Over the last 5 years, DODFX's pretax
returns have trailed the after tax
returns of DFAs TaxManaged International Large Value fund. When you adjust for the 20% Emerging Market stake in DODFX, you find that the after tax returns of DFAs TM ILV and Emerging market Value funds are almost 4% a year ahead of DODFXs pretax returns.
Dodge and Cox is a fantastic management firm with very high ethics and a disciplined approach....thats for sure. In my opinion, however, their performance is being effected by the inflow of to many assets.
As for DFA and their issues with asset growth...I can certainly see why some would say that the development of their Applied Core Equity portfolios are primarily a way to deal with the asset growth in Micro Cap and Small Value portfolios.
As many people know, several funds are closing in December. New assets will be directed into funds that have "larger" small cap and mid cap stocks. DFA has to do this. They are tapped-out in the micro cap and small cap area. They have hit critical limits on percent ownership of many smaller companies and cannot buy anymore shares.
On the other hand, DFA (and specifically Fama Jr.) have been saying since the mid 1990s that investors need to look at their portfolios holistically, as an entire allocation, instead of a collection of asset classes that compete with one another. They have written extensively on how to use the Three Factor Model as an asset allocation tool and not just a performance evaluator.
I am just not sure how widespread this is, however. Most still seem so enamoured with the returns of DFSVX and its Int'l sister fund, they seem unwilling to view the results within the context of a multifactor framework.
With that philosophy in mind, what matters most is total portfolio exposure to Market, Small Cap, and Value stocks -- and there are a number of different ways to achieve the same targets. SV just happens to have the highest degree of concentration to all of these factors.
However, a SV fund in particular is less important to the overall plan than what its total exposures to Small Cap and Value risk are. The degree of exposure to small value (or small and value) stocks are what counts, not the actual fund itself. Since 1973, even a 40% Small Value fund committment wouldn't have been enough to outpace a Mid Cap Index fund if the other 60% of your portfolio was in Large Growth!--clearly, its not the % allocation to a Small Value index fund that matters, its the overall portfolio position on the size and value spectrum.
Consider these more traditional Core/component examples and the improved efficiencies now availble with more direct multifactor portfolio options:
Attempting to develop a total asset allocation with a moderate tilt away from the market (lets say 0.2 Small Cap and 0.25 Value) requires a retail index fund investor to commit 60% of their overall holdings
to Large Value, Small Cap, and Small Value holdings -- a pretty bold allocation for someone concerned with tracking error. Even with DFAs more Value and Small Cap tilted portfolios, you are still looking at about 50% outside of a TSM holding
(more on both counts if you start with the S&P 500 instead).
Using the Core 2 portfolio, you can achieve that approximate allocation with one fund. Furthermore, it has almost a 95% correlation with the overall market, which is twice as high as even a Large Value fund, and 3-4X more correlated with the market than extreme Micro Cap and Small Value funds.
A more agressive total asset allocation tilt (say 0.4 Small Cap and 0.45 Value) requires a retail index investor to commit almost 85% of their holdings to non TSM component funds. Even the DFA fund investor must commit as much as 80% of their portfolio to Large Value, Micro Cap, and Small Value strategies.
US Vector, on the other hand, can achieve this tilt consistently with the need of only 1 strategy. And even Vector is still about 87% correlated with TSM, which puts its level of tracking error on par with a Large Value holding! Far more TE efficient than Micro Cap or Small Value funds it will likely replace.
For many multifactor investors, IMO, these Core portfolios serve as an efficient replacement for allocations that are extremely heavy in remote areas of the equity factor map. They also represent an improvement for investors unable to commit sizeable amounts of future dollars to their plan to keep in rebalanced, or are unwilling to take big capital gains to rebalance factor exposures. They are also better able to manage migration of small stocks and value stocks as they transition from one asset class to another (small to mid or value to blend).
Also, it should be noted that these portfolios are actually more diversified than the older component portfolios. While US Micro Cap will be closing in December I am told, Core 1, Core 2, and Vector contain every single MicroCap stock currently held in DFSCX. They just don't hold the same %s because they are able to get some of their size tilt from small cap stocks, and even mid cap stocks.
Ultimately, these portfolios are not perfect, I'll admit.
Their expense ratios are only inline
with similar component portfolios -- given how the older funds have become even cheaper in the last year or two. Much of the cost savings exists inside the funds from lower turnover and trading costs, which is difficult to measure.
Some investors maybe reluctant to target entire regions of the world with only 1 mutual fund -- confusing diversification by # of mutual funds for diversification by # of securities (which is what really matters).
DFA seems slow to release Tax Aware versions of existing Core/Vector funds, and the tax sensitivity of taxable versions is not yet clear.
Finally, the biggest drawback in my mind is that there as of yet exists no Int'l or Emerging Market Vector portfolios. Investors benefit most from smaller and more value oriented portfolios in overseas regions from a return/diversification perspective. Elminating the need for 4-6 seperate asset class holdings in what usually amounts to only 25% to 40% of equity exposure through the use of 2 Vector portfolios (Int'l and EM) would seem to be one of the greatest advantages of an integrated portfolio strucutre...yet there are more US Core vehicles than Int'l and EM combined (excluding the EM Social Core fund). This is one area I would think will be improved in years to come.
All in all, I think the Core portfolios are a major step forward, however. If nothing else, I cannot see how anyone could still consider DFA a "small cap manager", as has often been mentioned. DFA arguably makes it easierand more efficient to target a global small cap and value tilted equity/fixed income portfolio than any other combination of management firms.
I can certainly see how advisors who have been using dedicated SV funds in portfolios for 10 to 15 years would be a bit gunshy to gravitate towards a Core Equity structure. SV has been good to them, no doubt. However, if you have faith in the FF multifactor model, then it supercedes the worship of any particular investment. Much of the recent work out of FF on mutlifactor investing (Including "Migration") points to the integrated Core structure as an improvement over the old component portfolio formation process.
My opinion of course.