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Featured in this booklet
Clip and Save: 20 Common Investing Mistakes Compliments of Morningstar Library Services Even tough markets have opportunities. Our
top analysts map out the New Year with tips for
where to invest in 2009.

The past year has been unforgiving, to say the least. Dramatic market fluctuations, historic government intervention, and hard-hitting corporate failures have struck fear in the hearts of many investors. That is why we have created the “Where to Invest in 2009”guide. There’s never a “sure thing” in investing, but there are certainly steps you can take to make informed decisions and stack the odds in your favor. This booklet maps out what our top analysts are saying about 2009 and some decisions you can make to diversify your portfolio, create long-term wealth, and secure your future. Remember, tough markets can present opportunities. This booklet includes insight from some of Morningstar’s top analysts, who cover: 3 The 10 Best Companies in the World—Paul Larson, Morningstar StockInvestor Editor 3 The Best Funds for 2009—Andrew Gogerty, Morningstar Mutual Funds Editor 3 Retirees’ 2009 Survival Guide—Christine Benz, Director of Personal Finance and Editor of Morningstar PracticalFinance 3 Clip and Save: 20 Common Investing Mistakes—Russel Kinnel, Director of Fund Research and Editor of Morningstar FundInvestor This booklet is just one of the many Morningstar tools available to you. If you would like to research the particular investments discussed in this booklet or learn more about investing in general, visit your local library and log on to Morningstar Investment Research Center. You will immediately gain access to valuable research and analysis on nearly 35,000 stocks, mutual funds, and exchange-traded funds, as well as in-depth industry data and our numerous investment-specific articles. The Morningstar Investment Research Center Portfolio X-Ray® tool can even help you analyze your current portfolio holdings and help you decide where you might make changes. If your library does not subscribe to Morningstar Investment Research Center, let your librarian know that you are interested, or suggest that they request a 30-day free trial. You can even e-mail us at libraryservices@morningstar.com to find out more about the database and how you can help bring it to a library near you. 10 Best Companies in the World
We have more than 2,000 companies in our stock and a narrow one. If there’s any doubt, we gener- coverage universe at Morningstar. Only about ally assign a company a narrow-moat rating be- 9% of these companies have sustainable competi- cause we’d rather err on the side of conservatism. tive advantages large enough to warrant our On the other hand, there are some companies with wide economic moat rating. This report whittles such obvious competitive advantages and fantastic the list down even further to what I feel repre- profitability that it doesn’t take any deliberation sents the very best of the best, the companies with at all to assign them wide-moat ratings. These are what might be called “superwide” moats.
the components of a buy-and-hold investor’s “dream team.” These firms typically increase their Let me explain why moats are so important.When intrinsic value year after year, putting time and the a company develops a profitable product or miracle of compounding on your side.
service, it isn’t long before other firms try to capi-talize on that opportunity by producing a similar— That said, no matter how great a company is, disci- if not better—version. Basic economic theory says pline and valuation are still critical aspects of the that in a perfectly competitive market, rivals will investment process. Buying great companies when eventually eat up any excess profits earned by a they’re expensive is a recipe for mediocrity; buying successful business. In other words, profits attract them when they are cheap works very well.
competition, and competition makes it difficult for firms to generate strong growth and earnings So keep your eye on these wide-moat companies during an extended period. But the outlook for in 2009: Monitor their fair values and star ratings companies with wide moats is considerably better on Morningstar Investment Research Center. And if because they have structural barriers in place they fall into buying range, back up the truck! that will allow them to earn excess profits for many years.
Berkshire Hathaway BRK.B
For decades, Berkshire Hathaway has been a
Although we have some guidelines—most notably wealth-creating machine for owners. While we a return on capital that exceeds a company’s cost expect some eventual changes at the top, we of capital—our moat ratings are more art than sci- still believe the conglomerate will do well by its ence. No single figure in an annual report will tell us the width of a moat. Rather, it takes a careful qualitative analysis of the business, backed up by The key question surrounding Berkshire has been empirical financial evidence that excess profits are what will happen to the firm once longtime chair- being created, to see if a company has a moat.
man Warren Buffett and his partner, Charlie Munger, either step aside or pass on. While it is Not all wide-moat companies are created equal. highly unlikely that whoever succeeds this duo Some sit right on the border between a wide moat will be able to replicate their success—in part because of Berkshire’s massive size now—we cash into fixed-income securities. More recently, think the model that Buffett has built will give his Berkshire’s MidAmerican subsidiary agreed to eventual successor a leg up on the competition.
purchase Constellation Energy CEG, and Berkshire
also made a significant investment in Goldman
For example, on the operating side of the business, Sachs GS. In each of these cases, Berkshire acted
Berkshire is run in a decentralized fashion, which as a liquidity provider for a very good businesses obviates the need for layers of management con- in need of cash, and as such was able to extract trol and pushes responsibility down to the subsid- iary level, where managers are empowered to make their own decisions. To us, this makes intui- tive sense, given that these managers know the Berkshire’s returns will moderately increase over most about their respective businesses. As such, the next few years, which should help acceler- we expect the bulk of the responsibility for whoever ate the conglomerate’s continued wealth creation eventually takes on the CEO role will be deter- mining incentives for each business and monitoring succession planning at the subsidiary level.
Analyst: Justin Fuller
On the investing side, while it’s unlikely that Chicago Mercantile Exchange CME
Buffett’s eventual replacement will be able to out- CME Group was formed from the merger of the shine his results, we think the organization’s Chicago Mercantile Exchange and the Chicago
patient culture and long-term time horizon will give Board of Trade CBOT in 2007. It is the largest
this person a slight edge over peers on invest- futures and options exchange in the world serving ing Berkshire’s prodigious cash flow in equities or the hedging, speculation, and asset allocation needs of institutions and individuals. CME Group has been able to generate profit margins Regarding the latter, we think Berkshire’s model of exceeding 50% for the last three years, but it’s “buying forever” creates an advantage vis-a-vis unknown if the company will be able to defend its private-equity firms, as many entrepreneurs seek profitability from its powerful customer base, to find a home for their life’s work and often offer competitors, and government regulators.
a buyer like Berkshire an attractive entry price, helping to boost Berkshire’s long-term returns.
