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Ever feel like investing is just too darn complicated? I know I did when I first started. All those fancy terms, endless stock options, and “expert” opinions telling you different things every day. It’s enough to make your head spin!
That’s why I wanna talk about something that changed my investing life the 3-fund portfolio method It’s basically the investing equivalent of a capsule wardrobe – just a few essential pieces that work perfectly together
What Is a 3-Fund Portfolio?
A 3-fund portfolio is exactly what it sounds like – an investment strategy where you only need three funds to create a diversified, low-cost portfolio These three funds cover
- A total U.S. stock market index fund
- An international stock index fund
- A U.S. bond index fund
That’s it! Just three funds to give you exposure to thousands of securities across different asset classes. This approach was popularized by John Bogle, the founder of Vanguard, who believed in keeping investing simple and costs low.
Why the 3-Fund Approach Makes Sense
When I first learned about this method I was skeptical. Could something so simple really work? But the more I researched the more it made sense.
The 3-fund portfolio offers:
- Simplicity: Just three funds to monitor and manage
- Broad diversification: You’re essentially owning entire markets
- Low costs: Total market index funds typically have rock-bottom expense ratios
- Easy maintenance: Only occasional rebalancing needed
- Solid long-term performance: Captures market returns without trying to outguess the pros
Building Your Own 3-Fund Portfolio
Let’s break down how you can create your own 3-fund portfolio:
Step 1: Choose Your Funds
You’ll need three total market index funds that cover:
U.S. Total Stock Market Fund
This gives you exposure to the entire U.S. stock market, from large-cap companies like Apple and Microsoft to smaller growth companies.
International Stock Fund
This fund invests in companies outside the U.S., giving you exposure to international markets and currencies.
U.S. Bond Fund
This provides income and helps stabilize your portfolio during stock market volatility.
Step 2: Decide Your Allocation
The percentage you allocate to each fund depends on your:
- Age
- Risk tolerance
- Investment goals
- Time horizon
A traditional rule of thumb is to subtract your age from 100 to determine your stock percentage (though some experts now suggest subtracting from 110 or even 120 since we’re living longer). The remaining percentage goes to bonds.
For example, if you’re 30 years old:
- 100 – 30 = 70% in stocks
- 30% in bonds
For the stock portion, you might split it 70/30 or 80/20 between U.S. and international stocks.
So a 30-year-old investor might have:
- 49% U.S. total market stock fund (70% of the 70% stock allocation)
- 21% International stock fund (30% of the 70% stock allocation)
- 30% Bond fund
Step 3: Implement and Maintain
Once you’ve decided on your allocation, it’s just a matter of:
- Opening an account with a brokerage firm
- Purchasing your chosen funds
- Rebalancing periodically (maybe quarterly or annually)
Sample 3-Fund Portfolios
Depending on which investment company you use, here are some fund options for building a 3-fund portfolio:
Vanguard Options
- U.S. Stocks: Vanguard Total Stock Market Index Fund (VTSAX)
- International Stocks: Vanguard Total International Stock Index Fund (VTIAX)
- Bonds: Vanguard Total Bond Market Fund (VBTLX)
Fidelity Options
- U.S. Stocks: Fidelity Total Market Index Fund (FSKAX)
- International Stocks: Fidelity Total International Index Fund (FTIHX)
- Bonds: Fidelity U.S. Bond Index Fund (FXNAX)
Schwab Options
- U.S. Stocks: Schwab Total Stock Market Index Fund (SWTSX)
- International Stocks: Schwab International Index Fund (SWISX)
- Bonds: Schwab U.S. Aggregate Bond Index Fund (SWAGX)
Pros and Cons of the 3-Fund Portfolio
Let’s be real – no investment strategy is perfect. Here’s what I think are the main advantages and disadvantages:
Pros
- Super simple to understand and implement
- Extremely low cost (many total market funds have expense ratios under 0.10%)
- Highly diversified across thousands of securities
- Tax-efficient due to low turnover in index funds
- Transparent – you know exactly what you own
- Evidence-based approach backed by academic research
Cons
- Requires some monitoring and rebalancing (though minimal)
- You won’t beat the market (but you won’t underperform it either)
- No exposure to alternative investments like real estate or commodities
- Could feel boring if you enjoy active investing
- May miss out on potential higher returns from individual stock picking
How a 3-Fund Portfolio Performs
Many investors worry that something so simple can’t possibly perform well. But history suggests otherwise. Total market index funds have consistently delivered solid returns over long periods.
