A.A. portfolio question

Have a question about your personal investments? No matter how simple or complex, you can ask it here.
Post Reply
Topic Author
HotRod140
Posts: 86
Joined: Tue Apr 15, 2008 12:24 pm

A.A. portfolio question

Post by HotRod140 » Fri Aug 22, 2008 7:10 pm

Any feedback on this ETF portfolio for a tax deferred account with a time horizon of 12-15 yrs. Is this a solid asset allocation ? No other accounts

Vanguard total stock market (VTI) 30%
Vanguard Reit Index (VNQ) 10%
Vanguard FTSE all world (VEU) 20%
Vanguard Total Bond (BND) 30%
I Shares Lehman Tips (TIP) 10%

User avatar
PiperWarrior
Posts: 4068
Joined: Fri Dec 21, 2007 4:55 am
Location: right on course

Post by PiperWarrior » Fri Aug 22, 2008 8:09 pm

Looks good to me.

Topic Author
HotRod140
Posts: 86
Joined: Tue Apr 15, 2008 12:24 pm

A.A. portfolio question

Post by HotRod140 » Fri Aug 22, 2008 8:14 pm

thanks Piper, you are one person I hope would respond

grok87
Posts: 8912
Joined: Tue Feb 27, 2007 9:00 pm

Re: A.A. portfolio question

Post by grok87 » Fri Aug 22, 2008 9:56 pm

HotRod140 wrote:Any feedback on this ETF portfolio for a tax deferred account with a time horizon of 12-15 yrs. Is this a solid asset allocation ? No other accounts

Vanguard total stock market (VTI) 30%
Vanguard Reit Index (VNQ) 10%
Vanguard FTSE all world (VEU) 20%
Vanguard Total Bond (BND) 30%
I Shares Lehman Tips (TIP) 10%
I think the portfolio is fine. Since it is all tax deferred you can tilt to small and value if you want- and I personally like a 50/50 treasury/TIPS bond split. Here's an alternate portfolio:

Vanguard TSM (VTI) 20%
Vanguard Small Cap Value (VBR) 10%
Vanguard REIT INdex (VNQ) 10%
VEU 20%
Int, Term Treasury ETF (ITE) 20%
Lehman TIPS ETF (20%)
cheers,
RIP Mr. Bogle.

Topic Author
HotRod140
Posts: 86
Joined: Tue Apr 15, 2008 12:24 pm

A.A. portfolio question

Post by HotRod140 » Sat Aug 23, 2008 7:23 am

Thanks grok, I am gonna study your suggestion

caklim00
Posts: 1981
Joined: Mon May 26, 2008 10:09 am

Re: A.A. portfolio question

Post by caklim00 » Sat Aug 23, 2008 9:37 pm

grok87 wrote:
HotRod140 wrote:Any feedback on this ETF portfolio for a tax deferred account with a time horizon of 12-15 yrs. Is this a solid asset allocation ? No other accounts

Vanguard total stock market (VTI) 30%
Vanguard Reit Index (VNQ) 10%
Vanguard FTSE all world (VEU) 20%
Vanguard Total Bond (BND) 30%
I Shares Lehman Tips (TIP) 10%
I think the portfolio is fine. Since it is all tax deferred you can tilt to small and value if you want- and I personally like a 50/50 treasury/TIPS bond split. Here's an alternate portfolio:

Vanguard TSM (VTI) 20%
Vanguard Small Cap Value (VBR) 10%
Vanguard REIT INdex (VNQ) 10%
VEU 20%
Int, Term Treasury ETF (ITE) 20%
Lehman TIPS ETF (20%)
cheers,
This looks good. Personally, I'd prefer BIV (Vanguard Int Term Bond) over ITE, but if you only want treasuries (not a combo of Treasuries and Investment Grade Corporates) ITE is the way to go. Also, if you are tilting to small value in domestic, you may want to do the same in foreign. DLS is about the best option you have right now if you want to go that route...

