EU investor: 7M+ in VWRA vs SWDA + EIMI (or a combination) and partially hedged global govt bond ETF

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Topic Author
cafe72
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EU investor: 7M+ in VWRA vs SWDA + EIMI (or a combination) and partially hedged global govt bond ETF

Post by cafe72 » Thu Nov 07, 2019 6:14 am

Fellow Bogleheads,

I finally opened my IB account and I am getting ready for the execution plan.

I just have a few more questions. You guys have been a godsend for my family so far, many thanks!

1.) VWRA vs SWDA + EIMI? if I'm putting 7M+ in accumulating equity
From what I have read on here and elsewhere:
- Blackrock has a greater tracking difference and greater volatility
- Blackrock is 0.02% cheaper (this might change though)
- Vanguard is more established in investing in the US market
- FTSE index has more holdings than MSCI World

My thinking: to keep it as simple as possible and put my entire equity allocation in vanguard funds. I am worried about putting all of my eggs in one provider though. What do you think?


2.) Is it safe to use only one brokerage account for someone with 15M to invest? I will be using IB. I want to make it as simple as possible.

3.) From justetf:
MSCI global indices capture 85% of the investable universe by market cap and exclude the bottom 15% as small-cap firms. But FTSE global indices track 90% of market capitalisation and exclude the bottom 10% as small-cap firms.
If I invest in Vanguard, how to I get exposure to the bottom 10% small-cap? I could use ishares small cap WSDL but they track the bottom 15%. I know its a small detail but still. Would the following be okay:
90% in VWRA
10% in WSDL

4.) Due to the forward rates, hedging to euro in a global govt bond etf would cost approximately 2% right now. On the other hand, short term currency volatility could very likely cost me more than 2% if I were to withdraw. However since I will be investing a large amount - 7 million - my withdrawal amounts will be very small. Over the long term I could save a lot from an unhedged fund.
Partial hedging might be a good compromise. 3M in a euro hedge (IGLE) and 4M (IGLO) in unhedged. What do you think?
I have seen this argument made in several places https://www.pimco.co.uk/en-gb/insights/ ... ortfolios/

Would really appreciate it again!

TedSwippet
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Re: EU investor: 7M+ in VWRA vs SWDA + EIMI (or a combination) and partially hedged global govt bond ETF

Post by TedSwippet » Thu Nov 07, 2019 6:44 am

cafe72 wrote:
Thu Nov 07, 2019 6:14 am
2.) Is it safe to use only one brokerage account for someone with 15M to invest? I will be using IB. I want to make it as simple as possible.
One note here. Based on past posts, you are residents of Italy and/or Germany. Both of these countries have US estate tax treaties that should provide protection from US estate tax on any 'US situs' assets for estates up to $11mm in total.

However ... your worldwide estate exceeds even this $11mm; in fact, you are investing more than this through IB, and IB is a US based brokerage. Are you confident that you will be dealing exclusively with the non-US branch of IB, and that this will insulate you from any and all US tax entanglements? Any 'non-US situs' assets you hold through IB should be safe from US estate tax. However, a cash balance in a US broker is not safe, but is counted by the US as 'US situs'.

If not fully and completely insulated from US taxes, an additional concern for you might be the size of the US estate tax exemption itself. As little as two years ago it stood at just over $5mm, and so half of its current level. And the law that doubled it is set to expire at the end of 2025; if it does, this $11mm will reduce back to $5mm. Its value is a constant political football, and a change of US government could easily see it reduced dramatically.

I don't know if you have considered making your investments through sufficient blocker corporations to make doubly sure that you fully isolate yourselves from rapacious and confiscatory US taxes, but given the amounts involved it seems like something worth investigating. Most non-US investors in countries with US estate tax treaties will fall well below the treaty-level US estate tax exemptions, and so not have to worry about this. You are an exception, though.

