Betterment Offers Tax Loss Harvesting With No Minimums

bettertlh_logoAutomated portfolio managers like Betterment will set you up with a diversified mix of index funds and manage it for you for a small fee. I’m an investing geek, so I always lean towards keeping the small fee and manage things myself. But an important variable to this equation is tax-loss harvesting (TLH). Tax-loss harvesting tries to improve your returns by minimizing your tax bill, but it is also tedious work that is ideally suited to handing over to a computer.

If the management fee they charge is theoretically 0.25%, as long as the benefit from tax-loss harvesting is at least 0.25%, then you’re already ahead of the game. The problem is that predicting the actual benefit of TLH is difficult. Betterment claims that based on past data, their Tax Loss Harvesting+ service could add an estimated +0.77% in after-tax returns, annually:


Up until recently, you also needed $50k in your portfolio. But Betterment just sent me an e-mail today (April 2015) that their tax-loss harvesting service will be available to all taxable accounts with no minimum balance requirement:

Using our smarter technology, we’ve now made Tax Loss Harvesting+ available to you and all of our customers—regardless of balance—at no additional cost.

We are the only automated investing service to provide this tax-reduction strategy, once only available to the wealthiest, for all investors. By democratizing tax loss harvesting, we are continuing our mission of making smarter investing accessible to everyone.

I would not have predicted this a few years ago: automated tax-loss harvesting for any account size and at such a low cost. A customer with $10,000 would be getting TLH and portfolio management for $25 a year. Betterment has no minimum investment requirement.

I would say that I am confident the benefit of TLH over the long-run will be greater than zero. However, I would not count on 0.77%. But even if we split the difference and assume it is 0.4%, then using such a service still has to be considered as it is greater that their management fee of 0.15% to 0.35%. I hate giving up control though, so while I have put a little seed money in various places, I am still 95%+ DIY and keeping a close eye on future developments.

Current sign-up promotions. Betterment is currently offering up to 6 months of free portfolio management fees, depending on your initial deposit amount.

(Note: Competitor Wealthfront has a similar tax-loss harvesting service. I know my posts about both are very similar, but I wanted to make sure any readers that may see only one post get the full context.)

ComputerShare and Company-Specific DRIP Plans: Still A Good Option in 2015?

drip200Here’s a reader question that arrived this week:

I know you write a lot about investing, but can you write a little more about ComputerShare as a way to save money vs buying stock with online brokerages. I just read in WSJ how its cheaper if you are a buy and hold kind and its just as good as someone holding your paper stock certificates.

I am assuming that the WSJ article in question is the one about Ronald Read, the maintenance worker and janitor who saved up $8 million using DRIP plans.

A thrifty lifestyle, solid investing acumen, plenty of patience and the benefits of compounding were at the center of the story of Ronald Read—the quiet and simple-living Vermonter who enjoyed playing the stock market and left behind a nearly $8 million estate when he died last year at the age of 92.

Dividend Re-Investment Plans (DRIPs) traditionally refer to companies that let individuals to buy their shares directly from them and then allow them to automatically reinvest any dividends into more shares. Reinvesting those dividends increased the number of shares owned, and when combined with per-share price appreciation often leads to significant gains over time.

DRIPs were one of the first low-cost, buy-and-hold investment strategies. Stock commissions used to run over $30 per trade, whereas many DRIP plans let you buy shares for free or just a few bucks. This allowed mom-and-pop investors to put away as little as $25 a month without the entire nut being eaten by fees.

I started learning a tiny bit about investing in the late 1990s, which was near the rise of the online broker and the beginning of end of for DRIP plans. I still remember buying a book about DRIPs from Moe’s Books (used book store that is still going!) and being very fascinated by the idea. These days, paper certificates are pretty much gone and transfer agents like ComputerShare manage DRIP plans for most companies electronically. ComputerShare manages plans for Procter & Gamble, ExxonMobil, Coca-Cola, Johnson & Johnson, Wal-Mart, AT&T, Verizon, and several more.

For the most part, there are better low-cost, buy-and-hold options out there now. Let’s take a look at the Coca-Cola DRIP plan. It costs $10 to set up, $2 per automatic purchase plus a $0.03 per share processing fee. Reinvestment of dividends cost 5% of amount reinvested up to a maximum of $2.00. You need $500 to start and there is a $50 ongoing minimum investment.

Every company has different rules, and sometimes there is a purchase price discount. However, you are still buying individual stocks so what happens when you end up holding a Enron, MCI Worldcom, or even a Kodak or Sears? You could juggle 30 different stock plans like Ronald Read did – one of his stocks bombed too but his diversification protected his portfolio – but that gets to be a lot of work and paying $2 times 30 starts adding up.

Now consider that you can buy an ETF like the Vanguard Total Stock Market ETF (VTI) with zero commission and zero setup fees from Vanguard or TD Ameritrade and holds 3,800 stocks for you all at once for an expense ratio of $5 a year per $10,000 invested. If you like the dollar-based simplicity of DRIPs (all of your $50 a month gets invested in partial shares), you can buy the mutual fund version (VTSMX) at Vanguard which supports fractional shares and free automatic dividend reinvestment.

