of Morningstar.com's Discuss boards to share their IRA ideas for newer investors, particularly basic building blocks as well as supplemental holdings.
Users were eager to share their wisdom, and the responses rolled in fast and furiously. To read the complete thread, click here.
Keep It Simple
A broad swath of users preached the virtues of simplicity for IRA investors just starting out. Atlasandgalt laid out the case for why less is often more: "Simple is better than complex for portfolios, especially for the majority of people who do not have the time or depth of expertise to micromanage their holdings."
In the same vein, low-cost broad-market index funds and exchange-traded funds, all-in-one balanced offerings, and target-date funds all received multiple shout-outs as top first-stop (and perhaps last-stop) investment options.
Poster MarkSinger kicked things off for the index enthusiasts, calling for a global stock market ETF. "This is a no brainer! I assume the person is young because they are just starting an IRA (if they are just starting, I hope they're young!). I'd suggest buying Vanguard Total World Stock Index ETF (VT). It has a low expense ratio, 0.30%, and captures the entire world's economy. Over time, this is the bet to make because one never can predict the future accurately and global sectors, specific countries, and specific stocks and stock sectors are subject to unforseen changes." (I'm thinking like Mark; I recommended the same fund in a video with Morningstar Site Editor Jason Stipp this past week.)
Poster enigma also argued in favor of index funds for core IRA holdings, noting that they make a great way to kick-start a savings program for the kids. "I just opened Roth IRAs for my three children in lieu of traditional Christmas gifts. They are all in their 20s and just starting out. I bought them Vanguard Total Stock Market Index (VTI) for openers, a broad-based, core, domestic ETF. Funds with minimum investment requirements were too expensive, and fixed income didn't seem like a good idea right now. Future contributions for birthdays will include a foreign component, Vanguard FTSE All-World ex-US ETF (VEU). I told them that not saving for retirement at an early age was my biggest financial mistake, one that I hoped they would not duplicate."
Poster beecnul8r also favors index funds, and shared a recommended allocation of 60% in a U.S. index fund and another 40% in an index fund devoted to foreign stocks. "Both with Vanguard and both with auto reinvestment of dividend and income distributions. Simple, diversified, very cheap way to riches." Atlasandgalt chimed in with a similar formula, but added a dash of bonds to the mix.
Fillmoredds' index-based prescription was slightly more exotic: "I just did this with my son. For now, half in a Wilshire 5000 fund, 20% in a large-cap international fund, 20% in small caps, and 10% in emerging markets. He uses index funds with low costs wherever possible. If he sticks with it, he should be far ahead of me when he reaches my age."
Seeking All-in-One Simplicity
Rather than using individual building blocks to craft an IRA portfolio, other posters argued in favor of all-in-one options such as target-date and balanced funds for those just getting started.
Lengrav wrote, "To steal from Nike: Just do it. Get an account open and fund it. Set yourself up for automatic funding. Then 'keep it simple stupid' (KISS principle). Start with balanced funds."
PLAToday likes a target-date vehicle for IRA investors just starting out. "The simplest hands-off IRA portfolio would be to include a target-date retirement fund--T Rowe Price if you prefer a more managed approach or Vanguard for indexers."
Saji1986 likes T. Rowe for newbies who are starting to invest on a shoestring: "My son is 19 years old. Last year we set up a Roth IRA using a target-date retirement fund from T. Rowe Price (TRRNX). Also got him to use their automatic asset builder so it takes out $50 a month from his paycheck. Occasionally he gets an extra bonus from his company, and he is good about depositing 50% of his bonus into his Roth. For mutual funds, I love T. Rowe because they have such low minimums for investing, which I think is ideal for a young investor. Once he completes college, I would advise him next to contribute the max amount every year, having it taken right out of his paycheck so he gets used to living on whatever is left over."
Meanwhile, LavonJAW favors Schwab's target-date fund Schwab Target 2040 (SWERX) as a core holding, augmented by two supporting players: Schwab Global Real Estate (SWASX) and Gabelli Utilities and Energy (GABUX). "
In addition to the target-date fund enthusiasts, balanced funds also have many proponents among Morningstar.com users, with many touting their simplicity as a major selling point for new investors.
