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Funds

Fund Pairings for Your IRA

Making the most of limited space in your IRA.

A version of this article first appeared in the April 2019 issue of Morningstar FundInvestor. Download a complimentary copy of FundInvestor by visiting the website.

Picking funds for an IRA is a little tricky. The limits on yearly contributions make it challenging to build a complete portfolio. Furthermore, it's wise to view the IRA as a complement to the rest of your portfolio rather than as a stand-alone entity. However, IRAs do have their own set of rules and implied investment horizon both on the accumulation and withdrawal sides.

To me, it makes sense to have a good balance that covers wide ground even if it isn't complete. You don't want an important investment vehicle to be limited to a couple of niches or one corner of the Morningstar Style Box. With that in mind, I've selected some strong IRA ideas, but I've paired them in order to create solid complementary duos.

(If you really want a stand-alone portfolio from the beginning, I'd suggest a target-date fund that matches your retirement date. Vanguard and T. Rowe Price have two of the best series.)

I began by looking for good long-term bets: funds with high Morningstar Medalist ratings, reasonable costs, and dependable management and strategies. Then I paired funds, starting with combinations that give you the highest equity percentage to the lowest. Generally, an individual's age suggests how much bond exposure to have. But pensions, Social Security, and other holdings also come into play. If you have a substantial pension, it acts like a bond, so you can afford more risk in an IRA. One nice thing about IRAs and 401(k)s is you can adjust your allocation without generating a taxable event. So, if you want to dial up your fixed-income weighting, you could just move some of your IRA or 401(k) investments to bonds from stocks.

All Equity This combination of funds with Morningstar Analyst Ratings of Gold and Silver is best for those with a pension or who are in the early stages of portfolio building. In this pairing, I have selected two great stock-pickers: Larry Puglia of T. Rowe Price Blue Chip Growth TRBCX and Dan O'Keefe of Artisan Global Value ARTGX. There is only 6% overlap between these two funds because O'Keefe's value tests have little in common with Puglia's emphasis on growth. And Artisan Global Value is evenly split between U.S. and foreign holdings. An even mix of the two funds gives you 71% U.S. equity, 26% foreign equity, and 3% in cash. Although both funds have great long-term results, you can see the two have very different calendar-year returns. Artisan lost about 3% in 2015, while T. Rowe Price gained 11%. It flipped the following year, with a gain of 10% for the Artisan fund and a 1% gain for the T. Rowe fund. Last year, growth stocks fared best, and Puglia's fund gained 2% while O'Keefe's lost 13%.

The Rising Star and the Venerable Giant Once again, I am pairing value and growth, but this time there are bonds involved and a rising star. With low costs and a deep bench from Wellington, Vanguard Wellington VWELX is the picture of stability. It tends to have about two thirds of its portfolio in value stocks and one third in high-quality bonds. With a diffuse balanced fund in the fold, a bold stock-picking fund like Fidelity Overseas FOSFX makes a nice change of pace. Vincent Montemaggiore is one of Fidelity's most-distinctive stock-pickers. He isn't a pure growth investor like Puglia but more of a believer of high quality and low prices like Warren Buffett. There are no promises that he will have returns like Buffett's, but he is a thoughtful manager with a growing number of fans in the investment world. The combined funds have 81% in equities, but in this case, more of the equities are overseas rather than in the United States. My own preference is something like 50/50, but I don't worry too much about 60/40 in either direction.

Romick and Danoff I like the idea of combining two all-time greats here. Once again, you won't see much overlap (just 11%) between FPA Crescent's FPACX and Fidelity Contrafund's FCNTX holdings. Steve Romick likes value and cash; Will Danoff is all about growth. Romick's strategy is a little quirky, and that means it occasionally misses out on rallies even though it has great long-term returns. So, why not go with a great growth manager who always stays fully invested? This pairing has an overall equity weighting similar to the previous pairing, but nearly all of its equities are in the U.S., so you get a different risk profile.

Moderating Primecap's Aggressiveness With Some Income The Primecap funds are among my favorites, including Primecap Odyssey Growth POGRX. But they are pretty aggressive and vulnerable to growth corrections. So, let's pair Primecap Odyssey Growth with Vanguard Wellesley Income VWINX, which has just 37% of its assets in equity. Earlier, I used Wellesley Income's sibling, Vanguard Wellington, to dial down the risks of Fidelity Overseas. But I think Primecap is even more aggressive, so let's load on the bonds. Our combined portfolio has 67% in equities, though it doesn't have a lot of foreign-stock exposure.

