Have you looked at the fund overlap of the funds in your portfolio recently? If you already have mutual funds, or if you are considering buying mutual funds now, don't overlook fund overlap.
A common error I see when analyzing prospective clients' mutual fund portfolios, is too much fund overlap, which occurs when an investor owns two or more mutual funds that hold similar securities. For example, many people use S&P 500 Index funds, international funds, and aggressive growth funds for their stock exposure. They also tend to hold other funds, thinking that more equals greater diversification.
Let's say an investor has a 401(k) at Vanguard and they also decide to open an IRA or brokerage account at Vanguard (already a potential mistake having all funds at one mutual fund company). Let's also say the investor holds Vanguard S&P 500 Index (VFINX) in their 401(k) and is considering adding Vanguard Growth Equity (VGEQX) to their IRA or brokerage account. How would they detect (and avoid) fund overlap? Let's find out.
They can go to Morningstar.com and enter a search for VGEQX. Once on that fund's main page, look for a link to "Ratings and Risk" and click on it. Once on that page, scroll down and you'll see that the R-squared is 97.
This number indicates that VGEQX has a 97% correlation in price movements to the S&P 500. In other words, it has too much fund overlap to provide proper diversification. The investor should look for a different fund choice (don't use both the S&P 500 Fund and VGEQX)!
Got fund overlap? Some overlap is almost inevitable but just be sure it is not excessive.
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