Even if you still wanted to buy individual stocks, many discount brokers including TradeKing and TD Ameritrade offer low commissions and free dividend reinvestment. Hold one stock or 100, all on a single statement. The Robinhood app lets you buy stocks with zero commission if you have a smartphone. You can buy up to 30 stocks at once for $9.95 at Motif Investing.

NAPFA: Warnings When Finding a Financial Advisor

warning_signMany people feel more comfortable with someone else helping them with their finances. A common piece of advice these days is to find a fee-only advisor that doesn’t work on commission. Many times this leads to a recommendation of the National Association of Personal Financial Advisors (NAPFA), whose members must promise to be fee-only and act in a fiduciary manner (putting your interests first). They are regularly mentioned in Kiplinger’s magazine, and I’ve even referred a few readers to their website myself. You’d think that putting your money with the president of NAPFA would be a sound idea, right?

I was surprised to read the following warning from Phil DeMuth in his book The Affluent Investor:

The National Association of Personal Financial Advisors (NAPFA) will happily refer you to a fee-only advisor. Despite their lofty mission, no fewer than two of its recent presidents have been investigated for kickback schemes (one for defrauding clients by secretly putting $47.5 million of client money in a start-up he founded). Several years ago, I referred someone who was looking for an advisor to this group. When I followed up to ask how it went, he said, “The guy they sent me to tried to sell me a variable annuity.” This is exactly what fee-only advisors are not supposed to do: push high-margin commissioned products. This organization is a useful idea and I wish I could endorse it, but the execution leaves something to be desired.

Naturally, I had to learn more about these former NAPFA presidents. Here is a good summary excerpted from Wikipedia (emphasis mine):

Two former presidents of the NAPFA, Mark Spangler (serving in 1998) and James Putman (serving in 1996 and 1997) were charged by the SEC with fraudulent behavior: Putman in 2009, for accepting $1.24 million in kickbacks related to unregistered investment pools, and Spangler in 2011, for secretly investing $47.7 million of client money in two technology companies that he or his firm owned. […]

On April 24, 2012, a Wisconsin federal court awarded summary judgment to the Commission on its claims against James Putman (“Putman”), a defendant in an action filed by the Commission in May 2009 and orders Putman to pay disgorgement and prejudgment interest in the amount of $1,530,129 and a civil money penalty of $130,000, for a total amount of $1,660,129. […]

Spangler, a Seattle investment adviser, was found guilty 11/7/13 of 31 counts of fraud and money laundering after deceiving clients by secretly investing more than $46 million of their money into two risky startups in which he had an ownership interest. […] Spangler was sentenced 3/14/14 to 16 years in prison […]

It is important remember the relatively loose relationship between NAPFA and its members. There are many reputable, honest fee-only financial advisors out there that are members of NAPFA. BUT, you can’t solely rely on NAPFA membership to mean that the person you pluck out of their directory will be reputable and fee-only. It’s not very difficult to become a member, so unscrupulous people can join to get that layer of credibility and then abuse it.

Educate and protect yourself. NAPFA is a trade organization, so it mostly about marketing and getting good publicity. There’s nothing wrong with that, but as a potential client there is much more due diligence to be done before settling on an advisor. Make sure your money is kept at a well-known third-party custodian such as Schwab, Fidelity, or TD Ameritrade. Know what products are often sold by commission. Use the helpful resources at this broker check page.

Portfolio Rebalancing Frequency: Even Less Than Annually?

scaleHere’s another data point on the debate on how often to rebalance your portfolio to your target asset allocation. Econompic Data writes about rebalancing a portfolio back to 60% S&P 500 / 40% Barclays Aggregate Bond index from 1976-2014 and finds that rebalancing every 3 years actually produced slightly better average annual returns that rebalancing monthly (via Abnormal Returns):


Momentum is cited as a potential reason why this works. Looks good at a glance, but look at that y-axis. We are comparing 10.3% and 10.2%. Is that really significant?

I would point out that in a previous Vanguard research article, a similar backtest was done on a 60/40 Broad US Stock/Broad US Bond portfolio rebalanced across various thresholds from 1926-2009. Their conclusion (emphasis mine):

We found that no one approach produced significantly superior results over another. However, all strategies resulted in more favorable risk-adjusted portfolio returns when compared with returns for portfolios that were never rebalanced.


From a 2008 paper from Dimensional Fund Advisors:

Aside from avoiding excessive trading, there are no optimal rebalancing rules that will yield the highest returns on all portfolios and in every period.

From advisor and author William Bernstein:

The returns differences among various rebalancing strategies are quite small in the long run.

Instead of there being a benefit to rebalancing less often, it may just be safer that the frequency doesn’t matter. On the other hand, given the potential cost of rebalancing from taxes, commissions, and bid/ask spreads perhaps lowering the frequency doesn’t hurt.

