An NTSX alternative in taxable?

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HEDGEFUNDIE
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An NTSX alternative in taxable?

Post by HEDGEFUNDIE » Sat May 30, 2020 8:08 pm

I’m looking for a taxable investment strategy with the following characteristics:

1. Low tax cost (I’m at 33% tax bracket for investment distributions and 50% for regular income)
2. Moderate leverage (per my age and lifecycle investing principles)
3. Moderate drawdown risk (I may want to liquidate at various points for large purchases)

All of this points me to NTSX, which is 90% S&P 500 + 60% Intermediate Treasuries.

But I was considering this combination instead: 80% VUG + 55% EDV. I would borrow the 35% from M1 at 2% interest (1% after-tax cost). VUG has half the distributions of VOO and EDV is much more efficient in balancing stocks during downturns. Also I save roughly 0.15% ER over NTSX.

Thoughts?
Last edited by HEDGEFUNDIE on Sat May 30, 2020 8:56 pm, edited 1 time in total.

annu
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Re: An NTSX alternative in taxable?

Post by annu » Sat May 30, 2020 8:47 pm

Would you consider SWAN instead of edv?

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bluquark
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Re: An NTSX alternative in taxable?

Post by bluquark » Sat May 30, 2020 8:47 pm

I guess it seems like to me like too small a tweak to be worth the extra complexity. You get some hypothetical extra negative-correlation, a bit less and more expensive leverage, a bit less ER and a bit more yield.

Personally the idea would appeal to me more if one took the opportunity of the manual leverage to diversify the stock part more. The pure US concentration of leveraged ETFs is one aspect that has always made me uneasy. Looks like my preference there is diametrically opposed with your desire to tilt to growth though :)
70/30 portfolio | Equity: global market weight | Bonds: 20% long-term munis - 10% LEMB

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HEDGEFUNDIE
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Re: An NTSX alternative in taxable?

Post by HEDGEFUNDIE » Sat May 30, 2020 8:50 pm

bluquark wrote:
Sat May 30, 2020 8:47 pm
I guess it seems like to me like too small a tweak to be worth the extra complexity. You get some hypothetical extra negative-correlation, a bit less and more expensive leverage, a bit less ER and a bit more yield.

Personally the idea would appeal to me more if one took the opportunity of the manual leverage to diversify the stock part more. The pure US concentration of leveraged ETFs is one aspect that has always made me uneasy. Looks like my preference there is diametrically opposed with your desire to tilt to growth though :)
To be clear, I picked VUG not for any desire to tilt to growth but purely for its lower yield. If there was a total market fund paying 1% SEC yield I’d be happy to use it over VUG.

IMRTguy
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Re: An NTSX alternative in taxable?

Post by IMRTguy » Sat May 30, 2020 8:53 pm

Just curious how are you at the 50% bracket for qualified dividends? Even the highest bracket is 20% plus applicable state taxes

HawkeyePierce
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Re: An NTSX alternative in taxable?

Post by HawkeyePierce » Sat May 30, 2020 8:54 pm

Not sure how the math points towards the margin solution over NTSX.

With the VUG/EDV combo you're still paying taxes on the 0.89% distribution compared to 1.34% for NTSX. So NTSX is 0.45% more. Not sure how paying taxes on that difference in yield is more expensive than the after-tax interest cost on the margin.

Granted I understand the preference for EDV over the intermediate-term ladder used by NTSX. I'm still holding out hope that WisdomTree creates more variants of NTSX.

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HEDGEFUNDIE
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Re: An NTSX alternative in taxable?

Post by HEDGEFUNDIE » Sat May 30, 2020 8:56 pm

IMRTguy wrote:
Sat May 30, 2020 8:53 pm
Just curious how are you at the 50% bracket for qualified dividends? Even the highest bracket is 20% plus applicable state taxes
You are right. I’m at 33% for dividends not 50%

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bluquark
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Re: An NTSX alternative in taxable?

