Does DFA justify the higher ER?

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jmac08
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Does DFA justify the higher ER?

Post by jmac08 » Sun Mar 04, 2018 11:11 pm

My practice recently transitioned 401k plans, and I have some decent options to choose from. I’m looking to tilt my portfolio towards small value cap. My options are DFA vs Fidelity, as follows:


DFA US Small Cap Value (DFSVX)- ER of 0.52

Fidelity Small Cap Index (FSSVX)- ER of .05


The funds have different builds- The DFA fund is significantly more valuey than the fidelity fund, but the expense ratio is 10X that of Fidelity. The fidelity fund holds equal amounts of small blend and small growth as it does small value. I know that the strength of DFA is in its small cap/small value index funds, but can you justify picking the DFA fund with an expense ratio 10X that of the fidelity fund? Any input would be appreciated

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Alexa9
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Re: Does DFA justify the higher ER?

Post by Alexa9 » Sun Mar 04, 2018 11:13 pm

Yes it is worth it for many people. Usually you have to pay an advisor to access them as well. Lucky to have them in your 401k. Their international small cap value is also excellent.

software
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Re: Does DFA justify the higher ER?

Post by software » Sun Mar 04, 2018 11:44 pm

Alexa9 wrote:
Sun Mar 04, 2018 11:13 pm
Yes it is worth it for many people. Usually you have to pay an advisor to access them as well. Lucky to have them in your 401k. Their international small cap value is also excellent.
I’d like to hear the specific reasons you say that. What is so special about the fund to justify a whole half a percentage point? Is the index construction somehow superior? Most people cite securities lending as a mechanism for making up the difference in ERs but I haven’t seen any proof that is the case.

Dominic
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Re: Does DFA justify the higher ER?

Post by Dominic » Mon Mar 05, 2018 12:05 am

The DFA fund has about 0.5 value exposure, so if the premium is 1% going forward, you get an extra 0.5% return, and DFA is essentially paying for its own expense ratio. If the vallue premium is larger, you win. Also, if there's a quality premium going forward, you win again, since DFA screens out junk stocks, and thus the fund has modest quality exposure. (It's also pretty much neutral on the momentum factor.)

Since inception (1993(, the DFA fund has crushed the Vanguard Small-Cap Index Fund (to which Fidelity's fund is essentially identical). However, if you look at 2004-2018, DFA has underperformed small-cap as a whole, because value has been out of favor. If you're uncomfortable with the risk of underperforming for ~15 years, don't buy the DFA fund.

Fundamentally, this comes down to the question of whether you think value (and to a lesser extent, quality) will provide superior returns in the future. In the past, this has been the case, and there are pretty strong risk explanations to justify the value premium.

I'd personally go for DFA, given the option. Worst case, you lose 0.47% annualized returns, but best case, you take in some stellar returns from the factor exposure that DFA offers.

naha66
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Re: Does DFA justify the higher ER?

Post by naha66 » Mon Mar 05, 2018 12:13 am

Dominic wrote:
Mon Mar 05, 2018 12:05 am
The DFA fund has about 0.5 value exposure, so if the premium is 1% going forward, you get an extra 0.5% return, and DFA is essentially paying for its own expense ratio. If the vallue premium is larger, you win. Also, if there's a quality premium going forward, you win again, since DFA screens out junk stocks, and thus the fund has modest quality exposure. (It's also pretty much neutral on the momentum factor.)

Since inception (1993(, the DFA fund has crushed the Vanguard Small-Cap Index Fund (to which Fidelity's fund is essentially identical). However, if you look at 2004-2018, DFA has underperformed small-cap as a whole, because value has been out of favor. If you're uncomfortable with the risk of underperforming for ~15 years, don't buy the DFA fund.

Fundamentally, this comes down to the question of whether you think value (and to a lesser extent, quality) will provide superior returns in the future. In the past, this has been the case, and there are pretty strong risk explanations to justify the value premium.