CME Group has a powerful business model that comes from the synergy of its vertically integrated Today’s tumultuous markets have created opportu- clearing house, liquidity pool, and products. nities for Berkshire to buy assets on the cheap, CME possesses its own clearing house that acts in typical Buffett fashion. Through the first part of as the buyer to every seller and seller to every 2008, Berkshire deployed significant amounts of buyer. Having a central clearing house as the counterparty enables the efficient offset of con- The costs to run an exchange are mainly fixed, so tracts and reduces counterparty credit risk. additional revenues flow largely to the bottom line. Consequently, the clearing house locks customers CME Group’s high degree of operating leverage is into having to deal with CME. The basic function the main reason that CME’s operating margins of an exchange is to provide a locus for buyers and have doubled from approximately 30% in 2001 sellers to meet. Being the largest futures and to almost 60% in 2007. It is also this leverage that options exchange gives CME a large self-perpetu- made CME’s merger with CBOT a logical choice ating pool of liquidity that reduces market impact and makes its proposed acquisition of the New
costs for customers. Even though liquidity by York Mercantile Exchange NMX also compelling.
itself is a powerful enough force to ensure that CME keeps its customers, several of CME’s prod- Analyst: Michael Wong
ucts, such as futures tied to equity indexes, are based on exclusive licensing agreements, so aren’t Fiserv FISV
Bank technology provider Fiserv benefits from its sticky customer relationships and a leading Customers, competitors, and regulators have taken market position. We think its new focus on notice of CME’s margins and are itching for a cost-cutting will drive some incremental improve- redistribution of its economic profits. Many of its ment in its already solid performance. Also, the customers are investment banks and hedge funds acquisition of CheckFree will only improve Fiserv’s that would benefit from lower transaction and clearing fees. To stimulate lower pricing, invest-ment banking customers have even gone so far as Fiserv’s main business, which accounts for more to form a consortium backing the nascent than 70% of pro forma revenue (excluding pass- Electronic Liquidity Exchange ELX. ELX’s first
through items), is core processing and related product is likely to compete with the interest rate products for banks. Core processing is the nuts- futures which comprise more than 30% of CME’s and-bolts system that banks need to maintain their daily contract volume. Other exchanges have also deposit and loan accounts and to post daily been eyeing CME’s products. The Intercontinental
transactions. Given the integral nature of core pro- Exchange ICE has gained exclusive licensing
cessing to their operations, banks rarely switch for futures related to Russell indexes that for years systems. Besides the potential for interruptions, have been traded at CME. Government regulators converting to a new system would require the have taken a look at the vertical integration banks to retrain employees. Customers typically of clearing houses and exchanges and it is a possi- sign three- to five-year contracts and customer bility that legislation could be proposed that retention is very high, about 99% annually, exclud- decouples this relationship and would erode one of ing customers lost because of acquisitions by CME’s primary competitive advantages.
another bank. Its leading 34% market share gives Fiserv an edge in this scalable business. Fiserv’s Intuit INTU
sticky customer relationships and cost advantages Intuit is the undisputed leader in the accounting add up to a wide economic moat, in our opinion.
software market. The company has built a loyal customer base for its Quicken and TurboTax (per- Fiserv historically has been very acquisitive, com- sonal finance and tax) and QuickBooks (small- pleting more than 140 acquisitions since its business accounting) products, which simplify diffi- inception in 1984. In the past, Fiserv has generally cult and unpleasant tasks of preparing tax returns been content to leave acquired companies free to operate their business independently. However, recently CEO Jeff Yabuki has led a move to focus Intuit’s franchise is protected by a wide moat on cost saving through centralization. The fact based on high switching costs. Once customers that Fiserv has 68 internal e-mail systems suggests become familiar with a product, the time it takes that there is plenty of low-hanging fruit. Overall, to learn a new application and to transfer data we think this change in course should create mod- makes it uneconomical to switch to a compet- ing product. Such switching costs lay the founda-tion of Intuit’s competitive advantage and serve Fiserv has also made moves recently to reposition its business. The company has been selling its nonbanking businesses and recently acquired elec- In spite of its dominant market share, Intuit contin- tronic bill payment provider CheckFree in a deal ues to get bigger. The company grows along with valued at $4.4 billion. We like both moves as we its 3.5 million small-business clients who buy think the sale of its nonbanking businesses will QuickBooks upgrades as their needs become more allow the company to focus on its most attrac- complex. And with 600,000 new small busi- tive segment and the combination of leading posi- nesses formed every year and 24 million already in tions in core processing and electronic bill pay- existence, Intuit still has room to grow. On the ments will cement Fiserv’s position as the leading TurboTax front, its potential is equally good. In bank technology provider. As the first mover into 2007, TurboTax was used to file more than 21 mil- the electronic bill payment industry, CheckFree has lion tax returns out of 132 million, representing been able to build a huge lead. This gives the only 16% of the total market. Intuit’s strategy is to company a marked cost advantage because of the go after nonusers and the pen-and-pencil filers scalability of the business. Furthermore, CheckFree and to disrupt more expensive alternatives like the has a big growth runway in front of it. Only about H&R Block HRB franchise.
30% of bills are currently being paid electronically, and electronic bill payment adoption is expected to The company continues to charter unknown territo- ries. In 2006, it bought Digital Insight, a provider of online banking applications for small banks. Analyst: Brett Horn
Through the acquisition, Intuit gained a new cus- Johnson & Johnson holds a leadership role in tomer base comprising millions of online diverse health-care segments, including medical banking customers. In essence, Digital Insight has devices, over-the-counter medicines, and several created a new channel for Intuit to distribute its pharmaceutical markets. Contributing approxi- products to consumers who prefer to use Internet mately 40% of total revenue, the pharmaceutical banking to track their finances rather than buy division boasts several industry-leading drugs, including rheumatoid arthritis drug Remicade. The medical device and diagnostics group brings in Intuit’s business is not without its challenges. In more than 33% of sales, with the company holding the TurboTax market, the company is vulnerable controlling positions in many areas, including to Free File Alliance, a free tax-filing offering from DePuy’s orthopedics and Ethicon Endo-Surgery’s the IRS and 20 tax software companies. This surgical devices. The consumer division largely offering is available for taxpayers who make less rounds out the remaining business lines. The than $50,000 annually—70% of all the tax-filing recent acquisition of Pfizer’s PFE consumer busi-
population. Although Intuit claims that eligible Free ness further solidified Johnson & Johnson’s posi- File consumers are willing to pay for TurboTax because it saves time on data entry, Free File could curb TurboTax growth in the long run. In addi- In addition to the existing product lines, research tion, we expect TurboTax business to decelerate and development efforts are resulting in next- given its past explosive growth and the intensify- generation products. The pharmaceutical group has a robust late-stage product pipeline with more than 10 potential blockbusters in Phase III develop- Analyst: Morningstar Analysts
ment. The company has also created new medical devices, including ceramic orthopedics and mini- Johnson & Johnson JNJ
Johnson & Johnson stands alone as a leader across the major health-care industries. The com- These multiple business lines generate substantial pany maintains a diverse revenue base, a robust cash flow. Johnson & Johnson’s healthy free cash research pipeline, and exceptional cash-flow gen- flow (operating cash flow less capital expendi- eration that together create a wide economic tures) is close to 20% of sales. Strong cash gener- moat. Patent losses on antipsychotic Risperdal and ation has enabled the firm to increase its dividend neuroscience drug Topamax, as well as recent for the past 44 years, and we expect this to contin- side-effect concerns with anemia drug Procrit, will ue. It also allows Johnson & Johnson to take weigh on near-term performance. However, we advantage of acquisition opportunities that will remain confident that the company’s breadth can Diverse operating segments, coupled with expect- to another is costly, and the incentives aren’t that ed new products insulate Johnson & Johnson from high. On the merchant’s side, merchant acquirers the research and development cycle facing the have an interest in acquiring as many transac- pharmaceutical group. While the company faces tions as possible and have no incentives to stop more than $6.3 billion (10% of sales) in patent acquiring MasterCard’s cards. Merchants cannot exposure through 2009, we project strong growth afford to reject MasterCard because of the poten- from the remaining business lines to offset these tial loss of sales. MasterCard invests heavily in losses and yield slight growth over the next two its brand to ensure that spending on its cards con- years. After 2009, the company’s patent exposure tinues. With its “Priceless” marketing campaign, is greatly reduced, setting Johnson & Johnson up the brand is now better recognized globally and cardholders all over the world know they can shop with it anywhere.
