Many investors believe that diversification in their portfolio means holding a variety of stocks from different sectors. It’s an intuitive approach: If one sector falters, others may thrive, seemingly spreading the risk. The logic is straightforward — your investment eggs are not all in one basket.
However, this is an incomplete understanding of diversification in the realm of investing. True diversification is not just about spreading investments across different sectors but also involves allocating a portfolio thoughtfully among various asset classes that are not perfectly correlated with each other.
To illustrate, consider the historical relationship between U.S. stocks, bonds and gold from 1987 to the present. U.S. bonds have shown a correlation of approximately 0.16 with U.S. stocks, whereas gold had a near-zero correlation. Furthermore, the correlation between gold and bonds themselves was just 0.19.
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What this low correlation indicates is that when U.S. stocks move in one direction, bonds and gold don’t necessarily follow the same path. This lack of perfect correlation is a cornerstone of effective diversification, and it can soften the ride for investors through various economic cycles.
“Different asset classes provide vastly different return profiles during distinct macroeconomic and market environments,” says Michelle Cluver, vice president and portfolio strategist at Global X ETFs. “For example, equities and fixed income traditionally have a low correlation, so fixed income can provide a cushion during periods of economic stress where equities are likely to face headwinds.”
When one asset class experiences volatility or downturns, another may remain stable or even increase in value, thereby reducing the overall risk and smoothing out the returns of the portfolio over time. This approach is especially valuable in managing market risks and uncertainties.
“For instance, combining stocks and higher-quality investment-grade bonds is much more likely to achieve a higher level of diversification,” says David James, managing director and advisor at Coastal Bridge Advisors. “When stocks go down in value, high-quality bonds often produce positive returns — this is a very basic example of how to build real diversification.”
To easily achieve true diversification, investors can use exchange-traded funds, or ETFs, for exposure. ETFs offer investors access to a wide range of asset classes, including U.S. stocks, international stocks, bonds and other commodities, all with the liquidity of traditional stocks and high transparency.
This ease of access means that investors can diversify across various asset classes without the need to purchase individual assets or manage multiple investment accounts. ETFs can also offer diversification within each asset class, as many ETFs hold a basket of different securities, spreading the risk further.
Here are 10 ETFs investors can buy to build a diversified portfolio in 2024:
| Fund | Expense ratio |
| iShares Core Aggressive Allocation ETF (ticker: AOA) | 0.15% |
| Vanguard Total World Stock ETF (VT) | 0.07% |
| Vanguard Total World Bond ETF (BNDW) | 0.05% |
| Vanguard Energy ETF (VDE) | 0.10% |
| Global X U.S. Infrastructure Development ETF (PAVE) | 0.47% |
| Schwab U.S. REIT ETF (SCHH) | 0.07% |
| Invesco S&P 500 Equal Weight ETF (RSP) | 0.20% |
| abrdn Physical Gold Shares ETF (SGOL) | 0.17% |
| abrdn Physical Silver Shares ETF (SIVR) | 0.30% |
| abrdn Physical Precious Metals Basket Shares ETF (GLTR) | 0.60% |
iShares Core Aggressive Allocation ETF (AOA)
“We believe in simplicity, especially for personal investors — we know the biggest decision made is the asset allocation decision, so having a couple of choices for each major asset class is important,” says Adam Grossman, global equity chief investment officer at RiverFront Investment Group. “We also generally stick to U.S. equity, international equity and fixed income.”
A great example of an ETF that meets Grossman’s suggestions for broad diversification across global stocks and bonds is AOA. This ETF uses a split of 80% in stocks and 20% in bonds. Currently, around 62% of the portfolio is U.S.-based, with the remaining from international markets. The ETF is rebalanced periodically and comes at a reasonable 0.15% expense ratio.
Vanguard Total World Stock ETF (VT)
Investors who prefer to keep their portfolio’s stock and bond allocations separate may prefer VT over AOA. This Vanguard ETF tracks the FTSE Global All Cap Index, which currently consists of more than 9,700 U.S., international developed and emerging market equities. The ETF is market-capitalization-weighted, so larger stocks dominate its top holdings, most of which are from the U.S. market.
The main benefit of VT is its low turnover of just 4.3%. Because the index is so broad, it rarely has to drop or add constituents. Over time, the winners naturally rise to the top, while the losers sink to the bottom. By buying and holding VT, investors can passively obtain the world’s long-term stock market returns with little effort, and at a reasonable 0.07% expense ratio.
Vanguard Total World Bond ETF (BNDW)
Vanguard’s bond counterpart to VT is BNDW, which tracks the Bloomberg Global Aggregate Float Adjusted Composite Index. This ETF holds over 17,700 government-issued and investment-grade corporate bonds from both the U.S. and international market via equal allocations to two other underlying Vanguard bond ETFs. It charges a 0.05% expense ratio.
By pairing BNDW with VT in various proportions, investors can customize a globally diversified stock and bond portfolio to their liking. For example, a young investor with a higher risk tolerance may opt for an aggressive split of 90% in VT and 10% in BNDW. On the other hand, a retiree with a lower risk tolerance may wish to reduce their VT allocation to 60% and increase their BNDW exposure to 40%.
