by Archie M. Richards, Jr., CFP^®
January 30, 2005

Monroe writes, "With $325,000 invested in Vanguard funds, I have followed your recommendations of 30 percent U.S. stocks, 30 percent international stocks, 20 percent REITs, and 20 percent long-term bonds. The results have been excellent. But your recent column about the Robot Portfolio was an eye-opener. (See dated 1/9/06.) Should I invest $70,000 in Robot stocks, or would this be too risky?"

Investing in the Robots is a good idea, Monroe, but don't overdo it. Substitute Robot stocks for some of the U.S. stocks.

My "Suggested Portfolio" calls for the following U.S. stocks:

The Robot stocks qualify as value, not growth. You might remove Big Value (5%) and Small Value (3%) and insert the Robots (8%), leaving Big Growth and Small Growth unchanged.

But since the Robot stocks have performed spectacularly, you could beef up its portion to, say, 12 percent, leaving the following mix:

You propose putting $70,000 into Robots stocks, making them a whopping 21 percent of your portfolio. It's tempting to cut diversity and acquire a big chunk of a highly-successful investment. Here's why this isn't a good idea:

• The next big movers among U.S. stocks are those that got hit hard during the 2001 recession: growth stocks. (See my 11/28/05 column.) Growth stocks may beat out even the Robot stocks in the next few years.

• In the long run, the Robot stocks will undoubtedly outdo my suggested mutual fund or ETF portfolios. If you dropped my recommendations altogether and kept all your money in the Robots, you'd probably come out just fine. But you'd suffer considerably more volatility and run the risk of selling at low prices when the news is bad. For successful investing, hanging on when everyone around you is pessimistic is vital.

If you're sure you would never, ever - cross your heart and hope to die - sell because of bad news, you can beef up your Robot portion as high as you please.

But for us normal folks, reducing volatility is essential. Diversity cuts volatility and increases returns. I'd give the Robot stocks 12 percent, max.

Okay, assume you do this. A year later, let's say the Robots have risen from 12 percent to 16 percent of your portfolio. In acquiring the following year's Robot list, you should draw the group back to 12 percent and invest the difference in other funds. Rebalancing rules should apply to the Robots as well to other investments.

Diversity lessens risk and increases returns. Successful investing requires it.

Augie, a recent college graduate, has a $50,000 loan at 1.6 percent interest and a $10,000 loan at 5.5 percent. He also has $10,000 in a variety of Vanguard index funds. "I have available an extra $100 a month," he writes. "Should I invest this or pay off the loans? I tried using calculus to make the choice, but this didn't work."

Calculus is no substitute for judgment, Augie. The answer to your question is . . . well, it depends on your personality.

Vanguard's minimum per fund is $3,000. With your $10,000, I'd put half into the Total Stock Market Investor Fund and the other half into the Total International Stock Market Investor Fund. (Later, diversify to REITs and long bonds.) Your total returns should average out to something like 10 percent a year, with considerable fluctuation year to year. This is higher than the interest you're paying on either loan.

But you must not try to guess when to get in and when to get out. The effort will fail. If you can steel yourself against selling in panic when the news is bad, invest the $100-a-month into the two stock funds and retain the loans.

If you're not sure what you'd do, don't take the chance: Repay the loan instead.