Poster DouglasJohnson argued that the ultimate plain-vanilla approach would probably trump most more active strategies: "One could do worse than dollar-cost averaging in and out of Vanguard Balanced Index (VBINX) for one's whole life. In fact, most do worse. Dollar-cost average in during the accumulation phase and out during the withdrawal phase. Be simple, low-cost, and well-diversified. In order to do better, one has to spend considerable time, effort, and money (in terms of investment mistakes) learning how to do better. It can be done, most people on this board probably have. However, for people that want to spend more time on other things in their lives, this works nicely."
Poster w004dal is also a Balanced Index fan, noting, "I really like Vanguard Balanced Index--indexed, low fees, and yields are currently greater than S&P, with small-, mid-, and large-cap exposure. I also am partial to Vanguard STAR (VGSTX), especially for new investors because of its low minimum of $1,000. My recommended asset allocation would be $4,000 in Vanguard Balanced Index and $1,000 in Vanguard STAR."
Other posters argued in favor of balanced offerings outside of Vanguard, with Oakmark Equity & Income (OAKBX) receiving multiple enthusiastic mentions. Rac98g wrote, "Six years ago, I recommended Oakmark Balanced to a friend who was new to investing. I'm glad I did because he didn't freak out when the bear market came. His downside was more limited, and thus he stayed the course. The friend was in his late 20s at the time so this doesn't fit what traditional asset allocation might say--that bonds equal your age (in terms of percentages). However, I do think it was/is a good fit for a new investor. He still holds the fund today and adds money each month."
Poster Idaho73, meanwhile, likes Janus Balanced (JABAX) and Fidelity Balanced (FBALX). Meanwhile, DavidP's list of all-in-one IRA picks also included Janus Balanced, as well as FPA Crescent (FPACX) and Vanguard STAR.
All Stocks, All the Time
Rather than casting their lot with all-in-one vehicles, other users argued in favor of pure stock funds to take advantage of newbies' long time horizons.
For younger people, Daedalus argued, volatility can actually be a friend. "For a young person who is under 30 years of age, I would suggest a portfolio that is allocated 100% to stock mutual funds. This portfolio is assumed to be for retirement and volatility should make no difference until retirement is near. In fact, volatility would enhance returns as more stock would be added during down years. It would be absolutely imperative that the individual understand what volatility and long-term investment returns mean. I would include one large-cap fund such as Fidelity Contrafund (FCNTX), a mid-cap fund such as Fidelity Low-Priced Stock (FLPSX), and a global overseas fund, such as Janus Overseas (JAOSX).
Dragonpat is also satisfied the all-equity IRA portfolio he helped his daughter set up. "My 24-year-old daughter started working last year for a company that does not allow 401(k) contributions until after you have worked there a year. She asked me to help her set a plan for saving for retirement. I helped her set up a Roth IRA at Fidelity. I started her off with $2,500 of Yacktman Fund (YACKX). After six months she had enough to buy a second fund. [With] the second $2,500 I bought Harbor International (HIINX) (international core holding). She's young enough to stick with an all-stock portfolio for a while."
Maxpower is also gunning for long-term growth in his IRA, noting, "I'm swinging for the fences in my Roth with Wasatch Emerging Markets Small Cap (WAEMX). I'm thinking you take bigger risks with your Roth because of the tax benefits and compounding."
Doug89, a user with an impressively long time horizon, shared the following: "I'm 21 and my largest holdings all come Morningstar recommended: I'm split between Perkins Mid Cap Value (JMCVX), Vanguard Dividend Appreciation ETF (VIG), and WisdomTree Emerging Markets Small Cap Dividend ETF (DGS). My reasoning is that I can take on more uncertainty (through Markets Small Cap Dividend and Perkins Mid Cap Value), but I'd also like to go the dividend growth route, especially in a tax-sheltered account."
Roy222's short list also includes many of Morningstar analysts' favorites, including Dodge & Cox Balanced (DODBX) and Dodge & Cox Global Stock (DODWX), Sequoia (SEQUX), Primecap Odyssey Aggressive Growth (POAGX), Weitz Partners III Opportunity (WPOPX), Fairholme (FAIRX), Sound Shore (SSHFX), Masters' Select International (MSILX), and PIMCO All Asset (PAAIX). He advised, "Go with Fund Analyst Picks in general (establish beachheads in ones that look like they might close in the not-too-distant future...)"
