The 10-ETF Portfolio

How many funds do you really need?

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When building an ETF portfolio, you could go the all-in-one route or go about assembling a team of sorts. You do this by choosing one fund that invests in large, U.S.-based companies, another that invests overseas, and so on.

Columnist Matt Krantz of USA Today recommends a 10-ETF portfolio, using a core holding of the Standard & Poor's 500 ETF (symbol SPY); an ETF that tracks large-value stocks, such as Vanguard's Large Cap Value ETF (VTV); and ETFs that invest in the following sectors: small companies, small-value companies, emerging markets, international, small-company international, real estate investment trusts (REITs), and bonds. He suggests rounding out the portfolio with a money-market fund.

This had me wondering: How many funds do you really need? According to Morningstar's Investing Classroom, single-fund portfolios have the highest standard deviation (a measure of volatility), which means these portfolios register either the biggest gains or the biggest losses. "So owning just one fund can be a risky bet," says Morningstar. "Add a fund, and the standard deviation drops significantly. Returns are lower, but the downside is less severe, too."

However, Morningstar also found that after seven funds, a portfolio's standard deviation remains virtually the same no matter how many funds you add. "In other words, once you own seven funds, there may be no need for more," Morningstar says. Perhaps you could cut down that 10-fund portfolio by investing in one small-company fund that blends growth and value styles, or one large-company fund that does the same.