We work hard to identify the best assets and the best funds for long-term investors, and we publish Suggested Portfolios of recommended funds. Here's a review of two years of results for the portfolios we recommend as well as a few other possible combinations of equity funds.

Our Model Portfolios are built on the presumption that investors' interests in the long run are best served by the portfolio equivalent of a very healthy diet. In investment terms, that's called proper diversification.

We believe the highest probability of long-term success will be found in portfolios in which equity exposure is slightly overweighted toward value funds, and then equally balanced between U.S. and international funds and also equally balanced between large-company funds and small-company funds.

We recommend nine equity asset classes, divided this way: in the U.S., 12.5 percent each in large companies, large value companies, small companies and small value companies; internationally, 10 percent each in large companies, large value companies, small companies, small value companies and companies in emerging markets.

We have shown in a table the 2002 and 2003 results of seven portfolios: four that we recommend and three that other advisors have recommended. This time period includes a very negative year and a very positive year.

The Schwab Equity portfolio is one we recommend for investors who want a single account at Schwab's mutual fund supermarket. It includes a few index funds, but most are actively managed.

The Fidelity Equity portfolio includes only Fidelity funds. It is handicapped by having only two international funds, Fidelity's low-cost Spartan international index fund and an emerging markets fund. This portfolio lacks an international small-cap fund and an international value fund.

Late in 2002, Fidelity opened International Small Cap (FISMX), an international small-cap blend fund. While its history is too short to be meaningful, the fund was up 80.3 percent last year. We may add this fund to our Model Portfolio this year.

The Vanguard Equity portfolio is composed mostly of index funds and is an excellent way to get super-efficient access to most of the major asset classes we recommend.

The funds that make up the Schwab, Fidelity and Vanguard portfolios are detailed on our Model Portfolios page.

The Dimensional portfolio is made up of Dimensional Fund Advisors no-load institutional index funds. We regard this as the very best approach to index-fund investing. However, these funds are available only through investment advisors.

The DFA portfolio consists of 12.5 percent each in DFA Large Company (DFLCX), Large Company Value (DFLVX), U.S. Micro Cap (DFSCX) and Small Value (DFSVX) funds plus 10 percent each in International Large Company (DFALX), International Value (DFIVX), International Small (DFISX), International Small Value (DISVX) and Emerging Markets (DFEMX) funds.

The Sheltered Sam portfolio is recommended by financial author Bill Bernstein. It is heavily weighted toward the U.S. market and contains only a 22 percent weighting in international funds. It does contain small amounts of funds that invest in regional international stocks, real estate investment trusts and precious metals.

The Sheltered Sam portfolio, designed for an IRA or other tax-sheltered accounts, is made up of 10 Vanguard funds: Value Index(VIVAX), 25 percent; 500 Index (VFINX), 20 percent; Small Value Index (VISVX), 15 percent; REIT Index (VGSIX), 10 percent; International Value (VTRIX), 7 percent; 5 percent each in Small Cap Index (NAESX), Pacific Stock Index (VPACX), European Stock Index (VEURX) and Emerging Markets Index (VEIEX); and 3 percent in Precious Metals (VGPMX).

The Coffee House portfolio is frequently cited as a no-nonsense way to achieve diversification and low expenses. It excludes three asset classes we believe should be included: international value, international small and international small value. It adds a fund that invests in real estate investment trusts. This portfolio is equally divided among six Vanguard funds: 500 Index, Value Index, Small Cap Index, Small Cap Value Index, Total International Stock Index (VGTSX) and REIT Index.

The Utterly Simple portfolio was suggested a few years ago by a financial writer who scoffed at multiple-fund diversification, saying investors need only two Vanguard funds. This approach hurt its adherents badly in the 2000-2002 bear market. This portfolio is split equally between Total Stock Market Index (VTSMX) and Total International Stock Market.

Retired Vanguard founder John Bogle has taken the anti-diversification point of view even further, sometimes suggesting that all equity investors really need is the Vanguard Total Stock Market Index Fund.

At the bottom of the table are results for the Bogle's favorite fund and for Vanguard 500 Index Fund, a near-clone of the Standard & Poor's 500 Index, for reference. As you can see, even very meager attempts at diversification, as in the Total Stock Market Fund or the Utterly Simple portfolio, beat the index last year.

The different results from the Schwab and Vanguard portfolios are interesting. You might expect Vanguard's very low expenses to lead to higher performance. The weighted expense ratio of the Schwab portfolio is 1.15 percent, compared with only 0.36 percent in the Vanguard portfolio.

But I think the superior diversification of the Schwab portfolio overcame the expense disadvantage. Although Vanguard's index funds are extremely efficient, they don't always give access to the best asset classes.

For example, the Schwab portfolio includes Babson Shadow Stock (SHSTX), a value-oriented micro-cap fund with a 31.7 percent cumulative gain in 2002 and 2003. Vanguard's equivalent, the Small Cap Value Index, was up just 17.7 percent in that time.

On the international side, The Schwab portfolio had a small-cap growth fund that was up 64.2 percent and a small-cap value fund that gained 56.2 percent, compared with Vanguard's International Explorer (VINEX), which was up only 35.5 percent.

There's one other item to note on this topic: Soon after we first made this study and published this article, Vanguard raised its minimum initial investment in International Explorer to $25,000. A few months later the fund was closed entirely to new investors, although it may still be available in some retirement plans. 

This means investors must look beyond Vanguard for this important slice of a properly diversified portfolio. See our Suggested Portfolios for non-Vanguard options.

 

 

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