The financial planner couldn't believe his ears. He was reviewing the financial assets of a new client and the client, an older gentleman, informed him that he owned 124 mutual funds. That's right-124 funds!

Beyond what must have been a paperwork nightmare, the man was following a common myth among mutual fund investors: the more funds you own, the more diversified you must be. Indeed, many investors, caught up in the latest "hot" funds touted in the press, collect mutual funds like philatelists collect stamps or beachcombers collect seashells. But investment experts say owning too many mutual funds can actually be counterproductive, and may mean you're less diversified than you think.

So how many mutual funds should you own? There is no magic number, and there is fierce debate among experts. Some say as few as 4, others as many as 20. The happy median seems to be around 10 to 12. However, the best answer depends on each investor's goals and objectives, amount available for investing, and risk tolerance.

People buy mutual funds in part because most funds own dozens of-sometimes over 100-stocks.. Most investors can't afford that many stocks on their own. So if one fund can provide that kind of diversification, doesn't it make sense to buy many mutual funds to own even more stocks?

No, according to recent studies. Two college professors published a study in the Journal of Investing that found that owning just four mutual funds reduced investor risk by 75 percent. Owning eight funds reduced risk a little more, but holding more than eight funds did little to reduce risk.

It isn't just a matter of the number of funds you own, either-it's what type of funds you own. Suppose you own eight funds in your portfolio, but six of them are growth funds (funds that seek price increases in stocks, not income through dividends). Although each fund will invest in different stocks, they'll likely own many of the same found similar types of mutual funds overlapping each other as much as 25 percent or more. Thus, you're not as diversified as it may appear. Furthermore, if growth funds in general do poorly, most likely all six of those growth funds will, too-and so will your portfolio since it's riding heavily on those six funds.

Besides offering little or no additional diversification, owning too many funds is costly. Owning 20 stock mutual funds may basically end up mimicking the stock market. But you can mimic the stock market by owning a single index fund-at far less cost in fees and taxes. Pius, by spreading your wealth among fewer funds, you have greater opportunity to reduce sales commissions.

So what you're looking for is to own several different types of funds, but not too many of each type. (One seems to be sufficient in each fund category; two are okay if they don't overlap, say experts.) Then if one part of the market is down (such as growth), other types of funds in your portfolio (such as value or international or bond) may be up, or at least losing less than growth in a down market.

The amount of money you have to invest also makes a difference. If you're just starting out with $1,000, it's probably best to stick to a single fund, such as an index fund or growth and income. As you increase the size of your portfolio, you can begin adding funds, such as a growth fund, a value fund, an international fund, a real estate fund, and a bond fund. What funds you own also will depend on what nonfund investments you own, such as individual stocks or direct real estate.

Your goals make a difference, too. You may want different types of funds for different purposes. You might want a more aggressive fund for retirement or a more conservative fund if you're saving for college two years away. A high-income investor might want to include a tax-free municipal bond fund, but a low-income investor would have no real need for one.

The important point is to have a purpose for each fund you buy. Don't buy it just because it's the latest touted fund or the prettiest shell on the beach. If you want to invest in a fund that's doing better than a similar fund already in your portfolio, consider replacing the existing fund, not simply adding the new one. Otherwise, over time you'll find your portfolio clogged up with too many funds and your files clogged up with paperwork.

August -30- 1997