You could line up all the advisers from here to Albuquerque, and you still wouldn’t reach a conclusion as to the best diversified portfolio for your retirement savings.
Because of that, many investors simply use the 1/n portfolio — which is to say, they divide their money equally among all the options in their 401(k) plan. Among those who study these things, this is called the Naive Portfolio.
What would a Naive Portfolio look like? Most 401(k) plans are not exactly paragons of fund-picking: They often choose the largest funds. After all, those funds typically have decent long-term records and low expense ratios, and no one is going to get sued using those criteria.
Let’s compose a naive portfolio of the 10 largest mutual funds. It would look like this, ranked by size:
|Tot. ret.||Tot. ret.|
|Vanguard Total Stock||VTSMX||Large blend||2.37%||13.98%|
|Vanguard 500 Index||VFINX||Large blend||2.89%||14.23%|
|Vanguard Total Intl Stock Idx||VGTSX||For. large blend||-2.35%||3.30%|
|Vanguard Total Bond||VBMFX||Interm. bond||0.68%||2.86%|
|Growth Fund of Amer A||AGTHX||Large growth||6.98%||13.78%|
|Europacific Growth A||AEPGX||For. large growth||1.57%||5.49%|
|Vanguard Prime MM||VMMXX||Money market||0.03%||0.03%|
|Fidelity Cash Reserves||FDRXX||Money market||0.01%||0.01%|
|JPMorgan Prime MM||VPMXX||Money market||0.01%||0.01%|
|Fidelity Contrafund||FCNTX||Large growth||7.93%||13.87%|
So how did our naive investors do? At least this year, they have done pretty darn well. The average expense ratio in this portfolio is 0.35%, which, honestly, you can’t beat with a stick.
Furthermore, a 2% return is just a shade lower than what you would have gotten with a single investment in the Vanguard Total Stock Index fund. And you would have gotten that return with far less risk than a pure stock index fund, given that 30% was in money market funds and 10% in bonds.
Just how successful a naive investment would be over the long term is a more difficult calculation, which I’ll tackle in future posts. But the takeaway is that naive diversification is probably better than no diversification at all.