I'd personally go for DFA, given the option. Worst case, you lose 0.47% annualized returns, but best case, you take in some stellar returns from the factor exposure that DFA offers.
Isn't this just a form of active management, what's that saying someone's junk is ? Every down year since 2008 the DFA SCV fund has done worse than vanguards SCV by quite a bit. That active management hasn't done so well. Plus the last 10 year vg's SCV has beaten dfa scv. Maybe DFA scv had a management change.
Last edited by naha66 on Mon Mar 05, 2018 12:31 am, edited 1 time in total.

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whodidntante
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Re: Does DFA justify the higher ER?

Post by whodidntante » Mon Mar 05, 2018 12:17 am

Both are great funds, but they are not very similar. The Fidelity fund doesn't provide any value loading. It also tracks the Russell 2000, which is not my favorite index.

DFA was a pioneer in factor funds (the Fama-French three factor model). They are well run, quantitative, passively managed, low-cost funds that do not suffer from style drift. DFA funds are not index funds and this provides a slight advantage IMO.

The landscape has gotten quite competitive since DFA began, and now there are excellent non-DFA options for US small cap value, multi-factor small, and multi-factor. Some of their foreign funds still stand apart and some people think their target date funds are superior to Vanguard's. But with a 401k you are locked in, and I would be quite happy to have DFSVX in my portfolio. I own DFFVX DFA US Targeted Value in my 401k. That fund is cheaper but the factor loading isn't as high, so I need to own more of it.

Dominic
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Re: Does DFA justify the higher ER?

Post by Dominic » Mon Mar 05, 2018 12:29 am

naha66 wrote:
Mon Mar 05, 2018 12:13 am
Dominic wrote:
Mon Mar 05, 2018 12:05 am
The DFA fund has about 0.5 value exposure, so if the premium is 1% going forward, you get an extra 0.5% return, and DFA is essentially paying for its own expense ratio. If the vallue premium is larger, you win. Also, if there's a quality premium going forward, you win again, since DFA screens out junk stocks, and thus the fund has modest quality exposure. (It's also pretty much neutral on the momentum factor.)

Since inception (1993(, the DFA fund has crushed the Vanguard Small-Cap Index Fund (to which Fidelity's fund is essentially identical). However, if you look at 2004-2018, DFA has underperformed small-cap as a whole, because value has been out of favor. If you're uncomfortable with the risk of underperforming for ~15 years, don't buy the DFA fund.

Fundamentally, this comes down to the question of whether you think value (and to a lesser extent, quality) will provide superior returns in the future. In the past, this has been the case, and there are pretty strong risk explanations to justify the value premium.

I'd personally go for DFA, given the option. Worst case, you lose 0.47% annualized returns, but best case, you take in some stellar returns from the factor exposure that DFA offers.
Isn't this just a form of active managment
They're doing this passively, to my knowledge. They look at profitability metrics the same way they look at valuation metrics, and construct a custom index to track.

The profitability/quality premium was introduced by Novy-Marx in this paper, and it has also done very well in the past (across many markets). The behavioral explanation is that people like lottery ticket-style investments.

naha66
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Re: Does DFA justify the higher ER?

Post by naha66 » Mon Mar 05, 2018 12:33 am

Im too slow at editing

stlutz
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Re: Does DFA justify the higher ER?

Post by stlutz » Mon Mar 05, 2018 12:42 am

It looks to me like you can get your smallcap (or smallcap value) tilt more effectively (in the case of the Fidelity fund ) or more cheaply (in the case of the DFA fund ) in your IRA or taxable account. The question is whether you have an IRA or taxable account or whether your 401K is pretty much all of your retirement savings.

And it's okay if the 401K is where all of the money is--I'm just suggesting that it's a question worth considering in light of your entire portfolio.

fennewaldaj
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Re: Does DFA justify the higher ER?

Post by fennewaldaj » Mon Mar 05, 2018 2:53 pm

If you a a small cap value tilter I don't think you can really compare a small cap blend fund to a small value fund unless you question if the premium will be large enough to overcome a .5 ER difference. It would be a fair question to ask if DFA is worth its added fees over vanguard small cap value if you had access to it.