Post by bluquark » Sat May 30, 2020 8:59 pm

HEDGEFUNDIE wrote:
Sat May 30, 2020 8:50 pm
To be clear, I picked VUG not for any desire to tilt to growth but purely for its lower yield. If there was a total market fund paying 1% SEC yield I’d be happy to use it over VUG.
Got it. Well, I just did a bit of back-of-napkin math and if you used a world-market-cap portfolio instead at 20% qualified dividend tax rate, the extra 1.5% of SEC yield would be the equivalent of a 0.30% increase in expense ratio.

On the other side of the ledger, I can't find the Vanguard paper right now quantifying the value of the diversification "free lunch", but I'm pretty sure that exposure to more than double the stock market cap is worth at least that much. And unless you donate or pass on to heirs, the eventual LTCG tax hit means the real difference is only the aggregate time-value of the 0.30%s.

So I considered doing this kind of thing in taxable at one point for the sweet tax microoptimization, but eventually concluded I would only be outsmarting myself. (I suppose it would make sense if you also had a lot of tax-advantaged space to put the value and international stocks in, though.)
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HEDGEFUNDIE
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Re: An NTSX alternative in taxable?

Post by HEDGEFUNDIE » Sat May 30, 2020 9:26 pm

bluquark wrote:
Sat May 30, 2020 8:59 pm
HEDGEFUNDIE wrote:
Sat May 30, 2020 8:50 pm
To be clear, I picked VUG not for any desire to tilt to growth but purely for its lower yield. If there was a total market fund paying 1% SEC yield I’d be happy to use it over VUG.
Got it. Well, I just did a bit of back-of-napkin math and if you used a world-market-cap portfolio instead at 20% qualified dividend tax rate, the extra 1.5% of SEC yield would be the equivalent of a 0.30% increase in expense ratio.

On the other side of the ledger, I can't find the Vanguard paper right now quantifying the value of the diversification "free lunch", but I'm pretty sure that exposure to more than double the stock market cap is worth at least that much. And unless you donate or pass on to heirs, the eventual LTCG tax hit means the real difference is only the aggregate time-value of the 0.30%s.

So I considered doing this kind of thing in taxable at one point for the sweet tax microoptimization, but eventually concluded I would only be outsmarting myself. (I suppose it would make sense if you also had a lot of tax-advantaged space to put the value and international stocks in, though.)
Growth is 97% correlated to TSM, with half the tax cost.

https://www.portfoliovisualizer.com/ass ... &months=36

Honestly I’m not sure why it’s not the standard recommendation for taxable.

aristotelian
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Re: An NTSX alternative in taxable?

Post by aristotelian » Sat May 30, 2020 9:29 pm

I can't wrap my head around borrowing to buy bonds. Your expected return should be about the same as 80/20. If the point of overweighting bonds is to reduce risk, does the use of leverage accomplish that?

Even if margin interest gets you a tax deduction, the extra bond income is taxed at your marginal rate.

I do hold both NTSX and SCHG in taxable accounts. (Also, my Zero Dividend Pie at M1 has been highly correlated with SCHG and even more tax efficient!)
Last edited by aristotelian on Sat May 30, 2020 9:30 pm, edited 1 time in total.

drk
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Re: An NTSX alternative in taxable?

Post by drk » Sat May 30, 2020 9:29 pm

HEDGEFUNDIE wrote:
Sat May 30, 2020 8:50 pm
To be clear, I picked VUG not for any desire to tilt to growth but purely for its lower yield. If there was a total market fund paying 1% SEC yield I’d be happy to use it over VUG.
FWIW, I would recommend SCHG over VUG because it selects from a bigger universe of stocks and actually ends up with a lower yield.

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Re: An NTSX alternative in taxable?

