When you look at your investment portfolio, does Rube Goldberg come to mind? Goldberg was a Pulitzer Price winning cartoonist famous for drawing complicated contraptions designed to perform simple tasks. In fact, Webster’s New World Dictionary defines a “Rube Goldberg” as a “comically involved, complicated invention, laboriously contrived to perform a simple operation.”

Investing should be simple. It’s not necessary to have a dozen or more mutual funds covering a wide range of asset classes. Such “diversity” complicates the management of your investments and isn’t likely to increase your returns or lower your risk.

Rube Goldberg came to mind when I recently read an email from a reader named Jason:

This is a great email on an important topic. Are we going to invest to mimic the overall market, or are we going to collect a dozen or more holdings? What’s the right approach?

I addressed Jason’s question about “value” funds in the podcast. In short, an index is designed to determine value versus growth based on math. They use ratios such as the p/e (price to earnings), p/b (price to book), and other objective measures of value.

But let’s get back to Jason’s main question – how complicated should investing be? The starting point is the 3-Fund Portfolio.

1. Three-Fund Portfolio

There’s a group loosely referred to as the Bogleheads (named after Vanguard founder, John Bogle)who advocate the Three-Fund Portfolio. The three-funds cover the three main asset classes (I’ve included Vanguard ETFs one could use to build a 3-fund portfolio, but mutual funds and investments from other companies could be used, too):

  • Total Market US Equities (Example: VTI)
  • Total Market Intl EquitiesExample: VGTXS)
  • Total Bond Market (Example: VBMFX)

With those three ETFs, you’d have the investment markets covered, but only three funds to manage, allocate and rebalance. This is the direction I’m heading as I simplify my investing. Note that you could simplify this even further with a target-date retirement fund. Vanguard’s target-date funds, for example, use the above three investment types along with an international bond fund.

2. Slice and Dice

Many investors aren’t satisfied with the above 3-Fund portfolio. They look to further diversify their investments into sub-asset classes. Frankly, I’ve taken the slice and dice approach for more than two decades.

While there is no one way that one can construct a portfolio that goes beyond the core asset classes, here are five common sub-asset classes that many investors want more exposure:

  • Small-Cap – Smaller companies historically have produced higher returns, but also come with more volatility.
  • Value Funds – These funds seek to invest in undervalued companies, and historically have outperformed growth companies (although there is some debate on the relative performance between value and growth).
  • Emerging Markets: As with small caps, emerging markets historically have generated higher returns in exchange for greater volatility.
  • REITsreal estate investment trusts offer stock-like returns with some measure of diversity.
  • Commodities – While the returns aren’t as rich, many believe commodities offer valuable diversity to a portfolio.

I have positions in all of these sectors, although as I mentioned I’m working to simplify my portfolio.

3. Diversity Has Nothing to Do With the Number of Mutual Funds in a Portfolio

It’s critical to understand that even a 3-Fund Portfolio has exposure to each of these asset classes. As an example, a total U.S. equity fund has exposure to small caps, value, REITs, and even commodities. Simply by owning multi-national companies gives exposure to many asset classes.

In the case of VTI, one gets exposure to the following according to Morningstar:

  • Micro-cap: 2.62%
  • Small-cap: 6.47%
  • Mid-cap: 29.02%
  • Real Estate: 3.72%

Further, VTI gives equal weighting to value and growth stocks.

Similarly, a totally international market will have exposure to emerging markets. VGTXS, for example, has 14.52% in emerging markets. The point: Most investors will get little if any benefit from seeking additional exposure to these sub-asset classes beyond what a total market fund provides.

4. Why slice and dice

Having said all of that, there are times when exposure to sub-asset classes is justified. The first is that an investor’s personality is drawn to this type of investing. While this may surprise some, the behavioral side of investing should never be ignored. Those that like to dabble in more complex asset allocation plans won’t hurt themselves, so long as they keep costs low and stick to their plan.

Second, a good argument can be made for additional exposure to real estate. REITs enjoy stock-like returns and add diversity to a portfolio.

5. Problems with slice and dice

There are some realities to a complicated portfolio that should be considered:

  • There’s absolutely no guarantee that it will improve your returns or lower your risk compared to a basic three-fund portfolio. Just because small caps outperformed the general market in the past doesn’t mean they will in the future. In his book Don’t Count on It!: Reflections on Investment Illusions, Capitalism, “Mutual” Funds, Indexing, Entrepreneurship, Idealism, and Heroes, John Bogle says that small caps have outperformed the general market mainly because there were a couple of years where they did very well compared to the overall market. There’s no guarantee such performance will repeat itself.
  • Each additional investment added to a portfolio increases the portfolio’s complexity. Additional funds add to the burden of monitoring investments and rebalancing them. It often requires one to allocate across multiple account types, which further complicates the whole affair. (See the Rube Goldberg image above for more details.)

My own feeling is both the three-fund portfolio and the slice and dice portfolio will work, but complication is the real difference. And for what it’s worth, robo advisors like Betterment use somewhat complicated portfolios. The difference is that they handle all of the rebalancing for you.

6. My Own 401(k) plan

Portfolio allocations can be more complicated with 401(k) plans. Unlike an IRA, we have limited investment options, many of which are expensive. Nevertheless, I’ve worked hard to simplify my own 401(k) portfolio by investing in just three funds. In the process, I’ve tried to create a standalone portfolio that doesn’t require additional allocations from non-retirement assets or other retirement plans. The plan will be fully diversified on its own.

Here are the three funds I use in my plan:

  • Dodge and Cox International Stock Fund (DODFX) – 40%
  • Fidelity S&P Index Fund (FXSIX) – 40%
  • Vanguard Total Bond Fund (VBTLX) – 20%

The Dodge and Cox fund is an actively managed fund with an expense ratio of – .64%. It’s a great fund in my opinion, and the fee is actually not high for actively managed funds. My total cost for keeping all three funds is .29%, even with the Dodge and Cox fund. With just three funds, rebalancing is easy. I don’t feel that slicing and dicing into a variety of funds will have a material effect on the long-term performance of my 401(k).

I’m not entirely closed to the idea of adding some additional asset classes to my plan, particularly REITs. Whatever you choose, however, work hard to keep it simple.


  • Rob Berger

    Rob Berger is the founder of Dough Roller and the Dough Roller Money Podcast. A former securities law attorney and Forbes deputy editor, Rob is the author of the book Retire Before Mom and Dad. He educates independent investors on his YouTube channel and at RobBerger.com.