Portfolio Advice

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Bracket
Posts: 414
Joined: Sun Mar 10, 2013 7:50 pm

Portfolio Advice

Post by Bracket » Wed Mar 13, 2013 10:51 pm

Hello,

Long time forum reader, first time poster. Have read much but still consider myself a novice investor. Been sold on low cost indexing for some years, but only 2 years ago did I finally start my "real job" after doing residency, military practice, etc. My current portfolio is somewhat messed up, as I have been keeping 4 separate portfolios (my 401k and TSP, wife's 401k, and our Vanguard accounts (2 backdoor Roths + taxable) and allocating assets in each separately. Now I am planning to consolidate everything into one retirement portfolio and would welcome any advice anyone might have. I won't post my current situation since I will be radically changing it, but once I move things around it should look like this:



Emergency Funds: 18 months or so

Debt: student loans: 45k at 3.75% and 5k at 4.75%, considering paying off the 4.75%, not sure if that rate is high enough to make it worthwhile, I assume 3.75 is not (?)
2 leased cars, mortgage at 3.75%

Married filing jointly, wife now "retired" to raise our son
33% federal, 5.75% Virginia
36 years old

My desired Allocation Plan is as follows: (portfolio size is mid 6 figures),

80% Equities (30% of which is international)
30.6% vanguard total stock market index VTSMX
15.4% vanguard small cap value index VISVX
10% vanguard reit index VGSIX
24% vanguard total international index VGTSX

20% Fixed Income
12% Vanguard total bond market index VBMFX
4% vanguard high yield corporate fund VWEHX
4% vanguard TIPS fund VIPSX



I max out our Roths (via the backdoor) and my 401k every year

As will probably be obvious to many, this asset allocation is pretty much pulled from Rick Ferri's books, along with similar suggestions found all over these forums. I suppose this is mainly because his was the first book I happened to read, but also because the idea of holding assets that earn a real return over inflation, that correlate as little as possible with one another, and that are cheap to hold makes plenty of sense to me.

My retirement vehicles include her 401k and my TSP which are now closed to new contributions, along with 2 Roth IRAs, and my current 401k. I also have a taxable Vanguard account and a 529 for my 2 year old son.
Also some small Lending Club money to play around with.

At "some point" whenever they feel like it my company is supposed to add 25k annually to my 401k in addition to my own 17k or whatever the limit is right now. Unfortunately for the past 3 years that 25k has been given to me as taxable income. Something about new Profit Sharing Plan regulations that I don't fully understand.

I already hold positions in all the listed funds, but will have to in some places (our 2 fidelity 401k's and my TSP) substitute equivalent funds since the VG funds are not avaliable.

Any thoughts would be greatly appreciated, but my specific questions are as follows:

1. Regarding my current and future bond holdings. I realize (I think correctly) that ultimately most or all of my tax-deferred space should be used for bonds, however in my 401k (where the majority of my future tax-deferred savings will be) there is no bond index fund offered. My options are a Stable Value Fund, the Fidelity Intermediate Bond Fund (FTHRX), and the DFA TIPS fund (DIPSX). That's it. From what I have researched the Fidelity fund is OK, but it is an active managed fund and seems to invest in lower quality bonds than say the VG Total Bond Market Index, so I am unsure if it is as conservative as I want for my "regular old" bond fund, especially since my portfolio is fairly aggressive as it is.

DIPSX is I believe a high quality fund, and is pseudo-passive I guess, but I don't really want all my bonds in TIPS either. So my question is once I use up all my available bond space elsewhere (my wife's 401k has an SSGA total bond market index that tracks I believe Barclays capital total bond index and I have the F fund in my TSP) what would be the best option? Should I consider FTHRX equivalent enough to VG total bond market index and just use that? Should I use DIPSX and just accept an increased allocation to TIPS? Or should I just avoid using my 401k for bonds and put them in my taxable account in say VG intermediate term tax exempt or something like that? not sure what the best option would be here.

2. Related question: since my plan calls for investing in the Total Bond Market Index fund I am considering not using the G fund in my TSP but going with the F fund that tracks the Barclays US Agg bond index as it is most equivalent to the Vanguard total bond index fund. However, having read so many positive things about the G Fund, would it be some kind of mistake to avoid taking advantage of this fund? I've read about how it is a unique fund that can be thought of as part cash, part TIPS, part high yield money market, how it cannot lose prinicpal, etc. but if it is not serving the function that my asset allocation plan calls for then does any of that matter? Should I hold it simply because it is "good" and not everyone gets to buy it?

