want to setup roth ira...which company has the highest return?

[Guest roth_ira_questions]

Hello. Lately, I have been reading about roth ira accounts. Most articles I read say that roth ira's have a return between 8% and 10% a year. What I neeed to know is where can I find out the rate of return that each bank/investment co. has? I have bank accounts with National City, so I would like to setup a roth with them, but only if they have a high rate of return. Basically, I want to know if there is a website that will list the average rate of return on a roth ira account for all companies. Is this a good idea on how to choose company? Should I just go with my local bank and assume their returns are high?

please let me know as I am new to this.

thanks

[ElGuapo]

Most articles I read say that roth ira's have a return between 8% and 10% a year.

where to start . . .

first, the trickiest thing to understand when you're opening a Roth IRA is that the term Roth IRA describes an account type/registration, not an actual investment.

when you read about Roths earning 8-10% a year, that's no different than any other mutual fund earning 8-10% a year, people just did it in an account registered as a Roth IRA.

In other words, you first choose what investment company you'd like to open a Roth with, and then you choose what investment to fund the Roth with. Now if we're talking about a bank, there's probably one choice--a CD-type investment that maintains stable principle but has low yields. But now that you know there are better choices out there, I'd stay away from the bank scene. You need to contact a no-load mutual fund company and open the Roth account with them.

[John G]

A Roth or IRA is like a fish tank.... you can buy the fish tank many places, it is what you put inside that makes it special, and you can have many kinds of investments in the container.

Who offers the containers: banks, mutual funds, brokerages are the three most common.

What can be the contents: bonds, CDs, money market accounts, mutual funds, and stocks are the most common types of investments.

Returns: The 8-10% is a conservative range that folks often use for planning purposes. Your actual annual return can be negative, equal to the rate of inflation, 8-10, or higher. Returns depend upon what you choose for your investments and what time period or snapshot you use.

It sounds from your post that your are very new to investing. You did not include any information about your age, other assets, education, risk tolerance, goals, etc. so it is hard to offer specific guidance. Perhaps you can post again with some additional background.

Generalities about annual returns: basic savings and money market accounts right now are below 2%, CDs vary with length but might be 4-5%, bonds range from 5 to 10%, dividend yielding stocks roughly 2.5% to 6% for just the dividends, REITS (real estate trusts, a type of stock with a high payout) from 5% to 10% for dividends, blue chip stocks 8-12% annual over a long haul but could be negative in the short term, and growth stocks 10-14% long haul but could be negative in the short term. There are exceptions and outliers to all of the above. However, in general terms, annual returns are low when risk is minimal and returns increase as you assume greater risk or volatility.

For example, a CD for 4 years might over a 4.5% return and you principal is guarenteed by the governement. That return is very predictable and relatively safe.... except that it may not keep up with inflation. You won't build much of a nest egg at 4.5%

Many begining investors start with mutual funds. You buy shares of the mutual fund and own a tiny fraction of their "portfolio" which is likely to be some mix of stocks and bonds (there are almost 10,000 mutual funds and lots of different styles). The benefits of owning shares of a mutual fund is that you can buy in $$ amounts and you get diversification (owning a wide range of investments).

Example of mutual fund investing: I like to use ICA because they have been around for 69 years and produce great performance graphs. Between 1934 and 2002, ICA posted 12 negative returns including a -38% and six other double digit losses and twice have back to back down years. Yikes! BUT, they posted 57 years with positive gains including +83, +45, +44, +43, +37 and a total of 42 years with gains over 10%. The long term average annual compound rate of growth over the 69 years was 12.7%. That is very good performance... and 69 years is a decent long term snapshot.

How would you make out if your IRA investments followed this path? If you invested $3,000 each year in a fund earning 12.7% you would have the following:

25 years $445,640

30 years $829,546

35 years $1,527,530

and you would double all of the above if your spouse did the same each year.