DJN
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Re: EU investor: 7M+ in VWRA vs SWDA + EIMI (or a combination) and partially hedged global govt bond ETF

Post by DJN » Thu Nov 07, 2019 9:18 am

Hi,
WSML = world small cap from iShares
deGiro is a good low cost platform worth considering if you wanted to split your money across two platforms. You would need to check if there is an Italian version.
Regarding bond split its all speculation in some ways, but having just returned from 4 days of discussions on the correct asset allocation going into next year I am none the wiser. There was a consensus that alternatives should be considered, that's definitely not for me. Your plan is better. I believe that your basic bond/equities split is the best way of addressing your risk appetite. I think that a straightforward global aggregate is fine. 100% hedged back to your home currency. Adding some inflation linked bond funds and short term funds might be worth considering.
The other takeaway was whether and how much cash to hold, I would think about that considering the size of your account.
DJN
Yah shure

Topic Author
cafe72
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Re: EU investor: 7M+ in VWRA vs SWDA + EIMI (or a combination) and partially hedged global govt bond ETF

Post by cafe72 » Fri Nov 08, 2019 2:37 am

your worldwide estate exceeds even this $11mm; in fact, you are investing more than this through IB, and IB is a US based brokerage. Are you confident that you will be dealing exclusively with the non-US branch of IB, and that this will insulate you from any and all US tax entanglements?
From what I read cash below 60k is exempt from US estate tax.

I will be investing only in Ireland domiciled funds so I should be fine no?
100% hedged back to your home currency
Wouldn't the hedging cost be too much? 2% currently due to forward rates. In the short term I can lose more than 2% due to currency volatility but in the longterm this will likely equal out, especially since IGLO has 70% in very stable currencies - US dollars and Japanese Yen. I totally support the philosophy of making your bonds as risk-less as possible but the cost of hedging doesn't seem to justify the risk reduction. To me I don't need insurance on my entire bond allocation if that makes sense because 7M is safe enough regardless.
The other takeaway was whether and how much cash to hold
We're thinking of keeping 600k in guaranteed accounts. Since we're buying real estate within the next year for 1.5M I was thinking of putting 1.5M in iShares € Ultrashort Bond UCITS ETF (ERNE) or iShares € Govt Bond 1-3yr UCITS ETF (IBGS)

Hustlinghustling
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Re: EU investor: 7M+ in VWRA vs SWDA + EIMI (or a combination) and partially hedged global govt bond ETF

Post by Hustlinghustling » Fri Nov 08, 2019 2:54 am

I'd be more concerned about the counterparty risk keeping everything with IB. IB is great for low cost trading and access to markets but for safekeeping of ETF's, I'd opt for the security of a few banks and their more capitalized requirements compared to a brokerage. See: MF Global

andrew99999
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Re: EU investor: 7M+ in VWRA vs SWDA + EIMI (or a combination) and partially hedged global govt bond ETF

Post by andrew99999 » Fri Nov 08, 2019 3:07 am

cafe72 wrote:
Fri Nov 08, 2019 2:37 am
100% hedged back to your home currency
Wouldn't the hedging cost be too much? 2% currently due to forward rates. In the short term I can lose more than 2% due to currency volatility but in the longterm this will likely equal out, especially since IGLO has 70% in very stable currencies - US dollars and Japanese Yen. I totally support the philosophy of making your bonds as risk-less as possible but the cost of hedging doesn't seem to justify the risk reduction. To me I don't need insurance on my entire bond allocation if that makes sense because 7M is safe enough regardless.
Hedging costs are around 3 basis points (3 one-hundredths of one percent), which is just about the definition of insignificant.

The 2% you are referring the removing of the currency movement. The currency movement can just as easily go the other way and then hedging would add 2%. The point of hedging is to remove any of this movement, which does not increase your "expected" (or long-term average) return, it just increases your risk (the range of possible returns outside the expected return).

The bogleheads philosophy (which makes sense to me) is to take risk on your risky/growth assets, which means having your equities exposed to currency movements is not bad (and a moderate amount is even good to hedge against your own currency going down), but avoid this risk with bonds since in the bogleheads philosophy (again, which makes sense to me), the purpose of bonds is for safety so it doesn't make sense to take on currency risk there.

If you have another way instead of the risky vs safe assets paradigm, then there might be something to explore, but otherwise it doesn't make sense to take on currency risk within your safe asset allocation to save 3 basis points.
PassiveInvestingAustralia.com

TedSwippet
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Re: EU investor: 7M+ in VWRA vs SWDA + EIMI (or a combination) and partially hedged global govt bond ETF

Post by TedSwippet » Fri Nov 08, 2019 3:48 am

cafe72 wrote:
Fri Nov 08, 2019 2:37 am
your worldwide estate exceeds even this $11mm; in fact, you are investing more than this through IB, and IB is a US based brokerage. Are you confident that you will be dealing exclusively with the non-US branch of IB, and that this will insulate you from any and all US tax entanglements?
From what I read cash below 60k is exempt from US estate tax.

