Frec - Low Cost (0.10%) S&P500 Direct Indexing Startup

[Lyrrad]

Frec appeared to launch earlier this month.

Its main product is a Direct Indexed S&P 500 portfolio at a 0.10% fee, with a $50K minimum initial investment.


They describe their algorithm for direct indexing with tax-loss harvesting in a whitepaper here. Their backtested simulations suggest that they can get on average 45% of the initial investment as tax-loss harvested losses.

Any thoughts?

• I looked into Wealthfront/Betterment, but I am unwilling to pay 0.25% a year. 0.10% seems much more reasonable.
• Holding individual stocks means that the TLH wouldn't interfere with the trading in my IRA/401k/HSA accounts where I hold funds. I'd be fine with only having the S&P 500 since it makes my asset allocation across accounts easier to track
• Presumably this would make my tax return more complicated. I usually have very few taxable sales each year.
• I could combine this with the BOXX ETF to use up some of the TLH and convert to "interest" on cash. I'd have to think more about how I could use the accumulated capital loses other than deducting from income.
• They also offer loans at Fed Funds Rate + 1% and Treasury MMMF at a 0.20% fee on top of the fund fees. They also have a second stock index available.
• This would probably be best for people that are able to invest regularly over time, since the tax-loss harvesting benefit on each sum added would taper off over time.
• This is a very new startup. They could increase fees in the future or stop existing. If so, I'd be stuck with hundreds of stocks that I'd need to hold to avoid tax consequences. Perhaps one of the big players will come up with a more competitive offering in the next few years?

I plan to see how they're doing in a year and review others experiences before considering using them.

[nalor511]

Sure seems like inviting a lot of potential complexity into one's life if fees are increased or one wanted (or was forced) to leave. I wouldn't even want to see my portfolio page with 500 positions in it

Not for me, but keep posting how this goes for you

[Lyrrad]

Sure seems like inviting a lot of potential complexity into one's life if fees are increased or one wanted (or was forced) to leave. I wouldn't even want to see my portfolio page with 500 positions in it

Not for me, but keep posting how this goes for you

I have no intention of using this product for a while. I was hoping to hear about others experiences before I tried them. They seem to be venture capital funded, and I think they would have a good chance of not existing in a couple of years.

If I did use them and stopped using them for whatever reason, I assume that in the worst case I would end up with 500 positions that I would have to ACATS transfer to another brokerage.

The vast majority of my portfolio is in tax-advantaged accounts, though I hope to have some significant taxable investments in a year or two.

[CletusCaddy]

Here are two advantages of owning individual stocks through direct indexing that I have not seen mentioned yet.

1. By investing in an automated direct index strategy, you are prevented from dabbling in individual stocks elsewhere, lest you trigger an unintentional wash sale. This is a huge behavioral guardrail.

2. By owning individual stocks you are able to recover damages from securities class action lawsuit settlements.

[KevinL_MD]

I checked out the website. Not only do they have a low fee SP 500 Direct indexing, they are also offering very attractive rates for a portafolio-backed line of credit (Margin). Maybe someone who wants to try the buy, borrow, and die strategy can take full advantage of this setup.

[TropikThunder]

Maybe I’m just unsophisticated? But whenever I see new shiny investment offerings, I’m reminded that they created it to make them money, not to make you money.

[the_wiki]

Maybe I’m just unsophisticated? But whenever I see new shiny investment offerings, I’m reminded that they created it to make them money, not to make you money.

You think VTI is a public charity? Vanguard makes $390 billion $390 million a year running that thing including all the asset classes. Might be the biggest money maker of all time.

Of course they want to make money. But as long as it’s a good deal for both of us, that’s not a bad thing.

[LeftCoastIV]

Maybe I’m just unsophisticated? But whenever I see new shiny investment offerings, I’m reminded that they created it to make them money, not to make you money.

You think VTI is a public charity? Vanguard makes $390 billion a year running that thing including all the asset classes. Might be the biggest money maker of all time.

Of course they want to make money. But as long as it’s a good deal for both of us, that’s not a bad thing.

By my math, VTI has ~$300B under management at an expense ratio of 0.03%, or $90M per year. That said, your point is valid that it's still a good deal for investors.

Edit: It looks like VTSAX is actually much larger (around $1.3B or so), so that would get you to roughly $390M. Not clear to me if VTI is considered incremental to VTSAX from an assets perspective.

[beachtech]

You think VTI is a public charity? Vanguard makes $390 billion a year running that thing including all the asset classes. Might be the biggest money maker of all time.