grok87
Posts: 8912
Joined: Tue Feb 27, 2007 9:00 pm

Re: A.A. portfolio question

Post by grok87 » Sat Aug 23, 2008 9:46 pm

caklim00 wrote:
grok87 wrote:
HotRod140 wrote:Any feedback on this ETF portfolio for a tax deferred account with a time horizon of 12-15 yrs. Is this a solid asset allocation ? No other accounts

Vanguard total stock market (VTI) 30%
Vanguard Reit Index (VNQ) 10%
Vanguard FTSE all world (VEU) 20%
Vanguard Total Bond (BND) 30%
I Shares Lehman Tips (TIP) 10%
I think the portfolio is fine. Since it is all tax deferred you can tilt to small and value if you want- and I personally like a 50/50 treasury/TIPS bond split. Here's an alternate portfolio:

Vanguard TSM (VTI) 20%
Vanguard Small Cap Value (VBR) 10%
Vanguard REIT INdex (VNQ) 10%
VEU 20%
Int, Term Treasury ETF (ITE) 20%
Lehman TIPS ETF (20%)
cheers,
This looks good. Personally, I'd prefer BIV (Vanguard Int Term Bond) over ITE, but if you only want treasuries (not a combo of Treasuries and Investment Grade Corporates) ITE is the way to go. Also, if you are tilting to small value in domestic, you may want to do the same in foreign. DLS is about the best option you have right now if you want to go that route...
Good point about international small cap- since VEU has no small caps, arguably they are needed even more on the international side.
Personally I'm a little bit skeptical about the WisdomTree products. But I know that some people do like them. I'm currently going with SCZ to get my international small caps...
cheers,
RIP Mr. Bogle.

User avatar
PiperWarrior
Posts: 4068
Joined: Fri Dec 21, 2007 4:55 am
Location: right on course

Re: A.A. portfolio question

Post by PiperWarrior » Sat Aug 23, 2008 9:51 pm

grok87 wrote:Personally I'm a little bit skeptical about the WisdomTree products.
May I ask why? Due to lack of transparency on the index construction?

grok87
Posts: 8912
Joined: Tue Feb 27, 2007 9:00 pm

Re: A.A. portfolio question

Post by grok87 » Sat Aug 23, 2008 9:56 pm

PiperWarrior wrote:
grok87 wrote:Personally I'm a little bit skeptical about the WisdomTree products.
Due to lack of transparency on the index construction?
Well its more the lack of academic research supporting the idea that high dividend stocks outperform. As far as I'm aware Fama and French did not find the level of dividend to be a significant variable in their research. They obviously found value (book to market) and size (market cap) to be the critical variables. Dividends is one of those things that sounds good but I think is a red herring. I also think that the emphasis on dividends (rather than market cap weighting) will lead to excessive turnover. And given that international small cap stocks are more expensive to trade (lower liquidity so higher market impact costs) I would expect the higher turnover to be more punitive in terms of returns.

But time will tell I suppose...
cheers,
RIP Mr. Bogle.

User avatar
PiperWarrior
Posts: 4068
Joined: Fri Dec 21, 2007 4:55 am
Location: right on course

Re: A.A. portfolio question

Post by PiperWarrior » Sat Aug 23, 2008 10:14 pm

grok87 wrote:Well its more the lack of academic research supporting the idea that high dividend stocks outperform. As far as I'm aware Fama and French did not find the level of dividend to be a significant variable in their research. They obviously found value (book to market) and size (market cap) to be the critical variables. Dividends is one of those things that sounds good but I think is a red herring. I also think that the emphasis on dividends (rather than market cap weighting) will lead to excessive turnover. And given that international small cap stocks are more expensive to trade (lower liquidity so higher market impact costs) I would expect the higher turnover to be more punitive in terms of returns.
Thanks for sharing your thoughts. I personally haven't a trigger on international small-cap. I'll keep doing homework.

JustAsking
Posts: 209
Joined: Mon Aug 25, 2008 3:01 am

Post by JustAsking » Mon Aug 25, 2008 3:13 am

Hi,

This is my first post. Great site! Lots of very helpful information.

I was wondering about the reason for putting ETFs in a tax-deferred account, since it will involve paying for the trades. Would regular funds be preferable in this case?

