Investing in stocks is often associated with complication and sophistication. The reality is that it's very simple. To make it even simpler, reputable investors such as John Bogle (founder of Vanguard) have often recommended using a three-fund portfolio investing strategy.
What is the three-fund portfolio? What does it consist of? And, Why would anyone invest using a three-fund portfolio strategy? In short, this strategy consists of just that; a portfolio of three different funds!
What Is The Three Fund Portfolio And How Does It Work?
John Bogle (also known as Jack Bogle) is the founder of Vanguard, a reputable investment company that manages some of the most popular mutual funds and ETFs today.
His simplistic approach to investing inspired his followers, referred to as Bogleheads, to follow and promote the three-fund portfolio strategy to become one of the most widely followed strategies to investing.
The three-fund portfolio is an investment portfolio that consists of just three mutual funds or ETFs, usually that track the following broad markets and asset classes:
- US Stocks
- US Bonds
- International Stocks
By splitting your portfolio up evenly between three funds that track these broad markets, you are capturing the growth of a broad range of markets, companies, investments, and geographies.
Some popular stock index funds to consider using in the three-fund portfolio as shown in the image above are:
- US Stock Funds: Vanguard US Total Stock Market ETF (ticker symbol VTI) or iShares S&P Total Stock Market ETF (ticker symbol ITOT)
- US Bond Funds: Vanguard Total bond Market ETF (ticker symbol BND) or iShares Core Total USD Bond Market ETF (ticker symbol IUSB)
- International Stocks Fund: Vanguard Total International Stock ETF (ticker symbol VXUS) or iShares Core MSCI Total International Stocks ETF (ticker symbol IXUS)
Other index funds you can consider using for the total US Stock Market could be an S&P 500 Index fund or even a Russell 3000 Index fund.
The reality is you don't have to split the portfolio up evenly with 33% allocated to each fund (as the image above shows). When building a three-fund portfolio, you can use some of the following asset allocation models like:
- Aggressive: 80% Stocks (40% into each stock fund) and 20% bonds
- Moderately Aggressive: 60% stocks (30% into each stock fund) and 40% bonds
- Moderately Conservative: 40% stocks (20% into each stock fund) and 60% bonds
- Conservative: 20% stocks (10% into each stock fund) and 80% bonds
The strategy is simple, low cost, and can be passively managed meaning it takes little to no time to manage. Just select the funds and invest on automatic!
Why Follow The Three Fund Portfolio Strategy?
Why would anyone want to follow such a simple investment strategy? The benefits can be many including diversification, simplicity, broad market reach, cost-effective, little to no management required, and consistent average returns.
Diversification is one of the core principles of building a successful investment portfolio. Since your portfolio will only consist of three funds, each including potentially hundreds of stocks or bonds, your portfolio is already diversified by nature.
Simply select three funds set your investing to be on automatic transfers, then set it and forget it! It can't get much more simple than that!
You're portfolio consists of the three largest markets, theoretically encompassing all stocks everywhere in the world plus all US bonds.
Furthermore, it's diversification at it's finest. It's not just diversified among stocks and bonds, but industries, countries, and companies of varying sizes too.
Mutual funds have mostly low management fees, and ETFs only charge a fraction of a percent of your balance. In other words, you're paying only a fraction of a penny per dollar invested in an ETF, and mutual funds are only slightly higher than that.
Little Management Required
Since you are investing in funds that match a broad market, you don't have to worry about re-balancing, buying or selling positions, or planning for different economic events. The three-fund portfolio allows for total passive investing.
Consistent Average Returns
The history of the stock market and bonds market has an endless upward trend. Sure there are down markets, but those are almost always offset by the growth in other markets within your portfolio. The result is a consistent average return year after year (no guarantees, of course).
Does The Three Fund Portfolio Actually Work?
Stated another way, is the three-fund portfolio a successful investment strategy? While no investment strategy can guarantee it's success, the three-fund portfolio has a history of constant returns.
See the screenshot below taken from Bogleneads.org 2019 Three-Fund Portfolio performance update:
NOTE: CAGR means Compound Annual Growth Rate and STDev means Standard Deviation, or how volatile the fund is.
As you can see, the more aggressive the portfolio allocation, the higher the average returns, and the higher the risk (standard deviation or STDev).
So, is the three-fund portfolio a successful investment strategy? Absolutely! Furthermore, it's simple, cost-effective, and customizable.
Three Fund Portfolio Alternatives
There are other investment options available that might suit different investors better. Perhaps you wish to have a more hands-on approach, more customizing options, or have the ability to choose which companies are included in your portfolio while still diversifying.
Regardless of the style of investor you are, there are multiple alternative options to using the three-fund portfolio strategy.
Invest In Mutual Funds
Many people prefer to hand their money over to a trusted mutual fund that has a track record of success. The idea of having professional managers watch the investments regularly gives people peace of mind that their money is being managed properly.
However, investing in actively managed mutual funds with regular fund managers comes with a higher price tag than investing in index mutual funds or ETFs.
Create Your Own Funds
You can actually create your own funds using a popular investing app called M1 Finance. After opening a free M1 Finance account, you can create your own “pie” and include the companies you like the best and how much of the portfolio is allocated to each company.
Then, when you set your investing on autopilot, your money is allocated accordingly to your portfolio.
Invest In Individual Stocks
Investing in individual stocks is a total hands-on approach to investing, but also has the potential to achieve much higher returns if you know what you're doing.
I started a segment on our YouTube channel that lets you see how I pick individual stocks, along with their respective returns and why I chose each position.
Invest With A Robo Advisor
Lastly, if you want to set your investing on true autopilot and passive management, consider investing with a trusted robo advisor that builds a customized portfolio for you based on your answer to a few basic investing questions.
My top recommendation for robo advisors is Acorns. They build a customized portfolio diversified among multiple investments after getting to know your investment goals and risk tolerance.
Next, you can invest on autopilot with regular transfers or through their “Round-Ups” feature which lets you round up your daily purchases to the next whole dollar and invest your spare change.