I think the most important thing to note is that in every test case above, the rebalancing was done on a strict schedule and without emotion. The problem you are really trying to avoid is being afraid buy whatever has been getting crushed and selling what has been doing awesome. There’s that behavioral/emotional component again.

As for me, I try to check my portfolio once a quarter, but rebalance no more than once a year. An annual frequency is as easy to remember as your birthday, it’s not too often and not too seldom, lots of smart people are proponents, and it gives me the opportunity to do tax-loss harvesting. I use tolerance bands such that if my major asset classes are off by more than 5%, then I will rebalance. Otherwise, I “rebalance lite” year-round using any new money to buy underweight asset classes.

The Only Two States of Your Portfolio: Happy All-Time High or Sad Drawdown

emoinvestQuick question – What was the highest value ever for your investment portfolio? Now, what was the value exactly a year before that? You probably know the answer to the first question, but not the second, even though both have little to do with your final portfolio value.

I am currently reading the e-book Global Asset Allocation by Meb Faber and he had a good observation that I don’t recall ever expressed in this specific manner (emphasis mine):

It is a sad fact that as an investor, you are either at an all-time high with your portfolio or in a drawdown – there is no middle ground – and the largest absolute drawdown will always be in your future as the number can only grow larger.

We tend to carry the highest value of our portfolio around in our heads because of the powerful cognitive bias of anchoring. Let’s say that 10 years ago you started with $20,000 and today with your contributions and investment growth your total is $100,000. If next year your portfolio experiences a drawdown to $80,000, you’ll probably identify your portfolio as being 20% down from $100,000, as opposed to a 400% increase from $20,000. $100,000 is “what you had” and you will forever be anchored to that number, even if for it only lasted just for a day.

That is, until you reach another all-time high (yes! $105,000) and that will be your new anchor. (This applies to individual holdings as well – I’ve found this especially pervasive when using brokerage smartphone apps that allow me to frequently check in with just a tap.)

If your portfolio is anything like mine, it has been repeatedly been hitting all-time highs for a year or two. The problem is, sooner or later, there is a 100% chance I’ll be stuck in a prolonged drawdown phase. I will think about my high-water value every time I check my statements (which is why perhaps it is better not to check your investment value much more than once a year). I will question my existing asset allocation and how to invest my new money.

Now add in loss aversion – the other finding from behavioral economics that people feel the pain of losses much more severely than the pleasure of gains (studies suggest we hate losses roughly twice as much as gains).

That means drawdowns are always lurking around the corner, and we hate them twice as much as any investment gain. It’s no wonder that investors are often their own worst enemies by not sticking to their investment plans.

The Affluent Investor by Phil DeMuth – Book for $100,000+ Club


This week I’ve been trying to catch up on my book reviews (you should see my “to read” shelf!), and after a good beginner book I thought I’d write about a good intermediate-to-advanced book. You’ve probably noticed there are a lot of starter books out there for novice investors but not as many with more advanced advice ($$$… the potential audience is a fraction of the size). Addressing this deficiency is the goal of The Affluent Investor by Phil DeMuth.

In terms of the title, the industry classifies you as “mass affluent” if you have investable assets between $100,000 and $999,999. From $1 million to $10 million you are “high net worth”. This definition excludes some possibly important stuff – your income, the value of your personal residence, pensions, etc. But in real world terms, I would say this book is for anyone who isn’t living from paycheck-to-paycheck. If you have a $10,000 portfolio and have a surplus each month, sooner or later you will reach $100,000. If instead you have a credit card balance and it just keeps inching up, then you need something closer to a Dave Ramsey book.

The overall tone of the book is that of a close friend who is smart and into finances. DeMuth is already a financial advisor to rich folks so the last part is expected. What I mean is that he will be blunt and isn’t afraid to make stereotypical assumptions in order to rattle off all his tips. At only 200 pages, most things are only touched upon in a concise manner. Here’s a rough outline of the topics covered:

  • Big picture rules. Get and stay married. Make sure you can afford your children. Avoid debt. Save early and invest it. Diversify. Plan ahead.
  • Financial advice based on life stage. He puts you in the basic “affluent” mold of 20-35s have a kid buy a house, 35-55 working hard at professional career making most of your money, 55-65 protect assets and prepare for retirement, and 65+ retire and spend down money.
  • Financial advice based on job. Has special advice for doctors, lawyers, small business owners, and corporate executives.
  • General investing advice and “Can you do better?” investing advice. General investing advice is keep costs low and buy index funds that closely approximate the global market portfolio. “Can you do better?” advice touches on things like value stocks, small-cap stocks, dividend stocks, momentum, low-beta, etc.
  • Asset protection. Being affluent means you have money, and other people will want it. Insurance, buying real estate with LLCs, homestead exemptions, and similar topics are are very complex but his take is condensed into less than a page each.
  • Tax minimization. IRAs, 401ks, Solo Pensions, 529 plans, Health Savings Accounts, etc.