For example, from 1970-2020, a portfolio with 60% in a U.S. total stock market index, 30% in an international stock index, and 10% in bonds would have delivered an average annual return of around 10%.
Of course, past performance doesn’t guarantee future results. But the beauty of this approach is that you’re capturing the overall market return, which has historically been positive over long time periods.
Common Questions About the 3-Fund Portfolio
Is three funds really enough?
For most investors, yes! The beauty is that each fund contains hundreds or thousands of individual securities. Your U.S. total market fund alone might hold over 3,500 stocks!
What about REITs, gold, or other asset classes?
The 3-fund portfolio intentionally keeps things simple. If you want exposure to other asset classes, you could consider a 4-fund or 5-fund portfolio, but that’s moving away from the simplicity that makes this approach so powerful.
How often should I rebalance?
Most experts suggest rebalancing once a year or when your allocation drifts more than 5% from your target. I personally do mine every January.
Can I use ETFs instead of mutual funds?
Absolutely! Each of the fund companies mentioned above offers ETF versions of their total market funds. ETFs can be especially good for taxable accounts due to their tax efficiency.
My Experience with the 3-Fund Portfolio
I’ve been using a variation of the 3-fund portfolio for about 5 years now, and it’s been a game-changer. Before this, I was constantly second-guessing myself, chasing hot stocks, and honestly, not doing very well.
Switching to this simplified approach has:
- Reduced my stress about investing
- Lowered the fees I’m paying
- Given me more free time (no more constant research)
- Improved my overall returns
The hardest part was actually accepting that I didn’t need to outsmart the market. Once I embraced that, everything got easier.
Is the 3-Fund Portfolio Right for You?
The 3-fund portfolio is ideal if:
- You value simplicity
- You want to minimize investment costs
- You don’t enjoy researching individual stocks
- You prefer a “set it and mostly forget it” approach
- You want broad diversification
However, it might not be right if:
- You truly enjoy active investing as a hobby
- You have specialized knowledge that might help you beat the market
- You need exposure to specific sectors or alternative investments
Getting Started with Your 3-Fund Portfolio
Ready to give it a try? Here’s how to start:
- Choose a brokerage: Vanguard, Fidelity, and Schwab all offer excellent low-cost index funds.
- Select your three funds: Pick a U.S. total market fund, international fund, and bond fund.
- Determine your allocation: Based on your age and risk tolerance.
- Make your initial investments: Purchase your funds according to your allocation.
- Set a rebalancing schedule: Annual is fine for most people.
Final Thoughts
In a world where investing advice often seems designed to confuse rather than clarify, the 3-fund portfolio stands out as a beacon of simplicity. It’s not flashy, it won’t make you rich overnight, and you probably won’t brag about it at parties.
But what it will do is give you a solid, diversified portfolio with minimal effort and expense. And for most of us, that’s exactly what we need.
I believe investing doesn’t have to be complicated to be effective. The 3-fund portfolio proves that sometimes, less really is more.
Have you tried the 3-fund approach? I’d love to hear about your experiences! Drop me a comment below or reach out on social media.
How to build a 3-fund portfolio
A three-fund portfolio consists of a U.S. total market stock fund, an international total market stock fund and a total market bond fund. These funds can be purchased through online brokers, and you typically shouldn’t have to pay an expense ratio of more than 0.10 percent.
Once you’ve identified the funds you’d like to purchase, you’ll need to determine how much to invest in each fund. In general, investors who still have decades before they plan to retire will hold a greater portion of stocks compared to bonds, while those who are close to retirement or already retired will have more invested in bonds.
One simple formula to determine the percentage of your portfolio to hold in stocks is to subtract your age from 100 (100 – age = amount in stocks). However, some experts think this approach is overly conservative.
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Much of the investing and financial advice landscape is complex, and often unnecessarily so. For most people who are saving for retirement, a portfolio that holds a combination of stocks and bonds will be the best path for achieving their goals. This simple approach can get complicated quickly, however, with advisors recommending different funds and changing asset allocations based on market predictions.
The idea of a three-fund portfolio appeals to many investors because it simplifies the investment process by focusing on the key asset classes you need exposure to and minimizing the fees you pay along the way. Here’s more on the three-fund portfolio and how you can build one for yourself.