User avatar
PiperWarrior
Posts: 4068
Joined: Fri Dec 21, 2007 4:55 am
Location: right on course

Post by PiperWarrior » Mon Aug 25, 2008 8:28 am

Welcome to the forum!
JustAsking wrote:I was wondering about the reason for putting ETFs in a tax-deferred account, since it will involve paying for the trades. Would regular funds be preferable in this case?
Some people use ETFs in tax-advantaged accounts because they are low cost and/or because the low-cost funds for the asset class they are looking for are available only in the ETF form.

Transaction costs incur when you purchase and sell ETFs. If your holding periods are long enough, they don't matter very much. Of course, one could argue that there are small transaction costs (commissions and/or bid-ask spreads) for reinvesting dividends.

JustAsking
Posts: 209
Joined: Mon Aug 25, 2008 3:01 am

Post by JustAsking » Mon Aug 25, 2008 4:39 pm

Thanks, PiperWarrior!

- The OP mentions 12-15 years, though not specific amounts. I recall reading somewhere that, depending on the amount invested and the difference between the ERs, it could be a 9-10 year payback for the ETF costs compared to the fund. Considering that many Vanguard bond funds have a very low ER (a point or two above ETFs for Admiral shares) and the same holdings as the associated mutual fund, is it advisable to spend the money on the trades and the spread up front? I ask because I'm facing the same question myself and had thought this was one question that was pretty well settled in favor of the fund.

Also, Eric Haas, a financial advisor whose site is linked from a thread in this forum, has some useful info, including an ETF page that says this: "ETFs are less desirable for bonds anyway — since a relatively small portion of a bond's total return is due to capital gains, the tax efficiency benefit of bond ETFs is relatively trivial." Presumably this is for a taxable account, and for a tax-deferred account, it would be even less significant?

- Also on the subject of bonds, I notice that many portfolios evaluated here have half conventional bonds and half TIPS. However, I think it's Rick Ferri in his AA book who says that (according to EMT), conventional bonds have the cost of inflation built in because of a lower price and that TIPS are unnecessary. I take it that the consensus here goes the other way?

- Since this thread is about asset allocation, perhaps I could also ask a similar question about international vs. US. I note that most portfolios discussed here have a good-sized international component, sometimes 50% of equities. However, Gary Gastineau, in "Someone Will Make Money on Your Funds--Why Not You?," says this:

"Foreign stocks are an unnecessary luxury for most U.S. investors. With the growth of globalization, financial markets throughout the world have become increasingly correlated, particularly in times of market adversity. The higher correlations of foreign markets with the U.S. market in recent years and the convergence in national economic growth rates reduce the diversification effect of foreign equity investment. Any remaining cross-border diversification effect is probably largely due to currency fluctuations. ... Unless your net worth exceeds, say, $5 million, it usually makes sense to ignore foreign securities markets." (147-49)

Any thoughts? Does anyone have data on the correlations for the last 5-10 years?

Thanks.
Last edited by JustAsking on Mon Aug 25, 2008 7:34 pm, edited 1 time in total.
"In theory, there is no difference between theory and practice, but in practice there is." -- Jan L.A. van de Snepscheut (1953-1994), late of CalTech

User avatar
PiperWarrior
Posts: 4068
Joined: Fri Dec 21, 2007 4:55 am
Location: right on course

