After a Plunge, Balanced Funds Can Lift You Up

If a portfolio isn't diversified enough to go stocks-only, here are some especially safe funds in a rebound.
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NEW YORK (TheStreet) -- September and October have traditionally been the worst months of the year for stocks. The S&P 500 fell 10.9% in September 2002 and 16.8% in October 2008. This year, odds are good that another seasonal dip will occur. With the economic outlook uncertain, any setback could send investors running.

If stocks plummet, should you buy? Yes, says Dan Wiener, editor of

The Independent Adviser for Vanguard Investors

newsletter. Buying on dips has long been a successful strategy, he says.

Wiener studied the market going back to 1983 and found that there were 50 instances when the

S&P 500

lost 3.5% or more in a single day. In 41 of the cases, the market recorded gains in the following 12 months. The biggest one-day decline occurred Oct. 19, 1987, when the S&P lost 20.5%. In the next year, the market gained 27.0%. After losing 9.0% on Oct. 15, 2008, the S&P gained 24.1% during the next 12 months.

To take advantage of big downturns, investors with diversified portfolios should put money into all their stock holdings. But some funds are especially safe ways to bet on a rebound. Wiener looked at how individual Vanguard funds performed following the big down days. Among the best performers were balanced funds, which hold mixes of stocks and bonds. The fixed-income stakes provided protection because bonds stay in the black most of the time.

Consider

Vanguard Wellesley Income

(VWINX) - Get Report

, which keeps about 60% of its assets in bonds and the rest in undervalued blue chips. Current holdings include

Home Depot

(HD) - Get Report

and

E.I. du Pont

(DD) - Get Report

. Wellesley recorded a gain in each of the 12-month periods that followed a big one-day loss. On average the fund gained 15.9% during the recoveries.

Another top choice was Vanguard Wellington, which has about 40% of assets in bonds and 60% in unloved dividend-paying stocks. Holdings include

AT&T

(T) - Get Report

and

United Parcel Service

(UPS) - Get Report

. Wellington stayed in the black in all but two of the 50 recovery periods and delivered an average gain of 20.0%.

Both Vanguard funds are fine choices. For investors who shop outside Vanguard, a strong balanced selection is

Manning & Napier Pro-Blend

(EXBAX) - Get Report

. The fund excels in downturns by holding high-quality bonds and a diversified mix of stocks that include growth and value names.

Wiener's study suggests that investors who want to bet on a rebound can fine-tune their approaches. Those who crave safety can stick with low-risk balanced funds. More aggressive shareholders can try funds that are almost entirely in stocks. On average, stock funds recorded bigger gains during rebounds -- and suffered more losing years than balanced funds did.

Vanguard Windsor

(VWNDX) - Get Report

, a large-value portfolio, gained an average of 29.2% during the recovery periods, but suffered six losing years.

Vanguard International Value

(VTRIX) - Get Report

returned 27.6% and recorded eight losing years.

Investors who seek a middle ground should consider convertibles funds. During the 50 periods in the study,

Vanguard Convertible Securities

(VCVSX)

only had four losing years, yet the fund delivered a strong average gain of 23.7%.

Convertibles could be an intriguing choice for today's market conditions. Convertibles are bondlike issues that can be converted to stocks. The securities are hybrid instruments with qualities of bonds and stocks. Convertibles typically yield more than stocks and a bit less than bonds. Vanguard Convertible currently yields 4.0%. The rich yield helps cushion convertibles funds during market downturns. When stocks rise, convertibles tend to climb.

For a resilient choice, consider

Calamos Convertible

(CCVIX) - Get Report

. The fund has outdone most competitors in downturns and delivered decent results in bull markets. That kind of consistent performer can be an ideal choice for investors who seek funds that can cushion portfolios during hard times and rally in bull markets.

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Stan Luxenberg is a freelance writer specializing in mutual funds and investing. He was executive editor of Individual Investor magazine.