Analyst: Damien Conover, CFA
With all these competitive advantages, we think MasterCard MA
that MasterCard is one of the few companies MasterCard operates the second-largest open-loop that is set to benefit from the global trend of mov- card network in the world. The firm’s clients are ing away from cash and checks toward electronic financial institutions that issue MasterCard cards forms of payment, including cards. We believe to their clients and process card transactions. this shift, along with increased acceptance of When a cardholder swipes a MasterCard card, the cards for almost any type of payment, paints a merchant transfers the card information with picture of a very fertile field of long-term growth the transaction details to an acquirer—a transac- tion processor such as First Data, which services merchants by connecting them to the card net- MasterCard’s Achilles’ heel is its legal problems. work. MasterCard then facilitates the authorization, Most of the lawsuits against the firm relate to clearing, and settlement of the transaction and alleged anticompetitive behavior by the firm in charges different fees for each processed transac- prior years. Another problem is regulators scrutiniz- tion. In addition, MasterCard also charges card ing the interchange fee, set by MasterCard, that issuers assessments for the right to issue its cards.
is paid by merchants to card issuers. We have incorporated a reserve for future legal liabilities in We think that connecting thousands of financial our valuation, and we are monitoring develop- institutions through a card network garners MasterCard a wide economic moat. MasterCard has contracts with thousands of issuers around We are also watching very carefully the change the world that offer its cards to their customers. in the competitive dynamics in this sector in the For issuers, switching from one card network United States. American Express AXP and
Discover Financial DFS are changing their busi-
of private-label spices and seasonings in North ness models in order to take market share America. This allows it to limit the threat posed by from MasterCard and Visa V. At this point, we
private labels, ensuring that no other company don’t model dramatic drops in MasterCard’s gains enough scale in this segment to significantly volumes in the U.S., but we will monitor the situa- affect the pricing of McCormick’s branded offerings.
tion and adjust our expectations pending any new information.
McCormick also dominates in the industrial busi-ness and is a leading supplier to the largest Analyst: Michael Kon, CFA
multinational packaged food, beverage, and res-taurant companies. McCormick is one of only a McCormick MKC
handful of global firms that has expertise across McCormick’s dominant scale and command over all flavor disciplines, making it a one-stop shop the spice and seasoning market make for a wide for packaged-food companies and restaurant chains looking for new flavors or textures to add to their products.
McCormick controls at least half of the market for spices and seasonings in North America and is To spur sales growth, McCormick has looked to more than twice the size of its next-largest brand- product innovation and acquisitions. The com- ed competitor. With leading brands such as pany is revitalizing its U.S. spice business with McCormick, Lawry’s, and Old Bay, the company contemporary labels, new flip-top caps, and gravi- has sustained solid sales growth and profit- ty-fed merchandising systems, which have ability in its category. Over time, the company has improved product awareness and sales. McCormick introduced new products on top of its trademark also acquired Thai Kitchen and Simply Asia in brands while maintaining its value-added focus on 2006, both of which are well-positioned in the fast- flavor. At the end of 2007, about 10% of sales growing Asian packaged-foods category. Addi- were from products introduced in the last three tionally, the company recently purchased Lawry’s, years, and the bulk of consumer sales came its only real remaining competitor in the spice from value-added products, such as grinders and and seasoning aisle. We wouldn’t be surprised to see more acquisitions, especially as Kraft Foods
KFT is rumored to be shopping some of its smaller
McCormick is able to dominate the spice and brands that may interest McCormick, such as the seasoning market because of one of the biggest A.1. steak sauce brand and Grey Poupon mustard.
problems facing consumer packaged-goods companies: private labels. Many consumers Analyst: Ann Gilpin
choose the less expensive private-label offerings. However, McCormick is also the largest producer Microsoft MSFT
SaaS brings a new set of challenges, but we Microsoft’s traditional software businesses are believe Microsoft is one of the few firms with the firing on all cylinders, but the advent of Web- resources to get in the game. The infrastructure based software will pose a significant challenge cost required to provision SaaS on a large scale will total in the billions, and this will be a sig- nificant barrier to entry. On the other hand, to suc- Although Microsoft has ventured into other mar- ceed in a Web-based world, Microsoft must build kets, the majority of its revenue and profits still businesses whose sole strategic mission is flow from three exceptional businesses: Windows, to destroy the cash cows of Windows and Office. Office, and Server & Tools. These three segments Microsoft has thus far been reluctant to fully accounted for roughly 80% of Microsoft’s $60 embrace the services model. Instead, it prefers a billion of revenue in fiscal 2008. While we think “software plus services” approach that helps Microsoft’s competitive position is very defensible, protect its legacy franchises in desktop software.
due to the powerful network effects associated with an almost universally adopted operating sys- We have become more concerned with Microsoft’s tem, it is not unassailable. The disruptive change capital allocation in late 2008 because of the presented by the software-as-a-service (SaaS) Yahoo YHOO imbroglio. We believe an outright
acquisition of Yahoo would be an unmitigated disaster. If Microsoft wishes to deploy its cash hoard, we think shareholders would be better In the SaaS world, software is delivered on- served if potential acquisitions complimented demand over the Internet and paid for with tradi- Microsoft’s core strengths. For example, an tional licenses, subscription fees, or even adver- acquisition of SAP SAP (enterprise software) or
tising. The success of Salesforce.com CRM is a
Research in Motion RIMM (mobile platform devel-
prime example of the allure of SaaS to enterprise opment) would be much more sensible.
customers, and Google GOOG is beginning to
build a credible Web-based competitor to Office.
Analyst: Toan Tran
Microsoft is acutely aware of the threats and opportunities posed by what Bill Gates has called Procter & Gamble PG
the “coming services wave,” and the firm is Procter & Gamble built its moat with product willing to sacrifice near-term profitability to ad- development and marketing, but the firm’s dress it. We think this is absolutely the right strengths go beyond skills in brand building. The decision. The industry is changing, and if Microsoft company consistently reinvents itself and refo- does not adapt, its competitive advantages will cuses on improving its capabilities where it sees opportunity. In 2000, after years of brand under-performance, P&G renewed its focus on rebuilding core brands like Olay and Crest. As these brands 8% annually by putting strict controls on overhead were enjoying a resurgence, the firm acquired growth, depending on what stage of development Gillette in 2005, adding new brands to the fold, a business unit is in. Businesses that are grow- and boosting P&G’s global reach and top-line ing below target levels, for example, must show Now, after successfully integrating Gillette, the The renewed focus on productivity is undoubtedly firm has directed its efforts on improving pro- warranted after absorbing Gillette, and at a time of ductivity. Given rising manufacturing input costs, rising input costs and a pullback in consumer these initiatives couldn’t come at a better time.
spending, P&G is wise to squeeze any costs out of the system. The risk, however, is that the firm P&G is the largest consumer products manufactur- neglects its brands or doesn’t support them er in the world, with 24 brands that each earn as much as it should. With some of its core beauty- more than $1 billion in sales. The company’s prod- care brands like Pantene showing weakness in U.S. ucts range from household staple brands like markets, this concern isn’t insignificant. Knowing Charmin, to personal care products such as Old P&G, however, we doubt the firm will go off the Spice, prescription drug brands like Actonel, pres- rails with its productivity efforts, and we take com- tige fragrances, and health-care products.
fort in the fact that the company has always been able to strengthen itself over time.