Curious, how did you get $390B/year? That seems implausibly high to me.

https://investor.vanguard.com/investmen ... omposition says $1.3T “fund total net assets”, multiplied by 0.03% expense ratio, equals $390 million per year. Not billion.

[BrooklynInvest]

At that ER I'd be seriously considering it. The ongoing TLH benefits and the tax benefits at decumulation can be significant.

For any new venture my first response is to wait a bit, then my second question is how could I transfer my shares and partial shares should I ever need to.

Else I'd probably be onboard.

[CletusCaddy]

I expect to have $1M in capital gains when I decide to downsize into my retirement home.

This makes every dollar of harvested losses precious and direct indexing a no brainer.

[the_wiki]

Maybe I’m just unsophisticated? But whenever I see new shiny investment offerings, I’m reminded that they created it to make them money, not to make you money.

You think VTI is a public charity? Vanguard makes $390 billion a year running that thing including all the asset classes. Might be the biggest money maker of all time.

Of course they want to make money. But as long as it’s a good deal for both of us, that’s not a bad thing.

By my math, VTI has ~$300B under management at an expense ratio of 0.03%, or $90M per year. That said, your point is valid that it's still a good deal for investors.

Edit: It looks like VTSAX is actually much larger (around $1.3B or so), so that would get you to roughly $390M. Not clear to me if VTI is considered incremental to VTSAX from an assets perspective.

That's why I said all asset classes. Honestly some asset classes are higher than .03% so it may be even more than $390M.

[the_wiki]

You think VTI is a public charity? Vanguard makes $390 billion a year running that thing including all the asset classes. Might be the biggest money maker of all time.

Curious, how did you get $390B/year? That seems implausibly high to me.

https://investor.vanguard.com/investmen ... omposition says $1.3T “fund total net assets”, multiplied by 0.03% expense ratio, equals $390 million per year. Not billion.

I got millions on my calculator, but typed the wrong units. Thanks for the correction.

[RichIn7Years]

Seems a small saving to pay for the risk that this white paper might be wrong. Are the trading fees associated with trading over and over accounted for?

[Lyrrad]

Seems a small saving to pay for the risk that this white paper might be wrong. Are the trading fees associated with trading over and over accounted for?

That's a reasonable concern. I don't think that trading costs would be a signfiicant a cost compared with the management fee, assuming it traded in large liquid companies. I would expect tax-loss harvesting and trading costs on any particular deposit to fall off over time.

I would think that any Direct Indexing TLH strategy would have to decide between maximizing TLH and expected tracking error.

Wealthfront has a similar product, but it costs 0.25% and has a $100K minimum. Their white paper is here.

Goldman Sachs has a similar product described here, but I don't think the cost is publicly disclosed. This Propublica article based on leaked tax records describes how some taxpayers used Goldman Sachs' direct indexing product to save on taxes.

[David Jay]

...I think they would have a good chance of not existing in a couple of years.

So many Fin-tech startups have either failed or increased their fees after accumulating some assets that I would not go within a mile of one.

Wait 5 years, then review your interest level.

[tj]

The website currently says the minimum is $20k, so if it was $50k a few days ago, that's odd. You can exclude up to 2 sectors or 5 stocks which is somewhat interesting.

They also give you the option of direct indexing the S&P IT index. That seems way riskier.

[arcticpineapplecorp.]

Maybe I’m just unsophisticated? But whenever I see new shiny investment offerings, I’m reminded that they created it to make them money, not to make you money.

you're not unsophisticated. Former Fed Chair Paul Volcker famously said in 2009:

‘The only thing useful banks have invented in 20 years is the ATM’

Source

[Stuckinmn]

How do they hedge during the wash sale period? There's not going to be a perfect substitute for every company they have to sell out of.

[tj]

How do they hedge during the wash sale period? There's not going to be a perfect substitute for every company they have to sell out of.

I'm going to go with no hedging. It does cost 0.10%

[Yarlonkol12]

For anyone who uses direct indexing I was always curious what your year end 1099 forms looked like, I am assuming they would contains thousands of transactions (10s?)

[MotoTrojan]

Eventually unless your contributions continue to be a meaningful portion of AUM, your cost basis gets pushed too low to do any new TLHing, and you are just left with a complicated high fee portfolio.

Wouldn't bother myself...

If you really want something like this go talk to AQR and they can do it with a long/short portfolio; the ability to short allows it to generate losses for a much longer runway, even without new capital.

Relevant piece here: https://www.aqr.com/Insights/Research/J ... -Investing

[FellsGuy]

This sounds like a perfect investment for a sophisticated investor, I have no idea what you or they are talking about but do keep us updated on your results. Generating losses for tax purposes and planning on participating in class action lawsuits to increase investment results sounds like the exact opposite of boglehead investing.

