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Diversify or consolidate

Chris Farrell Feb 17, 2011

Question: Some friends at retirement age have invested all of their savings in one family of mutual funds, a well respected fund (Templeton). My advice to them was to further diversify by dividing savings among multiple funds. My rationale was that any fund/equity is basically trusting in the decisions of one or a group of people. People are fallible therefore further diversification is wise? Jack, Tallahassee, FL

Answer: You’ve raised two important issues about diversification. Yes, it’s easier to manage a retirement portfolio if the money is at one institution, but after the Lehman Brothers collapse and the Bernie Madoff scam is the price of convenience too high for the retiree? Secondly, are your friends not earning as good a financial return on their money as they could by sticking with one mutual fund company?

To the first question, I don’t think your friends are making a risky bet by consolidating. The second question is a tougher one to answer. But my bottom line is that for most people it doesn’t matter so long as the mutual fund company offers low fees, sound investment options, and good service. In other words, it all depends.

On institutional diversification, the most important factor is that their money is invested in the actual securities. The money managed by their mutual fund company is kept in separate trust accounts at a custodial bank. In other words, even if Templeton, Fidelity, Vanguard, or some other major mutual fund company got into trouble they will still own the actual securities in segregated accounts held at another institution. It’s strong firewall from mutual fund company failure or fraud.

Of course, ownership doesn’t prevent the value of their portfolio from plummeting. It does protect you from theft.

On the second question, you’re right: No one mutual fund company has the best stock pickers, bond mavens, international equity asset allocators, and so on. There are financial gains to seeking out the better managed funds in each asset category. However, I wonder how much of a financial gain/financial penalty there really are for the average retiree in practice?

I think most retirees should own a conservative, high-quality well-diversified portfolio. If the mutual fund company offers that kind of portfolio choices at a low-cost with good service I’m not sure it’s worth the extra effort to put the money elsewhere. However, it’s a worthwhile investing approach for anyone who enjoys managing their money.

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