A key skill that parents should impart to their children is financial literacy. This includes teaching them how to invest wisely in various assets, such as stocks, bonds, and fixed-income securities. So instead of making investment decisions for my kids on my own, I've been involving them in the process of choosing suitable options as I teach them about the benefits of long-term investing and the power of compound growth.
So far, most of their investments have been individual growth stocks, but as their portfolios have increased in value, it's time to diversify their holdings with exchange-traded funds (ETFs). My preferred ETF provider is Vanguard. Vanguard is different from other firms because it is owned by its funds, which are owned by its shareholders. This means that Vanguard has the best interests of its shareholders at heart, and this is reflected in its low expense ratios.
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Here is a look at the two Vanguard funds I plan on adding to their portfolios soon.
A smart way to diversify your portfolio
One of the most common pieces of advice given by investing legend Warren Buffett is to buy a low-cost fund that follows the performance of the S&P 500 index. The reason is simple: Few stocks outperform this benchmark over periods longer than five to 10 years, and only a small handful do so over periods of 20 years or longer. So instead of trying to get lucky by picking individual stocks, the smart play is to own the whole market.
Many ETFs offer exposure to the S&P 500 in one way or another. But one of the best options for long-term investors is the Vanguard 500 Index Fund (VOO 1.00%). It has a high trading volume, which means you can easily buy or sell shares of it when you need to. It also has a very low expense ratio of 0.03%, which means you keep more of your returns. And it has a beta of 1 and an alpha of -0.04, indicating that it tracks the benchmark S&P 500 index without much deviation.
How much should you allocate to this fund? Well, Buffett has a suggestion on that score, too. He thinks that a 90% to 10% split between a low-cost S&P 500 fund and a broad bond fund is a good strategy for most investors with a long-term horizon.
I plan to follow this advice for the most part with my kids' holdings, but I also want to add a small smattering of select growth stocks to spice up their portfolios. However, the Vanguard 500 Index Fund will be the main component of their portfolios, providing stability and steady growth over time.
A basic bond fund that ticks all the boxes
Further following Buffett's advice, I intend to diversify their portfolios with the Vanguard Total Bond Market Index Fund (BND 0.23%). There are certainly more aggressive bond funds available, and Vanguard even has a few bond funds with better risk-to-reward ratios.
But I think there is no real need to overcomplicate a bond position. You want a fund that is stable over time, has a low expense ratio, a good yield, and high-quality assets. The Vanguard Total Bond Market Index Fund meets all of these criteria.
It aims to match the performance of a broad, market-weighted bond index, it offers a generous 3.08% distribution yield, and a low expense ratio of 0.03% (compared to its category average of 0.57%).
Since its launch in 2007, the Vanguard Total Bond Market Index Fund has delivered total returns (pre-tax and including distributions) of 62.5%. That is not game-changing performance to be sure, but it is quite good for a conservative-leaning bond fund. After all, the main goal with bond investments are capital preservation and yield, and this Vanguard ETF does a great job on these two all-important metrics.