Post by AlohaJoe » Sat May 30, 2020 9:42 pm

HEDGEFUNDIE wrote:
Sat May 30, 2020 8:50 pm
To be clear, I picked VUG not for any desire to tilt to growth but purely for its lower yield. If there was a total market fund paying 1% SEC yield I’d be happy to use it over VUG.
I haven't looked to see if any are available in the US but I know that in Canada and some other places there are "total return" funds that actually don't hold the underlying assets, they just do it all via swaps. That means there are no dividends (i.e. 0% yield) but they still track the underlying index. Usually the ER is pretty reasonable but you have to pay extra fees to maintain the swaps. But I think those are usually around 0.3%, so pretty reasonable if you're a highly taxed investor.

It sounds like that's what you're looking for.

Here's the one in Canada I know of off the top of my head: https://www.horizonsetfs.com/library/Ge ... tal-Return

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HEDGEFUNDIE
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Re: An NTSX alternative in taxable?

Post by HEDGEFUNDIE » Sat May 30, 2020 9:42 pm

aristotelian wrote:
Sat May 30, 2020 9:29 pm
I can't wrap my head around borrowing to buy bonds. Your expected return should be about the same as 80/20. If the point of overweighting bonds is to reduce risk, does the use of leverage accomplish that?

Even if margin interest gets you a tax deduction, the extra bond income is taxed at your marginal rate.

I do hold both NTSX and SCHG in taxable accounts. (Also, my Zero Dividend Pie at M1 has been highly correlated with SCHG and even more tax efficient!)
NTSX Borrows to buy bonds, does it not?

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bluquark
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Re: An NTSX alternative in taxable?

Post by bluquark » Sat May 30, 2020 9:43 pm

Growth is 97% correlated to TSM, with half the tax cost.

https://www.portfoliovisualizer.com/ass ... &months=36

Honestly I’m not sure why it’s not the standard recommendation for taxable.
It's a bit hard to summarize in a post but I'd recommend trying the exercise of mathing out in a spreadsheet the ultimate impact of dividend "tax cost" with various holding periods and reinvestment rate of return assumptions. Unless the holding period and rate of return are heroically long or large respectively, I've found the result made me go: oh... only this much? It's exponential growth, but it's somehow still pretty tiny.

The whole dividend vs buyback controversies are overheated on both sides in my view, it simply doesn't matter much. Perhaps growth vs value doesn't matter, either, but it's harder to prove definitively that correlations will continue to hold.
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HEDGEFUNDIE
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Re: An NTSX alternative in taxable?

Post by HEDGEFUNDIE » Sat May 30, 2020 9:50 pm

bluquark wrote:
Sat May 30, 2020 9:43 pm
Growth is 97% correlated to TSM, with half the tax cost.

https://www.portfoliovisualizer.com/ass ... &months=36

Honestly I’m not sure why it’s not the standard recommendation for taxable.
It's a bit hard to summarize in a post but I'd recommend trying the exercise of mathing out in a spreadsheet the ultimate impact of dividend "tax cost" with various holding periods and reinvestment rate of return assumptions. Unless the holding period and rate of return are heroically long or large respectively, I've found the result made me go: oh... only this much?

The whole dividend vs buyback controversies are overheated on both sides in my view, it simply doesn't matter much. Perhaps growth vs value doesn't matter, either, but it's harder to prove definitively that correlations will continue to hold.
Back of the envelope math:

Total market pays out 2% yield annually, Growth pays out 1%.

Assume total return is 8% for both funds.

33% tax cost paid annually on qualified dividends.

That means my annual out of pocket tax cost is 0.7% for total market and 0.3% for growth.

In other words I am able to increase my total return by 5% by optimizing for asset location.

aristotelian
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Re: An NTSX alternative in taxable?

Post by aristotelian » Sat May 30, 2020 9:58 pm

HEDGEFUNDIE wrote:
Sat May 30, 2020 9:42 pm
aristotelian wrote:
Sat May 30, 2020 9:29 pm
I can't wrap my head around borrowing to buy bonds. Your expected return should be about the same as 80/20. If the point of overweighting bonds is to reduce risk, does the use of leverage accomplish that?

Even if margin interest gets you a tax deduction, the extra bond income is taxed at your marginal rate.