Here are things you might expect from a “book for rich folks” but won’t find inside:

  • You won’t get in-depth, hand-holding walkthroughs of anything. Consider the book as a push in the right direction for researching ideas.
  • You won’t find his secret list of the best hedge fund managers.
  • You won’t find tips on how to get rich with real estate.
  • You won’t find advice on how to pick individual stocks like Warren Buffett.
  • You won’t find him selling his own personal advisory services.

A general problem with all books of this type is that the advice is pretty short and to the point, but it doesn’t provide very much supporting evidence. You’ll either have to do your own due diligence, or blindly decide to trust the author. I’ve read books where the author might sound convincing but their advice is horrible. In my opinion, I think for the most part the advice in this book is good. But I’m just another person on the internet, so again do your own research.

In conclusion, I think this book covers a lot of questions that are commonly asked by the intermediate individual investor. It’s not too long and not too short. Some of the advice won’t fit your own situation, but at this level if you just find one solid actionable idea that makes the entire $18 book worth it. I’m personally going to look into the solo defined-beneift plan idea again, although I may still be too young to take full advantage.

Vanguard High-Yield Corporate Bond Fund Review (VWEHX)

vanguardinvThe Vanguard High-Yield Corporate Bond Fund (VWEHX, VWEAX) is a low-cost, actively-managed bond fund that invests in medium- and lower-quality corporate bonds and is advised by Wellington Management Company. I don’t own any in my retirement portfolio, but while reading the book The Affluent Investor by Phil DeMuth, I was intrigued by this interesting tidbit:

If you have settled on buying them anyway, at least wait until the spread between treasury bonds and junk bonds of the same maturity is wide (say, 4 percentage points). The fund to own is Vanguard’s (ticker: VWEHX), which has a gimmick: it buys the highest rated junk bonds. Many institutional investors can only hold investment-grade bonds as a matter of policy, and they are forced to liquidate bonds that get downgraded even when it makes no sense to do so. Vanguard lies in wait to take advantage of their mistake. This is a hedge fund strategy in a bond fund wrapper.

(I should add that this is after the author warns you about the high-yield bond asset class in general, and how if you adjust the higher yields to account for higher defaults, the net advantage can be small or even zero. He also adds that high-yield “junk” bonds are also quite volatile and should be treated like equities.)

But going back to the quote, DeMuth is saying that this fund tries to take advantage of a specific market inefficiency. I’ve never seen this strategy mentioned in either any Vanguard materials or financial media coverage. I went back and took a closer look at their prospectuses and other investor documents.

I was aware that VWEHX tends to invest in the higher-quality portion of the junk spectrum. From the Product Summary on their website:

Created in 1978, this fund seeks to purchase what the advisor considers higher-rated junk bonds. This approach aims to capture consistent income and minimize defaults and principal loss.

From the Fund Prospectus (dated 5/28/14):

The Fund invests primarily in a diversified group of high-yielding, higher-risk corporate bonds—commonly known as “junk bonds”—with medium- and lower-range credit- quality ratings. The Fund invests at least 80% of its assets in corporate bonds that are rated below Baa by Moody’s […] The Fund may not invest more than 20% of its assets in any of the following, taken as a whole: bonds with credit ratings lower than B or the equivalent, convertible securities, preferred stocks, and fixed and floating rate loans of medium- to lower-range credit quality.

Digging further into the Prospectus, we find the following under the “Security Selection” heading:

Wellington Management Company, LLP (Wellington Management), advisor to the Fund, seeks to minimize the substantial investment risk posed by junk bonds, primarily through its use of solid credit research and broad diversification among issuers. […]

The Fund will only invest in bonds and loans that, at the time of initial investment, are rated Caa or higher by Moody‘s; have an equivalent rating by any other independent bond-rating agency; or, if unrated, are determined to be of comparable quality by the advisor. […]

Wellington Management selects bonds on a company-by-company basis, emphasizing fundamental research and a long-term investment horizon. The analysis focuses on the nature of a company’s business, its strategy, and the quality of its management. Based on this analysis, the advisor looks for companies whose prospects are stable or improving and whose bonds offer an attractive yield. Companies with improving prospects are normally more attractive because they offer better assurance of debt repayment and greater potential for capital appreciation. […]

To minimize credit risk, the Fund normally diversifies its holdings among debt of at least 100 separate issuers, representing many industries. As of January 31, 2014, the Fund held debt of 172 corporate issuers. This diversification should lessen the negative impact to the Fund of a particular issuer’s failure to pay either principal or interest.

Here’s a quick summary of the Moody’s Credit Rating hierarchy, per Wikipedia:

Investment Grade

  • Aaa – Highest quality and lowest credit risk.
  • Aa – High quality and very low credit risk.
  • A – Upper-medium grade and low credit risk.
  • Baa – Medium grade, with some speculative elements and moderate credit risk.