Post by PiperWarrior » Mon Aug 25, 2008 6:07 pm

JustAsking wrote:- The OP mentions 12-15 years, though not specific amounts. I recall reading somewhere that, depending on the amount invested and the difference between the ERs, it could be a 9-10 year payback for the ETF costs compared to the fund. Considering that many Vanguard bond funds have a very low ER (a point or two above ETFs for Admiral shares) and the same holdings as the associated mutual fund, is it advisable to spend the money on the trades and the spread up front?
As you mentioned, the answer depends on many factors. Off the top of my head, factors include:
  • amount invested
  • holding period
  • the ER difference between a given ETF and corresponding mutual fund
  • whether the corresponding Vanguard fund has an early redemption fee (VEA comes to mind).
  • commissions
  • bid-ask spreads
  • tax efficiency of a given ETF. A broad market ETF is very tax efficient, even ones from Vanguard. I am not sure about others (like small-cap value).
  • when you qualify for Admiral Shares
  • whether Admiral Shares exist for a given fund in the first place (VEU comes to mind).
  • ease of doing Specific Identification of Shares at certain brokerages
To see if ETFs make sense in your case, you might want to play with Calculate and compare costs for Vanguard ETFs and mutual funds. You might be interested in reading To ETF or Not to ETF.
JustAsking wrote:I ask because I'm facing the same question myself and had thought this was one question that was pretty well settled in favor of the fund.
I think the answer is different for everybody.
JustAsking wrote:Also, Eric Haas, a financial advisor whose site is linked from a thread in this forum, has some useful info, including an ETF page that says this: "ETFs are less desirable for bonds anyway — since a relatively small portion of a bond's total return is due to capital gains, the tax efficiency benefit of bond ETFs is relatively trivial." Presumably this is for a taxable account, and for a tax-deferred account, it would be even less significant?
If you are talking about Vanguard ETFs, a given Vanguard ETF has the same tax efficiency as the corresponding mutual fund shares.
JustAsking wrote:- Also on the subject of bonds, I notice that many portfolios evaluated here have half conventional bonds and half TIPS. However, I think it's Rick Ferri in his AA book who says that (according to EMT), conventional bonds have the cost of inflation built in because of a lower price and that TIPS are unnecessary. I take it that the consensus here goes the other way?
Nominal bonds do help on unexpected inflation. If you have 50/50, it doesn't really matter if the actual inflation is higher or lower than the inflation that the market expects. Also, TIPS tend to have slightly negative correlation with stocks, whereas nominal bonds tend to have very low but positive correlation, so TIPS works as a great diversifier for stocks and bonds.
JustAsking wrote:- Since this thread is about asset allocation, perhaps I could also ask a similar question about international vs. US. I note that most portfolios discussed here have a good-sized international component, sometimes 50% of equities. However, Gary Gastineau, in "Someone Will Make Money on Your Funds--Why Not You?," says this:

"Foreign stocks are an unnecessary luxury for most U.S. investors. With the growth of globalization, financial markets throughout the world have become increasingly correlated, particularly in times of market adversity. The higher correlations of foreign markets with the U.S. market in recent years and the convergence in national economic growth rates reduce the diversification effect of foreign equity investment. Any remaining cross-border diversification effect is probably largely due to currency fluctuations. ... Unless your net worth exceeds, say, $5 million, it usually makes sense to ignore foreign securities markets." (147-49)

Any thoughts? Does anyone have data on the correlations for the last 5-10 years?
See Domestic/International.

To me, prudent investing is making an educated guess. Low-cost investing worked in the past, so we guess that it will likely work in the future. Having some bonds made the portfolio less volatile, so we guess that something very similar will hold in the future, etc. Having some international stocks in the past helped improve the risk adjusted return. Also, international funds are not that expensive any more.

Vanguard Total Stock Mkt Idx (VTSMX) (0.15%)
Vanguard Tax-Managed Intl (VTMGX) (0.15%)

So, you don't lose even if the correlation between the domestic stocks and international stocks is 1.00. In reality, they are very unlikely to have perfect correlation, so you get some benefit.

If I had to do something very complicated or very expensive to get diversification, I would hesitate, but it's not hard to get international stocks these days.

If you don't think you need international stocks, you might want to think about being a Japanese investor starting in 1990 for 10 years.

JustAsking
Posts: 209
Joined: Mon Aug 25, 2008 3:01 am

Post by JustAsking » Mon Aug 25, 2008 7:32 pm

Thanks, PW. All those factors you mention are the reason I don't want to have to think about it each time! Probably someone like you, with an intuitive grasp of and interest in finance, could make the right decision instantly. I however, would have to spend a lot of time researching and looking at all angles of it--and might still get it wrong. I'm disappointed to see that what I thought was a general rule isn't.

I've tried the ETF/fund comparator, but to me it seems of limited usefulness, since it doesn't take tax consequences into account. This omits one of the main reasons to use ETFs (their greater tax efficiency). If ETFs come up the better choice, it's a no-brainer. But if funds come up, you don't know that the ETF's tax advantages might not make it preferable. Also, you have to enter assumptions that might be way off, like the return and how long you're going to hold it (anything can happen...)