I do hold both NTSX and SCHG in taxable accounts. (Also, my Zero Dividend Pie at M1 has been highly correlated with SCHG and even more tax efficient!)
NTSX Borrows to buy bonds, does it not?
It borrows to buy 6X bond futures. Seems like more bang for buck as well as more tax efficient.

TeeDee
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Re: An NTSX alternative in taxable?

Post by TeeDee » Sat May 30, 2020 10:04 pm

The yacht isn't coming sooner by swapping one for another. and simplicity has to be worth something

daffyd
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Re: An NTSX alternative in taxable?

Post by daffyd » Sat May 30, 2020 10:10 pm

HEDGEFUNDIE wrote:
Sat May 30, 2020 8:08 pm
I’m looking for a taxable investment strategy with the following characteristics:

1. Low tax cost (I’m at 33% tax bracket for investment distributions and 50% for regular income)
2. Moderate leverage (per my age and lifecycle investing principles)
3. Moderate drawdown risk (I may want to liquidate at various points for large purchases)

All of this points me to NTSX, which is 90% S&P 500 + 60% Intermediate Treasuries.

But I was considering this combination instead: 80% VUG + 55% EDV. I would borrow the 35% from M1 at 2% interest (1% after-tax cost). VUG has half the distributions of VOO and EDV is much more efficient in balancing stocks during downturns. Also I save roughly 0.15% ER over NTSX.

Thoughts?
Will you rebalance in taxable? If not, why not just buy equities? I'm vaguely recalling you're globally diversified outside your patented leveraged strategy. Have you considered the tax costs from rebalancing?

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bluquark
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Re: An NTSX alternative in taxable?

Post by bluquark » Sat May 30, 2020 11:01 pm

HEDGEFUNDIE wrote:
Sat May 30, 2020 9:50 pm
Back of the envelope math:

Total market pays out 2% yield annually, Growth pays out 1%.

Assume total return is 8% for both funds.

33% tax cost paid annually on qualified dividends.

That means my annual out of pocket tax cost is 0.7% for total market and 0.3% for growth.

In other words I am able to increase my total return by 5% by optimizing for asset location.
The benefit is a fair bit smaller when I subtract the extra LTCG taxes you end up paying in the growth-stock scenario. With your assumptions I calculated that a starting $100K would grow to after-tax nominal retirement spending of $600K in VTSAX or $630K in VUG after 30 years. An absolute difference of 5% after 30 years. Back-annualizing this in terms of yearly return, that is equivalent to 16 basis points, or 2% additional total return per year.


If you want to check my work, that's with this spreadsheet with these settings:

Image

and switch the last two settings to 1%/7% to consider the VUG scenario, and the output of interest is "stock in taxable" amount.

The outcome is sensitive to idiosyncratic factors like moving to a lower-tax state in retirement or donating appreciated stock though, so it's hard to make a universal rule of thumb out of it.
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HEDGEFUNDIE
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Re: An NTSX alternative in taxable?

Post by HEDGEFUNDIE » Sat May 30, 2020 11:34 pm

aristotelian wrote:
Sat May 30, 2020 9:58 pm
HEDGEFUNDIE wrote:
Sat May 30, 2020 9:42 pm
aristotelian wrote:
Sat May 30, 2020 9:29 pm
I can't wrap my head around borrowing to buy bonds. Your expected return should be about the same as 80/20. If the point of overweighting bonds is to reduce risk, does the use of leverage accomplish that?

Even if margin interest gets you a tax deduction, the extra bond income is taxed at your marginal rate.

I do hold both NTSX and SCHG in taxable accounts. (Also, my Zero Dividend Pie at M1 has been highly correlated with SCHG and even more tax efficient!)
NTSX Borrows to buy bonds, does it not?
It borrows to buy 6X bond futures. Seems like more bang for buck as well as more tax efficient.
The after-borrow-cost yield is roughly similar.

Treasury futures right now have implied repo rates of around 0.2% (https://www.cmegroup.com/tools-informat ... ytics.html), and the ITT ladder that NTSX holds yields roughly 0.5%, which means the after-borrow-cost yield is 0.3%.