Below-Investment Grade (“Junk”)

  • Ba – Speculative elements and a significant credit risk.
  • B – Speculative and a high credit risk.
  • Caa -Poor quality and very high credit risk.
  • Ca – Highly speculative and with likelihood of being near or in default, but some possibility of recovering principal and interest.
  • C – Lowest quality, usually in default and low likelihood of recovering principal or interest.

From the Annual Report (dated 1/31/15):

This is the first time we are reporting the performance of the High-Yield Corporate Fund against its new benchmark composite index, which consists of 95% Barclays U.S. High-Yield Ba/B 2% Issuer Capped Index and 5% Barclays U.S. 1–5 Year Treasury Bond Index. As we mentioned when we made the change in November, we believe that the composite index is a better yardstick for the portfolio. It more closely reflects the portfolio’s longtime strategy of investing in higher-rated securities in the below-investment-grade category while maintaining some exposure to very liquid assets.

From Wellington Management Advisor Letter (part of Annual Report, dated 1/31/15)

The decline in commodity prices sparked a significant widening of high-yield bond spreads, and although the problems now affecting high-yield energy credits are justifiable, they are relatively isolated
to that industry. We are looking to take advantage of recent dislocations created by the sell-off in non-energy companies, where wider spreads are attractive and the credits are well-supported by strong fundamentals.

The fund remains consistent in its investment objective and strategy and maintains a significant exposure to relatively higher-rated companies in the high-yield market. We believe that these issuers have more consistent businesses and more predictable cash flows than those at the lower end of the spectrum. We prefer higher-rated credits in order to minimize defaults and provide stable income. We continue to diversify the fund’s holdings by issuer and industry and to de-emphasize non-cash-paying securities, preferred stock, and equity- linked securities (such as convertibles) because of their potential for volatility.

Costs and Fees

The expense ratio of the High-Yield Corporate Fund Investor Shares at 0.23% and Admiral Shares at 0.13% are very low in comparison to the peer group average of 1.11% for High-Yield Funds (calculated by Lipper). The fact that Vanguard itself runs at-cost and the fund advisor Wellington agrees to only takes a fee of 0.03% are quite impressive:

Wellington Management Company LLP provides investment advisory services to the fund for a fee calculated at an annual percentage rate of average net assets. For the year ended January 31, 2015, the investment advisory fee represented an effective annual rate of 0.03% of the fund’s average net assets.

In comparison, sometimes the creator of an index (like the S&P 500) will want a few basis points just for allowing a fund to follow their computer-generated list of companies. Wellington is pruning through thousands of often-illiquid bonds.

Portfolio Credit Quality

Here is the breakdown of the Vanguard High-Yield Corporate Bond Fund portfolio by credit rating as of 1/31/15. Remember that Baa and above is investment grade, so the vast majority (87%) of their holdings are indeed the top two rungs of the non-investment-grade spectrum. I assume that the 5% allocation to US government bonds is in case of an increase in fund redemptions.


I am neither recommending nor discouraging investment in this fund. There are many types of risk involved: credit risk, interest rate risk, liquidity risk, poor security selection risk. I was just intrigued by a quote in a book and wanted to dig into it further.

I have read through the prospectus and annual reports and pointed out all of what I saw were pertinent mentions of their investment and bond selection criteria. I didn’t find anything particular in Vanguard’s materials about picking bonds that have recently fallen from investment-grade to just below investment-grade, but such a strategy would certainly align with their historical portfolio and stated goals of holding the “best of the junk”.

If this is indeed a significant market inefficiency, I wonder why it still exists. Perhaps you can only do it with a very low expense ratio? I don’t believe there is any other actively-managed bond fund consisting of high-yield bonds that has such a low expense ratio; 0.13-0.23% is nearly as low as many index funds.

The low costs alone create a relative performance advantage for this fund. I chose not to emphasize past performance as that can be fleeting, but this fund’s past performance numbers also beats their Lipper peer group average over the last 1, 5, and 10 years.

Now, I do own shares of the Vanguard High-Yield Tax-Exempt Fund, which has a different advisor; Vanguard Fixed Income Group. I wonder if they do a similar thing there?

The Elements of Investing – Book Review (Updated Edition)


There are two major types of investing books for beginner investors: “Instructional to-do list” books basically tell you what you should do. “Inspirational big-picture” focus more on the philosophical reasons why you should do those things. Both can be equally important and useful.

The Elements of Investing: Easy Lessons for Every Investor by Burton G. Malkiel and Charles D. Ellis falls more into the former “list” category. Malkiel is a noted academic and wrote the classic bestseller A Random Walk Down Wall Street. Ellis is a former director of Vanguard Group and wrote the classic bestseller Winning the Loser’s Game.

Basically, two pillars of the investment world got together and tried to whittle down their 80 years of experience into 200 pages and roughly 2-3 hours of reading time. The pages aren’t even big, as the hardcover version is only 7 inches tall. You could read the entire thing in an afternoon or in snippets before going to bed within a week.