Vanguard Energy ETF (VDE)
Investors can also use ETFs to overweight specific sectors. Many investors tilt their portfolios toward the energy sector, which historically has been sensitive to commodity prices. As a result, this sector strongly outperformed in 2022 as energy commodity prices rose due to high inflation. For exposure to the broad U.S. energy sector, investors can buy VDE, which charges a low 0.1% expense ratio.
“We continue to believe that energy companies are an underappreciated gem in the value space,” Grossman says. “Low oil prices have pushed their breakeven lower than 10 years ago, and the capital discipline acquired from going through tough markets has focused them on cash flow generation.” Right now, investors can also earn a decent 3% 30-day SEC yield from VDE.
Global X U.S. Infrastructure Development ETF (PAVE)
“U.S. infrastructure development companies are on the front lines of several powerful trends, such as historic legislative support, a domestic manufacturing boom and the longer-term shift to an electrified grid,” says Alec Lucas, research analyst at Global X ETFs. Recognizing these benefits, some institutional investors have begun tilting their portfolios to infrastructure assets, which can include public companies.
Retail investors can access infrastructure investments via PAVE, which tracks the Indxx U.S. Infrastructure Development Index and charges a 0.47% expense ratio. “We specifically view companies that are situated along the development value chain, like engineering-and-construction firms or equipment providers, as potentially strong plays on increasing infrastructure activity in the United States,” Lucas says.
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Schwab U.S. REIT ETF (SCHH)
Real estate is another asset class that can offer tangible benefits for investors due to a low-to-moderate correlation with stocks and bonds. This sector benefits from long-term tailwinds such as population growth, rising housing prices and increased economic activity. To incorporate real estate into a portfolio, investors can buy a real estate investment trust, or REIT, ETF.
A great example is SCHH, which tracks the Dow Jones Equity All REIT Capped Index. The companies in SCHH own and operate real property across a variety of industries, including retail, residential, health care, office, self-storage, telecommunications and more. Thanks to the underlying rental income from REIT tenants, SCHH is able to pay a 4% 30-day SEC yield. The ETF charges a 0.07% expense ratio.
Invesco S&P 500 Equal Weight ETF (RSP)
Investors may not like the concentration risk present in regular market-cap-weighted indexes. “For example, the ‘Magnificent 7’ accounted for 60% of the S&P 500’s return in 2023,” says Chris Dahlin, factor and core equity ETF strategist at Invesco. “As a result, the weight of the top 10 companies in the S&P 500 climbed to just over 32%, which is near the highest level of concentration since the late 1970s.”
Investors banking on a reversion to the mean may prefer RSP over regular S&P 500 index ETFs. This ETF assigns equal weights to all of the S&P 500 stocks, meaning that at each quarterly rebalance, companies are assigned an approximate 0.2% weight. This approach reduces concentration risk and could help result in better performance if the Magnificent 7 stocks falter. RSP charges 0.2%.
abrdn Physical Gold Shares ETF (SGOL)
For precious metal exposure, investors can buy physical gold bullion, but this approach comes with costs related to dealer spreads, insurance and possible storage fees. An easier approach that can be implemented in any brokerage account is via a physically backed gold ETF like SGOL. For a 0.17% expense ratio, SGOL provides investors with exposure to gold stored in London and Zurich vaults.
Beyond its low correlation to stocks and bonds and a “flight to safety” characteristic during times of economic upheaval, gold also benefits from more structural tailwinds. “Gold demand has moved higher as foreign central banks diversify away from U.S. dollars and Treasurys in favor of gold to lower the influence of U.S. foreign policy,” says Robert Minter, director of ETF investment strategy at abrdn.
abrdn Physical Silver Shares ETF (SIVR)
Gold isn’t the only precious metal investors can buy. Silver is another option, with uses not only in jewelry but also in electronics and manufacturing. Historically, the metal has been volatile but useful as a diversifier. “Silver also allows investors to participate in upcoming Chinese stimulus measures, as the metal has a large demand component from industrial use in China,” Minter says.
Like SGOL, SIVR is backed by physically allocated silver deposits held in a London vault. For transparency, abrdn periodically publishes a list of bars on the ETF’s web page, along with vault inspection letters. The vault that holds the silver is inspected and audited twice per year, with one occurring randomly to ensure security of the underlying holdings. The ETF charges a higher 0.3% expense ratio.
abrdn Physical Precious Metals Basket Shares ETF (GLTR)
For diversified exposure to both gold and silver, and also platinum and palladium, investors can buy GLTR. This ETF holds all four precious metals in one ticker at a 0.6% expense ratio, allowing investors to benefit from different demand drivers for each. Like SGOL and SIVR, the underlying deposits for GLTR are held in inspected vaults located in London and Zurich, with bar lists available online.
“Platinum and palladium prices have dropped prematurely based on the incorrect view that a transition to fully electric vehicles has already happened,” Minter says. “They are under-appreciated, as they are key components in pollution control for gasoline, hybrid and plug-in hybrid autos, which 80% of the U.S. population and the majority of the global population still prefers to electric vehicles.”
[See: 7 Best ETFs to Buy Now.]
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10 ETFs to Build a Diversified Portfolio originally appeared on usnews.com
Update 01/29/24: This story was previously published at an earlier date and has been updated with new information.
