How to Build a Simple Three-Fund Portfolio

A three-fund portfolio holds three broad index funds. One holds US stocks. One holds international stocks. One holds bonds. That is the whole portfolio.

Each fund is a broad index fund, so each one on its own is already diversified across hundreds or thousands of holdings. Together, the three cover nearly the whole investable world of stocks and bonds. Read Index Funds for Beginners for the basics of how index funds work and why their low fees matter.

The three funds

• Total US stock index fund. This holds the whole US stock market.
• Total international stock index fund. This holds stock markets outside the US.
• Total bond index fund. This holds US bonds, and it steadies the portfolio when stocks fall.

Allocation by age and risk

Allocation means the share of your money in each fund. The stock share sets how much growth and how much swing you get. The bond share sets how much calm. Within stocks, a common split is about two-thirds US and one-third international.

One old rule is to hold your age in bonds. At age 30, that would be 30 percent in bonds. The table below uses less than that for younger savers, because they have decades for stocks to recover from falls. The examples below are illustrations, not recommendations for anyone in particular.

Approach	US stocks	International stocks	Bonds
Age 30, high risk tolerance	60 percent	30 percent	10 percent
Age 45, middle risk tolerance	55 percent	25 percent	20 percent
Retired, living on the money	40 percent	20 percent	40 percent

The table uses round steps of 5 percent. The stock share falls as you get closer to needing the money. If you are 30 and saving for a retirement 30 years away, 90 percent in stocks and 10 percent in bonds is a common choice. If you are already retired and living on the money, 60 percent in stocks and 40 percent in bonds is a common choice.

Worked example: a sample allocation for a hypothetical 35-year-old

These are round, made up numbers. They show the math. They are not a plan for any one person.

Take a hypothetical 35-year-old with 90,000 dollars to invest, using 80 percent in stocks and 20 percent in bonds.

• Step 1. Find the stock amount. 80 percent of 90,000 dollars is 72,000 dollars. The bond amount is 20 percent of 90,000 dollars, or 18,000 dollars.
• Step 2. Split the stocks about two-thirds US and one-third international. Two-thirds of 72,000 dollars is 48,000 dollars in US stocks. One-third of 72,000 dollars is 24,000 dollars in international stocks.
• Step 3. Check the total. 48,000 dollars plus 24,000 dollars plus 18,000 dollars is 90,000 dollars.
• Step 4. Check the shares. US stocks are 53.3 percent of the total, international stocks are 26.7 percent, and bonds are 20 percent. Those three shares add to 100 percent.

How rebalancing works

Over time, the funds grow at different rates, and your allocation drifts away from the plan. If stocks do well for a year, the stock share rises. Rebalancing means moving money back to the plan, by selling a little of what has grown and buying a little of what has not. That is selling high and buying low, done on a schedule, not on a guess.

Use the same 35-year-old example, after the portfolio has grown to 100,000 dollars. US stocks are now 60,000 dollars, international stocks are 25,000 dollars, and bonds are 15,000 dollars.

• Step 1. Find the targets. US stocks should be 53.3 percent of 100,000 dollars, or 53,333 dollars. International stocks should be 26.7 percent, or 26,667 dollars. Bonds should be 20 percent, or 20,000 dollars.
• Step 2. Find the gaps. US stocks are 6,667 dollars above target. International stocks are 1,667 dollars below target. Bonds are 5,000 dollars below target.
• Step 3. Move the money. Sell 6,667 dollars of the US stock fund. Buy 1,667 dollars of the international stock fund and 5,000 dollars of the bond fund. The buys add to 6,667 dollars, so the total stays at 100,000 dollars.

Two simple rules cover most cases. First, rebalance once a year, on the same date, and do not rebalance in between. Second, or instead, rebalance when a fund drifts 5 percentage points or more from its target. Where you can, do this inside a retirement account, so the selling does not create a tax bill.

Why three funds beat ten

Each of the three funds already holds thousands of stocks or bonds. A fourth fund that holds the same stocks adds overlap, not new diversification. A tenth fund adds more overlap, more fees to check, and more work to rebalance.

Ten funds also make it harder to see what you own. With three funds, you can check your allocation in a minute. With ten, you have to add up the same stocks across several funds. The discipline is the point. A simple plan that you can keep is better than a detailed plan that you drop.

How to build it

• Pick one low-cost fund for each of the three parts, in your broker or retirement account. Look for a low expense ratio, which is the yearly fee, and for a fund that tracks a broad index.
• Decide your allocation, and write it down. That is your plan.
• Add new money in line with the plan. That can cut down how often you need to sell to rebalance.
• Check the plan once a year. Rebalance when a fund has drifted 5 percentage points or more from its target.

What can go wrong

The three-fund portfolio is simple, but it is not risk-free. All three funds can fall at once, and bonds can fall in the same year as stocks. That happened in 2022, when both stocks and bonds fell. A simple plan does not remove risk. It keeps the risk clear and the cost low.

This post is general education, not personal financial advice. Your own taxes, accounts, and retirement rules depend on your situation, so check the details that apply to you before you act on them.

To see the accounts mentioned in this post, visit the Tools and Accounts page, which lists plain links to each one.

Sources

• Bogleheads. Three-fund portfolio. bogleheads.org/wiki/Three-fund_portfolio
• Vanguard. Vanguard Total Stock Market Index Fund Admiral Shares (VTSAX), expense ratio 0.04 percent. investor.vanguard.com/investment-products/mutual-funds/profile/vtsax
• U.S. Securities and Exchange Commission. Mutual Funds and ETFs, a guide for investors. sec.gov/investor/pubs/sec-guide-to-mutual-funds.pdf
• S&P Dow Jones Indices. SPIVA U.S. Year-End 2024 Scorecard. spglobal.com/spdji/en/spiva/article/spiva-us/