[tj]

I wasn't aware that shareholders receive any sort of class action payouts. I thought it was the purchasers of the products and services.

[nvrmnd]

If you really want something like this go talk to AQR and they can do it with a long/short portfolio; the ability to short allows it to generate losses for a much longer runway, even without new capital.

They don't even say what their fees are, at least from what I can find, not a good sign.

[Lyrrad]

The website currently says the minimum is $20k, so if it was $50k a few days ago, that's odd. You can exclude up to 2 sectors or 5 stocks which is somewhat interesting.

Yes, I noticed the minimum went down earlier this week. Should make it easier to get started.

How do they hedge during the wash sale period? There's not going to be a perfect substitute for every company they have to sell out of.

The whitepaper describes an algorithm making tradeoffs between harvesting losses and tracking the index.

Propublica described Morgan Stanley's direct indexing as using a sampling method.

Eventually unless your contributions continue to be a meaningful portion of AUM, your cost basis gets pushed too low to do any new TLHing, and you are just left with a complicated high fee portfolio.

At 0.10% the fee seems low. I would probably contribute meaningful amounts over time.

Worst case, I can do an ACATS transfer out and be left with a portfolio of stocks. I assume eventually there will be a low cost direct indexing service that would let you transfer in a collection of stocks/ETFs and have that managed along with other funds to you to get closer to the index.

I would expect to eventually donate the lowest cost basis securities with unrealized LTCG, so that would get rid of much of my unrealized gains.

[gtwhitegold]

If you really want something like this go talk to AQR and they can do it with a long/short portfolio; the ability to short allows it to generate losses for a much longer runway, even without new capital.

They don't even say what their fees are, at least from what I can find, not a good sign.

Their fees are separately managed account fees which are based off of a starting portfolio of $1,000,000 or more. 0.375% seems reasonable for what they're providing, but to each their own as far as if it seems reasonable to you. Below is a link to their SMA account disclosure.

https://www.aqr.com/-/media/AQR/Supplem ... sc_lang=en

[nvrmnd]

Their fees are separately managed account fees which are based off of a starting portfolio of $1,000,000 or more. 0.375% seems reasonable for what they're providing, but to each their own as far as if it seems reasonable to you. Below is a link to their SMA account disclosure.

Thanks for tracking this down, personally I don't really see the advantage here in contrast to a self-managed account like Wealthfront or Frec which comes at lower fees and more control.

[cmr86]

Here are two advantages of owning individual stocks through direct indexing that I have not seen mentioned yet.

1. By investing in an automated direct index strategy, you are prevented from dabbling in individual stocks elsewhere, lest you trigger an unintentional wash sale. This is a huge behavioral guardrail.

I'm not sure I agree with this. If you're going to be drawn away from indexing, you're going to be drawn away from indexing. This is just indexing with a hint of "I have more direct control over it," but if it's all automated, then do you really? Functionally - on the user's end - how is it different than holding Vanguard or Fidelity or Schwab's S&P fund? I don't think this scratches the itch that people drawn to individual companies feel the need to scratch.

2. By owning individual stocks you are able to recover damages from securities class action lawsuit settlements.

How often does this actually happen and how many INDEXERS have a large enough portion (by virtue of their cap-weighted investments) to really see a reasonable return of capital that makes this worthwhile?

[Jack56]

The 3bps figure as Vanguard "making money" (assuming "making money" means profits) doesn't make sense since Vanguard has costs like employees, infrastructure, and so on. Vanguard is also mutually owned so if anyone is "making money" from Vanguard's fees it is its investors who effectively own the company.

[Lyrrad]

...I think they would have a good chance of not existing in a couple of years.

So many Fin-tech startups have either failed or increased their fees after accumulating some assets that I would not go within a mile of one.

Wait 5 years, then review your interest level.

Thanks for the advice. After giving it more thought and doing some additional research, I've decided that I would not be comfortable using Frec for the foreseeable future.

I plan to keep monitoring Frec, through others experiences and disclosures through Finra's broker check.

[Osme02]

Can anyone that used FREC describe how it was to do your taxes?

[tj]

Can anyone that used FREC describe how it was to do your taxes?

As long as you can import it into the sfotware, it should be fine. If it's all manual entry....yikes. I don't know that anyone here actually utilizes this service though.

[Gaston]

Can anyone that used FREC describe how it was to do your taxes?

As long as you can import it into the sfotware, it should be fine. If it's all manual entry....yikes.

Just curious: I only have a handful of ETFs, but when I receive my annual 1099s, I enter the summary information into TurboTax; not the ETF-by-ETF detail. Can’t you do the same if you own lots of stocks, or is there some reason they must be entered individually?