{Note ICA is a loaded fund that charged a 5.75% commission in the first year. I would not recommend them, but use them as a example. In today's world, a no load fund is likely to be a better choice. A 12.7% annual return is slightly above average for stock mutual funds but, in my view, would represent a reasonable long term result for a fund slightly biased towards growth stocks. For planning purposes, most folks use the 8-10% annual return which is more conservative.}

[Guest roth_ira_questions]

thank you both for the replies. John G, here is my background:

Age:22/single

Assets:1993 accord

Education:graduated last October with a Bachelor's in Computer Info. Systems

Risk toleranace: low - middle

Goal:I would like to be able to retire early(not sure what age). Even so, I will still wait until the retirement age before taking money out of the roth. Ideally, I would like to have other investments to fund my early retirement.

Debt:$36,000 in school loans. I make double the minimum payments.

Once I get settled into an apartment and after paying rent/utilities/school loans, I should have $200/month to save and/or invest. I want to invest for retirement and for a home(probably between 2 and 5 years from now).

I currently have $20,000 in a savings account(.55% interest)...In case your wondering, I havent used the savings towards my loans because I want it in case of an emergency as my current job has no benefits.

I have found 4 investment companies:

Fidelity-$2500 minimum, no fees

Vanguard-$1,000 minimum, $10/year fee if under $5,000

Merrill Lynch-minimum/fees not listed

Putnam-minimum/fees not listed

Have you had any experience with the above companies? Do you know of any companies with a low minimum investment and no fees? I was thinking I would start it with $50 and contribute $50/month. Would a "blend" fund be best in my situation?

thanks for any information you can give

-Musa

[John G]

Responses:

1. I would take $3,000 out of your cash reserves and fully fund your Roth. You can tap into these funds in an emergency. Yes, keeping a reserve is wise, but your Roth can serve as part of that reserve. This solves the minimum amount to open problem and gets you full invested for the year earlier.

2. Age:22 and single! Assets:1993 accord Actually your assets include the 20k, but I am not going to split hairs. Frankly, you deserve some fun years of the social scene, outdoor/vacationing and those first electronics! And, in the recommendation below, I am going to emphasize an easy care investing option so you don't spend too much time on your "future".

3. Education:graduated last October with a Bachelor's in Computer Info. Systems - sounds like you should expect good salaries and upside opportunity. We never seem to have enough computer literate people. The common thread through my entire career was always being able to get things done on computers - application side.

4. Risk toleranace: low - middle - What? Well, after you learn more about investing, you will understand this question better. Time is your friend. You should bias your investments at your age to growth stocks... but you need confidence in your investment choices to do that... so a modest start is called for.

5. Goal:I would like to be able to retire early... a home 2-5 years from now...

Ideally, I would like to have other investments to fund my early retirement. - - all fine ideas, but I suggest that your first get started with your Roth first. You can take money out of a Roth to buy a home... but I would not normally recommend this, especially with someone with your earning power.

6. Debt:$36,000 in school loans. I make double the minimum payments. -- what is the interest rate on these? If it is very low, pay it off slow. If you have any other debt, like credit card, it is likely to be at a much higher rate. Generally, you want to accelerate the payment of expensive debt, not the low interest kind.

7. I currently have $20,000 in a savings account(.55% interest) - - some of this money could be put into a higher yielding account or into some staggered CDs. A problem to tackle after you get the Roth started. You might want to put $5K of this into easily liquidated bond mutual fund.

8. My current job has no benefits -- think about the search for your next job as starting one day after you start employment. Have your resume ready. You should always be ready to respond to opportunity. Jobs with no benefits? You might be able to do better, if not immediately, then certainly after you log a year of experience.

