Is Owning Multiple Exchange-Traded Funds Redundant?

In this MarketFoolery podcast segment, host Chris Hill and Motley Fool Funds' Bill Barker tackle a query posed by a podcast listener and Fool fan who's curious about how many ETFs his portfolio should hold. Can one have too many? And, yes, the guys say there are limits to the degree of diversification you need. A good S&P 500 index fund, for example, gets you plenty of it. The issue, suggests Barker, isn't when you seek diversification, but when in fact you are chasing after hot sectors and the next big thing.

A full transcript follows the video.

This video was recorded on Aug. 16, 2017.

Chris Hill: From Steven Coe, and I'm going to summarize Steven's email, because it's lengthy, but there's a lot of good information. Essentially, it was Steven's experience first trying to invest in REITs, real estate investment trusts, and that did not work out well. So then he started clicking around fool.com and found that we have Motley Fool Germany and Motley Fool Australia and Singapore, and this led him to a series of ETFs. He sent an email specifically for you, by the way, saying, "I wanted to get Bill's opinion on using multiple ETFs to diversify even further, or is it a little redundant to own multiple ETFs? P.S. I'm hoping that you and Bill Barker can answer this and then go on a random tangent." Pretty safe bet on Steven's part.

Bill Barker: That we can answer it?

Hill: No, I thought, on the random tangent.

Barker: You're moving right to the tangent. What would you like to talk about? 

Hill: [laughs] We can talk Elvis Presley in a little bit, because it's the 40th anniversary of the death of Elvis. 

Barker: I don't know if that even counts as a tangent, because it's not really related to what we were just talking about.

Hill: Well, then why don't you try and answer the question?

Barker: Really, it's addressed to you.

Hill: [laughs] Again, "I wanted to get your and hopefully Bill's opinion on using multiple... "

Barker: "Your," see? He's just hoping for something from me, but he's kind of demanding a response from you. So?

Hill: I feel like diversification is a little bit like hydration. Too much is not good for you. That's the whole thing. At some point, you're just drinking too much water. At some point, you just don't need the diversification.

Barker: What point is that?

Hill: Well, every person needs to figure it out for themselves. But, as we have said before, if you have a chunk of your portfolio in a simple S&P 500 index fund, there's your diversification right there. You've got pieces of 500 large companies in the United States.

Barker: Yeah. There are a couple things here. Two of the Vanguard REIT ETFs, both the U.S. and the ex-U.S. one, VNQ and VNQI, are the ones that are mentioned here. It's been a good run for both of those as real estate has rebounded after 2007 and 2008. It's had nine years of positive returns since then, each of them. But I think that Vanguard ETFs are a great way to go. The problem with ETFs and getting into sector-specific ones is only if you're doing it because you think it's the hot thing and, when the heat goes away, then you look for the next hot thing. Money that is chasing what has already worked, and seems to still be working, this is, in general, a great problem for investors. The problem for investors is not being too diversified. The problem for investors is chasing the hot sector, and then chasing the next hot sector, selling in and out of things at the wrong time. If you're going to spend five, ten, 15, 20 years in a REIT ETF that is managed by Vanguard, you're going to do well. You're going to keep your costs low, and you're going to be invested in something which has good historical returns and provides some diversification, that is the REIT sector outside of the S&P 500. But if you've already got numerous full-market ETFs, this will give you a little bit more concentration in the REIT space, but you do already own real estate through your S&P 500.