The company’s leading brand positions allow it to be a price leader in its categories and give P&G Analyst: Lauren DeSanto
unparalleled marketing firepower when competi-
tors like Colgate CL or Kimberly-Clark KMB take
Strayer Education STRA
aim. Perhaps most important is that P&G’s broad Strayer Education is one of the better-performing lineup of brands bring balance to the company companies in the for-profit education industry. and give it a baseline of relatively consistent, pre- Along with its regional accreditation, its focus on working adults has helped the company estab- lish a wide economic moat in our opinion. Excellent With so many brands and such tremendous global management, good growth opportunities, and reach, it would be easy for the firm to become some of the best operating margins in the industry bloated with unnecessary overhead, but it is clear put Strayer at the top of its class.
that management has its eye trained on control-ling costs. The firm estimates that since 1980, pro- With strict regulatory barriers to entry, govern- ductivity has improved 6% annually, based on met- ment-aided financing, and a limited amount of rics such as sales per employee. P&G’s manage- competitors focusing on adult education, Strayer ment believes it can improve productivity to 7% or deserves a wide moat rating. Strayer’s schools are all regionally accredited, a level of accredita- Recently, Strayer has been adding around eight tion that is more valuable and more difficult campuses a year, but it still operates physical to obtain than national accreditation. It makes campuses in only 13 states. Adding physical cam- transfer credit more likely to be accepted at tradi- puses as well as additional online students has helped fuel an average 18% annual enrollment growth during the last five years, even as some Accreditation is a difficult and time-consuming pro- cess and makes government loans available to students. These loans are a crucial part of revenue Due to many competitive advantages, Strayer has for any school, and without them it would be been able to raise tuition and at the same time hard to operate in the industry. The availability of increase enrollments at a rate well above the these loans as well as corporate tuition assistance industry average. With a low penetration rate and limit the immediate out-of-pocket costs that stu- a focus on working adults, Strayer is positioned dents incur and have helped Strayer raise tuition 5% annually, with little pushback from customers.
Analyst: Todd Young
By focusing on working adults, Strayer has been able to grow in both strong and weak economic environments. Education tends to be counter-cycli-cal, and enrollment growth typically decreases during stronger economic times. However, Strayer is more acyclical than some of its competitors. Unlike for-profit schools that focus on diploma and certificate programs, Strayer’s students are older and are enrolled in undergraduate and grad- uate courses. In good economic times these types of students are less prone to choose employment over schooling. Strayer’s focus on online programs gives working adults the flexibility they need to work and pursue a degree at the same time.
With roughly 25% geographic penetration through-out the 50 states, Strayer has plenty of oppor- tunities for growth. Its roughly 37,000 students represent only a small fraction of the more than 17 million students enrolled in higher education. The Best Funds for 2009
If 2007 was a stressful year for investors, then With that advice in mind, I’ve divided the following 2008 has been a sucker-punch to the stomach. The list into three sections. The Portfolio Anchors are credit crisis stemming from the default of sub- no-hassle ways to begin a new portfolio or leading prime mortgages continued its spread this year, candidates for a prominent spot during a realloca- and in effect caused a complete upheaval of U.S. tion. Our Opportunity Hounds have the guts to investment-banking landscape. Who would have wade into downtrodden areas and pick out gems, thought that Lehman Brothers and Bear Stearns while our Role Players are: a few additional funds would no longer exist, and that Merrill Lynch’s that can round out the edges of your portfolio. MER survival would likely depend on ceding a 20% These picks may look to zig when the rest of your ownership stake to a Japanese bank? The financial funds zag but at the same time will still contribute sector’s troubles bled through to all areas of the to long term total returns. I’m not saying that these market, as concerns about the future profile of funds will be top-performers on a year-in, year- global credit access and stabilility of money market out basis, but over the longer term of five years or funds sent both stocks and bonds on a roller coaster more I think they will come out on top.
ride. In fact, in a 30-day span during September and October, investors were subject to both the Portfolio Anchors
biggest one-day gain of the Dow Jones Industrial Fairholme FAIRX
Average and one of its worst losses since the This fund has suffered right along with the rest of our picks in 2008. Through October 13, its 22% decline was likely of little comfort to inves- The gyrations have pummeled investor confidence, tors, despite being well ahead of the more than and the industry has seen outflows from money 30% decline of the S&P 500 Index and large-blend market and equity funds as investors headed for category. But one year doesn’t shake our confi- the safety of cash. For the short run that may dence in manager Bruce Berkowitz and team, and appear prudent, but for the long run now may be a we appreciate that he believes that the key to great buying opportunity. Just like fund managers a fund’s success is finding management teams that who salivate at the prospect of buying individual are serial winners with whom the fund can part- stocks below their fair value estimates, the mar- ner for the long haul. Fund investors who take the ket’s broad declines have put on sale whole portfo- same approach won’t be disappointed here, as lios of high-quality holdings. While the losses the fund’s long term returns are among the best this year made many investors re-examine their around. The fund is positioned relatively conserva- risk tolerances, I urge them to continue to invest in tively, with an almost constant double-digit cash high-quality, lower-cost funds in line with their stake. Turnover is excruciatingly low, and the port- personal asset-allocation targets. That is truly the folio typically contains fewer than 30 holdings. Berkowitz’s focus on cash—both as an investment and in evaluating management—has keyed the fund’s outperformance this year. Although makes it an ideal choice as an anchor or stand- the portfolio has had upwards of 30% of assets alone U.S. equity holding. Vanguard, of course, in the financial sector this year, he sidestepped has a suite of topnotch index funds, including a disasters such as insurer American International total stock market index offering like this one. Group and investment bank Lehman Brothers Fidelity upped the ante in the index-fund fee wars, because he was concerned with the companies’ however, by permanently reducing the costs of exposure to derivatives and the estimates they this and four other domestic-equity index funds make when valuing large portions of their assets. to just 0.10%. That makes Fidelity’s index offerings If his team can’t understand how a firm gets its the cheapest nonexchange-traded funds around.
