When to Change Investing Strategies

US News

For the average investor, brokerage firms like Charles Schwab, Edward Jones, Fidelity, and Vanguard provide ample opportunities to enter equity and commodity markets. They each have a broad range of funds that offer exposure throughout the world.

Investors who are looking to place relatively modest sums of money--say $10,000--can use asset-allocation tools and advice from brokers to craft a strategy that meets their goals. They can then purchase mutual funds or exchange-traded funds (ETFs) to execute this strategy.

[See Top-Rated Funds by Category Ranked by U.S. News Mutual Fund Score.]

But once the money is invested, it is largely up to the investor to make decisions about how to handle it in the long term.

With passive investing, managers aim to track the performance of their fund to an index, and do not make sweeping daily decisions that will alter the performance of the fund. Passive-investment strategists believe it's better to bet on a large index than to pick individual stocks. This kind of investment also keeps management fees low, as managers are not actively engaged in management over the course of the day.

Passive investing is a proven method for building wealth. But as wealth grows--for instance, the $10,000 originally invested has grown to $50,000--investors need to reconsider how their money is managed. Goals change and life events, both anticipated and unforeseen, can require more sophisticated planning.

A shift to active management. As people become more comfortable with investing and as their wealth grows, many shift from a passive strategy to active investing. Active management is more hands-on than passive: Investment managers are trading stocks, bonds, and commodities daily in an effort to outperform the market.

There are downsides to this kind of investing. Trying to beat an index requires advanced market knowledge, so management fees are heftier than with a passive strategy. There's also more downside risk, as managers are making bolder bets.

But with this downside risk comes the potential for large gains. Hedge funds are the most well-known example of active management, and successful hedge funds can provide returns that far outpace passive strategies.

There are also strategies that combine active and passive investing, says Scott Thoma, a member of the investment policy committee at Edward Jones. "There are asset-allocation models where you can use them both. One alone isn't going to work well for everyone," he says.

[See Beware Playing 401(k) Catch-Up Close to Retirement.]

Opportunities for the retail investor. The hedge-fund market isn't open to the average investor. But financial advisers at firms like Edward Jones, as well as independent advisers, can provide more sophisticated advice as wealth grows.

According to Lisa Kirchenbauer, president of Omega Wealth Management in Arlington, Va., there is no specific wealth point where investors should seek more advanced financial advice. "From a planning perspective, when you're just out of school, it's probably not critical" to have a dedicated financial adviser, she says. "When you start to have major life changes, like getting married and you're bringing finances together, it's an obvious time to talk to someone. When you start to have kids, there are new planning issues that need to be addressed."

Kirchenbauer adds that having a personal financial adviser allows investors to do more than just buy stocks or bonds. Long-term financial planning, especially for retirement, is now necessary.

"Due the baby boomers reaching retirement and the financial uncertainty of the last few years--and the fact that most people will not have pensions to support them in the future and will need to depend on their investment assets in retirement--people need good financial-planning advice," she says. "It's not just about investing anymore."

Thoma says investors with less than $25,000 should not invest in stocks, but in mutual funds to stay diversified. As portfolios grow, active strategies can be incorporated. "I don't advise to buy individual stocks until the portfolio is more than $100,000," he says. "You need 15 to 25 stocks to be well-diversified."

[See Some 401(k) Plans Let You Take the Wheel--If You Dare.]

Finding a financial adviser. Companies like Charles Schwab have in-house advisers, but there are also many smaller firms that offer financial-planning services. The National Association of Personal Financial Advisors (NAPFA) has an online tool at napfa.org that can locate advisers in a specific area.

Fees for personal advisory services vary. NAPFA only promotes fee-only advisers, that, according to the group, are "compensated solely by the client, with neither the advisor nor any related party receiving compensation that is contingent on the purchase or sale of a financial product." This means the fee of the adviser is directly tied to the performance of the investor's portfolio.

Investors also should look for advisers who have widely acknowledged accreditations. Some of the most common are Personal Financial Specialist (PFS), Certified Financial Planner (CFP), Chartered Financial Consultant (ChFC), and Chartered Retirement Planning Counselor (CRPC).

Kirchenbauer says it is imperative to interview advisers to determine whether they clearly understand individual needs. "Having someone who understands your unique needs, goals, and dreams and who will be able to put together an overall financial planning and investment strategy that supports all of that is critical," she says.



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