Switching fund types in IRA?

[Guest guyweldo]

I want to start a Roth IRA account, and deposit the max $4K for 2005, possibly another $4K for 2006.

Right now I'm looking at Fidelity & Vangaurd (leaning towards the latter because of low expense ratios) but it looks a bit more involved than just giving a company my money and have them invest it. So many different plans to choose, and I could use some advice! Looks like each company has many different funds, small cap, large cap, growth, value, blend, international, domestic, etc. They also have targeted retirement year funds (2030, 2040, etc), which seems like an easy choice, but do they perform well?

Vanguard Target Retirement 2035 Fund (VTTHX)

http://flagship3.vanguard.com/VGApp/hnw/Fu...&FundIntExt=INT

Fidelity Freedom 2035 Fund (FFTHX)

http://personal.fidelity.com/products/fund...shtml?315792655

One thing I haven't really found in any FAQ of the companies: I'm wondering which of these companies will be more flexible... what if 10 years from now the economy changes a bit and I realize that my money would be better invested in a mid-cap value fund rather than the large-cap growth fund that I chose at first? Will these companies allow me switch funds like that? Will there be a fee/penalty? I don't know if that's a dumb question or not, but I want to invest NOW and not worry too much about choosing the perfect fund.

I'm 27 years old, also looking to buy my first house soon. Which brings up a 2nd question:

I have $18K right now, would my money be better served with a bigger down payment? ($14K down/$4K IRA) Or starting off with a bigger chunk of money in an IRA? ($10K down/$8K IRA)

15 year loan probably, around 5.5% APR? Looks like an extra $4K down for the house would only save me $350 a year, not much. And with lots of new bills, I doubt I'll be able to make the max $4K contribution to the IRA each year, $2K a year sounds realistic. Investing that sounds better, yes?

Thanks for any advice!

[John G]

Lots of questions.... I can address some, but others require more info to be posted.

At age 27, just getting started, regardless of which company you choose (and there are many other choices like Scottrade, Etrade, Brown & Co, Muriel Siebert, Schwab, hundreds of other brokerages plus hundreds of mutual fund families) you basically need one broad based mutual fund for the next few years. Sure it won't hurt to pick two, but almost all mutual funds have plenty of holds to achieve diversification within their "catagory". You might even keep one general mutual fund for many decades, or as your total assets grow eventually add another fund or two. The arguements for one fund - keep it simple, avoid multiple account fees and you don't have to be perfect on diversification so most broad portfolios will do. If you would enjoy looking at how 2 or 3 funds perform, you might want to fund them all with equal amounts and watch the horse race... if that helps you stay interested in tracking your money.

There are some significant differences between mutual funds. The biggest difference lies between the LOADED funds (that charge front or back end commisions) and the NO LOAD funds (no commissions). The next biggest difference is between actively managed funds (like Fidelity Contra) and INDEX funds whose portfolio is managed by a computer based upon one of the many lists (like Standard and Poors 500 large industrials). The annual expenses of various funds are another issue. And, finally, the scope, focus or investment objectives of the fund. I list this last because you should be choosing a fund with a broad portfolio rather than some of the very narrow niche products (emerging international health technology, or Japanese growth stocks).

I am not a big fan of "fund of funds" of any kind. The lifecycle funds (2035 Fund) are some examples of this. The tendency is for you to pay two layers of administration expenses. I think most folks are smart enough to make a few adjustments in their portfolio every five or ten years. "Funds of Funds" are basically a marketing gimic. They are selling brainless investing. Regardless of what approach you choose, you shouldn't just put everything on autopilot for 40 years. You should look over your statements after every transaction to make sure it is posted. You should think about fund performance once or twice a year.

Can you switch funds down the road - certainly, but I don't recommend chasing last years performance.

Can you switch custodians - absolutely, and the best way to do this is using a custodian to custodian transfer.

Fees - yep, funds and brokerages like to charge fees. But, you can ask for these to be waived. When you assets growth to 5, 10 or 20k the fees are often waived. Fees can be waived if you do a automatic monthly investment program, or if you elect for statements to be send by email. Not all custodians charge the same amount. Many have adopted an "early" exit fee.... but then the receiving custodian will often rebate that fee to you as they are pleased to get a new account.

HOUSE BUYING: Too big a Q and not enough info. Are you married? What is your current income? What debts to you carry (car, college loan and credit cards... at what rates) The housing market in some areas has boomed the last few years so you see media reports of hot money being made for a 1 year hold. That is not normal. At age 27, you are more likely to be moving, marrying, changin family size, etc. You should not consider buying a house unless you expect to stay in that house for 3+ years. Do you like painting, repairing, and mowing? These become your responsibility when you own a home. Post more info and I will take another stab at your situation. There are a lot of good things about owning your own place, but you don't want to rush that decision. The size of the down payment has many complicating factors. You get better leverage on your investment if your downpayment is small. Mortgages are relatively cheap right now. One caution - where is your emergency or backup resources? What happens if you lose your job, need to replace a car or pay for unexpected repairs? [My 23 year old daughter just bought a house. What she did not know about that process could fill a book. Four months after buying the house she started talking about moving to another city!]

[Guest guyweldo]

John, thank you very much for offering so much advice!

OK, so the "life cycle" funds aren't a good choice. I was going to go with one of those since it was so simple. I'll look into no load index funds. And I can have more than one, I didn't know that. Thanks!

About the house... not asking whether I should buy one or not, and I'm not buying one as a quick investment. I was just trying to figure out what would be the smartest thing to do with extra money I have, put more money into an IRA for last year, or more money for a down payment? I'm guessing the mutual fund is the better choice, earning around 10%, compared to paying around 5% for a loan?

Not married, no debt. The way I see it, I can buy a small house, with payments being slightly more expensive than renting an apartment. Maybe I'll have a roommate which will cut down the bills. Renting doesn't offer much, except an option to move after the lease term is up. On the other hand, a house I'm paying into a mortgage, at first mostly towards the interest but after a few years it is worthwhile. I was thinking with a house if I needed to move and couldn't sell it, I could rent it out.

I look at it the same way as buying a car, is that wrong? Leasing a car never made sense to me, cheap payments but you don't really buy anything, just using. Same as renting.

Oh and emergency funds? I've saved up $20K over the past year or two, I definitely wouldn't spend it all. I think $2K+ is enough to save for emergencies.

[John G]

Buying a house is a big decision. You understand part of the picture. In some areas, owning a house (and not moving for 3+ yrs) can give you a modest gain. But, when you talk roommates and renting the house you are getting beyond the financial analysis and getting into how your personality matches up to those tasks. There is a huge difference between buying a house in a growing metro area vs. say central Pennsylvania where housing prices are not climbing much.

A single guy, age 27 suggests to me renting for a little longer and building up your Roth and cash reserves. But, that is very long distance advice. Owning a home is going to tie you to the neighborhood for a long time. Talk to some of the folks at work or at your church.

Before renting to others becomes part of your plan, talk to some folks who own rental properties. There can be major headaches - abusive renters, midnight calls about plumbing, legal battles to evict, etc. Not everyone has the time/personality to be a landlord.

Good luck.

PS: Life cycle funds are not bad, they just a marketing driven option that pitches simplicity. At age 27, you should probably be heavily or entirely invested in equities because you have such a long accumulation/building period.