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spangineer
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Re: Does DFA justify the higher ER?

Post by spangineer » Mon Mar 05, 2018 3:10 pm

I also have DFSVX in my 401k, and I use it. I did fairly extensive research on these forums and Morningstar and decided that DFSVX was worth the cost in order to achieve a small-value tilt.

Forget about that Fidelity fund if you want to small-value tilt. If you're serious about SV, you want to start by investigating DFSVX, Vanguard's VIOV (or the iShares equivalent, IJS), PXSV, RZV, and maybe VBR. All of these other options have significant downsides – bad indexes, bad momentum effects, low assets, not valuey, and/or not small.

If I didn't have access to DFSVX, I would probably use VIOV, which has an ER of 0.20% (so marginal cost of DFSVX is 0.32%, not to mention VIOV's bid/ask spread), is thinly traded, and isn't nearly as valuey.

If you don't believe in a value premium, or don't want to deal with the tracking error, then the cheapest small-cap index fund you can find might make sense, like that Fidelity fund or VB/VIOO.

Raabe34
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Re: Does DFA justify the higher ER?

Post by Raabe34 » Mon Mar 05, 2018 3:27 pm

One of the things that doesn't get brought out much is that DFA screens out REITs inside the funds. When comparing that to how VBR performs in years there is REIT outperformance is a relevant data point. Their idea is to let you control your exposure to REITS yourself and not have the index do it. VBR was over 10% in REITS last time I looked.

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jhfenton
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Re: Does DFA justify the higher ER?

Post by jhfenton » Mon Mar 05, 2018 4:13 pm

I use DFSTX (DFA US Small Cap I) (not strictly value, but +quality -junk) in my 401(k), and I will use DFSVX in my wife's new 401(k) when she is eligible (May 1). I would not pay extra to access a financial advisor in order to access DFA, and I might not choose a DFA fund over a comparable Vanguard fund, but I don't have that choice in either 401(k), so it becomes a question of hitting my desired small cap (value) heavy asset allocation of not. And in that circumstance, I am willing to pay the added expense. (I do think the DFA approach is worth something.)

I don't like the Russell 2000, and FSSVX is not small cap value, so in your case, if I had to pick one of those two, I'd pick DFSVX.

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Re: Does DFA justify the higher ER?

Post by deltaneutral83 » Mon Mar 05, 2018 4:44 pm

If trying to capture SCV, VBR is neither as "valuey" nor as small as VIOV/IJS and (*I assume) the DFA SCV fund. So if value has been out of favor for a set period of time then VBR will most certainly outperform the others (VIOV/IJS/DFA SCV).

KSActuary
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Re: Does DFA justify the higher ER?

Post by KSActuary » Mon Mar 05, 2018 4:48 pm

The requirement of an advisor is waived on most 401k platforms.

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Robert T
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Re: Does DFA justify the higher ER?

Post by Robert T » Mon Mar 05, 2018 8:32 pm

.
If my choice was: DFA US Small Cap Value (DFSVX) or Fidelity Small Cap Index (FSSVX) for small cap value exposure in tax-advantaged account. it would be an easy choice to use the DFA fund.

As mentioned above, FSSVX tracks the Russell 2000 Index that has a smaller value tilt. In addition, it historically seems to have a large negative alpha (imposing about twice the cost of the DFA fund expense ratio). So while the expense ratio on FSSVX is small, the negative alpha is potentially large imposing a larger 'total cost' than the DFA fund.

To illustrate - here's another fund that tracks the Russell 2000 index with a longer track record with a large negative alpha (-1.23% per year). https://www.portfoliovisualizer.com/fac ... sion=false Return differences since mid 2000 was 2.85% in favor of the DFA fund https://www.portfoliovisualizer.com/bac ... ion2_2=100

Obviously no guarantees.

Robert
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jmac08
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Re: Does DFA justify the higher ER?

Post by jmac08 » Mon Mar 05, 2018 9:47 pm

This is a great thread. I appreciate the thoughtful input from everyone.

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