3 Excellent ETFs for a Low Cost Diversified Portfolio - ETF News And Commentary

Last week was the best for stocks in almost two years as investors cheered some strong earnings reports from large US corporates. In fact, the stock market reclaimed much of the ground lost earlier in the past few weeks when a plethora of concerns led investors to shun stocks in favor of “safer” assets.

In the coming days, the direction of the market will most likely depend on the outcome of the FOMC meeting, which will be known later today. While in the last few meetings, Fed officials have reiterated their plans to end their asset purchase program in October, some of the recent statements from prominent Fed officials have resulted in some speculation of QE continuing for some more time.

At the least, the Fed may reemphasize their commitment for keeping interest rates low for a considerable time, based on renewed concerns about the global slowdown and deflationary risks. (Read: 3 Mega Cap ETFs Beating the Market)

With a recovering economy and low interest rates, stocks still look attractive but it is almost certain that volatility will stay at an elevated level in the coming months. So investors should brace themselves for stomach churning ups and downs.

Given high levels of uncertainty in the markets, it is important that investors keep their portfolios well diversified and expenses low. The right mix of stocks and bonds would help investors ride out the ups and downs in the market. While the bullish case of stocks remains in place, bonds have continued to defy their bears, thanks to a weak global economic outlook and benign inflation. (Read: Tech ETFs to benefit most from Apple's earnings beat)

Benefits of Diversification

Research has shown that in the long term, the performance of an investment portfolio depends mostly on asset allocation.  Further, according to modern portfolio theory, investors should invest in different asset classes that have low correlations with one another so as to achieve optimal risk-adjusted returns. (Read: Create a diversified portfolio using ETFs)

Building a Diversified Portfolio

A low-cost diversified asset allocation of equities and bonds can be easily created using ETFs. The most basic version of a diversified portfolio can be created by using just three ultra-cheap ETFs, in ratios depending on an investor's risk-return preference and investment horizon. You can then fine-tune your portfolio adding more growth or value ETFs, per your investment goals.

Greater diversification can be achieved by adding some exposure to commodities, other alternative investments and niche investments like frontier markets. Ultimately, the choice would depend on your investment objectives.

Vanguard Total Stock Market ETF (VTI)

VTI is an excellent, low-cost way of getting a passive exposure to the entire US stock market. It holds 3,772 stocks.

Apple, Exxon, Microsoft, Google and J&J are the top five holdings but the fund is pretty well diversified with top 10 holdings accounting for just 14.9% of the asset base.
The ETF charges just 5 basis points in expenses per year, making it an excellent long-term holding for investor seeking total US stock market exposure.

Vanguard FTSE All-World ex-US ETF (VEU)

VEU provides a convenient way of getting a broad exposure to 2,453 international stocks—from developed as well as emerging markets. It charges just 15 basis points in expenses, which is significantly lower than most international equity ETFs.

Well known multinationals like Royal Dutch Shell, Nestle, Novartis, Roche and HSBC are among the top holdings but top ten holdings comprise just 9.5% of total assets.

Looking at regional exposure, Europe takes the top spot with more than 46% of assets, followed by the Pacific region (28%) and Emerging Markets.

The ETF also has a nice dividend yield of 3.5%.

Vanguard Total Bond ETF (BND)

BND offers a low cost, broad exposure to high quality US bonds, across all maturities. It could act as a significant diversifier in a stock portfolio, while providing a reliable income stream.

The ETF has about 63% of its assets invested in US treasury bonds and the rest in investment grade corporate bonds. It holds 7,584 bonds as of now, with an average duration of 5.6 years, which indicates moderate interest rate sensitivity. But with inflation expectations so low, interest rates do not appear to be going up anytime soon.

The expense ratio is just 8 basis points, one of the lowest among all bond ETFs.

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