Through painful experience, investors have learned two things about the stock market: (1) When interest rates fall, stock prices go up, and (2) vice versa.
This knowledge bred a simple investment strategy: Keep all your savings with a family of mutual funds that offers several types of funds under the same roof, and move your money from fund to fund as conditions change. You want an organization with at least one good mutual fund invested in stocks, a money-market fund and perhaps a bond fund for income. And you want a "no-load" group that charges no sales fees.
When interest rates fall, fund-family investors buy the mutual fund that invests in stocks. When interest rates rise again, two or three years later, investors switch out of stocks and into the money-market mutual fund. The money fund keeps your capital safe while you wait out a falling stock market. While you wait, you are earning a daily interest rate that rises and falls along with the general level of market rates.
It's possible to follow this strategy without seeking out a family of funds. You could buy any mutual fund that interested you, and switch to an unaffiliated money fund or bank account when stocks grew weak and interest rates began to rise. But it can take a couple of weeks of written correspondence to sell a mutual fund, and many investors find letter-writing a chore. You may also need a bank to guarantee your signature on the sell order. The advantage of dealing with a fund family is that you can sell one fund and buy another with just a phone call.
Some fund families limit the number of times you can make a switch. But that's usually no handicap. When you invest by the interest-rate cycle, you normally don't move money from stocks to money funds (and vice versa) very often. There are generally no more than two significant turning points in the market over a three- to four-year market cycle. The fund may charge a fee of $5 or so every time you switch. When you sell a fund at a profit you will, of course, pay a tax on your capital gain.
When you choose a fund family, do all the paperwork in advance that you'll need to change investments by phone, advises William Donoghue of Donoghue's Moneyletter. Check the box on the application form that requests the right to telephone-switch. Ask for the prospectuses of every mutual fund in the group. (By law, you cannot buy a fund unless you have received the prospectus describing its history and operation; having all the prospectuses frees you to buy the fund you want.) If there's a box indicating that the fund will accept wire transfers of money from your bank, check that box, too. Mail (or wire) your fund a check when you send in your application.
When you call in a switch, it will be tape recorded (so that your instructions will be legally documented). Donoghue suggests that you make your own notes of the transaction, to be sure that it's done properly. You'll be asked whether you received and read the prospectus of the fund you're switching to; if you haven't, your order cannot be processed.
Below is a list of the 10 no-load mutual-fund families currently recommended by Donoghue for investors who want to be able to switch money back and forth between a growth fund and a money-market fund. Each group's leading equity fund is shown in parentheses, along with its total percentage increase from 1978 to 1982:
Vanguard Group (Explorer Fund, up 261 percent), Valley Forge, Pa.; Value Line Securities (Value Line Fund, up 226 percent), New York City; Stein Roe & Farnham (SR&F Capital Opportunities Fund, up 218 percent), Chicago; Scudder (Scudder Development Fund, up 212 percent), Boston; T. Rowe Price (New Horizons Fund, up 192 percent), Baltimore; Financial Programs (Financial Dynamics Fund, up 151 percent), Denver; SAFECO Securities (SAFECO Growth Fund, up 145 percent), Seattle; Dreyfus (Dreyfus Number 9, up 141 percent), New York City; Lexington Management (Lexington Research Fund, up 118 percent), Englewood Cliffs, N.J.; and Fidelity (Fidelity Contrafund, up 110 percent), Boston.