I will be investing only in Ireland domiciled funds so I should be fine no?
If you are domiciled in one of the handful of countries with a useful US estate tax treaty -- a category that includes both Germany and Italy -- you should be covered up to US$11mm, either for cash or for any other 'US situs' assets. So safe as far as is known. For now.

It's just that since you are investing 15M you might at some points be temporarily over this US$11mm in broker cash. And that US$11mm could shrink dramatically in future. Or you might move to one of the many countries without a US estate tax treaty, in which case yes, your exemption drops to a miserly $60k. Dividend payments alone from a 15M portfolio could regularly push you above that. Also, even with no US estate tax due, potential long delays in getting your money back from a US broker if the worst happens. US brokers cannot release funds to the estates of dead nonresident aliens until they get a 'transfer certificate' from the IRS, which means that your executors have to file a complex US nonresident alien estate tax return, form 706NA, with the IRS, pay any estate tax there and then (if planned carefully and correctly, there should be none), and then wait (and wait, and wait) for multiple months while the IRS processes the return. So possible hassles with the IRS, even if no actual US tax payable.

Given the sums involved, these might be additional considerations for you. Ones that folk with more 'normal' sized portfolios won't really have to think about. Something else to ponder, anyway.

Valuethinker
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Re: EU investor: 7M+ in VWRA vs SWDA + EIMI (or a combination) and partially hedged global govt bond ETF

Post by Valuethinker » Fri Nov 08, 2019 5:01 am

andrew99999 wrote:
Fri Nov 08, 2019 3:07 am
cafe72 wrote:
Fri Nov 08, 2019 2:37 am
100% hedged back to your home currency
Wouldn't the hedging cost be too much? 2% currently due to forward rates. In the short term I can lose more than 2% due to currency volatility but in the longterm this will likely equal out, especially since IGLO has 70% in very stable currencies - US dollars and Japanese Yen. I totally support the philosophy of making your bonds as risk-less as possible but the cost of hedging doesn't seem to justify the risk reduction. To me I don't need insurance on my entire bond allocation if that makes sense because 7M is safe enough regardless.
See Andrew's comment.

The cost of currency hedging is just the difference in short term interest rates between the 2 currencies. Technically that is called Covered Interest Parity.

You can't make money by putting your money in Icelandic Kronor in a bank paying 8%, and at the same time, selling that Kronor and buying Euros at a fixed forward rate (say 1 year).

(1+ interest rate in Kronor) x (cost of 1 year forward to sell that Kronor and buy Euros) = (1 + Interest rate in Euro) x (cost of 1 year forward to sell Euros and buy Kronor)

If there's any difference in yield outcomes it is :

- because some interest rates are higher due to credit risk (in the same way that Italian government bonds yield c. 2% more than German)

- hedging is never perfect

- the difference between short term interest rates at any given maturity is different, so it matters over what timescale the fund hedges (vs holding long term bonds)

The bottom line is in Euros, you can only get the Eurozone bond return. And since the Eurozone govt bond index is over 40% Italian government securities, it is worth diversifying globally - spreading the risk.

Topic Author
cafe72
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Re: EU investor: 7M+ in VWRA vs SWDA + EIMI (or a combination) and partially hedged global govt bond ETF

Post by cafe72 » Sun Nov 10, 2019 7:46 am

If you are domiciled in one of the handful of countries with a useful US estate tax treaty -- a category that includes both Germany and Italy -- you should be covered up to US$11mm
Could you share a link that explains this? I wonder if this applies to Ireland as well.
I'd be more concerned about the counterparty risk keeping everything with IB. IB is great for low cost trading and access to markets but for safekeeping of ETF's, I'd opt for the security of a few banks and their more capitalized requirements compared to a brokerage. See: MF Global
Could you explain the worst case scenario of what can happen to the ETF investments through IB? Could I lose the shares?
The bottom line is in Euros, you can only get the Eurozone bond return
Since bond yields are dire worldwide, could a fire sale of bonds occur in the near future?