In opinion, they did a pretty good job. Topics are covered in a brief, straighforward manner. If you’ve read your share of personal finance material, none of it will be new to you, but they remain critically important. The key takeaways are clearly laid out and repeated over and over to drill them into your head. Things like:

  • Save regularly and never take on credit card debt (most important).
  • Utilize any available tax-advantaged plans like IRAs, 401ks, 403bs.
  • Keep a safe, liquid emergency fund.
  • Diversification, rebalancing, dollar-cost averaging, and low-cost indexing are the keys to investing success.

There are also a lot of little nuggets of wisdom in the book. My two favorite quotes:

The real purpose of saving is to empower you to keep your priorities—not to make you sacrifice. Your goal in saving is not to “squeeze orange juice from a turnip” or to make you feel deprived. Not at all! Your goal is to enable you to feel better and better about your life and the way you are living it by making your own best-for-you choices. Savings can give you an opportunity to take advantage of attractive future opportunities that are important to you.

As in so many human endeavors, the secrets to success are patience, persistence, and minimizing mistakes.

The updated 2013 edition of the book (original edition was 2009) includes some interesting (controversial?) suggestions for dealing with the current low-interest environment for bonds. Since the current yield for US Treasury bonds is so low, and thus the future expected return just as low, they offer up tax-exempt municipal bonds, emerging markets bonds, and even blue-chip dividend stocks.

It was sort of weird to be told “stay the course!” and then in the next chapter be told “here’s how to change course!”. I actually appreciate that they express their honest opinions, even if it appears to contradict passive-investing dogma. Jack Bogle himself does it from time to time. (I personally choose to hold muni bonds instead of US Treasuries as well.)

Bottom line: This investing primer would make a very good gift for a recent college graduate or young worker if they are ready to start getting serious about investing. If they aren’t, the book may be a bit dry. I will be adding it to my recommended books list, once I get around to updating it…

Beware of Mutual Funds That Artificially Juice Their Dividend Yield

juicingdividendsI like seeing my dividend income roll in each quarter, as do many other investors. But are mutual funds artificially “juicing” their reported dividend yields to attract investors? This is explored in a recent academic paper Juicing the Dividend Yield: Mutual Funds and the Demand for Dividends, which I found via Alpha Architect. Here is the abstract:

Some mutual funds purchase stocks before dividend payments to artificially increase their dividends, which we call “juicing.” Funds paid more than twice the dividends implied by their holdings in 7.4% of fund-years examined. Juicing is associated with larger inflows, and is more common among funds with unsophisticated investors. This behavior is consistent with an underlying investor demand for dividends, but is hard to explain by taxes or need for income, as funds can generate equivalent tax-free distributions by returning capital. Juicing is costly to investors through higher turnover and increased taxes of 0.57% to 1.52% of fund assets per year.

The problem with making extra trades to make your dividend yield look higher is that it is not tax-efficient. The increased turnover itself creates extra capital gains and trading costs. Also, when a funds buy a stock just before the ex-dividend date, then that dividend no longer qualifies for the lower dividend tax rate. I just ran across this problem last month when doing my taxes and looking at my qualified dividend income percentages. (I’m not saying that WisdomTree is not engaging in any “juicing” behaviors, it is very hard to actually calculate and there are other factors involved.)

Interestingly, the paper authors propose addressing that exact problem. Make it easier on investors and require funds to report their qualified dividend income percentages (emphasis mine):

One minimally intrusive regulatory change that could improve investor decision-making is to require funds to break out dividend income into qualified dividends (entitled to a reduced income tax rate, when the stock was held for 60 days or more) and non-qualified dividends (which pay the full income tax rate, for stocks held for less than 60 days) when reporting their distributions in filings such as annual reports. Such disclosure would not harm an investor that was already informed about juicing, but would ensure that investors had easy access to the information necessary to make an informed decision if they chose to do so.

Bottom line: Juicing exists and it hurts investors with higher turnover and higher tax bills, but it’s hard to know when by just looking at the usual mutual fund stats. Until then, be careful if you’re buying an actively-managed fund primarily due to their high dividend yield.

Benjamin Franklin and Compound Interest: “Money makes money. And the money that money makes, makes money”

bencompWe’ve all heard of the power of compound interest. We’ve all heard of Benjamin Franklin. But have you heard of the story where Ben Franklin let his money compound quietly for 200 years? Here’s an excerpt from the book The Elements of Investing:

Benjamin Franklin provides us with an actual rather than a hypothetical case. When Franklin died in 1790, he left a gift of $5,000 to each of his two favorite cities, Boston and Philadelphia. He stipulated that the money was to be invested and could be paid out at two specific dates, the first 100 years and the second 200 years after the date of the gift. After 100 years, each city was allowed to withdraw $500,000 for public works projects. After 200 years, in 1991, they received the balance—which had compounded to approximately $20 million for each city. Franklin’s example teaches all of us, in a dramatic way, the power of compounding. As Franklin himself liked to describe the benefits of compounding, “Money makes money. And the money that money makes, makes money”

Very neat. A bit of digging suggests it all started out as basically a dare. From a Philadelphia Inquirer article:

Benjamin Franklin, God love him, may have been the first Philadelphian with an addytood. How’s this for an in-your-face response?