EDV is yielding 1.4%, and my after-tax-borrow cost is 1.1%, producing the same 0.3% after-borrow-cost yield.

Plus the diversification benefit of the extra duration.

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HEDGEFUNDIE
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Re: An NTSX alternative in taxable?

Post by HEDGEFUNDIE » Sat May 30, 2020 11:56 pm

Ok it’s decided. I’ll go 60/40 SCHG/EDV with 1.35x leverage.

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whodidntante
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Re: An NTSX alternative in taxable?

Post by whodidntante » Sun May 31, 2020 12:01 am

HEDGEFUNDIE wrote:
Sat May 30, 2020 11:34 pm
aristotelian wrote:
Sat May 30, 2020 9:58 pm
HEDGEFUNDIE wrote:
Sat May 30, 2020 9:42 pm
aristotelian wrote:
Sat May 30, 2020 9:29 pm
I can't wrap my head around borrowing to buy bonds. Your expected return should be about the same as 80/20. If the point of overweighting bonds is to reduce risk, does the use of leverage accomplish that?

Even if margin interest gets you a tax deduction, the extra bond income is taxed at your marginal rate.

I do hold both NTSX and SCHG in taxable accounts. (Also, my Zero Dividend Pie at M1 has been highly correlated with SCHG and even more tax efficient!)
NTSX Borrows to buy bonds, does it not?
It borrows to buy 6X bond futures. Seems like more bang for buck as well as more tax efficient.
The after-borrow-cost yield is roughly similar.

Treasury futures right now have implied repo rates of around 0.2% (https://www.cmegroup.com/tools-informat ... ytics.html), and the ITT ladder that NTSX holds yields roughly 0.5%, which means the after-borrow-cost yield is 0.3%.

EDV is yielding 1.4%, and my after-tax-borrow cost is 1.1%, producing the same 0.3% after-borrow-cost yield.

Plus the diversification benefit of the extra duration.
Why not hold the futures contracts yourself? You could also go longer duration with futures.

muffins14
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Re: An NTSX alternative in taxable?

Post by muffins14 » Sun May 31, 2020 2:34 am

HEDGEFUNDIE wrote:
Sat May 30, 2020 8:08 pm
I’m looking for a taxable investment strategy with the following characteristics:

1. Low tax cost (I’m at 33% tax bracket for investment distributions and 50% for regular income)
2. Moderate leverage (per my age and lifecycle investing principles)
3. Moderate drawdown risk (I may want to liquidate at various points for large purchases)

All of this points me to NTSX, which is 90% S&P 500 + 60% Intermediate Treasuries.

But I was considering this combination instead: 80% VUG + 55% EDV. I would borrow the 35% from M1 at 2% interest (1% after-tax cost). VUG has half the distributions of VOO and EDV is much more efficient in balancing stocks during downturns. Also I save roughly 0.15% ER over NTSX.

Thoughts?
How are you getting after-tax borrowing costs of 1%?

keith6014
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Re: An NTSX alternative in taxable?

Post by keith6014 » Sun May 31, 2020 8:10 am

Since NTSX leverages Treasuries, couldn't you get the equity exposure & leverage by buying additional S&P emicro futures. I tried to do a 70/30 (S&P/Treasuries) with futures but to balance the equities side I need a lot of $. I am now contemplating NTSX with Emicro.

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crystalbank
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Re: An NTSX alternative in taxable?

Post by crystalbank » Sun May 31, 2020 1:45 pm

From what I understood reading the NTSX prospectus it doesn't technically borrow money to buy 6X leveraged futures. It keeps 10% invested in short term t-bills as a collateral to the futures (whose cost of purchase is included in the TER). Please do correct me if I'm wrong.

M1 margin at 2% (after tax 1%) is pretty sweet IMHO. Is it guaranteed to be 2% forever? What if the borrowing rate changes in the future? Won't you be stuck with something that you need to liquidate?