cash, or what is behind its balance sheet, the fund will gladly take a pass. I like this approach Sound Shore SSHFX
and have made this fund the largest holding in Managers Harry Burn and Gibbs Kane largely avoided subprime problems by sticking to their knitting of seeking out beaten-down firms with T. Rowe Price Blue Chip Growth TRBCX
solid fundamentals. They have no interest in A broadly diversified large-cap portfolio typically finding the turnaround stories with the potential keeps this fund out of too much trouble. In 2007, for the greatest gains if there’s a real risk the for example, strong showings from Amazon.com
company could fail. Rather, they want the compa- AMZN, Apple AAPL, and others outweighed disap-
nies with the best balance sheets and a high pointing performances from Goldman Sachs GS,
level of confidence of what a company will earn in UBS UBS, and other financials. We like the fund’s
the next few years. Their patient and careful steady approach, and we like manager Larry strategy has helped the fund deliver solid long- Puglia’s long track record. He’s led the effort here term results, and its year-to-year returns have also for almost 15 years, so he’s seen his share of been remarkably consistent, with the fund ranking extreme market environments. Investors looking for in the large-value category’s best half in six of a large-growth offering that doesn’t go to the the past seven years. We wouldn’t expect the lat- extremes will like what they find here.
ter to continue, especially during a growth-fueled rally, but the fund is in position to remain a Fidelity Spartan Total Market Index FSTMX
The U.S. market has been quite the disaster this year, but over the long term this fund will likely Vanguard GNMA
remain a legitimate rival to higher-priced, actively How can we recommend a mortgage fund when managed large cap funds. This fund tracks the the mortgage universe has come under such fire? Wilshire 5000 Index, which includes nearly all of Easily. For starters, it holds a diversified mix of the publicly traded stocks in the United States. Ginnie Mae mortgages, which, unlike other mort- That profile gives it unparalleled breadth and gage issues, are backed by the full faith and credit of the U.S. government and have been for some international exposure still remains a core founda- time. Second, its ultralow expense ratio provides it tion to any well-constructed portfolio.
a nearly insurmountable advantage over its gov-ernment-focused peers. The fund’s expense advan- Opportunity Hounds
tage has helped it post strong long-term results, Third Avenue Value TAVFX
while its focus on government mortgages has kept Marty Whitman (like all of our picks in this section) it out of trouble. Its focus is narrow, but we think it made our list last year, and we continue to think he is one of the better bargain-hunters around. He has been known to bulk up on junk bonds, small- Dodge & Cox International DODFX
cap stocks, overseas issues, or nearly any other This offering has quickly emerged as one of the investment type that he sees as cheap. That flexi- standouts in its class. That’s because it draws bility can make this fund hard to slot into an upon a highly experienced management team. The asset-allocation plan, but it means the fund has typical skipper here has nearly two decades of the potential to deliver good results in a variety of experience at Dodge & Cox, and several members market conditions. Indeed, the fund delivered of this fund’s management team also serve as strong results in 2000, when the market struggled, managers on the superb Dodge & Cox Stock
but also put up big numbers from 2003 to 2006, DODGX. As with the other Dodge & Cox funds, the when the market rallied. We also like the fund’s managers apply a patient, bargain-hunting quarterly shareholder letters, which keep inves- approach here. (The fund’s turnover rate is invari- tors very informed about what Whitman is buying ably in the single digits, and its portfolio’s price multiples are low relative to other value-oriented foreign funds.) We’re not surprised by the fund’s Primecap Aggressive Growth POAGX
consistent success and that it has gotten off to This fund’s approach can cause some ups and a strong start—Morningstar named this fund’s downs, but it’s a proven one that has been in place for almost 10 years at Vanguard Capital
Managers of the Year for 2004—and we think its Opportunity VHCOX. When management finds
future prospects remain equally bright. In addition cheap, out-of-favor growth stocks it will look to to having an experienced management team plying take advantage of them, even if owning them a time-tested strategy, the fund also has the means holding outsized stakes in specific sectors benefit of very low costs: Its 0.65% expense ratio of the market. This fund’s smaller asset base is one of the cheapest levies for a no-load, foreign allows it to be flexible and opportunistic, in that large-cap offering. Like the U.S. market, foreign management can build up meaningful positions stock markets have been weighed down by global quickly and exit just as fast. That’s not to credit concerns and overall slower growth, but say the team trades rapidly. In fact, the fund has one of the lowest turnover rates in the mid- expect that research will again pay off for share- Loomis Sayles Bond LSBDX
Role Players
Managers Dan Fuss and Kathleen Gaffney have T. Rowe Price Real Estate TRREX
more latitude than most to take advantage of mar- Manager David Lee just celebrated his 10-year ket volatility. The duo will venture into junk bonds, anniversary as lead skipper on this offering, emerging markets issues, government bonds, and and his experience, combined with the fund’s low currency in an effort to deliver superior results. fees, increases its odds of staying ahead of the Fuss and Gaffney also position the fund based on pack. Lee doesn’t have an army of analysts behind their interest-rate outlook. Added interest-rate sen- him but has managed to beat them nonetheless. sitivity and added credit risk make this fund a More importantly, this fund shares the broader risky option for bond investors, but market vola- T. Rowe Price philosophy of long-term investing. In tility means opportunity for Fuss and Gaffney. The fact, the fund has been one of the most consistent fund has dug itself somewhat of a hole in 2008 offerings in the category, and its expenses have with its stakes in corporate and high-yield bonds, come down as assets have grown. So, while we but over the long term we think investors com- don’t expect real estate funds to be a ray of hope fortable with its potential for ups and downs will in every down market, their diversification value continue to like what they find here.
makes adding exposure to this sector a no-brainer.
Metropolitan West Total Return MWTRX
Vanguard Inflation-Protected Securities VIPSX
The management team at Met West has been This fund’s appeal is more narrow, but it has tracking subprime mortgages in earnest since 2004. a number of valuable traits, including rock-bottom That homework helped them largely avoid the fees. Its primary asset, however, is its ability problems associated with the sector in 2007, and to defend against inflation by holding U.S. Treasury they used their research heft to emphasize res- Inflation-Protected Securities, commonly called idential-housing related fare—prime and sub- TIPS. These securities have a fixed coupon prime—given high yields, significant total-return rate, but their principal value adjusts based on potential, and good protection from actual loan changes in the consumer price index. As this prin- losses in 2008. To be sure, management was on cipal is revised upward, the bonds pay more the other side of the table in 2002, when it was interest to bondholders. To be sure, the fund isn’t caught off guard by extreme volatility in the immune to interest-rate risk, but overall we think corporate-bond sector. However, good bottom up it can play an important role within a broadly research helped the fund recover the ground it lost during the market’s subsequent rally. We Brandywine BRWIX
Manager Bill D’Alonzo’s go-anywhere portfolio
can play a suitable supporting role within a portfo-
lio dominated by large-cap stocks. His team focus-
es on identifying companies that they believe
will beat the next round of earnings estimates. But
rather than just evaluating the business prospects
and financial statements, D’Alonzo’s analysts work
the phones and contact suppliers, customers,
and competitors to get the full picture of a compa-
ny’s potential. The results have been good thus far
and its returns haven’t been closely correlated with
those of the S&P 500 Index. We remain fans of
this unique approach and continue to expect good
things from this fund in the years ahead.
Retirees’ 2009 Survival Guide
With the market schizophrenia we endured during folio’s future growth. (Encountering a bear market 2008, I’ve been fielding a lot of reporter calls in years six through 10 of one’s retirement is and Editor of Morningstar PracticalFinance about what people should do. It’s a cliché to tell injurious, but far less so than sustaining big losses investors not to panic, but that’s pretty much the in the first five years of retirement, according to only one-size-fits-all directive. Beyond that, your response to the tumult depends completely upon where you are in your investing life.