In 1785 a French mathematician named Charles-Joseph Mathon de la Cour wrote a parody of Franklin’s Poor Richard called Fortunate Richard in which he mocked the unbearable spirit of American optimism represented by Franklin. The Frenchman wrote a piece about Fortunate Richard leaving a small sum of money in his will to be used only after it had collected interest for 500 years.

Fat chance someone would be dumb enough to try that. Ha. Ha.

Franklin, who was 79 years old at the time, wrote back to the Frenchman, thanking him for a great idea and telling him that he had decided to leave a bequest to his native Boston and his adopted Philadelphia of 1,000 pounds to each on the condition that it be placed in a fund that would gather interest over a period of 200 years.

The trusts for Philadelphia ended up a lot smaller than the trust for Boston, which many people assume is a result of poor management, but perhaps the lower returns were an acceptable result of Philadelphia following Franklin’s original instructions for the money:

“Boston has always prided itself that it compounded the money wisely. Philadelphia has always had an inferiority complex because it didn’t,” said Bruce Yenawine, a Syracuse University Ph.D. candidate in history who has spent years researching the Franklin funds in both cities. “But Boston decided to minimize risks and maximize proceeds. Philadelphia, on the other hand, focused on the other side of Franklin’s instructions by loaning the money to individuals. I think that’s more in keeping with what Franklin wanted.”

Franklin stipulated that the 1,000 pounds (the equivalent of $4,444) be invested and used to provide low-interest loans to “married tradesmen under the age of 26” to get them started in business. Over the 200-year life of the trust, money from the Philadelphia fund was loaned to hundreds of individuals, mostly for home mortgages during the last 50 years. Boston, meanwhile, invested the bulk of the money in a trust fund that Yenawine describes as “a savings company for the rich.”

This NY Times article suggests that the initial funds came from Franklin donating his own government salary:

The 2,000 [pounds sterling] Franklin set aside came from the salary he earned as Governor of Pennsylvania from 1785 to 1788. ”It was one of Franklin’s favorite notions, one he tried to get written into the Constitution, that public servants in a democracy should not be paid,” Mr. Bell said.

Relating this back to personal finance, here is another Elements of Investing excerpt relating a Ben Franklin quote and compound interest:

Think in terms of opportunity cost. Think of every dollar you spend as the amount it could grow into by the time you retire. Ben Franklin famously advised, “A penny saved is a penny earned.” He was right but not entirely right. The Rule of 72 shows why. If you save money and invest it at, say, a 7 percent average annual return, $1 saved today becomes $2 in about 10 years, $4 in 20 years, and $8 in 30 years, and so on and on, inevitably growing. So the dollar a young person spends on some nonessential today would mean that $10 or more will be given up in retirement.

Schwab Intelligent Portfolios: Sample Asset Allocations and ETF Holdings

schwablogoSchwab just sent me an e-mail with the subject “The wait is over. The future of investing is here.” That boast means their new automated portfolio advisory platform called Schwab Intelligent Portfolios (SIP) is now opening accounts, meeting their stated date of Q1 2015. Here are some highlights of this service:

  • Portfolio asset allocation will be decided using a 12-part questionnaire.
  • Portfolio will be constructed using ETFs, mostly from Schwab-managed market-weighted and fundamental-weighted index ETFs.
  • No advisory fees, no trading commissions, no account maintenance fees.
  • Accounts must maintain a minimum balance of $5,000 to be eligible for automatic rebalancing.
  • Tax loss harvesting is available on an opt-in basis for clients with invested assets of $50,000 or more.
  • Live support via phone or online chat, 24/7/365

You can do the questionnaire and see your proposed asset allocation without signing up for an account. Here’s a screenshot taken from the questionnaire tool (click to enlarge).


Here are some sample asset allocations that the website provided. I basically just made up two fictional people, so don’t assume these are the only options they give out. First up is “Conservative Cal”, who is 60 years old with plans to retire at 65 and can’t stomach too much volatility. The proposed breakdown for Conservative Cal was 37% stocks, 47% bonds, 2% commodities, and 14% cash. See screenshots below.



Next up is “Long-term Linda” who is 30 years old with a long time horizon and a healthy appetite for risk. The proposed breakdown for Long-term Linda was 77% stocks, 11% bonds, 5% commodities, and 7% cash. See screenshots below.



It doesn’t actually tell you the exact ETFs you will be investing in unless you continue and fill out an application, but you can bet that most of them will be Schwab market-cap ETFs and Schwab fundamental ETFs. Also keep in mind that there will be “alternate” ETFs for each asset class to be used for tax-loss harvesting.

