Around this time each year, many of us resolve to take on a new good habit (or two) in the coming year. Maybe it’s exercising more or eating less. Or reconnecting with family, or disconnecting from electronics.
Many investors could benefit by resolving to simplify their portfolios.
"Clutter in your financial life--like clutter on your desktop--has the potential to distract you from the main jobs at hand," says Morningstar director of personal finance Christine Benz. "You may not bother reviewing and maintaining your portfolio if it has too many moving parts."
Further, Benz notes that if something should happen to you, a complex portfolio could make life difficult for your loved ones who are left behind.
Today, we'll discuss three ways that investors can craft simple portfolios and provide some fund picks for each. Of course, be sure to simplify in a tax-smart way. For some, that may mean limiting streamlining to tax-deferred accounts. Or it may call for only modest changes in a taxable account, where you can carefully offset gains with losses.
Idea 1: Swap your actively managed funds for index products. Passive investments have no key-person risk, no strategy surprises--and therefore arguably require less monitoring then their actively managed counterparts. Some might say that you can't beat the market if you're indexing it, which is of course true. But is a shot at beating the market really worth the extra monitoring? For most, probably not.
There are highly rated passive funds in all of the main investment categories to choose from, whether you're seeking growth or value stocks or a combination of the two, large or small companies, foreign stocks, and even bonds.
Among core domestic large-company funds, top passive choices include Schwab US Broad Market ETF SCHB, iShares Core S&P Total US Stock Market ETF ITOT, and Vanguard Total Stock Market Index VITSX/VTI.
Some solid passive small-cap options include Vanguard Small Cap Index VSMAX/VB, iShares Core S&P Small-Cap ETF IJR, and Schwab US Small-Cap ETF SCHA, which earn Morningstar Analyst Ratings of Silver.
Among passive foreign-stock funds, we like the Gold-rated Vanguard Total International Stock Index VTIAX/VXUS and iShares Core MSCI Total International Stock ETF IXUS, among others.
And lastly, some of our top passive bond fund choices include Vanguard Total Bond Market ETF BND and iShares Core Total USD Bond Market ETF IUSB; both earn Gold ratings.
Premium Members can access a complete list of all Morningstar Medalist funds here.
Idea 2: Opt for broad all-market equity funds instead of a collection of style-specific equity products. Experts have drummed into our heads the value of intra-asset class diversification. After all, sometimes growth stocks will lead the market, while other times, value prevails. As such, say the experts, make sure you have exposure to both styles. Also, small caps have periods of outperformance over large caps, so be sure to own both. And international stocks can zig when the U.S. market zags; don't forget about emerging-markets equities!
Those of us who've heeded that advice probably have dedicated large- and small-cap funds, individual value and growth funds, and perhaps even multiple international funds.
Do we really need all of these building blocks to have a well-diversified equity portfolio, or can one or two broad-based funds do the job instead?
Of course, far-reaching index funds--many of those already mentioned--can provide sufficient diversification. For instance, pairing Vanguard Total Stock Market with Vanguard Total International Index gives you exposure to a significant chunk of the global stock market. Just two funds, but plenty of diversification--and at a low cost, to boot.
But actively managed funds can fit the bill, too. Some highly rated, well-diversified active options in the domestic large-blend Morningstar Category include Fidelity Large Cap Stock FLCSX and American Funds Investment Company of America AIVSX. Among foreign stock funds, some active, wide-ranging options include Gold-rated American Funds International Growth and Income IGFFX and Silver-rated T. Rowe Price Overseas Stock TROSX.
To really simplify an equity position, investors might pluck a fund from the world stock category. Funds in this group focus both on U.S. and foreign stocks, thereby providing global diversification in one investment. Some of the most-diversified funds among our favorites in the category include American Funds New Perspective ANWPX, Vanguard Total World Stock Index VTWIX/VT, and DFA Global Equity DGEIX.
Premium Members can access a complete list of all Morningstar Medalist funds here. Idea 3: Delegate some/all of your asset allocation to a target-date or balanced fund. The previous two ideas assumed that investors want to retain control of their stock/bond mix. But for those who would prefer to back away from being hands-on with their asset mix, balanced or target-date funds may be of interest.
Both balanced and target-date funds combine stocks and bonds in one portfolio, providing asset-class diversity in a single fund and thereby reducing the need for a lot of oversight.
Balanced funds typically rebalance back to a target stock/bond mix. And those stock/bond blends can be conservative (holding 15% to 30% in equities and the rest in bonds), aggressive (which hold more stocks than bonds), and moderate (whose stock/bond splits are somewhere in between). Some top balanced funds include Dodge & Cox Balanced DODBX and Vanguard Wellesley Income VWINX.
Premium Members can access a complete list of all Morningstar Medalist funds here. Unlike balanced funds, target-date funds don't rebalance back to a target stock/bond mix. Instead, these funds provide an age-appropriate asset mix, and then generally make that mix more conservative as time goes by, increasing the bond position and decreasing the equity stake. The idea is to pick a target-date fund close to the year that you intend to retire. Both BlackRock LifePath Index Target-Date Fund Series and JPMorgan SmartRetirement Blend earn Gold ratings for their cheapest share classes.
Dig deeper: The Best Target-Date Series
The author or authors do not own shares in any securities mentioned in this article. Find out about Morningstar’s editorial policies.