So what should you do if you’re retired or getting ready to retire amid the current market upset? For younger investors with long time horizons, the Here are some tips. (Hint: Moving everything into buy-and-hold, ride-it-out mantra makes all the ultrasafe investments isn’t the answer.) sense in the world. I don’t know when the market will turn around—no one does—but I do know Tips for Those Already Retired
that periods of market panic have usually proved Reduce Withdrawal Rates
to be fertile ground for investors with the will- In its study, T. Rowe Price assumed a retired indi- power to hold tight or even add more amid the vidual had a $500,000 portfolio composed of tumult. If you have a longer time horizon, standing 55% stocks and 45% bonds. It further assumed the pat in stocks and stock funds truly is the right individual was taking withdrawals that amounted answer, because stocks offer the best growth pros- to 4% of assets per year, then increasing the pects over longer periods of time and you’re cer- withdrawal amount by 3% per annum to account tainly better off buying them at a low ebb than at for inflation. (The 4% withdrawal rate with infla- tion adjustment is a fairly standard rule of thumb to ensure that one doesn’t outlive one’s portfolio; For those investors approaching or already in the basic logic is that even a fairly conservative retirement, however, the calculus is completely dif- portfolio can earn enough to support withdrawals ferent. Encountering a bear market during retire- at that level.) T. Rowe then examined a variety ment—particularly during the early years—can be of actions that the same retiree might have taken devastating for those with stock-heavy portfolios. in re-sponse to the bear market earlier this decade. A recent study by T. Rowe Price showed that Which of those actions would most help the port- encountering poor market performance or outright folio last throughout a subsequent 20-plus-year losses in the first five years of retirement sig- nificantly increases the chance of an individual out-living his or her money during a 30-year retire- The firm found that reducing one’s withdrawal rate ment period. The reason is pretty straightforward: by 25%, from 4% to 3%, following the bear market Just as starting investing later in life reduces the in late 2002 gave the hypothetical portfolio its best benefits of compounding, so does locking in loss- shot of lasting for the rest of the individual’s retire- es early in your retirement career stymie your port- ment, based on the firm’s projections of future market returns. By leaving more assets to work in To further explore your own optimal withdrawal the market rather than withdrawing them, the rate, I’d suggest you check out T. Rowe’s free portfolio had a much better shot at recouping its Retirement Income Calculator at http://www.
bear-market losses. Once the individual’s port- troweprice.com/ric. You can input your own vari- folio had recovered to a level where it had a high ables, such as your age, your approximate asset probability of lasting throughout retirement—in allocation, and your current or desired with- this case, in 2008—the individual could again raise drawal rate. The calculator will then show you the likelihood that your assets will last throughout your retirement, based on the firm’s projected In the above scenario, the individual would reduce returns for various asset classes and expected life his or her withdrawal rate from 4% to 3% but spans for you and your spouse. If there appears still increase the 3% each year to account for infla- to be a risk that you’ll outlive your assets, you can tion. (So in this example, the individual would with- tinker with the variables, such as adding more to draw 3% of his or her investment portfolio in 2003, equities or reducing your withdrawal rate, to arrive at a better outcome. Ideally, you’ll be able to arrive at a livable withdrawal rate and your Even so, reducing one’s withdrawal rate by 25% portfolio will have a 75% or better chance of last- may not be realistic for many retirees, even with ing throughout your expected retirement years. the inflation adjustment. Although inflation appears to be cooling, there’s no denying that a Don’t Get Too Conservative
number of household expenses, notably food, At the opposite extreme, the T. Rowe study found gas, and home heating costs, have risen substan- that the worst response to the bear market would tially over the past few years. Moreover, many have been to shift out of stocks entirely and retirees want to spend the most in their early re- move all of one’s assets into bonds following a tirement years, for travel, leisure pursuits, and bear market. The reason is that the portfolio, hav- gifting to children and grandchildren. For those for ing incurred the full wrath of the bear market, whom a 25% reduction in withdrawal rates isn’t would be starved of its growth prospects and realistic, T. Rowe’s analysis found that holding therefore less likely to last throughout an individu- withdrawals steady at 4%, but then forgoing the al’s retirement years. That’s a compelling argu- subsequent annual inflation adjustment (rather ment that one’s gut reaction to a bear market—to than adjusting the withdrawals upward by 3% to hunker down in ultrasafe investments—is often a account for inflation) also helped improve the odds that the retirement portfolio would last through- out retirement. Watch Where Your Withdrawals Come From
While we’re on the topic of locking in losses, retir-
ees should consider where they’re withdrawing
assets from—particularly during and after a bear billion, at least temporarily, assuming the investor market. Rather than tapping the assets in your deposited funds before September 19. That’s a equity accounts, make sure you’re pulling your reassuring safeguard, but I still think it wise to do assets from short-term, cashlike instruments. That your own due diligence on your cash invest- way you won’t turn the paper losses in your ments. One option is to stick with FDIC-insured equity accounts into real losses; you can give your investments, such as savings accounts, checking stocks and stock funds time to rebound.
accounts, money market accounts, or CDs. Just make sure you don’t hold more than $250,000 per For most individuals who are withdrawing assets in individual at any one firm: The government re- retirement, I’d recommend creating a “pool” of cently increased the FDIC insurance limit to short-term, cashlike assets that will cover two to $250,000 until the end of 2009. If you do venture five years’ worth of expenses. You can take per- into money market funds, which are not FDIC- iodic distributions from the pool, then “fill it up” as insured but may offer a more attractive yield than you deplete it. Unlike equities, these short-term CDs or FDIC-insured instruments, focus on those assets will exhibit little if any fluctuation in princi- with the lowest possible expense ratios—ideally pal value, so there’s little risk of pulling your money out when your account is at a low ebb.
