Although I am an avid individual stock investor, it is important not to overlook the wealth creation potential of low-cost exchange-traded funds (ETFs). They can be a great addition to a portfolio of individual stocks or a great way to invest all on your own – especially the low-cost variety of index funds.
With that in mind, if I could only use five ETFs to build an investment portfolio to last for decades, here is a list of the funds I would choose.
The five index funds I would use to create a portfolio
There is no perfect combination of five ETFs. I’m generally a fan of Vanguard’s funds because of their low cost, but there are also great ETFs from other companies, such as Charles Schwab, BlackRockand other.
If I were building a long-term investment portfolio with just a handful of ETFs, I would want to use a general ETF S&P 500 Index funds to form a portfolio “backbone.” I also want to invest in small cap stocks, international stocks and fixed income securities. So here are the five Vanguard ETFs I would use:
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The Vanguard S&P 500 ETF (NYSEMKT: FLIGHT) is an S&P 500 index fund that aims to match the returns of the benchmark index over time. Since 1965, the S&P 500 has delivered an average annual return of 10%.
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The Vanguard Small Cap ETF (NYSEMKT:VB) Provides access to smaller businesses. The S&P 500 is a weighted index of large-cap stocks, so its performance depends primarily on the largest U.S. companies. This adds small caps, allowing for more diversified exposure to the US stock market than an S&P 500 index fund alone.
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The Vanguard International Stock ETF (NASDAQ:VXUS)Invests, as the name suggests, in an index of companies based outside the United States. I’m a fan of international exposure, and a simple index fund like this can be a great way to achieve that.
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The Vanguard Real Estate ETF (NYSEMKT:VNQ) adds diversification and income to the portfolio. This is an index fund that consists primarily of real estate investment trusts, or REITs. Not only do these stocks pay above-average dividends, but they also tend to be less volatile than the S&P 500.
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Finally, this Vanguard Total Bond Market ETF (NASDAQ:BND) represents an index of fixed-interest securities (bonds) with exposure to corporate and government bonds of different maturities. Fixed income securities typically provide consistent income and are (generally) not nearly as volatile as the stock market.
How I would distribute my money
As a general rule of thumb, I subtract my age from 110 to determine the percentage of my assets that should be invested in stocks and the rest in fixed income. I’m in my early 40s, so that means I should have about 70% of my money in stocks. I tend to think I have a fairly high risk tolerance, so my actual equity allocation is closer to 80%.
Of the five index funds I listed, four are equity-based ETFs. I would put about half of my stock allocation into the S&P 500 index fund and split the rest equally between the other four. However, it is important to regularly take stock of the performance of your investments and your age and rebalance accordingly.
How much can you expect from such a strategy?
There is no way to accurately predict how investments will perform, especially over shorter periods of time. The stock market has historically produced annual returns of approximately 10% over several decades, and fixed income investments have historically produced total returns in the 4% to 5% annual range.
With such a balanced strategy, you can certainly expect a long-term return of around 7%. To put this in perspective, if you start at age 30 and invest $5,000 annually in an index fund portfolio like this with an average annual return of 7%, you would have about $700,000 by the time you’re 65. By the time you’re 25, you could This simple, straightforward strategy will allow you to retire a millionaire.
As Warren Buffett said, “It is not necessary to do extraordinary things to achieve extraordinary results.” And that goes for investing too if you have two things – rock-solid ETFs and time.
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Charles Schwab is an advertising partner for The Ascent, a Motley Fool company. Matt Frankel holds positions in the Vanguard S&P 500 ETF and the Vanguard Specialized Funds – Vanguard Real Estate ETF. The Motley Fool has positions in and recommends Charles Schwab, Vanguard Bond Index Funds – Vanguard Total Bond Market ETF, Vanguard Index Funds – Vanguard Small-Cap ETF, Vanguard S&P 500 ETF, Vanguard Specialized Funds – Vanguard Real Estate ETF, and Vanguard Star Funds – Vanguard Total International Stock ETF. The Motley Fool recommends the following options: Short $65 June 2024 puts on Charles Schwab. The Motley Fool has a disclosure policy.
“If I had to put together a portfolio of just 5 ETFs, here’s exactly what I’d buy right now” was originally published by The Motley Fool