Boy, I've been pretty feisty recently! First picking a fight with Vanguard, then tackling the sticky healthcare debate, and now picking a fight with Jim Collins, the personal finance world's favorite uncle!
The reason for the fight with Vanguard—and now for the fight with jlcollinsnh—is that I've been spending quite a bit of time recently on asset allocation, and I'm starting to wonder whether the simplest approach truly is the best.
Of course, as any financial advisor will tell you, everybody's situation is unique, and everybody's risk tolerance and life course is different. And, naturally, that's why their services are so important...
So anyway, I've been trying to figure out the best asset allocation for me. I'm considering the total picture, including my 401(k)—which is pitifully small—as well as my Roth IRAs and brokerage account.
If you're familiar with the great Jim Collins, also known by his web domain of jlcollinsnh, you know that he advocates the simple path to wealth. Namely, he advocates 100% stocks in the form of VTSAX, Vanguard's total stock market index fund. Or if you prefer a slightly less bumpy ride, he won't argue if you go 80% VTSAX, 20% VBTLX (which is Vanguard's total bond market index fund).
He's very persuasive. In fact, I started my own investing with that same approach of VTSAX/VBTLX, and it's worked pretty well for me so far.
I want to be very clear that I don't think his Simple Path is bad advice.
But Paul Merriman, a retired financial advisor, personal finance writer, and founder of Merriman Wealth Management in Seattle, advocates a more complex arrangement in his free (and super-helpful!) How to Invest e-books.
You can download them as PDFs, right now, and you don't even need to input any personal information! Just go to this page for your free copies.
In essence, Paul argues that including various funds can get you an extra percentage or two of return, especially by including value funds and small cap funds, which have historically beat the index over a long timeframe.
Now an extra percentage point, compounded over the next couple decades, can mean hundreds of thousands of extra dollars for me!
No, that's not enough emphasis. Hundreds of thousands of extra dollars!!!!!
That extra one percent annual return results in an extra quarter-million dollars after 35 years!!!
I'm getting too excited again!
Ahem.
So, just by boosting my average annual return by one percentage point, I can end up with an extra $200k or more. Probably by quite a bit more than that, considering that I'm not investing solely in IRAs.
That is an absolutely tremendous opportunity! After all, $200,000 is roughly four years' pay for me. That's four whole years of work that I can escape, just by being smart with my asset allocation decisions!
Yeah.
I want to make damn sure I'm getting this right.
We have two different experts who agree on the large strokes (minimize costs, save/invest as much as you can, use Vanguard if possible) but disagree on the details. Time for a showdown!
Some reading first, if you don't know what I mean by 'large-cap,' 'small-cap,' or 'REIT.' In fact, I like this summary of the difference between large- and small-cap.
The JLCollinsNH approach:
-80% VTSAX
-20% VBTLX
The rationale: 80% total stock market index, 20% total bond market index. That'll give you at least a small piece of every kind of investment (including real estate, believe it or not). You'll even get some international exposure this way, given that most large U.S.-based companies do business overseas as well.
The pros: Simple, easy to follow, easy to implement, good historical performance.
The cons: A heavily large-cap weighted approach. Ever since the Great Recession in 2008, large companies have done extraordinarily well; better even than the long-term historical average for the category. It's fair to wonder how long that trend will continue.
The Merriman approach:
-11% VFIAX (S&P 500 index fund)
-11% VVIAX (large-cap value fund)
-11% VTMSX (small-cap blend fund)
-12% VSIAX (small-cap value fund)
-5% VGSLX (REIT)
-9% VTMGX (international large-cap fund)
-18% VTRIX (international large-cap value fund)
-9% VFSAX (international small-cap growth fund)
-9% VEMAX (emerging markets fund; that is, companies headquartered in promising counties like India, China, Russia, and Brazil)
-5% VGRLX (international REIT)
-Take a couple percent away from each of these if you want to include an intermediate-term bond fund. You can find more details about his recommendations for Vanguard accounts here. Don't worry, he has recommendations for Fidelity, T. Rowe Price, and Schwab as well.
The rationale: Better long-term historical performance than an S&P 500 fund or a total-market fund, while also having lower volatility. Essentially, it's a smoother, faster ride to the top.
The pros: More money, lower losses during downturns.
The cons: More complexity. Harder to rebalance. Harder to acquire the needed shares (minimum of $3000 per fund) if you don't have a spare $30,000+ to invest (unless, of course, your employer uses Vanguard for your 401k or 403b).
One approach that I've been bandying about is a combination of the two. I could use the total-market fund VTSAX as a core holding and allocate maybe 50-60% in that fund alone, and then supplement that with a small (~10%) allocation to a small-cap value fund like VSIAX and another 10% or so in the real estate fund, VGSLX. Then, I can put the remaining ~20% into the total-market bond fund, VBTLX.
