Non-US resident portfolio with an emerging market ETF

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Pudu
Posts: 8
Joined: Wed Nov 30, 2016 10:18 pm

Non-US resident portfolio with an emerging market ETF

Post by Pudu » Tue Dec 05, 2017 9:58 am

Hi everybody, I finally got my account on Interactive Brokers and starting a Bogleheads-based three-fund portfolio for, hopefully, early retirement.

About me: 30y.o., resident of Chile. The country is waiting for the tax treaty with the US for many years, so I avoid US domesticated ETFs because of the 30% tax on dividends.

My plan is:
— 40% VWRD: Vanguard FTSE All-World (Ireland)
— 30% BNDX: Vanguard Total International Bond ETF (US)
— 30% CFMITNIPSA: domestic Chilean ETF (based on the index of Santiago Stock Exchange)

I also looked into iShares MSCI Chile Capped ETF but it's domiciled in the US and I guess I have to pay the 30% tax despite all the companies in it being Chilean.

The reason why I want to invest in an emerging market: I'm an expat and believe that Chilean market is undervalued by foreigners. The country is very stable politically and economically but people often think "Latin America" and put it in the "it can become a mess any day" bucket. For example, now it's going down just because foreign investors are afraid of the center-left presidential candidate.

But I see how fast Chile has been improving even in the 3 years I'm here and nowadays local companies actively expand into neighboring countries. The Chilean banks are conservative and stable, so I think it will be a safe haven if something happens in the region or globally (the country wasn't affected in 2008 too much).

Am I planning something stupid based on my beliefs? Should I decrease the share? Thanks!

Valuethinker
Posts: 33405
Joined: Fri May 11, 2007 11:07 am

Re: Non-US resident portfolio with an emerging market ETF

Post by Valuethinker » Tue Dec 05, 2017 11:09 am

Pudu wrote:
Tue Dec 05, 2017 9:58 am
Hi everybody, I finally got my account on Interactive Brokers and starting a Bogleheads-based three-fund portfolio for, hopefully, early retirement.

About me: 30y.o., resident of Chile. The country is waiting for the tax treaty with the US for many years, so I avoid US domesticated ETFs because of the 30% tax on dividends.

My plan is:
— 40% VWRD: Vanguard FTSE All-World (Ireland)
— 30% BNDX: Vanguard Total International Bond ETF (US)
— 30% CFMITNIPSA: domestic Chilean ETF (based on the index of Santiago Stock Exchange)

I also looked into iShares MSCI Chile Capped ETF but it's domiciled in the US and I guess I have to pay the 30% tax despite all the companies in it being Chilean.

The reason why I want to invest in an emerging market: I'm an expat and believe that Chilean market is undervalued by foreigners. The country is very stable politically and economically but people often think "Latin America" and put it in the "it can become a mess any day" bucket. For example, now it's going down just because foreign investors are afraid of the center-left presidential candidate.

But I see how fast Chile has been improving even in the 3 years I'm here and nowadays local companies actively expand into neighboring countries. The Chilean banks are conservative and stable, so I think it will be a safe haven if something happens in the region or globally (the country wasn't affected in 2008 too much).

Am I planning something stupid based on my beliefs? Should I decrease the share? Thanks!
Markets are not always intelligent about small national markets. Often they miss corruption & political risks that the locals all know about (I wonder if that has been a factor in Brasil). Similarly Argentina was able to issue a 100 year bond-- granted at 7 3/4% coupon that's not so relevant to investors but you are betting that it won't default in the next 12-13 years (before you get all your money back)- -recent Argentine history does not give you absolute confidence on that scroe.

Sometimes they just miss things. Ask me about Chile I would say something like "Pinochet. Ultimate Thatcherite experiment in free markets and monetarism. Too reliant on copper"-- and that probably just dates me by 30 years ;-). I remember also the Argentines reneged on natural gas supplies? (because Argentine domestic prices got too high and that was politically unpopular). I also recall that Chile has about the best solar energy resource (resource = total theoretically extractable; reserve = what is economic to extract) in the world?

However there's a long term question re overweighting. If you are a national from a small country (Canada, Australia, Israel etc.) why would you want 10x (or 30x) exposure to your own national market, when you are paid in that currency, your home equity and job are probably linked to the fortunes of that country?

So I would say that overweighting Chile is a bet that international investors have got it wrong, and that's not impossible, but it is a gamble.

I probably wouldn't pay the tax penalty. Could you "synthesize" your own ETF via a Chilean discount broker? Eg owning the top 10 or 20 stocks in rough proportion to the index? I wouldn't then rebalance (that's likely to cost you too much) but just run it. I have done something similar with another market (Canada). Beware too if the Chilean index is heavily skewed (80% of the Canadian index is financial services companies (mostly 5 banks) + natural resources companies).