TedSwippet
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Re: EU investor: 7M+ in VWRA vs SWDA + EIMI (or a combination) and partially hedged global govt bond ETF

Post by TedSwippet » Sun Nov 10, 2019 9:37 am

cafe72 wrote:
Sun Nov 10, 2019 7:46 am
If you are domiciled in one of the handful of countries with a useful US estate tax treaty -- a category that includes both Germany and Italy -- you should be covered up to US$11mm
Could you share a link that explains this? I wonder if this applies to Ireland as well.
This short paper gives an overview on both treaties in general and Germany in particular:
Estate Planning and Tax Considerations for Nonresident Aliens - Don’t Tax Yourself

Although Ireland also has a US estate tax treaty, the general prevailing view is that because of its age it does not permit pro-rata use of the $11mm estate tax exemption allowed to US citizens. So investors living in Ireland only get the $60k US estate tax exemption.

glorat
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Re: EU investor: 7M+ in VWRA vs SWDA + EIMI (or a combination) and partially hedged global govt bond ETF

Post by glorat » Sun Nov 10, 2019 10:54 pm

cafe72 wrote:
Sun Nov 10, 2019 7:46 am
I'd be more concerned about the counterparty risk keeping everything with IB. IB is great for low cost trading and access to markets but for safekeeping of ETF's, I'd opt for the security of a few banks and their more capitalized requirements compared to a brokerage. See: MF Global
Could you explain the worst case scenario of what can happen to the ETF investments through IB? Could I lose the shares?
The concern about counterparty risk is overstated. IB your broker doesn't hold your shares, the custodian behind it does. And the custodian is heavily regulated, often with government guarantees (e.g SIPC). If IB goes bust, your shares are still held safely at the custodian for you to (eventually) transfer out. Your worst case scenario is if IB and the custodian conspire to lose your shares AND they go bust. In that scenario, policies like the SIPC insurance cover a proportion of losses. Frankly there are bigger things to worry about than counterparty risk. (See https://blog.wealthfront.com/false-comf ... insurance/ for some reference brokers going bust - and there are other threads on this forum).

More interest risks include cybersecurity related issues or financial system disaster issues where you may get locked out your account for a while. Unlike broker counterparty risks, which are historically negligible, getting locked out has happened many times to people. On that basis, I choose to have some of my securities in a second broker.

Hustlinghustling
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Re: EU investor: 7M+ in VWRA vs SWDA + EIMI (or a combination) and partially hedged global govt bond ETF

Post by Hustlinghustling » Sun Nov 10, 2019 11:22 pm

Sure, in theory accountability of structure is in place but risk of fraud is always lurking and often increases precisely as institutions get more financially vulnerable. Look at MF Global, also a leading reputable brokerage at the time going bust. 1.5bil in client funds disappearing through some back end shenanigans at the custody level. https://www.pbs.org/wgbh/frontline/arti ... ers-money/

Clients were made whole in the end which says a lot about systems in place, but you would still have had to deal with two years of uncompensated stress and time where the funds sit idle.

Or stories like this: https://www.bloomberg.com/news/articles ... n-accounts

Agreed the risk is low but there is no need to take on concentrated counterparty risk when it's easily mitigated. Especially when you're looking to invest in the region of 15mil where government protections won't take you very far.

I keep no more than 20% of my investable assets at brokerages (who generally have higher possibility of bankruptcy than banks). My "can you sleep well at night" risk consideration very much involves counterparty consideration, not simply market ones. But to each their own.

glorat
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Re: EU investor: 7M+ in VWRA vs SWDA + EIMI (or a combination) and partially hedged global govt bond ETF

