by Archie M. Richards, Jr., CFP^®
February 25, 2002

Ben writes that most of his money is invested in mutual funds of large U.S. companies. He asks the following questions:

Why do financial counselors recommend international investments, when these have underperformed U.S. stocks for many years and are not predicted to do well for some time - especially Japan? Those who predict stock prices, Ben, generally project into the future the record of the recent past. For the last five years, foreign stocks have performed worse than U.S. stocks. Future prospects are therefore expected to be dim.

This is shortsighted. For fifteen years before the last five years, foreign stocks performed better than U.S. stocks. I expect them to outperform again. Foreign nations, after all, can take advantage of technology that has already been developed. For example, instead of spending billions to lay copper wires in the ground, they can move directly to wireless communication.

Not too long ago, three billion people were released from the agonies of communism. This is a key reason why the world in the next few decades will enjoy the most widespread economic progress in world history. With terrorism being cut down to size, even the Muslim nations, which are the poorest, will begin traveling the road to prosperity.

When Japanese stocks will start rising for good I do not know. But I do know this: The Japanese are well educated and hard working. They respect property rights and have a democracy. Eventually, they will stop the excessive government interference in the economy that has kept them down.

Now, while there's a war on and the prospects for foreign stocks are expected to be poor, take advantage of prices that are relatively low. Move half of your stock investments into a broad-based fund of foreign stocks. (The Vanguard Total International Stock Index Fund is probably the best.)

What do you think about moving 30-40 percent of our portfolio into bonds? This seems like too many bonds, Ben; twenty percent is sufficient. Put the other 20 percent into a fund that buys shares of all U.S. real estate investment trusts (a REIT index fund). The fluctuations of REIT prices differ from those of stocks and bonds. The greater the variety of asset classes, the better. While you're at it, diversify a small portion of your fund of large domestic stocks to a fund of small domestic stocks.

What should be the balance between short, intermediate, and long-term bonds? The longer the maturity of a bond, the greater the investment return and the greater the volatility of price. The ups and downs of bonds differ from those of stocks. To offset the high volatility of stock prices, it's desirable to hold bonds that also have high volatility. When stock prices are going down, the bond prices might be going up, cutting the overall risk. I therefore favor bonds that have long maturities.

Is it better to buy individual bonds or mutual funds of bonds? The safer the bond, the more you can rely on individual issues. U.S. Treasuries are the safest. (Call the Treasury Department at 800-722-2678 to buy individual Treasuries without commissions.) Junk bond are the riskiest. These you should certainly acquire through mutual funds, to diversify the risk.

How should corporate bond purchases be evaluated? By their ratings. Standard & Poor's, for example, rates the highest quality bonds AAA. Then comes AA, A, BBB, BB, B, CCC, CC, C, followed by junk bonds. The lower the rating, the higher the yield. Bonds rated BBB or better are unlikely to be defaulted. Ratings by Standard & Poor's and other rating organizations you'll find at the library. I recommend using a no-load mutual fund with low annual expenses that acquires low-rated and high-rated corporate bonds.

The most expensive schools aren't necessarily the best. The quality of an education depends less on the character of the school than it does on the student's effort. The following are fine schools, and they're less likely to break your budget wide open:

• Washington University, St. Louis, Missouri
• University of Denver, Colorado
• Drake University, Des Moines, Iowa
• Lake Forest College, Lake Forest, Illinois.
• University of Tulsa, Oklahoma
• Creighton University, Omaha, Nebraska (excellent for premed students)