By Silvia Ascarelli, MarketWatch
Focus Features/Courtesy Everett Collection
Taylor Larimore is a big advocate of keeping investing simple — simple enough to be handled with just three mutual funds. He says it means he doesn’t need to spend more than about an hour a year managing his money.
Larimore is also one of the founders of Bogleheads , a passionate community of investors inspired by Vanguard founder Jack Bogle. The forum’s members discuss investment advice online and organize meetups in some areas. The three-fund-portfolio is one of the most popular discussion topics .
The 94-year-old admits he made plenty of mistakes as an investor over the decades: He tried stock-picking, then following newsletters, then picking top-ranked mutual funds. None could beat the market. Finally, he settled on the three-fund approach — a total-market U.S. stock-index fund /zigman2/quotes/202876707/realtime VTSMX -0.94% , a total-market U.S bond-index fund /zigman2/quotes/210422528/realtime VBTLX -0.09% and a total-market international-stocks index fund /zigman2/quotes/210096929/realtime VGTSX -1.27% . Simple, he notes in his latest book, “ The Bogleheads’ Guide to the Three-Fund Portfolio ,” doesn’t mean simplistic.
Not surprisingly, it’s a cheap approach, given the low cost of funds that just replicate market benchmarks. And their performance tops that of most actively managed funds.
How the money is split among the three funds is up to the investor, reflecting individual preferences and the tolerance for risk.
Larimore discussed his approach to investing with MarketWatch. Answers are edited for length and clarity.
Question: The three-fund strategy seems so simple. But if it were that easy, everyone (or at least many more people) would follow it, or some version of a lazy portfolio. So what keeps people from doing this?
Answer: I think there are two primary reasons: The first reason is found in this Warren Buffett quote: “There seems to be some perverse human characteristic that likes to make easy things difficult.” The second reason is that the investment industry wants investors to think that investing is too difficult for us to do it alone so that we must pay them to do it for us.
Q: When did you start following this approach?
A: I had read about Jack Bogle’s idea of index mutual funds and his idea of “owning the whole market.” It made sense to me — and the evidence has proved it works. After 49 years of investing (making many mistakes but trying to learn from each), I first recommended the three-fund total market indexed portfolio on the Morningstar Diehard Forum in 1999. [Note: That forum morphed into the Bogleheads site in 2007.]
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Q: No doubt there are some Bogleheads who don’t use this approach. What do you hear about why they don’t?
A: We often read that investors would like to adopt The Three-Fund Portfolio but cannot. Two primary reasons: 1) Total Market Index funds are not available in their company retirement plan (a 500 Index Fund is a good substitute) and 2) Their securities were held in a taxable account which now contains large capital-gains. Selling or exchanging the unwanted securities will trigger a capital-gains tax.
Q: And how often, in your experience, do people meander off the three-fund strategy to, oh, dabble in some investment that catches their eye?
A: The fund industry spends billions of dollars each year trying to convince investors to buy their products and services to “beat the market.” Many investors succumb despite the evidence that the odds of beating the market (after costs) are very low. Investing for retirement is serious business. Jack Bogle has written that individual stocks and mutual funds representing no more than 5% of the portfolio might be added for “fun money.” I do not do it.
Q: The three-fund strategy calls for one total-market U.S. stock fund, one total-market U.S. bond fund and one total international stock index. But given that U.S. companies have plenty of international sales, why not just follow a two-fund strategy, skipping the international fund? What does that international fund really bring?
A: Whether or not to add international stocks is one of the most controversial subjects on the Bogleheads Forum. In my book, I recommend that international stocks represent 20% of equity for U.S. investors. This is a compromise between what Jack Bogle recommends (zero to 20%) and what a Vanguard study recommends (20% to 40%). The problem is that no one knows in advance which will turn out to be the best road.
Q: In your book, you list 20 benefits of investing in funds based on total market indexes. Which one do you think is least appreciated? Least understood?
A: I believe “simplicity” may be the least appreciated and least understood benefit.
Laura Dogu, the ambassador to Nicaragua, is one of my co-authors of “ The Bogleheads’ Guide to Retirement Planning .” She wrote: “A simple portfolio is actually the ultimate in sophistication. It almost always lowers cost (including taxes), makes analysis easier, simplifies rebalancing, simplifies tax-preparation, reduces paperwork and record-keeping, and enables caregivers and heirs to easily take over the portfolio when necessary. Best of all, a simple portfolio allows the investor to spend more time with family and friends.”
Q: You’re obviously a fan of Vanguard funds. But as you note, there are other variations of lazy portfolios, as this approach has also been called. What should investors know as they consider these variations? And if they choose a family of funds other than Vanguard?
A: Jack Bogle wrote: “Don’t look for the needle. Buy the haystack.” All the big fund companies now offer good low-cost total market index funds. All are suitable for the three-fund portfolio.