7 Balanced ETFs for Diversification

Insta-diversify your portfolio with these seven ETFs.

Harry Markowitz, Nobel Memorial Prize winner and inventor of modern portfolio theory, famously remarked that diversification is the only free lunch in investing. What Markowitz meant was that a portfolio of uncorrelated assets, all with positive expected long-term performance, could produce more units of return for less units of risk compared to a single asset. We see this in play where a 60/40 portfolio of stocks and bonds has historically delivered a better risk/return profile than 100% stocks. Diversification can take many forms, whether across asset classes (like investing in bonds and alternatives in addition to stocks) or within asset classes (like investing in international, small-cap and value stocks). Today, investors can use a variety of exchange-traded funds, or ETFs, to diversify easily with just a few purchases. Here are seven of the best-balanced ETFs to buy for diversification in 2022.

iShares Core Growth Allocation ETF (ticker: AOR)

AOR is an “asset allocation ETF,” which is a financial product that packages multiple asset classes into one ticker. In this case, AOR holds a globally diversified portfolio of stocks and bonds at a target 60/40 allocation. Right now, the fund is between rebalancing cycles and is about 58% stocks and 42% bonds. On the equity side, the fund is approximately 60% U.S. stocks, with the remainder spread across developed markets and emerging. In terms of bonds, the ETF holds aggregate government and investment-grade corporate bonds from around the world, with a U.S. bias and intermediate duration. AOR costs an expense ratio of 0.15%.

iShares Core Aggressive Allocation ETF (AOA)

Younger investors with a longer time horizon and higher risk tolerance might find the 60/40 split of AOR too conservative for their liking. These investors can often tolerate greater volatility in exchange for the possibility of higher expected returns. Investors who fall into this category can buy AOA, which is simply the more aggressive version of AOR with an 80/20 stock/bond split. The fund is functionally identical to AOR in terms of underlying holdings and exposure, save for heavier stock and lower bond allocations. AOA also costs an expense ratio of 0.15%.

iShares Core Conservative Allocation ETF (AOK)

Conversely, retirees with a shorter time horizon and lower risk tolerance might find the 60/40 split of AOR too aggressive for their liking. These investors often wish to minimize volatility, which can carry dangerous sequence-of-return risk for them. This is the risk of a large unrealized loss in their portfolio prior to or during the initial years of retirement. For an investor relying on portfolio withdrawals to fund living expenses, sequence-of-return risk is critical to avoid. Hence, a heavier allocation to bonds might be more sensible. In this case, AOK’s 40/60 split in favor of bonds can help older investors reduce drawdowns during a bear market or crash better than AOR can. Otherwise, the ETF holds the exact same assets as AOR does, just with a more conservative allocation. Like the previous two iShares ETFs, AOK’s expense ratio sits at 0.15%.

Invesco Balanced Multi-Asset Allocation ETF (PSMB)

PSMB is also an asset allocation ETF. The ETF takes a “fund of funds” approach by investing in 21 underlying ETFs. Unlike AOR, PSMB is actively managed. Many of its underlying funds are not index funds, but “smart beta” and other specialty funds that have atypical investment strategies. This includes targeting low-volatility stocks and so-called multifactor funds that seek exposure to multiple drivers of returns across several equity buckets like value, size, momentum and quality. The fund’s allocation changes dynamically as the market does but generally ranges from 5% to 75% in U.S. equities, 25% to 55% in U.S. fixed income, and 10% to 30% in foreign stocks and bonds. Overall, this is a balanced ETF best suited for advanced investors who can accept some tracking error compared to a benchmark 60/40 portfolio for a chance to outperform it. PSMB costs an expense ratio of 0.32%.

First Trust Multi-Asset Diversified Income Index Fund (MDIV)

MDIV is an actively balanced portfolio of five asset classes, all equally weighted to provide higher-than-average diversified sources of income. The fund is allocated 20% each to equities; real estate investment trusts, or REITs; preferred stock, master limited partnerships, or MLPs; and high-yield corporate debt. All the individual holdings within each asset class must be U.S.-listed and meet stringent criteria for eligibility based on sufficient liquidity, market cap, lower volatility and above-average yield. The 12-month trailing yield stands at 6%, which is much higher than the average provided by a traditional 60/40 portfolio. This ETF is best suited for investors with a medium risk tolerance who are seeking enhanced yields to meet income needs. MDIV’s current expense ratio is 0.69%.

SPDR SSGA Global Allocation ETF (GAL)

Investors looking for a tax-loss harvesting partner for AOR can pick GAL, which also provides an actively managed, balanced portfolio. This ETF also takes the fund-of-funds approach, allocating its capital to 20 underlying ETFs. Fifty-six percent of GAL is allocated toward equities. The remaining 44% is held within defensive investments, the majority of which are government bonds and investment-grade corporate bonds, but also includes small allocations to commodities. In addition, more than 30% of the underlying ETFs, whether stocks or bonds, will also be from non-U.S. issuers to provide a degree of international diversification. GAL costs an expense ratio of 0.35%.

Simplify Macro Strategy ETF (FIG)

Simplify constructed FIG based on two beliefs. First, the fund manger believes that equity valuations, especially in the U.S. market, are inflated and a period of poor future returns is likely. Second, the fund manager believes that bonds will experience strong headwinds in the face of rising interest rates and high inflation, which tanks their price and increases their correlation to stocks, thus nullifying diversification value. Thus, FIG allocates its portfolio as such: About 5% of the ETF is held in S&P 500 call options that give larger notional exposure to stocks. Then, there’s a 4.7% allocation to gold, a 23.4% allocation to high-yield debt, a 26.9% allocation to managed futures, a 19.9% allocation to volatility derivatives and smaller allocations to other assets. This is a complex ETF best suited for advanced investors with strong knowledge of portfolio theory. FIG costs an expense ratio of 0.75%.

7 balanced ETFs to buy for diversification:

— iShares Core Growth Allocation ETF (AOR)

— iShares Core Aggressive Allocation ETF (AOA)

— iShares Core Conservative Allocation ETF (AOK)

— Invesco Balanced Multi-Asset Allocation ETF (PSMB)

— First Trust Multi-Asset Diversified Income Index Fund (MDIV)

— SPDR SSGA Global Allocation ETF (GAL)

— Simplify Macro Strategy ETF (FIG)

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7 Balanced ETFs for Diversification originally appeared on usnews.com

Update 09/21/22: This story was previously published at an earlier date and has been updated with new information.

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