Post by glorat » Mon Nov 11, 2019 12:32 am

There are some actionable lessons I take these examples
Hustlinghustling wrote:
Sun Nov 10, 2019 11:22 pm
Look at MF Global, also a leading reputable brokerage at the time going bust. 1.5bil in client funds disappearing through some back end shenanigans at the custody level. https://www.pbs.org/wgbh/frontline/arti ... ers-money/
Brokerages holdingcash generally lacks protections. Don't hold cash at brokers. Don't trade financial instruments where it requires the broker to hold money accounts for you - i.e. derivatives, margin based products etc. Shares/ETFs are okay since there is no hold of cash involved. Segregated money accounts are easier to perform fraud on than segregated securities accounts. Moreover segregated securities accounts have more protection. (Per Hustling, in the order of millions of $)
Hustlinghustling wrote:
Sun Nov 10, 2019 11:22 pm
Or stories like this: https://www.bloomberg.com/news/articles ... n-accounts
Understand how regulators look after you. Cash generally has low protections even in banks, especially for a HNWI. In UK it is <100k. Securities have stronger controls and insurance protection. I'd rather have my networth in a trusted securities custodian than above the government protected limit in a retail bank. More money has been lost in banks going bust than securities custodians losing shares. I think that's the only point (cash in banks being safer than securities via brokers) I disagree with Hustling on but I stand to be corrected if I've missed some facts
Hustlinghustling wrote:
Sun Nov 10, 2019 11:22 pm
Clients were made whole in the end which says a lot about systems in place, but you would still have had to deal with two years of uncompensated stress and time where the funds sit idle.
This is the key point and key risk for OP to consider. Your shares being stuck (still earning though...) for an extended period without your ability to access or trade. For that reason, I also agree one should have multiple brokers (and ensure the brokers use different custodians) to reduce counterparty risk affecting liquidity.

Topic Author
cafe72
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Re: EU investor: 7M+ in VWRA vs SWDA + EIMI (or a combination) and partially hedged global govt bond ETF

Post by cafe72 » Mon Nov 11, 2019 6:52 am

I keep no more than 20% of my investable assets at brokerages
Do you keep your securities at a stand-alone custodian bank(s) then, which you transfer over from your brokerage account after trade executions?

Can you explain why fraud risk is higher in the custodian banks behind a broker compared to normal banks?
IB your broker doesn't hold your shares, the custodian behind it does.
How can I find the custodian(s) behind IB and other brokers? I saw a custodian list on the IB website but I am not sure whether that applies to EU investors as well. I'm also wondering how my securities will be spread out among those custodian banks?
Bank of New York
Brown Brothers Harriman
Fifth Third Bank
Huntington Bank
J.P. Morgan
Northern Trust
State Street Bank
UMB Bank
Union Bank
US Bank
Unlike broker counterparty risks, which are historically negligible, getting locked out has happened many times to people. On that basis, I choose to have some of my securities in a second broker.
What additional brokerage would you recommend? Saxo charges 0.1% on trades with no max fee (like in IB) so that would be expensive for large trades. Degiro, although cheap, does not hold their securities in custodian banks (but rather in-house in separate legal entities) so might be too risky.

Also, is it safe to put everything into one ETF provider like vanguard? or should I divide it up with Blackrock? like 50/50 in VWRA and SWDA+EIMI for my equity allocation?
you should be covered up to US$11mm, either for cash or for any other 'US situs' assets
So if someone in a country without a US tax treaty invests 10M in vanguard FTSE all-world VWRA (ireland domiciled) which has 55% in US equity, 5.5M would be 'US situs' and therefore subjected to estate tax?

Thanks again!
Last edited by cafe72 on Tue Nov 12, 2019 9:58 am, edited 3 times in total.

TedSwippet
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Re: EU investor: 7M+ in VWRA vs SWDA + EIMI (or a combination) and partially hedged global govt bond ETF

Post by TedSwippet » Mon Nov 11, 2019 7:31 am

cafe72 wrote:
Mon Nov 11, 2019 6:52 am
So if someone in a country without a US tax treaty invests 10M in vanguard FTSE all-world VWRA (ireland domiciled) which has 55% in US equity, 5.5M would be 'US situs' and therefore subjected to estate tax?
No. The use of the Ireland domiciled wrapper protects them from US tax. An Ireland domiciled ETF is not a US corporation. And the US cannot (yet?) look through ETF and other foreign corporate structures.

If someone in a country without a US estate tax treaty invests 10M in Vanguard Total World VT (US domiciled), which also has 55% in US equity, the entire 10M would be 'US situs' (because the US views VT as just another 'US situs' stock holding) and therefore subjected to estate tax. This is why people in countries without US estate tax treaties avoid US domiciled ETFs and favour non-US ones.