Given that VTSAX already has some exposure (okay, very limited exposure) to small-cap and value stocks, as well as a tiny bit of exposure to VGSLX, that would bring me pretty close to what Paul Merriman and Richard Buck advise in their books, all while maintaining much of the simplicity of the JLCollins approach. Essentially, it becomes a 5-fund portfolio, detailed below. Call it the Froogal Stoodent's Couch Potato portfolio! :)
The Froogal Stoodent Couch Potato approach:
-50% VTSAX (total stock market index)
-10% VSIAX (small-cap value)
-10% VEMAX (emerging markets)
-10% VGSLX (real-estate investment trust)
-20% VBTLX (total bond market index)
Want to know about expenses? Good for you! You're wise to ask about something so crucial to your portfolio's health!
This is measured through the 'expense ratio' and assumes there's no 'load,' or sales charge, through whatever broker you're using.
If Vanguard is your broker, there will be no charges aside from the expense ratio. The exception here is if you have less than $10,000 in each fund, in which case they will charge you an extra $20 per fund. If you're worried about that, you can use ETFs, which are electronically traded versions of the exact same fund. If you're planning to buy-and-hold the ETF, they'll work exactly the same as the mutual fund, other than a slightly higher expense ratio.
The expense ratios shown below are from the Vanguard web page for each non-ETF fund, as of 12/23/2020.
The Froogal Stoodent Couch Potato approach:
-50% VTSAX (total stock market index); ER 0.04%
-10% VSIAX (small-cap value); ER 0.07%
-10% VEMAX (emerging markets); ER 0.14%
-10% VGSLX (real-estate investment trust); ER 0.12%
-20% VBTLX (total bond market index); ER 0.05%
Compare these expense ratios to most competing funds, and you'll find Vanguard tends to come out ahead. An exception off the top of my head is Fidelity's FZROX, which has an expense ratio of 0.00%. Not a typo—there's actually no cost to own this fund, and no investment minimum! No joke!
The trick, of course, is to get you and your money in the door, and then they'll try to sell you some higher-fee funds that will turn a profit for Fidelity.
This is not to bad-mouth Fidelity. Their funds are mostly pretty competitive with Vanguard's equivalents. To wit: Fidelity's small-cap value index fund is FISVX. Compare its 0.05% expense ratio to VSIAX's 0.07%. Fidelity wins!
Fidelity's real-estate fund is FSRNX, with a 0.07% ER. Compared to VGSLX's 0.12%, Fidelity wins again!
FPADX is Fidelity's emerging markets fund. Compare its 0.076% expense ratio to VEMAX's 0.14%. Fidelity wins yet another round!
Their total market bond index fund, however, is FTBFX, with a 0.45% ER. Compare that to VBTLX's 0.05%. Well, Fidelity can't win 'em all, I guess. Especially not when 49% of the company is privately held by one family, and they naturally want to make money too.
Since Vanguard is client-owned, you don't have to worry about such shenanigans. No sales pitches for high-priced or super-expensive actively-managed funds. Vanguard is set up to operate in the best interests of its clients, always.
Everyone else has owners that expect profits. Profits that will ultimately come from your pocket.
There may be additional benefits to using Fidelity, Schwab, TD Ameritrade, T. Rowe Price, E-Trade, Betterment, or any of the other investing houses out there. But the financial blogosphere generally recommends Vanguard, and its unique client-owned structure is the #1 reason why.
No, Vanguard doesn't have an affiliate marketing program. I'm not getting paid to say Vanguard is the best. Nor is JLCollinsNH, or Lars Lofgren writing for I Will Teach You To Be Rich, or anyone else. Except maybe employees of Vanguard. Which I'm not.
I recommend Vanguard simply because the company is set up to minimize the conflicts of interest that naturally occur with every other investment platform.
Would I be better off investing via Fidelity, based on today's expense ratios? Yes.
But will Fidelity continue to have lower costs than Vanguard over the next 20, 30, or 40 years? I'm doubtful about that, simply because Fidelity's owners want to make money too.
But with Vanguard, I don't have to worry about that, because I am a co-owner, along with everyone else who invests with Vanguard.
Naturally, that doesn't mean I can walk into Vanguard's headquarters and start telling people what to do. It simply means that I don't have to worry that they'll skim money out of my pocket for the benefit of some yacht-owning multi-billionaire. When the funds do well, the yacht-owning billionaire does well—and I do equally well*. That's it.
If you're interested in learning more about this stuff, the websites of our friends Paul Merriman and Jim Collins are great places to start.
For more details, Jim Collins lays out his ideas in his 2016 book The Simple Path to Wealth. Paul Merriman advocates his approach in his latest book, We're Talking Millions! 12 Simple Ways to Supercharge Your Retirement.
+See my Privacy/Disclosure policy here. I'm an Amazon affiliate, so I might make a small commission if you follow a link from my site to Amazon, and then buy something within 24 hours. But that has nothing to do with Vanguard, or investing more generally.
*Of course, our hypothetical multi-billionaire is probably using Vanguard's special "Flagship" or "Flagship Select" funds with even lower fees. So the billionaire is still doing better than I am, even with the exact same asset allocation! Drat.
No comments:
Post a Comment