9. I have found 4 investment companies - - You don't need 4. I am going to suggest that for the next two years you adopt the KISS approach to your ROTH. Call Vanguard or visit their website. They are a great company and in many areas an industry leader. Start a Roth with them and choose one of their boardly based INDEX funds. Their staff can help you and the website has a lot of info on which to base a decision. The annual fee is very low. The annual expenses (which reduce returns) are extremely low at Vanguard. This is a simple start, and it will do a great job for the next few years. You will probably find that if you use the monthly option, you can start at a lower amount... but I am suggesting getting started for the full monty of 3k. All of the ones you listed have fine investments, don't get hung up over the choice 'cause it is getting going is the hurtle you want to overcome.

10. Education did not end with the degree. Welcome to the world of investing. I am going to suggest that you can learn a lot more by reading Kiplinger Financial each month than some of the course you took in college. The $15 per year subscription compares very favorably to tution too! This magazine seems to aim for the 20-35 year old salaried person. Good coverage of credit, home buying, car buying, travel as well as mutual funds, stocks, Roths and investing.

You are asking the right questions. Here's to you, may you have a colorful future! Good luck and post again if you have other questions. I just got off the phone with my age 22 daughter who has her first apt in DC and it was interesting to here many of the same points from here.

[dh003i]

roth_ira_questions,

I would stick with Vanguard and Fidelity. Fidelity offers a huge range of options for investment in its own funds, and in funds of other companies through its "Funds Network". Vanguard doesn't offer nearly as many funds, but what it does offer is funds at a very low price (low expense ratio).

Fidelity offers a great tool for researching Mutual Funds from their website. Click on the link, then when you get to the website click on Advanced Search and sift through the options.

Depending on your goals, if your just getting started and if you don't want to pay much attention to your mutual funds, you might want to consider just investing in Retirement YYYY funds (Retirement 2020 fund, retirement 2060 fund, etc). These funds automatically manage the ratio of stocks:bonds at appropriate ratios as you approach retirement.

[John G]

I normally do not make a specific suggestion to someone who posts a question, but I make an exception to a beginner who can easily be overwhelmed with too many choices and new terminology. I think it is better for a beginner to have some confidence that they can take the plunge, then wait and wait until they understand everthing (I am still waiting for that day myself). In the "beginner" period, the first five years, it is more important what you learn about investing than your actual results in my opinion. This guy will be dealing with investments for perhaps 70 years.

In responding to DH's post:

- almost all major brokerages and large mutual fund families offer screening tools to evaluating mutual funds..... these will be better understood by someone with a basic foundation of investment knowledge (ie. someone who knows was "cap" and "blend" means)

- Fidelity does indeed have a huge array of mutual funds and they have been slowly moved by market competition to reduce fees and commissions. But lets look at the details of the FREEDOM YYYY funds because this is no silver bullet solution to retirement investing.

The FIDELITY FREEDOM 2040 and the other retirement year clones are a recent marketing angle to attract investors with a new device... time managed asset balancing. The "gimic" is that they slowly change the mix of investments, getting more cautious as you approach the target retirement date. Many companies offer them, but I am not especially impressed. Why? Well these are funds that hold other funds (2040 currently holds 18 other Fidelity funds) and so you get administrative overhead for the primary and all the subcomponent funds. (see gray below) The 0.91% expense fee for the 2040 version is over .70% higher than many large index funds.

Lets look at the impact of that number over 35 years making some simplifying assumptions. If a taxpayer contributes $3,000 each year for 35 years to a Roth and places these assets in FREEDOM 2040 fund earning they might earn 10% and build a nest egg of $813K.

But FREEDOM 2040 is basically a big company (big cap) blend (both value and growth) stock fund ..... sounds a lot like a diversified large cap index fund to me. Can we do better with an index fund?

Placing the same $3,000 each year into diversified large cap index fund with the same performance, but with about a 0.20% annual fee might give you an annual return of 10.7%. The index approach would grow your nest egg to $955k. That is 17% more than the Fidelity fund of fund option. The difference is about $140k caused by reducing the "overhead" or annual expenses of the fund.