Note that US income tax treaties and US estate tax treaties are distinct and separate. There is a decent number income tax treaties, but only very few estate tax treaties.

United States Income Tax Treaties A to Z | Internal Revenue Service
Estate Gift Tax Treaties International | Internal Revenue Service

Have you found the section of the wiki that covers all of this?

Outline of Non-US domiciles - Bogleheads

glorat
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Re: EU investor: 7M+ in VWRA vs SWDA + EIMI (or a combination) and partially hedged global govt bond ETF

Post by glorat » Tue Nov 12, 2019 9:58 pm

cafe72 wrote:
Mon Nov 11, 2019 6:52 am
I keep no more than 20% of my investable assets at brokerages
Do you keep your securities at a stand-alone custodian bank(s) then, which you transfer over from your brokerage account after trade executions?
Ah, you need to learn how brokers/banks/custodians operate as separate legal entities. A broker doesn't hold anything of yours in general, they are merely there to broker trades. So it is the broker that performs trade execution and settlement of that trade is at the custodian. All done for you behind the scenes. This regulator imposed segregation of duties is what grants protection.
cafe72 wrote:
Mon Nov 11, 2019 6:52 am
Can you explain why fraud risk is higher in the custodian banks behind a broker compared to normal banks?
I think my statement that you are at higher risk of losing cash via your broker than losing cash at a normal bank because the former is not protected in any way. The status of being a bank means that the government regulates the bank's use of cash as well as offer insurance policies in the event of fraud or bankruptcy. However, that insurance level is pretty small for a HNWI

In contrast, due to the broker/custodian separation, securities held by your custodian are relatively safe from shenanigans by your broker again because it is regulated and there are government insurance protections. The insurance here is much higher than the cash insurance at banks. Hence my earlier comment that I'd rather hold 1M in securities than 1M in cash.
cafe72 wrote:
Mon Nov 11, 2019 6:52 am
IB your broker doesn't hold your shares, the custodian behind it does.
How can I find the custodian(s) behind IB and other brokers? I saw a custodian list on the IB website but I am not sure whether that applies to EU investors as well. I'm also wondering how my securities will be spread out among those custodian banks?
Bank of New York
Brown Brothers Harriman
Fifth Third Bank
Huntington Bank
J.P. Morgan
Northern Trust
State Street Bank
UMB Bank
Union Bank
US Bank
IB aren't totally clear what custodians they use but they say they use a range for your benefit so the above is likely correct. And yes, it should be the same no matter which regional IB broker you use. I believe all regional IB broker entities go via IB LLC for custodial purposes
cafe72 wrote:
Mon Nov 11, 2019 6:52 am
Unlike broker counterparty risks, which are historically negligible, getting locked out has happened many times to people. On that basis, I choose to have some of my securities in a second broker.
What additional brokerage would you recommend? Saxo charges 0.1% on trades with no max fee (like in IB) so that would be expensive for large trades. Degiro, although cheap, does not hold their securities in custodian banks (but rather in-house in separate legal entities) so might be too risky.
Both should be fine. By regulation, the Degiro custodian must at least be a separate legal entity from the broker for your safety but if you feel they are not sufficiently segregated or your worry for their reputation, then paying for reputation is a price you may wish to pay.

For me, when I failed to open a Saxo account (non-EU resident), I opened my backup with Saxo and keep a small amount there.
cafe72 wrote:
Mon Nov 11, 2019 6:52 am
Also, is it safe to put everything into one ETF provider like vanguard? or should I divide it up with Blackrock? like 50/50 in VWRA and SWDA+EIMI for my equity allocation?
There is zero history of fraud that I'm aware of of the big-4 ETF providers messing up in anyway. I can't comment on whether past reputation should affect future reputation. My 2c is that all the big-4 are too big to fail now (holding trillions in assets)
cafe72 wrote:
Mon Nov 11, 2019 6:52 am
you should be covered up to US$11mm, either for cash or for any other 'US situs' assets
So if someone in a country without a US tax treaty invests 10M in vanguard FTSE all-world VWRA (ireland domiciled) which has 55% in US equity, 5.5M would be 'US situs' and therefore subjected to estate tax?
I agree with Ted's post. No estate tax
cafe72 wrote:
Mon Nov 11, 2019 6:52 am
Thanks again!

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