Create a balanced fund with your own fixed-income securities

Though balanced funds are extremely popular with Canadian investors, we see little appeal in these investment products. It’s better to create your own balanced fund by selecting stock funds and fixed-income products according to your own needs.

We include one balanced fund in our recommended Mutual Fund list. But we recommend you buy it only if you would rather not do the work it takes to set up a portfolio of securities that’s more suitable for you.

Balanced funds, of course, are extremely popular with Canadian investors. After all, they command nearly 50 per cent of all assets Canadians hold in mutual funds. That’s up considerably from about 15 per cent a decade ago.

But we see little reason to be part of the crowd. A better solution is available for any investor willing to put in some time.

You’ll likely save money and enhance your control over your asset allocation by effectively creating your own balanced fund. All you need do is invest in some stock funds and some bond funds. Indeed, most fund companies offer stock funds similar to the stock portion of their balanced funds. And the same goes for bond funds with respect to the bond portion of their balanced funds.

What’s more, because of the nature of the bond market, you can invest in ultra low-cost bond funds and significantly reduce your overall management expense ratio.

Exchange-traded bond funds offer you bond exposure with minimal cost. And with some of these products, you can feel confident you’ll know exactly what will be in them at any given time, such as those that ladder their maturities over a one- to five-year period.

Managed bond funds, on the other hand, are generally too expensive. And that’s especially true with interest rates as low as they are now.

The real bonus from creating your own balanced fund, however, lies in the added control it affords you. By holding your investment in these two asset classes — equities and fixed income — separately, you can adjust your asset mix yourself.

If you’d like to add some equity exposure at a time when prices are down and risk has been reduced, simply add to your stock funds. If, on the other hand, you’d like to raise some cash by reducing your exposure to equities, you can.

You simply don’t have this kind of control when you hold balanced funds.

You can, of course, increase your control further by owning fixed-income securities (bonds, stripped coupons, mortgages, GICs, etc.) directly. That way, you can invest in securities that mature when you need the cash. That’s something you generally can’t do with bond ETFs or managed bond funds.

We can think of only two reasons to invest in balanced funds. First, it’s the ultimate in simplicity. But for that convenience you’ll pay.

Second, balanced funds appear to offer professional judgment on allocation between stocks and bonds. But we consider that decision a highly personal one. And your balanced-fund manager doesn’t even know you.

Heed those sales charges

Whether you decide to invest in a balanced fund, or do your own asset allocation through picking stock and bond funds, keep in mind that management expenses are not the only fees that will affect your results over time. Eight of the sixteen funds on our recommended list charge front-end and/or back-end fees. If you pay the five per cent front-end load commonly specified with such funds, you can multiply your final performance by 0.95.

So if you invest $10,000 in a no-load fund, and it increases in value by 10 per cent after management expenses are accounted for, your final result is $11,000. If, however, you pay a five per cent front-end load, multiply $11,000 by 0.95 and your final result is $10,450.

Any time you choose a fund with a front-end load, always check the prospectus for a service fee. If it’s there, and it usually is, then negotiate especially vigorously for a reduced commission. Aim for no more than two per cent of your investment. After all, the agent still has plenty of incentive to get your business.

If there’s a choice between front-end and deferred charges, make sure the deferred-load alternative doesn’t entail an increased annual management fee. Over years, that can more than offset a small front-end load.


Money Reporter, MPL Communications Inc.
133 Richmond St. W., Toronto, On, M5H 3M8, 1-800-804-8846

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