For advance mutual fund investors... all things being otherwise equal (they rarely are, but go along with me) you are better off in the long run with the lower expense ratio mutual fund. If you believe that on average the managers of 18 different mutual funds at Fidelity can stay 0.70% ahead of the index portfolio than the Fidelity fund would be superior. Neither I nor DH know in advance which path will produce superior results. The index approach tries to be superior by keeping costs down and taking just a tiny amount away from average performance. The Fidelity actively managed fund tries to get a superior result based upon spending money to make superior stock picks.

An often cited, but rarely documented, statistic is that index funds on average beat 80% of the actively managed funds each year. This means that about one in five actively managed funds can overcome the administrative overhead handicap they give away to computer driven index funds. I know a few managers like Billy Miller have rather regularly beaten the S&P500... if you can determine how to find these mutual fund winners - great. But for the average investor, keeping the largest percent of the performance of the overall stock market is solid approach to Roth investing. Choosing either approach is very likely to complete crush the results of relying on CDs or moneymarket accounts.

From Fidelity's website:

Expenses for FREEDOM 2040

Combined Total Expense Ratio 0.91%

Their definition:

The combined total expense ratio reflects expense reimbursements and reductions and is based on its total operating expense ratio of the fund plus a weighted average of the total operating expense ratios of the underlying Fidelity funds in which it was invested. This ratio may be higher or lower depending on the allocation of the fund's assets among the underlying Fidelity funds and the actual expenses of the underlying Fidelity funds.

Disclosure: My wifes 403B is with Fidelity, and we participate in their Charitable Gift Fund. They are a long standing, solid and reputable company with a wide range of products. My comments above relate purely to the mathematics of performance, not the underlying companies.

[dh003i]

John's post makes some good points, but I wasn't referring specifically to Fidelity's retirement YYYY funds. Whenever you are looking at mutual funds, and find two with similar attributes, you should go with the one with a lower expense ratio. Vanguard also offers retirement YYYY funds, which compare favorably to those offered by Fidelity. In general, whenever you are considering index funds, Vanguard is probably going to be the best company to go to. An index fund is an index fund, and pretty much the only thing that should be different from one index fund to another is the expense ratio [assuming the two index funds are indexing the same thing; e.g., S&P 500 index fund should invest exactly the same in ML, Fidelity, Vanguard, T.R. Price, etc except for the expense ratio).

Merril Lynch index funds are terrible in that respect. Fidelity is very good in that respect, but Vanguard is simply the best with regards to low expense ratios (which is why I always include them along with Fidelity for investment options; note, ignore the performance numbers in that chart, they are not up to date). As can be seen, there are no Fidelity index funds that have lower expense ratios than equivalent Vanguard index funds. Albeit, Fidelity S&P500 at 0.19% is not far behind Vanguard S&P500 at 0.18%.

Vanguard Target Retirement 2045 Fund.

Fidelity Freedom 2040 Fund.

You will find that Vanguard's retirement fund has an impressively low expense ratio, which largely mollifies John's concerns. That is, if what you want is such a fund.

Regarding the fund-searching tool, I suggested Fidelity's one because it is the one I've used. Vanguard also has a fund-searching tool, which in some respects is easier to use (more simple).

[Guest roth_ira_questions]

thanks again for the replies. So far, I have decided the following:

1. Since my sallie mae loan has a higher interest(5%), I will pay it off sooner and only make minimum payments on my direct loan.

2. Although I am looking for a better job, the chance of me finding one is slim, so I will leave $5k of my savings in the current account because I can get to it immediately from my local bank.

3. I will move $11k of my savings into another savings account with ing direct(2.1% interest). This rate is higher than CD rates of most banks, so I think it is a good deal. I will add money into this account each month.

4.I will open a roth with $3k, and add $50 each month beginning next year

Now, the next issue is what fund to invest in for the roth. The following funds interest me, particularly the first two.

