Exchange traded funds (ETFs) have yet to fully ingratiate themselves into the retirement plan market, but the recent meltdown with the markets and mutual funds may provide the necessary entry point for these funds to get their big break.
While investors wait for full implementation, though, there are ways to build your own retirement portfolio while using ETFs. By buying and holding an ETF, if that’s what you’d like to do, it’s one of the cost-effective ways of using them because you’re cutting down on trading costs, Katy Marquardt for U.S. News & World Report points out.
Here’s how to build your portfolio:
- Core & Explore: A portfolio consisting of all ETFs is possible, however, many prefer to use one or two positions with ETFs for exposure to a certain sector or region.
- Diversification: The shifts within the markets are best handled by a well-diversified approach to both foreign and domestic stocks. Volatility in the markets is tamed by having a well-rounded portfolio that does not concentrate too much in one area. And it’s also wise to ensure that you’re invested across non-correlated areas so that all your investments don’t go up and down in lockstep, says ABCs of Investing. Ultimately, your portfolio allocation also hinges on a number of factors, including financial goals, age, life expectancy, and your ability to tolerate risk. My book, iMoney:Profitable ETF Strategies For Every Investor, provides model portfolios geared for a range of investors, from young to those closer to retirement.
- Limit stock-specific risk: ETFs are perfect for doing this, as they avoid company-specific risk by investing in a variety of different stocks or companies within the same sector.
- Underperforming active managers are out: We point out that most managers weren’t earning their keep even before the market meltdown. Broad-based ETFs charge much lower fees than actively managed mutual funds and most mutual funds gave negative performance in 2008.
- Take stock: If rebalancing your portfolio is in the picture, now is the time to do so. The upside to selling and buying now is that you can purchase many ETFs at deep discounts. In future years, if your mutual fund is gearing up for a big year-end capital-gains distributions and has straggled, we recommend replacing it with an ETF in a similar asset class. Plus, you’ve got a loss you can use to write off future gains. As with mutual funds, you can write off investment losses up to $3,000, and losses beyond that can be carried forward to future years.