I had also read Rick Ferri's ETF post, but, as he says at the end, it's "clear as mud." (Not his post, which points out the variables, but the fact that the variables aren't that easy to nail down.)
JustAsking wrote:Also, Eric Haas, a financial advisor whose site is linked from a thread in this forum, has some useful info, including an ETF page that says this: "ETFs are less desirable for bonds anyway — since a relatively small portion of a bond's total return is due to capital gains, the tax efficiency benefit of bond ETFs is relatively trivial." Presumably this is for a taxable account, and for a tax-deferred account, it would be even less significant?
PiperWarrior wrote:If you are talking about Vanguard ETFs, a given Vanguard ETF has the same tax efficiency as the corresponding mutual fund shares.
Actually, not really--it was mostly about other ETFs. Is there really that little advantage in holding bond ETFs, especially in a tax-deferred account?
PiperWarrior wrote:If I had to do something very complicated or very expensive to get diversification, I would hesitate, but it's not hard to get international stocks these days.

If you don't think you need international stocks, you might want to think about being a Japanese investor starting in 1990 for 10 years.
It wasn't really a question about the complexity or expense but about the value of the diversification, which Gastineau seems to think is minimal. I'm wondering what the data shows.

I suppose the Japanese situation could be considered an anomaly--there were meltdowns in Russia and South America too. But maybe the question is, would *you* have invested in the Japanese stock market starting in 1990, knowing what you know? If it looks like the foreign markets provide no greater return or diversification (and most of the latter due to currency fluctuation), is there a justification for buying them now?
"In theory, there is no difference between theory and practice, but in practice there is." -- Jan L.A. van de Snepscheut (1953-1994), late of CalTech

User avatar
PiperWarrior
Posts: 4068
Joined: Fri Dec 21, 2007 4:55 am
Location: right on course

Post by PiperWarrior » Mon Aug 25, 2008 8:53 pm

JustAsking wrote:I had also read Rick Ferri's ETF post, but, as he says at the end, it's "clear as mud." (Not his post, which points out the variables, but the fact that the variables aren't that easy to nail down.)
Right. I don't think the ETF v.s. mutual fund decision will make a huge difference. If you think mutual funds are simpler, go with them.
JustAsking wrote:Actually, not really--it was mostly about other ETFs. Is there really that little advantage in holding bond ETFs, especially in a tax-deferred account?
If you can get Admiral Shares, I can't think of a huge advantage. Maybe if a portfolio is composed of mostly non-Vanguard ETFs, he/she might enjoy the convenience of having everything, including Vanguard bond ETFs, at one brokerage.
JustAsking wrote:It wasn't really a question about the complexity or expense but about the value of the diversification, which Gastineau seems to think is minimal. I'm wondering what the data shows.
Here is the 10-year rolling correlation between Vanguard Total Stock Mkt Idx (VTSMX) (0.15%) and Vanguard Total Intl Stock Index (VGTSX) (0.27%) with part of the very old data supplemented by index performance, not actual fund performance.

1972-1981 0.67
1973-1982 0.63
1974-1983 0.57
1975-1984 0.23
1976-1985 0.27
1977-1986 0.30
1978-1987 0.30
1979-1988 0.35
1980-1989 0.37
1981-1990 0.59
1982-1991 0.46
1983-1992 0.53
1984-1993 0.50
1985-1994 0.51
1986-1995 0.27
1987-1996 0.34
1988-1997 0.37
1989-1998 0.42
1990-1999 0.40
1991-1900 0.39
1992-2001 0.52
1993-2002 0.61
1994-2003 0.76
1995-2004 0.75
1996-2005 0.78
1997-2006 0.78
1998-2007 0.93
JustAsking wrote:I suppose the Japanese situation could be considered an anomaly--there were meltdowns in Russia and South America too. But maybe the question is, would *you* have invested in the Japanese stock market starting in 1990, knowing what you know?
No, I wouldn't have because I now know what the performance was in 1990's. Otherwise, I would just invest according to my asset allocation.
JustAsking wrote:If it looks like the foreign markets provide no greater return or diversification (and most of the latter due to currency fluctuation), is there a justification for buying them now?
Yes, because I don't really get hurt if the diversification benefit with international stocks is indeed 0. I certainly don't want to claim a smart statement and use my own money to prove it.

