How should I invest in mutual funds?

May 13, 2009 11:20 AM

For investing small amounts every month, is a S&P 500 index fund or a tax-free bond fund more beneficial?

I know you are not my financial advisor, but I currently have about $200 in SWPIX, a S&P 500 Index fund. I've been doing some research, and found SWNTX, a tax-free bond fund that seems to be doing well (and have a good history). For small amounts of money (what I currently have plus adding an additional $20-40/month) would it be beneficial for me to split between the two funds, move completely to the bond fund, or to stay in the S&P 500? My goal is long term growth.

posted by stevechemist to Work & Money (11 answers total)

Stay with the S&P index fund.

If by "long term growth" you mean over the next, say, 30-40 years, you are likely to be better off investing in equities. Historically, equities have a ~7% annual appreciation, on average, which is much higher than fixed-income securities. The risks that you get, of course, are large: it could be that you buy at a really bad time (even if you have a multi-decade horizon, if you bought an S&P index fund in mid-2008 it'll take you awhile to catch up to where you would have been with fixed incomes), or that when you want to sell, it will also be a really bad time.

If you're investing over the long term, I also don't see the point of diversifying asset classes, really, by splitting between funds. You're likely to make less money. But on the other hand, you're less likely to suffer very large fluctuations.

But given that, right now, the market is below its long term average price-earnings ratio for the first time in a very long time, I'd say that this is a good time to be in equities.
posted by goingonit at 11:31 AM on May 13, 2009

Also, whether tax-free bond funds make sense for you really depends on your tax bracket. If you aren't in the top marginal tax bracket, you may instead want to consider a safe corporate bond fund---the yields are probably much higher, and may more than offset the additional tax you'd have to pay.
posted by goingonit at 11:37 AM on May 13, 2009

Agreeing with equities, but I'm curious what mechanism you use to invest this money. Scottrade charges $14 for mutual fund trades, which would eat up most of your $$$ (this is why I don't invest less than $1000 at a time for mutual funds, or $500 for regular stocks).
posted by coolguymichael at 11:39 AM on May 13, 2009

Coolguymichael: many mutual funds let you buy without any fees if you invest directly through the mutual fund company. Also, some online brokers (Ameritrade is one I know of) also let you buy some "no-fee" mutual funds for free.
posted by bsdfish at 11:50 AM on May 13, 2009

Since we don't know the ins and outs of your financial situation, I suggest getting personalized advice. There are a number of sites that ask you a set of questions (e.g., how much you plan on contributing, whether you're looking for long-term growth, your risk aversion) and suggest the right balance of investments for you. I personally like Sharebuilder, as their fee for trades is pretty minimal.
posted by emilyd22222 at 11:51 AM on May 13, 2009

I'm curious what mechanism you use to invest this money
I'd wager he's using a Schwab account. Most of their in-house funds don't charge a transaction fee of any kind. I think you can even set up an auto-transfer into the account where it'll buy a given stock or fund.

Any kind of investment holds some level of risk, but I'll assume the OP knew that. The S&P fund will likely go up and down a lot in coming months- probably more so than the bond fund. Given that the question mentions long-term growth, equities are going to beat bonds pretty much every time. This fund in particular is pre-diversified, so you're going to be tapping into all sectors at once. IANY financial planner, but I'd go with the SWPIX.
posted by JuiceBoxHero at 12:06 PM on May 13, 2009

I'd go with Vanguard's S&P 500 fund. They have no load funds and minimal fees. I've been very happy in the year and a half I've invested with them.
posted by reenum at 12:24 PM on May 13, 2009

He could be using a Schwab account or one through his bank; many banks, including ING as I recall, will waive per-transaction charges AND minimum levels if you set up an automatic recurring deposit.

The difference between the 0.36% overhead and the 0.18% on the Vanguard fund is pretty tiny, though perhaps enough of an impact on an amount this small to make it worthwhile.

I'd not bother with the bond fund. Why do you want to avoid taxes on such a small amount of money? If your goal is long-term growth then you have a higher capacity for loss and SWNTX has a focus on capital preservation. It's also got an expense ratio of 0.49%, higher than your S&P fund, which will eat into your gains.
posted by phearlez at 12:43 PM on May 13, 2009

Vanguard funds have a minimum investment that's larger than $200; the S&P index fund also has annual fees if you have under a certain amount of assets (I believe $10,000). So probably stick with Chuck for now.
posted by goingonit at 1:03 PM on May 13, 2009

A lot of brokerage firms and mutual funds waive their minimums and per-trade fees if you have dollar cost averaging set up.
posted by small_ruminant at 1:47 PM on May 13, 2009

If you do a 401k/ira/roth IRA then 99.5% of the time it is a bad idea to even think about "tax free".

I suggest reading up on Roth IRAs. This would give you the ability to get into stock funds like you were thinking AND you can avoid being taxed after the investment is made.

Unrelated: If you have a brokerage account you can usually deposit monthly (and earn interest in your account) and only purchase once in a while to keep your expenses down.

For what it is worth: I predict stocks will do better in the next decade than bonds. Also: never get your money advice from a stranger!
posted by santogold at 10:39 PM on May 13, 2009