TedSwippet
Posts: 1429
Joined: Mon Jun 04, 2007 4:19 pm

Re: Non-US resident portfolio with an emerging market ETF

Post by TedSwippet » Tue Dec 05, 2017 12:02 pm

Pudu wrote:
Tue Dec 05, 2017 9:58 am
I also looked into iShares MSCI Chile Capped ETF but it's domiciled in the US and I guess I have to pay the 30% tax despite all the companies in it being Chilean.
I would call that a lousy deal. Worse still when you consider the added risk of US estate tax taking up to 40% of your holding above $60k. Unfortunately it doesn't appear that there are any usable alternatives. At one time there was an Ireland domiciled Chile ETF, CSCL, but no longer.

Like Valuethinker suggests, I would look at holding a selection of the stocks that ECH holds. You could buy the top 10 holdings and cover around 60% of the index that way. This is not really ideal, certainly, but unless you face some very high trading charges it should be a lot cheaper than paying 30% to the US in dividend tax and the risk of US estate tax on top. And on the plus side, no annual management fee for holding these Chilean stocks directly.

Pudu
Posts: 8
Joined: Wed Nov 30, 2016 10:18 pm

Re: Non-US resident portfolio with an emerging market ETF

Post by Pudu » Tue Dec 05, 2017 11:49 pm

Thanks for the replies! Yes, I can buy local stocks directly via Chilean brokers (though the cheapest one is 0.15% + $10 for an active day of trading) or even get this domestic-only ETF that follows the local market index. I'm originally from Russia, so buying my national stocks/bonds is not an option at all — the country has serious issues on so many levels. :(

Re: Chile — yes, beyond copper there are huge solar and lithium resources. For example, Sociedad Quimica Y Minera De Chile jumped from $32 to $52 in a year. The government puts a significant effort into transforming the economy into something more than resource extraction. It's still far from countries like Norway or Canada but many times better than any ex-USSR resource-rich country (especially because of the corruption).

I think I can start with 30% while the portfolio is still small but then gradually reduce this part to something like 15% if the bet doesn't pay off in 5-7 years. Or leave it at 30% if the country does well.

msk
Posts: 537
Joined: Mon Aug 15, 2016 10:40 am

Re: Non-US resident portfolio with an emerging market ETF

Post by msk » Wed Dec 06, 2017 1:49 am

I have no clue whether the Chile stock market is large enough to be "efficient" or not. An easy check is to look at the market index history over the past decade or two, translate it into USD and make a personal judgement as to whether that history in USD reflects the history of the Chile economy as perceived by yourself. If YES, then it's an efficient market (i.e. indexing will work), if NO then do NOT index, but pick individual stocks. You will need to do much more homework in order to identify individual stocks, but it can well be worth it. I had exposure to an inefficient stock market and over a period of a couple of years or so I put in some $700k into one stock (you'd better trust your own reading of quarterly reports!) and recently sold out my net profit of $2million+. I still hold my initial stake and collected 5% p.a. dividends along the way. But this market has simply become more efficient with the passage of time, hence diversification is now better than stock picking. If in your judgement stock picking is not the way to go, then I would question why have such a high weighting on Chile? You already have a lot invested there (job, RE? etc.) so better to focus on international. And why bother with bonds at age 30?

Always passive
Posts: 149
Joined: Fri Apr 14, 2017 4:25 am
Location: Israel

Re: Non-US resident portfolio with an emerging market ETF

Post by Always passive » Wed Dec 06, 2017 2:33 am

Valuethinker wrote:
Tue Dec 05, 2017 11:09 am
Pudu wrote:
Tue Dec 05, 2017 9:58 am
Hi everybody, I finally got my account on Interactive Brokers and starting a Bogleheads-based three-fund portfolio for, hopefully, early retirement.

About me: 30y.o., resident of Chile. The country is waiting for the tax treaty with the US for many years, so I avoid US domesticated ETFs because of the 30% tax on dividends.

My plan is:
— 40% VWRD: Vanguard FTSE All-World (Ireland)
— 30% BNDX: Vanguard Total International Bond ETF (US)
— 30% CFMITNIPSA: domestic Chilean ETF (based on the index of Santiago Stock Exchange)

I also looked into iShares MSCI Chile Capped ETF but it's domiciled in the US and I guess I have to pay the 30% tax despite all the companies in it being Chilean.

The reason why I want to invest in an emerging market: I'm an expat and believe that Chilean market is undervalued by foreigners. The country is very stable politically and economically but people often think "Latin America" and put it in the "it can become a mess any day" bucket. For example, now it's going down just because foreign investors are afraid of the center-left presidential candidate.

