Balanced Fund

A balanced fund is a pooled investment, most often a mutual fund or an exchange-traded fund, that invests in both stocks and bonds and keeps the split between them within a stated range. The SEC's investor glossary treats "a balanced fund or an asset allocation fund" as the same thing and notes that these funds "typically hold a relatively fixed allocation," with a 60% stock and 40% bond portfolio as "one common example." What defines the category is the steady mix: the fund aims to hold roughly the same proportions whether its owner is 30 or 70.

The contrast with a target-date fund. The two are easy to confuse because both put stocks and bonds in one fund. The SEC draws the line plainly: target date funds "automatically change their investment mix or asset allocation over time as the target date nears," while "with balanced funds, the investment mix stays the same." A target-date fund follows a glide path toward more bonds; a balanced fund keeps its proportions unless its managers or its stated strategy change them. Someone who buys a balanced fund is choosing the mix once and delegating the upkeep, not the long-run shift.

One family, several mixes. Some fund companies sell balanced funds in a series with different proportions, labeled along the lines of conservative, moderate and aggressive, and these are sometimes called target-risk funds. The idea is the same in each: pick the level of risk, and the fund holds the matching mix. The proportions vary widely between companies, so the label is no substitute for reading the fund's stated allocation in its prospectus.

Its place in workplace retirement plans. The Department of Labor's rule on qualified default investment alternatives, the default funds a 401(k) can use for participants who never pick investments, includes a category for a fund holding "a mix of equity and fixed income exposures consistent with a target level of risk appropriate for participants of the plan as a whole." The regulation gives "a 'balanced' fund" as its example of that category, at 29 CFR 2550.404c-5(e)(4)(ii). It is one of several categories in the rule; target-date funds and managed accounts have categories of their own.

Risk and cost. The SEC adds that although balanced funds "are designed to reduce risk by diversifying among different investment categories, they still have the same risks as the underlying investments." A 60/40 fund still falls when stocks fall, and its bond holding carries interest-rate risk. The convenience is paid for through the fund's expense ratio. Building the same mix from two or three index funds, in the manner of a lazy portfolio, can cost less, at the price of rebalancing by hand. A single fund also cannot be split across accounts, so the bond income cannot be placed in a tax-advantaged account while the stocks sit in a taxable one.

The fund's prospectus states its target mix or the range it keeps to. When markets move the proportions away from the target, the managers sell some of what has grown and buy more of what has lagged, bringing the fund back toward its stated mix. The shareholder sees one share price, one expense ratio and one set of distributions.

Take an example with round numbers. A balanced fund with a 60/40 target holds $100,000: $60,000 in stocks and $40,000 in bonds. Over a year stocks gain 20% and bonds are flat. The stock holding is now $72,000 and the bond holding is still $40,000, so the fund is worth $112,000 and the mix has drifted to about 64% stocks and 36% bonds. To get back to 60/40, the fund needs $67,200 in stocks (60% of $112,000) and $44,800 in bonds. It sells $4,800 of stocks and buys $4,800 of bonds. An investor holding two separate funds would have had to make that trade personally.

Pros

• One fund supplies a complete stock-and-bond mix, which suits small balances and people who prefer a single holding.
• Rebalancing happens inside the fund, so the mix does not drift unattended.
• The steady mix makes the fund's risk level easier to understand than a portfolio that changes over time.

Cons

• The mix does not change as the owner's time horizon shortens, which a target-date fund would handle automatically.
• It carries the full risk of its stocks and bonds; a 60/40 fund can still lose a substantial amount in a bad year for stocks.
• The expense ratio can exceed the cost of building the same mix from index funds.
• A single fund cannot be split across taxable and tax-advantaged accounts, so in a taxable account its bond interest is taxed every year.