Fund-of-Funds

An investment strategy in which a fund holds a portfolio of other investment funds rather than investing directly in individual securities.

A fund-of-funds (FoF) is an investment vehicle that achieves diversification by holding shares of other mutual funds, exchange-traded funds (ETFs), or private equity and hedge funds, rather than buying individual stocks, bonds, or other direct securities. This structure allows the manager to build a multi-asset, multi-strategy, or multi-region portfolio using established, liquid building blocks managed by other specialists. For retail investors, a fund-of-funds offers instant, broad diversification and professional asset allocation within a single wrapper. It simplifies portfolio management by outsourcing the complex tasks of manager selection, rebalancing, and geographic or sector rotation to the overarching fund manager. However, the primary drawback of a fund-of-funds structure is the "double-layering" of fees. Investors pay an management fee to the overarching fund-of-funds manager, on top of the underlying expense ratios charged by the individual funds held within the portfolio. This compounding of costs can significantly drag on long-term returns compared to building a similar portfolio manually.

An investor buys $10,000 of a target-date Fund-of-Funds. The FoF charges a direct management fee of 0.25%. It allocates the capital equally across four underlying ETFs, each charging an expense ratio of 0.15%. The investor's total annual fee drag is calculated as the direct fee plus the weighted average of the underlying fees: 0.25% + 0.15% = 0.40% annually, or $40 on the $10,000 investment.