Playing it safe not always best idea

The Baltimore Sun

In the investment world, lessons sometimes can be learned too well.

Slammed by the stock market's plunge of 2000-2002, many individual investors have since stuck with a conservative strategy.

Now, after 4 1/2 years of rising share prices, some people may be wondering if they've been too conservative for their own good.

The cautious mood that has marked this decade shows up in small investors' approach to mutual funds.

Even as most U.S. stock market indexes hit or neared record highs in the first half of this year, Americans couldn't work up much of an appetite for domestic stock funds.

And the single most popular fund category this year is as dull as its name: intermediate-term bond funds, which invest largely in conservative corporate and government bonds.

In part, the ebbing cash flows into conventional stock funds reflect the rise of exchange-traded funds, which track broad or narrow market indexes and allow investors to better customize their stock portfolios.

But even including purchases of ETFs, net cash inflows to domestic stock funds lagged behind bond fund inflows in 2006 and are doing so again this year, according to Financial Research Corp., which tracks fund data.

It is Financial Research's data that show intermediate-term bonds as the single best-selling category of conventional funds and ETFs this year, with a net cash inflow of $32 billion in the first five months, double their intake in the same period of 2006.

The demand for bond funds may be receiving a boost from investors' growing use of so-called target-date mutual funds in retirement savings plans. Target-date funds invest in other stock and bond funds in a mix designed to shift more toward bonds as the investors near retirement.

Because bonds offer much more stability than stocks, it also makes sense that aging baby boomers would be turning more toward them as they approach retirement.

That portfolio "rebalancing" may be a key factor in the shift toward bond funds.

Another element of rebalancing has been the tilt toward foreign stock funds in recent years. Many U.S. investors ignored foreign markets in the 1990s. No more.

On average, foreign stock funds have outperformed domestic funds every year since 2003, and that streak continues this year. As their performance has surged, investors have poured money into the funds.

The upbeat view of the foreign-investing wave is that people finally are globally diversifying their portfolios, which could be critical to their long-term success.

But it's also likely that simple performance-chasing is a major driver in the popularity of foreign-stock funds over domestic funds, said Russ Kinnel, director of fund analysis at Morningstar Inc. in Chicago. There's a danger, he notes, that investors who've become enamored of foreign funds in this fat period don't fully appreciate how volatile they can be over time.

Yet even in the continuing rush to foreign funds there are signs of investor caution, Kinnel said. "The good news is, they're picking really well," he said of investors' top choices among foreign funds. Large, well-diversified, low-cost funds dominate the list of the most popular foreign portfolios.

Another sign that investors are becoming more risk-averse about foreign funds: Net cash inflows to emerging-market funds have dropped 45 percent this year from the year-earlier period, Financial Research said.

All in all, it could be that individual investors are showing what would amount to remarkable prescience. If the global bull market is nearing a peak, people who have been avoiding stocks will feel smart, or lucky, or both.

But there's also a chance that investors' caution with mutual funds is a sign that the market hasn't yet entered the phase of frenzied buying that typically marks a top.

And for people who have mostly been sitting on the sidelines of the stock market for 4 1/2 years, this reminder burns brightly: You can play it too safe.

Tom Petruno writes for the Los Angeles Times.

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