-Total Market Index Fund (VTSMX)

-500 Index Fund Investor Shares (VFINX)

-Target Retirement 2045 Fund (VTIVX)

-LifeStrategy Conservative Growth Fund (VSCGX)

-LifeStrategy Growth Fund (VASGX)

-LifeStrategy Moderate Growth Fund (VSMGX)

Spartan Total Market Index Fund (FSTMX)

Is there anything good/bad about these funds from your own experience. The first two I have seen mentioned on other sites, so they seem like the best choice. It was suggested I get a fund that I dont have to "pay attention" to. Would the Total Market Index & 500 index Funds fit that description? Is it possible to split the $3k between funds? Is this a good idea?

A major issue for me is fees. I hate the idea of a % of my earnings being taken away, but I will deal with it if there is no other option. When I look at the fees section for funds, it is confusing. Here are links to the funds:

http://personal.fidelity.com/products/fund...shtml?315911404

http://flagship5.vanguard.com/VGApp/hnw/Fu...&FundIntExt=INT

Could you tell me how much I will be charged each year from each of those funds? Is it possible to switch between investment companies(i.e. move my funds from vanguard to fidelity)?

thanks again for any assistance.

[dh003i]

roth_ira_questions:

Fidelity Spartan Total Market Index Fund charges an expense ratio of 0.25%, which is how much of your investment they will take as a service-fee each year. There is an additional short-term trading fee of 0.50% if you switch funds within 90 days. This should not be an issues, however, since you should never do that. However, Fidelity Spartan Total Market Index Fund requires a minimum initial investment of $15,000 dollars. The word "Spartan" means sparse, which usually means a "sparse expense ratio"; in general, you only get a special deal if you have a lot of money to invest. If you cannot put in a minimum of $15k to start out, you aren't eligible for this fund.

Looking at Fidelity's website, it seems like almost all of their index funds are Spartan funds, and even then still have higher expense ratios than Vanguard's regular investor class index funds. Thus, I do not recommend considering Fidelity if you are looking for an index fund, or retirement YYYY fund.

Vanguard Total Stock Market Index Fund Investor Shares charges an expense ratio of 0.20%. If you plan on having that mutual fund in a Vanguard Roth IRA, they charge a yearly custodial fee of $10 for each fund having a balance of less than $5,000. The fee is waived if you have more than $50,000 worth of assets with Vanguard. There is also an quarterly fee of $2.50, deducted from your funds distribution-dividents; the fee is waived for accounts with less than $10,000. You may be able to get Vanguard to waive the fee by asking.

I would personally never invest in a fund with an expense ratio of more than 1%, except under very exceptional circumstances. That I've seen, none of Vangaurd's funds have expense ratios of more than 1% (in fact, almost all of them are below 0.5%). So, my advice to you if you're looking for an index fund and are concerned with expense ratios is to look no further than Vanguard (unless John or someone else here knows of a company with lower expense ratios than Vanguard, though I highly doubt such a company exists).

I do not recommend splitting your assets beween an S&P500 index fund and a Total Stock Market index fund, since they largely over-lap (their performance has historically been almost the same, and the S&P500 is largely represented in teh TSMI). I recommend that you stick with the S&P500 if deciding between the two of them, since Vanguard's S&P500 has lower expense-ratios (and the S&P500 has slightly outperformed the TSMI over the long-haul). I also don't recommend splitting between the S&P500 and the Target 2045 Retirement fund (as it has a large component of S&P500).

The one thing to remember regarding the Target 2045 Retirement fund is that it is generic. How close does its change of assets over the years meet <I>your</i> needs? Do you think you're going to retire in 2045? Does its shift of assets from stocks to bonds seem too conservative for you, or too aggressive for you? If you think that 2045 is approximately when you're going to retire, and you think the fund's strategy matches up well with you, then you will want to consider it; otherwise, probably not.

It is possible to swtich your Roth between different companies, but it's a pain.