Today I am going to look at setting up a portfolio based on the bogleheads simple three fund investment portfolio. I like the idea of starting off with a simple portfolio and then building up from there. Perhaps an even simpler option would be a target date retirement fund but if you are more of a DIY type investor the three fund portfolio is a great starting point.
What is the Three Fund Portfolio?
As the name suggests your portfolio will be made out of three low cost index funds. A Domestic Total Market Stock Fund, an International Total Market Stock Fund and a Total Market Bond Fund.
The Three Fund Portfolio offers the following features:
- Greatly diversified across thousands of stocks and bonds
- Very low cost and tax efficient
- Easy to rebalance
- Incredibly simple structure
First Things First
The first thing that you need to do is determine your stock to bond ratio based on your own risk tolerance and investment goals.
Great! Now that you know your bond allocation, how about the domestic versus international component. A lot of experts recommend around a 50/50 split between domestic and international stocks but this is determined by a large number of factors. The majority of investors have a large bias towards their domestic market. If you live in the US your domestic market is a large percentage of the world’s market around 50 percent. If you live in Australia the domestic market is only 2 percent of the worlds market.
Picking your 3 funds
As long as you meet the following criteria you will generally be fine “low cost index funds that represent entire markets”. Your choices will vary depending on geographical location but you should find most of the big players have funds available in your location. Vanguard, Fidelity, Charles Schwab, Blackrock iShares, State Street SPDRs and so on.
I am biased towards vanguard so I will be using their products for my examples. You can also choose between managed index funds and ETF’s. When choosing between Managed Funds and ETF’s you must consider investment amounts, minimums, fees and taxes.
US Based Vanguard Funds
- VTSMX – Vanguard Total Stock Market Index Fund
- VGTSX – Vanguard Total International Stock Index Fund
- VBMFX – Vanguard Total Bond Market Fund
US ETF Equivalent
- VTI – Total Stock Market ETF.
- VXUS – Vanguard Total International Stock Index Fund ETF.
- BND – Vanguard Total Bond Market ETF.
Australian ETF Equivalent
- VAF – Vanguard Australian Fixed Interest ETF
- VAS – Vanguard Australian Shares Index ETF
- VGS – Vanguard MSCI Index International Shares ETF
Now that you have selected your 3 funds you can split your investments up between them. An example allocation for someone living in the US might be 4o% VTSMX, 40% VGTSX and 20% VBMFX.
NOTE: When starting out you can hold cash in a savings account as your bond portion of your portfolio.
When it comes to rebalancing you can balance your portfolio periodically like every 6 or 12 months. The other option is to check more frequently and rebalance if your allocations get out by a specific margin like +/- 5 percent.
You can use additional funds or dividend income to periodically buy the funds that are lacking to keep your asset allocation balanced. You may that you have to sell a fund that is out performing to purchase one that is doing poorly.
Building on the Three Fund Portfolio
Now that you have your simple three fund investment portfolio running like a well oiled machine you may wish to build on it. It is common for investors to introduce exposure to additional asset classes or tilt their portfolios towards particular asset classes.
For example you may wish to invest in emerging markets and allocate 5 percent of your portfolio to an Emerging Market Index fund or ETF. Even though the total market stock index includes small caps you may want to tilt your portfolio towards small caps by allocating 5 percent of your portfolio to a small cap index fund. The same could be done with property, commodities or any other asset class.
What are your thoughts and opinions on the Simple Three Fund Investment Portfolio? Leave a comment below or flick me an email on my contact page.