Develop Goal, Timeline First

Lost in the maze of mutual fund investments? Maybe the problem is that you’re starting at the wrong end.

That is what can happen, says investment planner and consultant Don Trone, if you begin the process of making a fund investment by studying the performance records of standout individual funds.

Choosing a fund manager or managers, Trone argues, is actually the last and least important step in a five-step “hierarchy of decisions” that ought to be followed when you decide where to put your money.

The process, he says, should begin with figuring out where you want to go and how much time you have to get there - before you even begin to pick the vehicle or vehicles to take you there.

Small investors aren’t the only ones who get dazzled by the attraction of star fund managers, Trone told an audience of professional investment planners.

“It’s the most common mistake the investment planner makes,” said Trone, who founded and heads the Investment Management Council division of Callan Associates Inc. “They reverse the hierarchy.”

One pitfall of chasing top-performing funds is embodied in the old warning “past performance is no guarantee of future results.”

But even if a top-rated fund can keep delivering the goods, there’s no way to tell whether it’s the right place for your money until you have some idea of what you want to accomplish.

Trone cites academic studies concluding that more than 90 percent of the difference in total return between investment portfolios results from “asset allocation,” or the choice of the TYPE of investments to make - stocks, bonds, money market securities.

Less than 5 percent arises from selection of individual securities (and less than 2 percent from market timing), according to this research.

So Trone argues that the procedure of deciding where to invest should follow these steps, in descending order of importance:

“1. What is the length of time that the portfolio can be committed to a specific investment policy?

“2. What asset classes (stocks, bonds, money-market securities) will be considered for investing?

“3. How much of the portfolio will be invested in each asset class?

“4. Within each specific asset class, what strategies will be used?

“5. Which manager(s) will be selected to manage each specific strategy or style?”