Sequence Withdrawals Properly
That said, there’s a broad variation in short-term, To further improve your portfolio’s chances of last- supposedly “safe” investments, so it pays to select ing throughout your retirement, take care to use a with care. The situation last year with a large well-thought-out sequence for tapping your various money market fund “breaking the buck”—or letting accounts. Although there are certainly variations, its net asset value drop below $1—exemplifies most individuals will want to tap their taxable the perils of gunning for a very high yield with your assets first, followed by traditional IRAs and com- short-term investments. Any time you see a fund pany retirement-plan assets, then tapping Roth with a far higher yield than its peer group, it pays assets last. To the extent that you own securities to ask what types of risks the fund is taking to that have appreciated in your taxable accounts— achieve it. The Reserve Primary Fund (which broke and I hope that you do—take care to limit taxes by the buck) had the highest 12-month yield of any offsetting capital gains with capital losses. money fund in Morningstar’s database, fueled in part by stakes in securities issued by financial com- Don’t Be a Yield Hog
If your portfolio has taken a hit, it’s natural to want to hang on to what you’ve got, and that’s especial- In the wake of this news, the Treasury in mid- ly true if you’re already retired. One way to do that September 2008 rolled out a plan to guarantee is to increase your portfolio’s income stream so money market funds against losses of up to $50 that you won’t have to tap your capital. That’s not unreasonable—to a point. Gunning for yield with- Tips for Preretirees
out paying due attention to the risks you’re taking Play a Good Defense
on is one of the biggest investing pitfalls out For preretirees facing down a bear market in re- there. My colleague John Coumarianos recently tirement, the best offense is a good defense. I shared an old Wall Street saying with me: “More frequently chat with individuals who are nearing money has been lost chasing yield than at the retirement but still have close to 100% of their point of a gun.” That may be hyperbole, but only assets in stocks. On the one hand, stocks are partly so. Because the highest-yielding stocks the best way to reduce the risk that you’ll outlive and bonds often also entail outsized risks, make your assets. On the other, by holding a portfolio sure you’re going in with your eyes wide open. If that’s too heavy on stocks as retirement nears, you pocket a high yield but the security declines you could run headlong into a bear market, there- in price, you could end up worse off than if you had by reducing the odds that your portfolio will last focused on total return and made periodic with- As retirement grows closer, it pays to not only If you’re venturing beyond Treasury bonds, don’t try build up your exposure to bonds and other more to select individual bonds on your own. (If the stable-investments but also begin to alter the past few years have taught us anything, it’s that a types of stocks and stock funds that you hold. As bond’s credit rating doesn’t always offer a lot of we saw in 2008, the value style of investing isn’t insight into a company’s health.) Instead, delegate inherently lower risk than growth investing. How- bond-picking to a professional money manager; ever, it stands to reason that a valuation-conscious bond funds from Vanguard, Harbor, Dodge & Cox, approach that allows for a margin of safety will and Metropolitan West are among my favorites. help limit losses more than a growth-at-any-price If you’re buying individual stocks for yield, make approach. Among my favorite core stock funds sure to do your homework to ensure that a compa- for investors approaching retirement are Dodge &
ny has the financial wherewithal to keep up Cox Stock DODGX, Dodge & Cox Balanced
its dividend payments. Stock Analyst Reports on DODBX, Sequoia SEQUX, and Longleaf Partners
Morningstar Investment Research Center are a LLPFX, all of which have reopened to investors over great way to get your arms around the health of a company. Morningstar’s analysts currently have a number of blue-chip stocks that land in 4- and You can also reduce your bear-market risk by 5-star territory and boast rich yields. Most mutual trimming or cutting niche investments such as funds that focus on dividend-paying stocks have sector and regional funds and exchange-traded fairly low yields because their expense ratios funds. Because of their extreme volatility and gobble up all of their income, but one I particularly investors’ tendency to buy and sell them at inop- like is Vanguard Equity-Income VEIPX.
portune times, I tend not to be a big fan of these investments even for those with very long time dard of living in retirement and the odds that your horizons; these vehicles are even less appropriate for those nearing or in retirement. Another pre-emptive move is to reduce your international expo- A version of this article appeared in the September 2008 issue of Morningstar PracticalFinance.
sure as retirement nears. I’m as big a believer in global growth as the next person, but international investing typically entails a risk that’s completely out of your control: currency risk, or the chance that the dollar will depreciate versus the currency in which your foreign holdings are denominated. For that reason, I’d argue for scaling back foreign stocks and stock funds once you’re within five years of your expected retirement date. Evaluate Your Options
But what if you’re nearing retirement and the
recent bear market has already exacted a toll?
That’s almost as painful a predicament as
someone who is already retired would face, but
not quite. You can take heart in the fact that you
have more options to consider than the individ-
ual who has already begun taking distributions
from his or her retirement nest egg.
Whereas reducing withdrawal rates may be the best course of action for the already-retired, a pre-retiree facing down a bear market has several different options to consider. You, too, could reduce your anticipated withdrawal rate. But you could also plan to work longer, defer Social Security, save more, and/or adjust your portfolio in an effort to achieve a higher return. Again, I’d recommend T. Rowe Price’s Retirement Income Calculator (http://www.troweprice.com/ric) be-cause it’s easy to use and allows you to see how adjusting these variables would affect your stan- Clip and Save: 20 Common Investing Mistakes
I talk with investors almost every day, and over no idea. The amount you paid is relevant only to time the same themes emerge. Although investors tax planning. What matters is which will have bet- and Editor of Morningstar FundInvestor cover the gamut of sophistication levels, I hear the ter returns over your investment horizon. If the same mistakes over and over again. So, in order answer is fund B, then sell fund A (you’ll have a to help save you from repeating the same mistakes tax benefit if it’s in a taxable account) and put the and losing a lot of money to learn the lessons, proceeds in fund B. The problem is that people I’ve jotted down 20 of the most common investing have an emotional attachment to the price. Some are afraid to book losses, and others are too anx-ious to sell a winner for fear that they’ll miss out Most come down to two basic types of errors. One on gains. What matters is whether the funds have error is to let emotions get the better of you. I’m amazed at the logical reasons people build to justi-fy making the investments that make them feel Mistake 3 | Selling after the market falls.
better even if in the long run they’ll be poorer for The short-term direction of the stock market is having done it. The second error is to not build a unpredictable; yet selling in reaction to mar- plan and think things through. As one planner ket moves implies that you can predict short-term told me, “People don’t know what they bought or moves. What we fail to account for is that the markets price in the same news that we are hear-ing—often before we hear it. The markets are Mistake 1 | Reacting to short-term returns.
not perfectly efficient from minute to minute but Every day people go to their online 401(k) accounts they quickly reflect a best guess based on new and sell the fund with the worst one-year returns information. Fear is one of the greatest ene- and buy the one with the best one-year returns. It mies of successful investing. When you’re worried makes them feel better, and they will tell you about your money, you want to make it safe. that their new fund is ahead of the curve and run However, you risk missing out on the next rally, by a smart manager and the old one has lost its and you might not even keep pace with infla- touch. What they won’t say is that they are buying tion. From a long-term perspective, cash is very high and selling low. Nor will they say that short- risky and stocks are low-risk. Put another way, this term returns are just noise. You are better off is another example of selling low and buying buying funds with lagging short-term performance high. Savvy investors get excited when the market than those with top-quartile returns.
Mistake 2 | Basing sell decision on cost basis.
Mistake 4 | Accumulating too many niche funds.