But I see how fast Chile has been improving even in the 3 years I'm here and nowadays local companies actively expand into neighboring countries. The Chilean banks are conservative and stable, so I think it will be a safe haven if something happens in the region or globally (the country wasn't affected in 2008 too much).

Am I planning something stupid based on my beliefs? Should I decrease the share? Thanks!
Markets are not always intelligent about small national markets. Often they miss corruption & political risks that the locals all know about (I wonder if that has been a factor in Brasil). Similarly Argentina was able to issue a 100 year bond-- granted at 7 3/4% coupon that's not so relevant to investors but you are betting that it won't default in the next 12-13 years (before you get all your money back)- -recent Argentine history does not give you absolute confidence on that scroe.

Sometimes they just miss things. Ask me about Chile I would say something like "Pinochet. Ultimate Thatcherite experiment in free markets and monetarism. Too reliant on copper"-- and that probably just dates me by 30 years ;-). I remember also the Argentines reneged on natural gas supplies? (because Argentine domestic prices got too high and that was politically unpopular). I also recall that Chile has about the best solar energy resource (resource = total theoretically extractable; reserve = what is economic to extract) in the world?

However there's a long term question re overweighting. If you are a national from a small country (Canada, Australia, Israel etc.) why would you want 10x (or 30x) exposure to your own national market, when you are paid in that currency, your home equity and job are probably linked to the fortunes of that country?

So I would say that overweighting Chile is a bet that international investors have got it wrong, and that's not impossible, but it is a gamble.

I probably wouldn't pay the tax penalty. Could you "synthesize" your own ETF via a Chilean discount broker? Eg owning the top 10 or 20 stocks in rough proportion to the index? I wouldn't then rebalance (that's likely to cost you too much) but just run it. I have done something similar with another market (Canada). Beware too if the Chilean index is heavily skewed (80% of the Canadian index is financial services companies (mostly 5 banks) + natural resources companies).
In general i do agree with the comments given here, but there is one factor not mentioned that may be overwhelming in deciding whether to invest in one’s country of residence or not: currency.
I live in Israel, a highly stable economy (in spite of the Middle East mess). About 15 years ago, the dollar commanded about 4.5 shekels. Early this year it was 3.8 shekels and today it is about 3.5 shekels. Further, Israelis feel, whatever they are right or not, that the shekel relative to the dollar has still room to strengthen. This type of currency damage is very difficult to compensate, in fact, anyone buying the Tel Aviv 100 (now called Tel Aviv 125) about 15 years ago would have made a significantly better return in dollars than investing in the S&P 500. As an American, I have all my investing money at Fidelity and have acted like I still live in Los Angeles, meaning investing in a well diversified portfolio in dollars. Well, if I had converted the money to shekels 13 years ago when I moved here and invested in the Israeli stock index, I would have done a lot better. Food for thought!

Pudu
Posts: 8
Joined: Wed Nov 30, 2016 10:18 pm

Re: Non-US resident portfolio with an emerging market ETF

Post by Pudu » Wed Dec 06, 2017 11:22 am

msk wrote:
Wed Dec 06, 2017 1:49 am
I have no clue whether the Chile stock market is large enough to be "efficient" or not. An easy check is to look at the market index history over the past decade or two, translate it into USD and make a personal judgement as to whether that history in USD reflects the history of the Chile economy as perceived by yourself. If YES, then it's an efficient market (i.e. indexing will work), if NO then do NOT index, but pick individual stocks. You will need to do much more homework in order to identify individual stocks, but it can well be worth it. I had exposure to an inefficient stock market and over a period of a couple of years or so I put in some $700k into one stock (you'd better trust your own reading of quarterly reports!) and recently sold out my net profit of $2million+. I still hold my initial stake and collected 5% p.a. dividends along the way. But this market has simply become more efficient with the passage of time, hence diversification is now better than stock picking. If in your judgement stock picking is not the way to go, then I would question why have such a high weighting on Chile? You already have a lot invested there (job, RE? etc.) so better to focus on international. And why bother with bonds at age 30?
Thank you, this is very insightful – I'm going to do some efficiency research. Stock picking is totally possible: there are less than 50 local companies and the country is small enough to grasp the big picture. For example, I wouldn't invest in local retail because both Amazon and IKEA announced their plans to expand to here.

I do business internationally, so my only local investments are a pensions fund and a small real estate.

