Are Your Index Funds Still Diversified?

If you’ve recently received a bonus or inheritance, should you invest in international stocks?

That might sound a little too complicated, even nerve-racking. You might think you should stick to an S&P 500 or “total market” index fund, like you’ve heard others suggest.

Investing feels complicated to almost everyone. But an increasing number of people actually get the most important decisions correct.

They likely have Jack Bogle, the founder of Vanguard, to thank. He popularized index funds, giving us a clear way to keep investing simple. With index funds, you can easily minimize your costs and diversify your investments.

Usually.

A reader recently sent New York Times reporter Jeff Sommer a question about her diversification:

“Fidelity Investments sent her and other fund shareholders a letter saying that since Nov. 10, two major index funds, Fidelity 500 and Fidelity Total Market, were operating as ‘non-diversified funds.’ She wanted to know whether the funds had changed in an important way. Why weren’t they still diversified?

When I looked into it, I found that the funds themselves haven’t shifted their approach one iota. In an emailed statement, Fidelity said, ‘The benchmarks of those funds remain the same.’ They are still carefully tracking the stock market, as they have since their inception.

Instead, what has changed is the U.S. stock market itself. It has become so top-heavy that index funds mirroring the overall market are breaching legal thresholds for diversification set by the Securities and Exchange Commission (SEC) to protect investors. Fidelity was merely notifying its customers that it was making a legal adjustment in its funds acknowledging this shift — something, as I learned, that Vanguard, State Street, BlackRock and other companies with similar funds had already done in their own legal filings.“

This seems hard to fathom. Our “total stock market” funds aren’t diversified now?

Maybe not, but you may find an opportunity among this news: international stock. If you don’t have any money in an international index fund, you may still have a way to improve your diversification.

Your investments will still be simple and low-cost. But your portfolio will no longer be quite so “top-heavy.”

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About the author: Kevin Mahoney, CFP®

Hi, I’m Kevin. I’m the founder of Illumint and a financial advisor in Washington, DC. I specialize in financial planning for Millennials like you. As a Millennial father and Certified Financial Planner™, I empower our peers to invest with confidence and flexibility. If you’re new to Illumint, I’m glad you’re here – you now have access to free personal finance tips written specifically for Millennials. I encourage you to read, watch, or listen to the ideas I share about exchanging your money for memories with your friends and family. And then when you’re ready, please send me your thoughts & questions!