For example, here’s the likely primary ETF line-up for the stock portion:

US Large = Schwab U.S. Large-Cap ETF (SCHX)
US Large Fundamental = Schwab Fundamental U.S. Large Company Index ETF (FNDX)
US Small = Schwab U.S. Small-Cap ETF (SCHA)
US Small Fundamental = Schwab Fundamental U.S. Small Company Index ETF (FNDA)
International Developed Large = Schwab International Equity ETF (SCHF)
International Developed Large Fundamental = Schwab Fundamental International Large Company Index ETF (FNDF)
International Developed Small = Schwab International Small-Cap Equity ETF (SCHC)
International Developed Small Fundamental = Schwab Fundamental International Small Company Index ETF (FNDC)
International Emerging Markets = Schwab Emerging Markets Equity ETF (SCHE)
International Emerging Markets Fundamental = Schwab Fundamental Emerging Markets Large Company Index ETF (FNDE)
International REITs = Vanguard Global ex-US Real Estate ETF (VNQI)

SIP is a direct competitor to Vanguard’s Personal Advisor Services (VPAS) which has a lower average overall expense ratio on their suggested portfolios, but also charges a 0.30% advisory fee. Schwab’s overall average expense ratios on their suggested portfolios are higher, but charges no advisory fee. Schwab then goes as far as to guarantee that the total amount paid to ETF OneSource affiliates and Schwab ETF management fees will not exceed a 0.30% fee.

So Schwab admits that there is some extra profit baked into the program due to their more expensive fundamentally-weighted ETFs and such, but it should still be cheaper than Vanguard after all is said and done. Very interesting.

This is not my full review, as I haven’t decided if I should open a test account (superfluous trades get annoying at tax time). Although I will likely have my criticisms, I am still glad to see it finally roll out because I think Vanguard and others need the competitive pressure to keep improving their own low-cost advised portfolio platforms. A lot of people out there don’t need a full-service human advisor, but could still benefit from having occasional investment guidance available to them at a minimal cost.

Barron’s Best Online Stock Brokerage Rankings 2015

barrons2015Weekly business newspaper Barron’s just released their 2015 annual broker survey rankings. Here’s a snippet that helps explain their perspective and readership (emphasis mine):

To pinpoint 2015’s top brokers, we analyzed not just their security, mobility, and social media features but the depth of their investment tools and their trading capabilities. Our primary consideration in judging these 18 firms is how they work for our readers, who are high-net-worth active investors. Customization, especially of reports, is a particular focus, as is the ability to move smoothly from idea generation to a trade ticket.

Their overall winner was again Interactive Brokers, a broker designed for more advanced traders with an extensive feature set, low commissions, and low margin rates. Note that they have a minimum opening balance of $10,000 ($3,000 if age 25 and younger) and a minimum monthly fee of $10 even if you don’t trade at all (waived at $100,000+ equity balance). If you rack up those trades every month, this is the place to be.

Barron’s defines an “occasional trader” as someone who averages 6 stock trades and 2 options trade per month. A “frequent trader” makes 100 stocks trades a month, 100 option trades a month, and carries $30,000 in margin debt. I am not active enough to even be called an “occasional trader”, but I still like having a clean user interface, relatively low commissions, no maintenance fees, and helpful customer service when I need it. Thankfully, Barron’s again ranked the brokers for these folks as well:

Top 5 Brokers for Novice Investors

  1. TD Ameritrade. Performed well in customer service & education, research tools, and mobile offerings. Improved desktop site and mobile apps integration. Free real-time quotes from NYSE, AMEX, and NASDAQ Level 1 and 2.
  2. Fidelity
  3. E-Trade
  4. Capital One Sharebuilder
  5. Merrill Edge

Top 5 Brokers for Long-Term Investing

  1. TD Ameritrade. The only broker to provide a wide range of commission-free ETFs from various providers based on popularity instead of in-house ETFs or paid placement).
  2. Fidelity
  3. Charles Schwab
  4. Merrill Edge
  5. E-Trade

Top 5 Brokers for In-Person Service

  1. Scottrade. Scottrade has over 500 physical branches across US, so that when you call you reach a human in that local branch. Free in-person educational seminars are offered as well.
  2. Merrill Edge
  3. Charles Schwab
  4. Fidelity
  5. TD Ameritrade

I would note that due to their active trader readership, most of Barron’s rankings don’t really consider the benefits of any commission-free ETFs that a broker like Fidelity or TD Ameritrade might offer. Perhaps their “long-term investing” ranking takes this factor into account. Vanguard’s brokerage arm is not included in the review. Also not included are automated brokers like Betterment or Wealthfront and other specialized brokers like Motif Investing.

Newcomer Robinhood and their free trades were mentioned in passing, but basically dismissed with skeptical quotes like “There’s no such thing as a free lunch […] They will make their money one way or another” and “A “free” trade could cost quite a bit if the broker is relying on payment for order flow rather than trying to create price improvement opportunities.” I still think Robinhood will eventually be bought out by one of these big brokers for their mobile-first design and young client base.