Arora1 vouched for active offerings with slow and steady approaches, noting that he seeded retirement accounts for his children with First Eagle Sogen Global (SGENX), Fidelity Contrafund, Fidelity Low-Priced Stock, Mutual Shares (MUTHX), Mutual Discovery (MDISX), and Vanguard Wellesley Income (VWINX). "Their accounts have done amazingly well compared to all the benchmarks," he noted. "Hands down, overall, the winner has been First Eagle Sogen."
Show Them the Money
While the above posters prioritize capital appreciation for investors just starting out, other posters are in "show us the money" mode, recommending income-producing securities for part or all of a newbie's IRA portfolio.
Exemplifying this mindset, pquilici wrote, "My recommendation for all new 401(k) investors is to limit investments to securities that pay. I recommend starting to build a portfolio including bonds, convertibles, preferreds and dividend paying stocks. I would emphasize closed-end funds with some exceptions in open ends such as Fidelity's floating-rate fund."
Rgpause noted that dividend payers are ideally suited to IRAs because of their tax-sheltering features. "I recommend that everyone have at least one high-yielding REIT in their IRA, and reinvest the dividends. An IRA is the perfect way to shield the dividends from taxes, and compounding the dividends multiplies your return."
Pickyone vouched for individual stocks of dividend-paying firms, including Southern (SO), Exelon (EXC), and PPL (PPL), noting, "I have more than doubled my IRA in the past five years by doing this, investing in Annaly Capital Management (NLY) and Nationwide Health Properties (NHP).
Vandy73 has also urged his son to go the individual stock route for his IRA. "I've recently started a Roth for my son by contributing an amount equal to his gross summer job income. I've opened his account at one of the firms that allows fairly cheap online trading. I've stuck primarily to core stocks, buying a minimum of $1,000 to minimize the purchase costs. I don't like load funds and buying no-load funds through these online brokers is pretty expensive with limited funds. I have found that buying large, well-established companies that have an international market, at a time when they are trading off because of setbacks in either their reports or the market, in general, has turned out well."
Other Sage Advice
In addition to providing specific investment recommendations, users also weighed in with other advice to new IRA investors.
Just getting started was on many posters' to-do lists for new IRA investors. TOOOINTENSE wrote, "I tell all the young people that will listen to put as much money as they possibly can in a Roth IRA, as soon as they can. I then explain compounding interest and tell them they could be millionaires. That always gives them enthusiasm."
AlphaOmegaA shared a similarly no-nonsense to-do list: "Start young and endure the hardship necessary to maximize your contributions each year, especially to a Roth. If you're going to actively trade, keep Uncle Sam away from your hard-earned capital gains by doing it in a tax-advantaged account like an IRA. Finally, always have some exposure to investments that won't necessarily move in lockstep with the market at large."
The importance of finding the right asset allocation appeared in several posts. Darwinian shared the following strategy for newbies: "I assume we are speaking of a young investor with more than 30 years until retirement and who also has adequate cash reserves set aside for emergencies (if not, don't start an IRA). For an investor with this long a time horizon, a suitable plan would be to use dollar-cost averaging into 25% emerging markets, 25% U.S. small caps, 25% small-cap value holdings, and 25% conservative stocks (perhaps some mixture of U.S. large-cap value holdings and consumer staples). Use low-cost funds or ETFs. Rebalance annually. Of course, this highly volatile portfolio will take some losses. It is best to learn about this possibility when you are still young enough that it doesn't matter, rather than discovering it by surprise when it is too late."
NYCKid also believes in the virtues of a well-conceived asset-allocation plan, writing, "Assuming a reasonably intelligent investor who wants to develop a foundation for making her own investment decisions, I would try to design a portfolio that would get her started learning and thinking about the interplay of asset classes and core versus noncore holdings. I would also introduce her to some high-quality bond managers." He went on to share a recommended starter allocation, including exposure to well-diversified stock and bond funds as well as REITs and emerging markets.
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