EDV instead of ITT is also different from NTSX. Probably better downside protection but don't know if it'll be a drag during a bull market.

I'm actually intrigued about this and will be curious how this will play out and good luck!

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Vegomatic
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Re: An NTSX alternative in taxable?

Post by Vegomatic » Sun May 31, 2020 1:51 pm

With respect to Hedgefundie's ["HF"] original post:
I think it may be the case that your concerns about the tax costs of NTSX are somewhat misplaced or misinformed.

HF wrote:

NTSX ...is 90% S&P 500 + 60% Intermediate Treasuries.

Actually, that is not the case. As described at ETF.com, and NTSX's own website:
NTSX uses futures contracts to construct what is effectively a leveraged 60/40 portfolio of US equities and Treasurys. The fund places 90% of its assets in US equities and the remaining 10% in Treasury futures contracts. The notional exposure of the Treasury futures equals 60% of the fund’s assets. The resulting exposure is equivalent to a 90/60 allocation to stocks and Treasurys, or a 60/40 allocation leveraged 150%. The equity allocation will generally consist of US large-caps, weighted by market cap. Treasury exposure will range in maturity between 2 and 30 years, with a target duration of 3 to 8 years.[emphasis added]
As a result, as described at NTSX's website, The Case for 90/60 U.S. Balanced Fund (NTSX) [pdf, page 3 of 5],

BOOSTING TAX EFFICIENCY OF FIXED INCOME
In thinking of other ways to improve on 60/40, we believe 90/60 could also boost returns via greater tax efficiency. This is
primarily driven by gaining exposure to fixed income via futures contracts as opposed to cash bonds. In instances where
fixed income total returns are primarily driven by interest income and held in taxable accounts, any income distributions
are subject to withholding tax rates of up to 39.6%. By comparison, capital gains on Treasury futures contracts are taxed
at 60% long-term, 40% short-term capital gains rates. We believe this tax advantage could be particularly important
during periods of rising rates.

So, if you take a look at the M* tax efficiency report [with limited history, since relatively new ETF] for NTSX:

http://performance.morningstar.com/fund ... ion?t=NTSX

It is actually better than that for VOO, for example:

http://performance.morningstar.com/fund ... tion?t=VOO

Also see this blog post from WisdomTree re: NTSX's tax efficiency.

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Nicolas Perrault
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Re: An NTSX alternative in taxable?

Post by Nicolas Perrault » Sun May 31, 2020 2:06 pm

AlohaJoe wrote:
Sat May 30, 2020 9:42 pm
HEDGEFUNDIE wrote:
Sat May 30, 2020 8:50 pm
To be clear, I picked VUG not for any desire to tilt to growth but purely for its lower yield. If there was a total market fund paying 1% SEC yield I’d be happy to use it over VUG.
I haven't looked to see if any are available in the US but I know that in Canada and some other places there are "total return" funds that actually don't hold the underlying assets, they just do it all via swaps. That means there are no dividends (i.e. 0% yield) but they still track the underlying index. Usually the ER is pretty reasonable but you have to pay extra fees to maintain the swaps. But I think those are usually around 0.3%, so pretty reasonable if you're a highly taxed investor.

It sounds like that's what you're looking for.

Here's the one in Canada I know of off the top of my head: https://www.horizonsetfs.com/library/Ge ... tal-Return
I love Horizons' synthetic ETFs. Long may they live.

The Canadian total stock market one (HXT.TO) has a total expense ratio of 0.03% including swap fees, which is even cheaper than Vanguard's total Canadian stock market ETF (VCN.TO, 0.06%). ROFL!! Bubye dividends!

Horizon's ETFs even track the underlying index more closely than the physical ETF because the counter-party is required by contract to do so.
Last edited by Nicolas Perrault on Sun May 31, 2020 3:27 pm, edited 2 times in total.

LocusCoeruleus
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Re: An NTSX alternative in taxable?

Post by LocusCoeruleus » Sun May 31, 2020 2:30 pm

How about 80% NTSX and 20% EDV in taxable?

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