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The Bogleheads' Guide to the Three-Fund Portfolio: How a Simple Portfolio of Three Total Market Index Funds Outperforms Most Investors with Less Risk: This book will teach you the concept of index fund investing and how to diversify your portfolio with minimal fees and historically same or better performance than most financial advisors. This is a LOT easier than it looks. As in, checking in on your investment account a few times a year. Strongly believe this book can save you hundreds of thousands, if not millions, over the course of your career.
Financial Advisors: If you love the idea of DIY but don't trust yourself to keep calm and invest on during market dips, consider a fee-only financial advisor to help you stay on track with your financial plans.
Introduction
So many companies and influencers want to sell you the latest and greatest get rich quick scheme. And since we aren't taught anything about financial planning in our formal education, it can be hard to tell who to trust and what opportunities are your best bet for investing. The idea of spending hours researching the stock market can be overwhelming for busy professionals who value their time and money. Many delay investing in their prime years and only start preparing for it near retirement, missing out on the best investing years. Or they outsource their future to financial advisors without understanding what they're invested in or why, which can leave them vulnerable to bad advice.
The three-fund portfolio is a historically proven great investing strategy that has a long track record of success, thanks to its features we're going to cover below.
The reality of successful investing is much more boring than what many influencers and "finance gurus" will pitch you. Target index funds are recommended in financial circles as one of the most simple and effective ways to grow your wealth for retirement, but you don't hear a lot about them on Instagram or TikTok because, let's be honest, they aren't sexy. The three-fund portfolio takes the target date index fund approach and adds flexibility by focusing on three funds:
a domestic total market fund
an international total market fund
a bond total market fund
Where It Comes From
The three-fund portfolio is credited to the Boglehead following, named for John C. Bogle, the founder of Vanguard. The Boglehead following have two investing books we recommend if you want to learn more not just about the three-fund portfolio, but the basics of investing including retirement accounts, estate planning, and more:
The Bogleheads' Guide to Investing
Why We Love the Three-Fund Portfolio for Physicians
The three-fund portfolio is lazy investing at its best. It's simple, it's proven to have a better long-term track record of gains than picking single stocks and trying to time the market, and it lets you generally "set it and forget it" when it comes to saving for retirement. By selecting total market funds, you can help keep your tax burden low in non-retirement accounts. And by spreading your investing across three board-spectrum funds, you earn diversification to help spread risk and balance losses in times of market swings.
Many of the top total market funds have upwards of 3,000-4,000 funds, allowing you a high diversity of assets, while you only have to focus on selecting three funds to manage them all.
Selecting Funds
There are several total market funds available in the marketplace through companies such as Charles Schwab, Fidelity, and Vanguard. When selecting your three funds, one of the biggest factors to consider is the expense ratio. Expenses within funds can be depictive, as you never see the expenses charged as fees to your account. The expenses are taken from the funds before returns and dividends. Without looking up the expense ratios of funds, you might not understand their true cost because you don't physically see the impact of higher expense ratios in your retirement or brokerage accounts.
In the section below, you'll notice we make the distinction of index funds, as they will have a lower expense ratio than similar managed funds.
Percentages by Fund
The biggest question when it comes to the three-fund portfolio is how to balance the three type asset classes of:
a domestic total market (index) fund
an international total market (index) fund
a bond total market (index) fund
This is where the flexibility in our graphic above comes into play. You can set your allocation by fund based on your age and risk tolerance. Bonds are typically considered more conservative that the domestic and international funds, so they are sometimes weighted more heavily for older investors or investors with lower tolerance of market fluctuations.
Here are three of the popular allocations across the three different asset types:
Setting and Forgetting: A Caution
While the three-fund portfolio is great because it's simple to learn and easy to manage, it isn't without its disadvantages, as we discuss on our personal finance primer page. While the three-fund portfolio has a "set it and forget it" mentality when it comes to selecting funds and asset allocation, keep an eye on your overall portfolio long-term to ensure the balances remain near the target percentages as they grow. If one of the three arms ends up doing significantly better, you may want to consider either rebalancing your portfolio to adjust for the gains or change the percentages of future investments to even out your diversification.
One of the features we highlight of the three-fund portfolio above is that it allows for flexibility when selecting your balance between the three-funds. Another caution against the "set and forget" mentality over the entirety of your life is that your risk tolerance over passing decades may change as you get closer to retirement. This is where the flexibility also comes in hand, allowing you to adjust the stock-to-bond ratio when you want to shift your portfolio to be more conservative in your golden years.
As your net worth grows and you look to diversify even more, you may want to consider something a little more advanced, like the four-fund portfolio, that includes other asset types such as REITs.
Learn More
If you're ready to explore more investment options, check out our investing page for lots of resources to help you get started. You can also check out our personal finance primer for more information on retirement and tax-advantaged saving. If you want a financial advisor to help you set up a specialized portfolio or to help rebalance and realign your investments throughout your wealth building journey, you can visit our financial advisors page.