You bought fund A at $10 and now its NAV is at $5 We get mailings all the time telling us about hot and fund B at $10 and now it’s at $20. Which new investments. Last year, commodity funds should you hold, and which should you sell? I have and BRIC (Brazil, Russia, India, and China) funds were the rage. Next year it will be something don’t listen to the siren song of a high-cost mutual else. These specialist funds are exciting and fun fund or hedge fund. Results won’t live up to to buy but they will mess up your portfolio if expectations. Expense ratios are the best predictor you let them. Most niche funds charge more than more-diversified funds, and they typically have third-tier managers and less analyst support. Yet Mistake 8 | Making things needlessly complex.
you can get the same exposure to sectors and This one comes courtesy of Christine Benz, editor regions through more-diversified funds. Niche of Morningstar PersonalFinance: Wall Street funds drive up your costs, add extra volatility, and works overtime to sell the message that investing make managing your portfolio more difficult.
is complicated, messy stuff that you couldn’t possibly undertake on your own. Is it any wonder Mistake 5 | Failing to build an overall plan.
that so many investors are paralyzed with fear This is a biggie. Spend a little time to spell out your and indecision? goals, how you’ll meet them, and the role of each investment. This is an enormous help in True enough, there are a handful of investors who figuring out how to get to your goals and how to have delivered tremendous returns by using adapt along the way. Make a little plan, and swashbuckling investment strategies and zooming your day-to-day investment decisions will become in and out of arcane investments. For the rest of us mortals, though, buying and holding a portfo-lio composed of plain-vanilla stocks and bonds— Mistake 6 | Failing to write down your reasons
with perhaps a dash of a “diversifier” such as com- for buying and selling.
modities or real estate—is more than adequate Once you’ve got your plan, spell out why you to help us reach our goals. That’s also the kind of own each investment and what would lead you to portfolio that you can easily manage yourself. sell. For example, you could say that you own By building a sturdy, streamlined portfolio, you’ll Fairholme FAIRX as a long-term 20-year invest-
ment for its manager and its low costs. You’d sell if the manager left, costs were raised, or asset Mistake 9 | Not understanding the risks.
bloat forced a change in strategy. When you have Narrowly focusing on recent returns can blind your doubts about the fund, you can turn to that in-vestors to risks. If a fund has a long track record, document in four years when you may well have you can easily get a handle on risk by looking forgotten what the draw was in the first place.
at annual returns. In a bad year, the stock market can lose 30%. In a bad three-year period, it can Mistake 7 | Ignoring costs.
lose 60%. It’s reasonable to assume that nearly Expense ratios matter across the board. Most of any stock fund can do at least that badly. This the best managers work for low-cost funds. So, is why stocks are for 10- or 20-year time horizons or longer. If you know that going in, you stand people ignore them in the hopes that their funds a much better chance of earning a healthy return. will make such big returns that taxes won’t matter. Most bond funds can lose 5% or 10% in a year. There’s a better way to think about it. Simply If they have long maturity or own mostly junk-qual- putting less-efficient investments in tax-sheltered ity bonds, you can double those losses or more.
accounts and more-efficient ones in taxable ac-counts will pay off in a big way. In addition, when Mistake 10 | Not diversifying properly.
you’re shopping for a new fund for a taxable The harsh market in 2008 punished financials the account be sure to look for those that should be most while energy has done best. Large growth efficient, such as tax-managed funds, index funds, got crushed in 2000–02, and small-value stocks as low-turnover actively managed funds, and, of well as bonds held up like champs. Every down period is different, so be sure to diversify between stocks and bonds, between foreign and domestic, Mistake 14 | Not building up a sufficient money
and among sectors. The key to that is to have market position.
meaningful exposure to a lot of areas and to build Christine Benz recommends that you have six to 12 months’ worth of living expenses in a money market account. As the messes in short-term bond Mistake 11 | Not saving enough.
funds and auction-rate securities show, there’s I’d encourage you to preach the benefits of early no substitute for money market funds. This emer- saving to relatives and friends in their 20s or 30s. gency stash is vital in case you lose your job If they make regular contributions to their 401(k) or have another emergency, such as unexpected and IRA accounts, reaching their goals will be home repairs. In addition, it will make market quite manageable. If they don’t, they better make a killing or they’ll be behind the 8 ball.
Mistake 15 | Ignoring costs in money
Mistake 12 | Failing to rebalance.
market funds.
My 401(k) plan has a tool that automatically rebal- Many fund companies and brokerages charge high ances my investments for me. When the markets expenses on money market funds because inves- really move, your portfolio can go off-kilter and tors don’t pay attention. So, go with Vanguard mess up your nicely laid plan. Rebalance yearly so or Fidelity or someone else who charges less than that you’ll be buying low and selling high.
40 basis points to manage your cash.
Mistake 13 | Failing to factor taxes into
Mistake 16 | Failing to look at the big picture
portfolio decisions.
across accounts.
Like expenses, taxes play a huge role in your long- Roger Ibbotson argues: Investors tend to view term success, but they’re no fun. So, a lot of each investment and each account—401(k), IRA, college-savings account, etc.—in isolation rather strength or weakness. Fidelity Independence
than in aggregate. Trying to make every investment FDFFX has a great record, but so what? The current a winner can throw off the overarching asset allocation. It can also lead an investor to chase hot stocks, trade excessively, and sell at the wrong Mistake 19 | Ignoring the fund company behind
time. If all of an investor’s accounts and individual the fund.
investments are up at the same time, they should You may like a fund, but if the fund company has be alarmed rather than proud. It’s a sign that mostly lousy investors, a bad record of sticking they may be underdiversified and taking on too it to fundholders, or both, you may pay the price in the end. Over a long time horizon bad things hap-pen to good funds at bad fund companies. Hancock Mistake 17 | Misreading your own abilities.
Regional Bank was once a diamond among dross, People who treat gambling addicts say that it’s but the parent company pushed it down the tubes. the big winning bet that hooks gamblers. They John Hancock’s penny-pinching deprived the fund get high and want to repeat that high. Fund investors can be a little like that. They remember that one time they accurately called the direc- Mistake 20 | Worrying about daily ups
tion of the market or picked a sector fund and for- and downs.
get all the times their calls were off. Go back Don’t get stressed watching business TV or track- over your past investments and see what you do ing the market online. It’s exciting and often well and figure out a solution to the areas informative but not always helpful for long-term where you didn’t do well. Maybe your individual investors. Reporting on the markets, whether in stock picks aren’t that great overseas, so you print or on TV, requires putting a lot of experts should buy a foreign fund. Maybe your bond fund on to make predictions. If they were honest and blew up, so you should change the way you pick said they didn’t know what would happen the next week but that you should buy and hold, no one would watch. All those ups and downs have Mistake 18 | Focusing on the fund instead of
no bearing on your long-term goals. Warren the manager.
Buffett advocates buying stocks that you feel so I exchanged e-mails with a customer recently who strongly about you wouldn’t care if the stock didn’t understand why Clipper CFMIMX was a pick
market took a two-year holiday. The same goes despite its bad five-year returns. I explained that for funds. Buy them and tune out the noise. the current managers have been there for only two years and their long-term record is outstanding. A version of this article appeared in the September 2008 issue of Morningstar FundInvestor.
The fact that previous managers did well or poorly is rarely relevant unless it reflects institutional 22 West Washington Chicago Illinois 60602 For more information about Morningstar Investment Research Center and our other library products, please contact Morningstar Library Services.
Phone: 866-215-2509E-mail: libraryservices@morningstar.com

Source: http://retirement.newtonfreelibrary.net/finra/WheretoInvest09.pdf

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Exhibit 99.5 Modification of the Presentation of LossesThis report is for informational purposes only. It should be read in conjunction with documents filed by The Chubb Corporation with the Securities and Exchange Commission, including the most recent Annual Report on Form 10-K and Quarterly Reports on Form 10-Q. THE CHUBB CORPORATION Beginning in the third quarter of 2008, the “net

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