[tj]

Can anyone that used FREC describe how it was to do your taxes?

As long as you can import it into the sfotware, it should be fine. If it's all manual entry....yikes.

Just curious: I only have a handful of ETFs, but when I receive my annual 1099s, I enter the summary information into TurboTax; not the ETF-by-ETF detail. Can’t you do the same if you own lots of stocks, or is there some reason they must be entered individually?

You're not supposed to enter the summary if you have a wash sale which you almost certainly do if you're direct indexing.

[Lyrrad]

Can anyone that used FREC describe how it was to do your taxes?

Not that many people that can answer this question. I think they had 93 customers (91 individuals) as of December 31, 2023, based on my reading their March 2024 Form ADV filing, and an updated one from last week.

Strangely, their Form ADV Part 2A dated from last week states: "As of the date of this Brochure, the Firm does not have any assets under management." I assume this is an error and was copied from their initial filing from last year. I'd expect them to have more customers this year, so perhaps someone will be able to share their experience here at some point.

I used a similar indexing service from Fidelity last year. I manually input the summary information from the 1099 into the tax software, and it worked fine, since they were all covered securities. I assume Frec would have a similar process.

You're not supposed to enter the summary if you have a wash sale which you almost certainly do if you're direct indexing.

I think a good direct indexing service should be able to avoid all wash sales. If you use such a service you shouldn't transact any of the same securities used by the service in another account. I plan to avoid using Wealthfront in part due to them forcing the usage of completion ETFs without being able to opt out of specific ones.

[Lyrrad]

Strangely, their Form ADV Part 2A dated from last week states: "As of the date of this Brochure, the Firm does not have any assets under management." I assume this is an error and was copied from their initial filing from last year. I'd expect them to have more customers this year, so perhaps someone will be able to share their experience here at some point.

Looks like they submitted a new Form ADV Part 2A last week and updated their AUM to the right amount as of December 31, 2023.

[drzzzzz]

Can anyone that used FREC describe how it was to do your taxes?

Not that many people that can answer this question. I think they had 93 customers (91 individuals) as of December 31, 2023, based on my reading their March 2024 Form ADV filing, and an updated one from last week.

Strangely, their Form ADV Part 2A dated from last week states: "As of the date of this Brochure, the Firm does not have any assets under management." I assume this is an error and was copied from their initial filing from last year. I'd expect them to have more customers this year, so perhaps someone will be able to share their experience here at some point.

I used a similar indexing service from Fidelity last year. I manually input the summary information from the 1099 into the tax software, and it worked fine, since they were all covered securities. I assume Frec would have a similar process.

You're not supposed to enter the summary if you have a wash sale which you almost certainly do if you're direct indexing.

I think a good direct indexing service should be able to avoid all wash sales. If you use such a service you shouldn't transact any of the same securities used by the service in another account. I plan to avoid using Wealthfront in part due to them forcing the usage of completion ETFs without being able to opt out of specific ones.

Can you offer comments on direct indexing with Fidelity and the perceived value that you received? Also, were you adding additional taxable money into your accounts during the year. Trying to understand if direct indexing is logical if you already have major embedded gains and aren't purchasing new positions to tax loss harvest. thanks

[Lyrrad]

Can you offer comments on direct indexing with Fidelity and the perceived value that you received? Also, were you adding additional taxable money into your accounts during the year. Trying to understand if direct indexing is logical if you already have major embedded gains and aren't purchasing new positions to tax loss harvest. thanks

I don't think my experience was representative of a typical user. I put in the minimum amount and decided to stop using the service a few months later. I did not want to pay Fidelity's 0.40% fee, and since it used fractional shares, it would have been difficult to move to a cheaper direct indexing provider in the future.

Since I stopped using the service, I have regularly sold any shares with losses, and I have been able to sell about 45% of them, so I'm left with less than 150 companies with gains.

Others have documented their experiences in this thread: viewtopic.php?t=400301 , but I think they mostly did a lump sum at the beginning.

I'm considering self-managing my own US large cap direct indexing brokerage account in 2025 or 2026. I'd use whole shares so that I'll be able to transfer my holdings into a retail direct indexing service, if one that meets my requirements becomes available. My main alternative would be to use ETFs and tax loss harvest manually when I have lots with losses.

[ze3kr]

I have opened an account with them. Almost pulled the trigger but canceled the transfer at the last minute.

The 0.10% fee is really low, which to a point is nearly negligible. The margin rate is also very good, at FFR + 1%. Their UI/UX is clean (their demo page is the real UI you will see once you open an account). Don't have a mobile app yet but that's fine because index investing is for set-and-forget.

