These 5 ETFs Are All You Need

New exchange-traded funds keep coming out faster than anyone could possibly keep track. If you're looking for the simplest way to invest your money, though, you don't need any of these new ETFs.

If your goal is to put together a diversified investment portfolio in as few steps as possible, you can stick with some of the most seasoned ETFs on the market. These tried-and-true ETF offerings, which have been around for years, will give you exactly the range and flexibility of investment options to set up your portfolio in whatever way is most appropriate for your financial situation.

Without further ado, here are the five funds:

ETF

Objective/Holdings

Fund Opened

Total Assets

5-Year Average Annual Return

SPDR Trust (SPY)

Large-Cap U.S. Stocks

1993

$63.7 billion

(2.2%)

Vanguard Small-Cap (VB)

Small-Cap U.S. Stocks

2004

$11.9 billion

(0.2%)

iShares MSCI EAFE Index
(EFA)

International Stocks (Developed Markets)

2001

$30.2 billion

1.9%

Vanguard Emerging Markets (VWO)

International Stocks (Emerging Markets)

2005

$18 billion

8.8%*

iShares Barclays Aggregate
Bond (AGG)

Fixed Income

2003

$9.7 billion

4.7%

Sources: Morningstar, Vanguard. *Return since inception on March 4, 2005.

With these five ETFs, you can mix and match investments to suit whatever asset allocation strategy you care to follow. Nothing could be easier.

What you get
If you own all of these ETFs, then you have exposure to nearly the entire world of stock and bond investments. Consider:

  • SPDRs own the big S&P 500 stocks that U.S. investors know so well, including ExxonMobil (NYSE: XOM  ) and Microsoft (Nasdaq: MSFT  ) .
  • Vanguard's small-cap ETF lets you take advantage of the higher growth potential of small companies like Netflix (Nasdaq: NFLX  ) and Seagate Technology (Nasdaq: STX  ) .
  • The iShares MSCI EAFE ETF covers developed-market stocks like Nokia (NYSE: NOK  ) but leaves out the up-and-coming emerging-market stocks. That's where the Vanguard emerging-market ETF comes in, filling in the gaps with holdings in Teva Pharmaceuticals (Nasdaq: TEVA  ) and Vale (NYSE: VALE  ) .
  • For bonds, the iShares fixed-income fund tracks the commonly followed benchmark formerly known as the Lehman Brothers Aggregate Bond index, which includes thousands of government, agency, and investment-grade corporate bonds.

By adjusting how much of each fund you own, you can structure your portfolio to be more or less aggressive. Investors with long time horizons might choose to skip bond exposure and invest solely in stock funds, giving higher weights to small-cap and international stocks than more conservative investors with a shorter amount of time left before they need their money.

Quibbling with details
Of course, these aren't the only five ETFs you could possibly use to cover the entire investment spectrum. State Street's SPDR products, Barclays' iShares, Vanguard, and a few other providers have funds that are similar in scope and coverage to the ones listed above. And while they differ in minor details, including the indexes they track, their expenses, and their trading liquidity, I wouldn't argue too strongly if you substituted one for another.

In addition, these five ETFs don't cover every single investment you can think of. Those who feel strongly about mid-cap exposure might want to fill in the gap with either a specialized mid-cap ETF or a broader all-market fund that includes stocks of all sizes. Similarly, fixed-income investors who want exposure to junk bonds or TIPS might want to supplement their portfolio with a couple of narrower options.

The big picture
The main point, though, is that even with hundreds of ETFs out there -- and new ones coming all the time -- you don't really need them to put together a strong portfolio. All the sector ETFs, leveraged ETFs, and other niche products that draw so much attention may be useful for those interested in speculating in one direction or another.

But if all you want to do is put together a core portfolio, don't let the huge universe of ETFs intimidate you. If you never go beyond these five ETFs, you should still do just fine over the long run.

Further ETF and mutual funds Foolishness:

Our Motley Fool Champion Funds newsletter has tons of information on ETFs and mutual funds. Each month, we give you fund recommendations and tips on which funds you should avoid. Take advantage of a free 30-day trial by clicking here right now.

Fool contributor Dan Caplinger uses both ETFs and regular mutual funds. He owns shares of SPDR Trust, but he doesn't own shares of the other ETFs and companies mentioned. Netflix is a Motley Fool Stock Advisor selection. Microsoft and Nokia are Motley Fool Inside Value recommendations. The Fool owns shares of Vanguard Emerging Markets Stock ETF. Try any of our Foolish newsletters today, free for 30 days. The Fool's disclosure policy gives you what you need.


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