**Paul Merriman’s 4-Fund Investment Strategy Shown to Surpass the S&P 500: An In-Depth Guide**
In the realm of long-term investing, numerous choices exist, yet few portfolios provide the perceived ease and historical success of conventional index funds, such as the S&P 500. Nevertheless, financial educator and retired advisor Paul Merriman has repeatedly maintained that investors can achieve superior results through a diversified, low-cost approach. One of his signature methodologies, the “4-Fund Portfolio,” has earned recognition for its historical performance and balanced risk management—and many assert it has the potential to outperform the well-regarded S&P 500 index over time.
This article will explore what the Paul Merriman 4-Fund Strategy involves, its mechanics, the reasons it may excel compared to the S&P 500, and who might benefit from this approach.
### Who is Paul Merriman?
For those unfamiliar, Paul Merriman is a prominent financial educator, author, and founder of Merriman Wealth Management. Although he has retired from his advisory firm, Merriman still educates DIY (do-it-yourself) investors through his website, free resources, and publications, particularly focusing on index-fund and passive investing strategies. He strongly advocates for diversification, asset allocation, and evidence-based investing principles that prioritize reduced risk and commendable returns over the long haul.
### Grasping the S&P 500 Benchmark
Before dissecting Merriman’s 4-Fund Strategy, it’s crucial to grasp the benchmark that most individuals recognize—the S&P 500. The S&P 500 is an index that includes 500 of the largest publicly listed companies in the U.S. It is frequently used as a benchmark for overall stock market performance due to its broad representation of large-cap stocks. Historically, the S&P 500 has yielded annualized returns of approximately 10%, making it a highly appealing investment for many long-term investors.
However, it’s worth noting that the S&P 500 is significantly concentrated in large-cap firms, and while it serves as an excellent index for growth potential, it lacks diversification in other key asset classes, such as small-cap stocks, international equities, and bonds.
### Paul Merriman’s 4-Fund Strategy: The Breakdown
Merriman’s 4-Fund Strategy centers around the concept of further diversification into various equity asset categories. Specifically, his approach allocates capital across four unique areas of the market:
1. **U.S. Large-Cap Blend** – This segment of the portfolio usually aligns closely with the S&P 500, encompassing large, diversified U.S. firms.
2. **U.S. Large-Cap Value** – This fund concentrates on value stocks, those trading at lower valuations relative to their earnings. Historically, value stocks have been observed to yield higher returns in particular market conditions.
3. **U.S. Small-Cap Blend** – Small-cap companies tend to experience faster growth than large-cap counterparts, and investing in them allows investors to capture significant growth potential. However, small-cap stocks can be more volatile, so incorporating them with other funds helps balance risk and reward.
4. **U.S. Small-Cap Value** – This segment targets small companies also trading at comparatively lower valuations. Based on historical data and academic studies (notably by Eugene Fama and Kenneth French), small-cap value stocks have historically outperformed numerous other asset classes over extended periods.
### Basic Allocation
While the specific allocations may vary based on the investor’s risk tolerance and financial aspirations, a straightforward version of the 4-Fund Strategy could allocate investments evenly:
– 25% U.S. Large-Cap Blend
– 25% U.S. Large-Cap Value
– 25% U.S. Small-Cap Blend
– 25% U.S. Small-Cap Value
Alternatively, investors might choose to allocate a bit more to small-cap stocks, as these funds historically boost returns, albeit with increased volatility.
### Why Merriman’s Strategy May Surpass the S&P 500
The primary factor behind the potential superiority of the 4-Fund Strategy is the well-established “size premium” and “value premium” articulated by scholars like Fama and French. These two elements illustrate:
1. **Size Premium** – Historically, smaller firms have demonstrated higher long-term growth rates (though with increased volatility) relative to larger ones. This indicates that incorporating small-cap stocks could enhance total portfolio returns.
2. **Value Premium** – Value stocks, particularly those with lower price-to-earnings (P/E) ratios, tend to outperform growth stocks over the long term. Value companies are frequently considered “undervalued” by the market, and as their earnings increase, so do their stock prices.
Together, the inclusion of small-cap and value stocks has exhibited a long-term ability to outstrip indices.