Tame Stocks, Bold Bonds Owning Vanguard Total Stock Market Index VTSAX means you have a nice, reliable, super low-cost core holding. It still has market risk, of course, but that level of diversification smooths out some of the extremes, and low costs are an enduring benefit. So, if we're going the tame route with our stock fund, let's pick a really bold bond fund in Silver-rated Loomis Sayles Bond LSBRX. This fund invests in a wide range of bonds that are both investment-grade and high-yield. It owns foreign and domestic bonds and has some foreign-currency exposure, too. So, alongside our purely domestic equity fund, we're getting foreign-currency and debt exposure with our bond fund. The overall portfolio is 54% equities because Loomis has 7% in stocks.

The Income Machine Why go for income in a place like this? Well, if you are in required minimum distribution mode, this income can build up and meet your RMDs. Also, income outside of munis gets taxed at a high rate, so it's nice to get it in this format. To that end, I have combined mild-mannered JPMorgan Equity Income OIEIX and PIMCO Income PONAX. Yes, it's another bold/cautious combo, but these are two outstanding funds that also happen to generate income. You won't get much foreign exposure here, just excellent management and income. The end result is about an even split between stocks and bonds.

2 Stalwarts Cover the Globe Once again, we're at a roughly 50/50 split, but this time I've plugged in a global-stock fund, Dodge & Cox Global Stock DODWX, with PIMCO Total Return PTTRX. Now you get a healthy dose of foreign exposure and, in my opinion, two teams of tremendously skilled investment professionals. I think both funds are likely to be staffed with excellent managers and analysts for many years to come. Using PIMCO Total Return instead of PIMCO Income dials down some of the credit and nonagency mortgage exposure, but you still get an excellent bond fund. Both funds are rated Gold.

Focused Stocks and Cautious Fixed Income Yes, Bill Nygren's focused portfolio in Oakmark OAKMX is in one of its regular ruts, which seem to come about once a decade. So, to moderate those extremes, I've chosen a pretty mild-mannered bond fund that does not stray too far from its Bloomberg Barclays U.S. Aggregate Bond benchmark: Fidelity Total Bond FTBFX. Manager Ford O'Neil dedicates 80% to typical benchmark sectors such as mortgages, Treasuries, and investment-grade corporates, but he can put 20% in high yield and other higher-risk areas. Yet the fund still doesn't often stray too far from benchmark yearly returns even though its long-term returns are comfortably ahead. That should offset some of the risks taken by Nygren's value portfolio. Its recent returns look lousy, but he snapped back nicely when they looked this bad in 2009.

2 Team-Oriented Funds American Funds and Dodge & Cox delegate a lot of authority to a number of managers and analysts so that no one person dominates results. Because both firms have very high levels of manager retention, it makes for smooth manager transitions. So, let's put them together in the form of American Funds New Perspective ANWPX and Dodge & Cox Income DODIX. You get an excellent global-stock fund and a corporate-bond-heavy, investment-grade portfolio as ballast. American Funds New Perspective has a little more than half of its assets in foreign stocks, so the final mix is about 26% foreign equity.

Balanced and Bonds Because Dodge & Cox Balanced's DODBX bond portfolio is corporate-leaning, I thought I'd go with Dan Ivascyn's PIMCO Income, which favors nonagency mortgages and other asset-backed securities. Dodge & Cox Balanced is currently 61% in equities, though not too long ago it was around 70% equities. The combination of the two gives you a modest 31% in equities. If you are well into retirement or the rest of your portfolio is equity-heavy, this is a nice offset. To be sure, you could come up with a tamer combination if you really wanted to dial down risk--say, with Vanguard Total Bond Market Index VBTLX and Vanguard Wellington or Vanguard Balanced Index VBIAX. Those combinations would have less credit risk but maybe less return potential.

I think all of the mentioned funds would serve nicely in an IRA. And you don’t have to stop at two. You could put a few of these together for a robust well-rounded portfolio.

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