However, once you invest with them, you are pretty locked in because of the fractional shares. All companies in the S&P 500 have an average cost of $200 per share. No matter how much you invest in, you cannot avoid the fractional shares. Imagine it's 0.50 fractional shares per holding, that's 0.5 * 200 * 500 = $50,000 to liquefy when you move out. The tax you need to pay for the capital gains on those fractional shares is big. When they are out of business the tax you paid might be higher than the advisory fee you saved.

It's also not the same as Wealthfront/Betterment, as those robo portfolio is much more diversified and you can change the risk. Frec doesn't do TLH for ETF. Frec is just a VOO. If you want to mimic Wealthfront on Frec you will need to hold multiple other ETFs and manage them by yourself.

I asked the Frec's CEO about how they can be profitable with only a 0.10% fee. He told me that not all of their product have 0.10% fees (like their semiconductor portfolio is a 0.35% fee) and they will announce new products with a higher fee (something to do with long/short TLH using leverage).

More competitors with lower fees are always good. I hope they can be successful. For now, I will stick with Wealthfront for a few years and wait and see how the Frec goes. For me, Wealthfront is much more established than Frec and it's worth paying for an extra 0.15% fee. In the future, if Wealthfront doesn't lower their fee I can just transfer to Frec.

[nvrmnd]

It's also not the same as Wealthfront/Betterment, as those robo portfolio is much more diversified and you can change the risk.

I actually think this is more of a drawback than a benefit because you end up paying that 0.25% on BND and other basic ETF holdings, you can just purchase those in a self directed account you don't need to pay a fee for your fixed income fraction. Direct indexing is the only thing that you might want to pay a fee for, because it's a hassle to do it yourself.

[FellsGuy]

Maybe it’s just me but as soon as I hear about “white papers” , tracking SEC filings and things limited to sophisticated investors I start backing out of the driveway, but maybe these guys have figured out the magic market beating formula?

[Ekekdj]

Long-short strategies are more advantageous in terms of taxes.

[nisiprius]

FREC Direct Indexing Handbook

Our job is to keep you tracking your chosen index as closely as possible. You can expect to be either above or below the index by a maximum of 0.77% per year — this is called the ‘drift’.

I call it "tracking error." It's not a heck of a lot, but it's a lot more than any S&P 500 index fund.

And I see they have a chart illustrating the decay of tax loss harvesting (TLH) benefits. After about five years, the "drift" could be almost as big as the TLH savings, especially if by bad luck it happened to be in the "below" direction, more than one year in a row.

[nvrmnd]

I see Frec announced they got to $100M in assets today: https://www.businesswire.com/news/home/ ... ct-Indices

[whodidntante]

I see Frec announced they got to $100M in assets today: https://www.businesswire.com/news/home/ ... ct-Indices

I hope they amass enough assets to make the others guy reduce fees. But their "business" sounds like a cash incinerator at the moment. A lottery ticket would have a higher expected return.

[nvrmnd]

I hope they amass enough assets to make the others guy reduce fees. But their "business" sounds like a cash incinerator at the moment. A lottery ticket would have a higher expected return.

Schwab/Vanguard/Fidelity have trillions under management I don't think they care about such small startups. But also I personally hope they succeed to provide more competition in the brokerage/RIA space. The usability of the software as well as the current fee structures are the result of the big 3 not having any real competition.

[manuvns]

How does direct indexing work if NVDA, INTC, SBUX, NKE drops 20% one day and comes back up 20-30% next day or week or in 10 days ?

[CletusCaddy]

How does direct indexing work if NVDA, INTC, SBUX, NKE drops 20% one day and comes back up 20-30% next day or week or in 10 days ?

It’s unlikely that direct indexing is doing much with the top names in an index, the tracking error would be too high.

But that still leaves lots of other names.

[whodidntante]

How does direct indexing work if NVDA, INTC, SBUX, NKE drops 20% one day and comes back up 20-30% next day or week or in 10 days ?

By doing nothing. The beauty of cap weighting is that you don't need to trade based on price fluctuations of a single stock. It is based on the preference that stocks are owned in proportion to their market weight.

But there is going to be drift from the index due to tax loss harvesting. I presume they have some systematic means of avoiding excessive trading costs due to whipsaws. They would need that anyway to avoid wash sales. But if you drop exposure to NVDA for 30 days in order to tax loss harvest it, you do run the risk that it goes up substantially while you are out of it. Your purchase of this product means you are going to take risks like that. And it's not always a bad thing. Sometimes NVDA is going to drop further while you are out of it.