3. I was fully committed to having a small value tilt, but unfortunately I had this week off and have been reading all over this forum about tilting and am maybe reconsidering. I am fine with increased risk for the possibility of increased return, I have 30-35 year time horizon, etc. but what is the general consensus here regarding small and/or value tilting? My understanding had been that it was accepted that there at least could be an advantage to doing so, but after further reading I guess my question is is this now considered to be untrue? Would tilting this way be considered a mistake or is it still simply a matter of controversy with no definitive answer?

Thanks for reading, and thanks again for any suggestions.

.

DaveS
Posts: 1308
Joined: Fri Jun 15, 2007 9:42 am
Location: Reno, NV

Re: Portfolio Advice

Post by DaveS » Thu Mar 14, 2013 3:45 am

The Vanguard Small Value fund is 15% REIT so you should factor that into your allocation. Frankly REITS are now so over valued I just have the Small Value fund. Tilting to small value works over longer periods of time. Since Financial stocks are also value stocks the financial crash of 2008 makes their recent record look bad. That might be why your having second thoughts. My impression is the G fund is based on the same index as Vanguard Total Bond. If that is correct returns should be the same. I would go there before buying muni's in taxable. And go there over the fidelity choices. Note you did not list the expense ratios. The lower cost bond funds are really recommended because bonds yield so little these days before costs. Tilting is a controversy. If you go back long enough the tilters will win over almost all time periods. But you have to look at long periods because small and value stocks are more volatile. I.E. they periodically underperform. Because of this their expected return has to be higher or people would not buy them. Dave

Bracket
Posts: 414
Joined: Sun Mar 10, 2013 7:50 pm

Re: Portfolio Advice

Post by Bracket » Thu Mar 14, 2013 6:06 pm

Dave,

Thanks for the input. From what you say small cap tilting is certainly a reasonable thing to do, but the question I need to ask myself is whether or not I should reduce my REIT allocation accordingly. I knew there was some overlap but didn't realize just how much REIT there was in small cap value. It is interesting because I have read other postings where small cap value tilting is discussed and I've seen recommendations ranging from 25% of US equity and up, even to 100% I believe, but I don't remember anyone discussing a corresponding reduction in REITs. Same on the REIT side of things, people say hold 10% of equity in REITS, or 20% or what have you, but no one ever says hold less if you already own small cap value. (Or maybe they do and I just haven't seen it) Makes things a bit more complex for a beginner like myself but obviously a good thing to know.

As far as bond funds it's actually the TSP F fund that tracks the same index as VG total bond, whereas the G fund invests in non-marketable US treasuries which I believe somehow have 0 interest rate risk. In any case though I get your point, stick with the total bond index when possible. The problem is that I can't put any new money into my TSP or my wife's 401k, (I'm just doing some rebalancing into bonds in those accounts) so going forward I have to choose between either the actively managed Fidelity fund or the DFA TIPS fund. The ER for the fidelity fund is .45%, double the VG total bond market index, while for the DFA it is .13. Option 3 is I guess Munis in my taxable account. I would never consider the Fidelity fund normally, so I feel as though I shouldn't buy it simply because it happens to be available. I'll probably use the DFA anyway for my TIPS allocation but am wondering what a good municipal fund might be? VG Intermediate Term tax exempt? I've never bought a muni fund before, new territory for me.

thanks again

DaveS
Posts: 1308
Joined: Fri Jun 15, 2007 9:42 am
Location: Reno, NV

Re: Portfolio Advice

Post by DaveS » Thu Mar 14, 2013 11:31 pm

I can harp quite a bit about REIT. It consists of 2% of the total US stock market. So 10% is to overweight it by 500%. Then you look at where it is valuation wise. In 1999 REITs sold for about 70% of the value of the underling real estate. Today it's 230%. In 1999 REITs sold for about 15 times earnings, now they are up to 60 times earnings because everyone wants dividends. So I don't say don't invest in them but they are beginning to look like tech stocks in the 90's. The principle reason to hold them is because they have a low correlation with other US stocks. I.E. they tend to do well when others do poorly. But if you have too much of them they are the tail wagging the dog. You do well when other stocks do poorly and you do poorly when other stocks do well.

Now the stock market is 70% large 20% mid and 10% small caps. So you can see that having total stock market plus 25% small value is hitting the upper limit of tilting. Tail wagging the dog again plus it's a volatile asset class. That is why people demand a higher expected return to buy into it. Small cap stocks lost 85% of their value in 1930 but over periods like 30 years they still outperform, but you dont want a lot of your money in something that volatile because the bad year might be the year before you need it.

The DFA fund at the cost you mentioned is a good deal. Hope the general info about the market helps. On this list people have big debates about where to put 10% of their portfolio. But the affect on earnings is likely no more than a percent. Dave

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