If you exclusively invest in domestic stocks, and what you call an anomaly happens one year before you retire, would you say "All right. No problem. This is just an anomaly. I'll work for another 10 years."?

A regional "anomaly" may be less likely in the global economy, but I really don't know exactly what will happen in the future. Since I don't know, I'll make an educated guess based on what various books and data say.

JustAsking
Posts: 209
Joined: Mon Aug 25, 2008 3:01 am

Post by JustAsking » Mon Aug 25, 2008 9:43 pm

JustAsking wrote:It wasn't really a question about the complexity or expense but about the value of the diversification, which Gastineau seems to think is minimal. I'm wondering what the data shows.
PiperWarrior wrote:Here is the 10-year rolling correlation between Vanguard Total Stock Mkt Idx (VTSMX) (0.15%) and Vanguard Total Intl Stock Index (VGTSX) (0.27%) with part of the very old data supplemented by index performance, not actual fund performance.
Very nice! Looks like the correlation has been increasing steadily for the past decade, especially in the last five years, and last year was nearly at 1. However, I think you're right--at the moment there doesn't seem to be any real downside to buying international, and with the chaos all around us, it might help.
"In theory, there is no difference between theory and practice, but in practice there is." -- Jan L.A. van de Snepscheut (1953-1994), late of CalTech

grok87
Posts: 8912
Joined: Tue Feb 27, 2007 9:00 pm

Post by grok87 » Mon Aug 25, 2008 10:15 pm

PiperWarrior wrote: Here is the 10-year rolling correlation between Vanguard Total Stock Mkt Idx (VTSMX) (0.15%) and Vanguard Total Intl Stock Index (VGTSX) (0.27%) with part of the very old data supplemented by index performance, not actual fund performance.

1972-1981 0.67
1973-1982 0.63
1974-1983 0.57
1975-1984 0.23
1976-1985 0.27
1977-1986 0.30
1978-1987 0.30
1979-1988 0.35
1980-1989 0.37
1981-1990 0.59
1982-1991 0.46
1983-1992 0.53
1984-1993 0.50
1985-1994 0.51
1986-1995 0.27
1987-1996 0.34
1988-1997 0.37
1989-1998 0.42
1990-1999 0.40
1991-1900 0.39
1992-2001 0.52
1993-2002 0.61
1994-2003 0.76
1995-2004 0.75
1996-2005 0.78
1997-2006 0.78
1998-2007 0.93
Thanks PiperWarrior- what great data!
It's important however to realize that even with the high recent correlations between domestic and international, the performance levels can still be strikingly different. I pulled the 10 year performance of both funds from Morningstar (10 years ending 7/31/08). Total Stock Market did 3.69% annualized whereas Total International did 6.42%. So $10,000 would have accumulated to $14,370 in TSM and $18,630 in TotalInternational- that's quite a difference despite the high correlation!
cheers
grok
RIP Mr. Bogle.

User avatar
PiperWarrior
Posts: 4068
Joined: Fri Dec 21, 2007 4:55 am
Location: right on course

Post by PiperWarrior » Mon Aug 25, 2008 10:50 pm

grok87 wrote:Thanks PiperWarrior- what great data!
You are welcome. I just put 100% VTSMX and 100% VGTSX into Simba's backtesting spreadsheet and did a bunch of PEARSON as usual.
grok87 wrote:It's important however to realize that even with the high recent correlations between domestic and international, the performance levels can still be strikingly different. I pulled the 10 year performance of both funds from Morningstar (10 years ending 7/31/08). Total Stock Market did 3.69% annualized whereas Total International did 6.42%. So $10,000 would have accumulated to $14,370 in TSM and $18,630 in TotalInternational- that's quite a difference despite the high correlation!
Yup. That's exactly the reason why you shouldn't end the discussion at correlation. It's just one measure of the performance.

Post Reply