Re: bonds – just following the "% in bonds = age" rule. Should it wait 5–10 years?
Always passive wrote:
Wed Dec 06, 2017 2:33 am
In general i do agree with the comments given here, but there is one factor not mentioned that may be overwhelming in deciding whether to invest in one’s country of residence or not: currency.
I live in Israel, a highly stable economy (in spite of the Middle East mess). About 15 years ago, the dollar commanded about 4.5 shekels. Early this year it was 3.8 shekels and today it is about 3.5 shekels. Further, Israelis feel, whatever they are right or not, that the shekel relative to the dollar has still room to strengthen. This type of currency damage is very difficult to compensate, in fact, anyone buying the Tel Aviv 100 (now called Tel Aviv 125) about 15 years ago would have made a significantly better return in dollars than investing in the S&P 500. As an American, I have all my investing money at Fidelity and have acted like I still live in Los Angeles, meaning investing in a well diversified portfolio in dollars. Well, if I had converted the money to shekels 13 years ago when I moved here and invested in the Israeli stock index, I would have done a lot better. Food for thought!
Great advice, thanks! The Chilean peso is strengthening right now and I already feel it because my income is in USD.

Pudu
Posts: 8
Joined: Wed Nov 30, 2016 10:18 pm

Re: Non-US resident portfolio with an emerging market ETF

Post by Pudu » Wed Dec 06, 2017 8:27 pm

I did some research and it turns out there are not many growing companies besides Amazon-vulnerable retail. It's mostly big old mining and energy corps (which are not growing despite the huge solar farms in the Atacama).

So the local market index doesn't look too interesting on its own. Instead, I'll go with
— 60% VWRD
— 30% BNDX (probably I'll start with even more in VWRD and get bonds later)
— 10% a few local best picks

Thanks again for all the recommendations – I shouldn't trust unpopular ETFs without a detailed investigation in the first place.

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galeno
Posts: 1036
Joined: Fri Dec 21, 2007 12:06 pm
Location: Alajuela, Costa Rica

Re: Non-US resident portfolio with an emerging market ETF

Post by galeno » Wed Dec 06, 2017 8:53 pm

BNDX is a bad choice due to it's USA domicile and non-USD bond "di-worsification". 30% tax on the interest income. Unnecessary currency fluctuations in fixed income.

You live in a region whose dominant currency is the USD. So hold SUAG instead. If you want to cut the 0.25% ER to 0.12% hold a combo of 50% VDTY + 50% VDCP.
Pudu wrote:
Wed Dec 06, 2017 8:27 pm
I did some research and it turns out there are not many growing companies besides Amazon-vulnerable retail. It's mostly big old mining and energy corps (which are not growing despite the huge solar farms in the Atacama).

So the local market index doesn't look too interesting on its own. Instead, I'll go with
— 60% VWRD
— 30% BNDX (probably I'll start with even more in VWRD and get bonds later)
— 10% a few local best picks

Thanks again for all the recommendations – I shouldn't trust unpopular ETFs without a detailed investigation in the first place.
AA = 40/55/5. Expected CAGR = 3.8%. GSD (5y) = 6.2%. USD inflation (10 y) = 1.8%. AWR = 3.0%. TER = 0.4%. Port Yield = 2.0%. Term = 35 yr. FI Duration = 6.2 yr. Portfolio survival probability = 100%.

Pudu
Posts: 8
Joined: Wed Nov 30, 2016 10:18 pm

Re: Non-US resident portfolio with an emerging market ETF

Post by Pudu » Wed Dec 06, 2017 10:21 pm

galeno wrote:
Wed Dec 06, 2017 8:53 pm
BNDX is a bad choice due to it's USA domicile and non-USD bond "di-worsification". 30% tax on the interest income. Unnecessary currency fluctuations in fixed income.

You live in a region whose dominant currency is the USD. So hold SUAG instead. If you want to cut the 0.25% ER to 0.12% hold a combo of 50% VDTY + 50% VDCP.
Oh, thanks a ton for directing me again one year later! :) You explained me the deal with the Irish ETFs in my first thread.

I didn't know bonds are subject to the tax too. The VDTY+VDCP combo looks great.

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galeno
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Location: Alajuela, Costa Rica

Re: Non-US resident portfolio with an emerging market ETF

Post by galeno » Fri Dec 15, 2017 7:08 pm

USA domiciled bond funds and ETFs are subject to a 30% tax on the interest income.

Our Ireland domiciled bond ETFs pay 0% tax on the interest income.

Only our Ireland domiciled equity ETF pays a dividend tax. For VWRD the dividend tax is 11.7%.

The Vanguard bond combo is fantastic.
AA = 40/55/5. Expected CAGR = 3.8%. GSD (5y) = 6.2%. USD inflation (10 y) = 1.8%. AWR = 3.0%. TER = 0.4%. Port Yield = 2.0%. Term = 35 yr. FI Duration = 6.2 yr. Portfolio survival probability = 100%.

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