A Doctor’s Guide to the Two-Fund Investment Strategy

Quick Recap of Key Investing Principles

For most ordinary investors, it is a good practice to invest in a low-cost, diversified portfolio that optimizes for asset growth, diversification and risk management. Holding investments for a longer time frame also reduces tax burden and minimizes trading costs, core principles of sound investing.

Doctors and other professionals who are strapped for time may wonder how they can get started in crafting a low-cost diversified portfolio that is also simple to implement, and does not require hours of research every week?  

This is where the Two Fund Strategy comes in. 

What is the Bogleheads “Two Funds for Life” Approach?

The Bogleheads Two Funds Investment strategy involves investing your assets into just 2 mutual funds – but these funds provide all the diversification needed while also helping with asset growth.

There are a few different approaches from famous investment gurus about exactly how to implement the Two Fund investment strategy. .

The Warren Buffet Two Fund Approach

The legendary investor Warren Buffet proposed a two-fund strategy for his wife and any ordinary investor:

·  90% in S&P 500

·  10% in short-term United States Treasury government bonds

The Paul Merriman Two Fund Approach

Investment guru Paul Merriman proposed a somewhat different mix of the two-fund strategy.

• 90% in a target date retirement fund
• 10% in a small cap fund.

Target Date Funds

A target date fund is an investment fund that automatically adjusts its investment mix with age. In the early years of your career, the fund would have a more aggressive asset allocation, with a greater percentage invested in stocks. As you get closer to retirement age, the target fund gradually adopts a more conservative asset allocation by reducing the percentage of stocks and increasing the proportion of fixed income investments such as bonds. There is thus an automatic rebalancing of your assets as you get closer to retirement age. You should make sure that you pick target date funds with low fees and expense ratios. According to Paul Merriman, a low-fee target date fund combined with a small-cap fund offers a simple yet powerful investment foundation. 

Target date funds typically also provide additional diversification through the allocation of a proportion of the fund in international stocks and bonds. For example, the Vanguard 2050 Target Date Fund has about 35% allocated to international stocks and 3% towards international bonds.

Small cap funds

Small cap funds invest in companies with smaller market capitalization. Smaller companies have a greater growth potential but can also be riskier and more volatile. Therefore the Two Fund strategy leverages these small cap stock funds for the purposes of growth but caps the proportion at 10% to reduce risk and volatility.

The Logic Behind the Two Fund Investment Model

Whether you pick the Warren Buffet model or the Paul Merriman model, there are some solid advantages to the Two Fund investing strategy.

Simplicity

Investing in a two-fund portfolio is simple and easy for beginners and people with busy careers. Busy professionals can derive the most important investment goals such as diversification, asset growth and low fees while not having to spend a lot of time on researching and managing their investments.  

Asset Growth

The Two Fund strategy calls for allocating a significant portion of assets into a diversified stock portfolio such as the S&P 500 or a Total Market Index. This ensures that you will get the benefit of stock appreciation. In the past 30 years, the S&P 500 has delivered annual returns of 10% on average. Therefore investing in the broader stock market is likely to yield higher returns over the longer term, although you might see short term volatility. 

Diversification & Risk Management

The Two Fund portfolio ensures diversification by spreading assets into stocks along with bonds or treasury investments. These asset classes typically move in opposite directions thereby reducing the risk from the possible underperformance of any one asset class.     

Low fees

It is quite easy to craft your two-fund portfolio with low fees index funds from Vanguard, Fidelity and similar providers. You need to ensure that the Target Date funds that you choose also have low fees. 

Illustrative Two-Fund Portfolio Scenarios

Options for the Buffet two-fund scenarios

• Vanguard or Fidelity 500 Index Fund: 90%
• US Government Treasury Bonds: 10%

Options for the Paul Merriman two-fund scenario

• Vanguard or Fidelity Target Date Funds: 90%
• Small cap funds: Low-cost small cap funds such as SPDR S&P 600 Small cap Growth ETF or iShares MSCI International Small-Cap Equity Factor ETF: 10%

Is This Strategy Right for Physicians?

• The two-fund strategy is a great option for physicians and other busy professionals who might prefer to focus on their career while following a simplified and effective investment strategy that optimizes asset growth while reducing risk. It is an excellent ‘set it and forget it’ option for buy-and-hold investors.
• Physicians should ideally follow a dollar cost average strategy to regularly put money in their two-fund portfolio. This will allow them to be disciplined with their investing and avoid constant trading, high fees and market timing.

If you’re looking for a more flexible path to retirement, you could also explore Coast FIRE, which allows you to reduce working hours once you’ve invested enough to ‘coast’ to retirement.

Conclusion

The Two Fund strategy can be an effective “set it and forget it” investment strategy for busy physicians. It can deliver asset growth and stock market returns while achieving diversification and enabling automatic asset rebalancing. 

Planwell can help you plan for financial independence with our fully automated financial planning tool. Find out the earliest age at which you can retire and get your personalized financial plan. Make tradeoffs between early retirement and other goals such as home buying or kids’ college. 

• The Boglehead’s Guide to Investing: Learn about John Bogle’s approach focused on index fund investing based on low investment fees, asset diversification and prudent risk management.
• How to build a personal financial plan: Before you make a home purchase, make sure to build your personalized financial plan with our 10 step guide. 
• 5 Common Money Mistakes to Avoid: Learn about the pitfalls that could derail your early retirement plans.
• How to retire early and achieve financial independence: Tips to retire early and achieve FIRE (Financial Independence, Retire Early)
• How to build a personal financial plan: Before you make a home purchase, make sure to build your personalized financial plan with our 10 step guide. 
• How to Use AI Budget Calculators and Tools to Plan Your Finances: Take advantage of our free FIRE calculator  to plan your finances more effectively.
• 5 Common Money Mistakes to Avoid: Learn about the pitfalls that could derail your early retirement plans.