Indexfundfan's blog

Gone to Wordpress

2006-07-12T15:05:00.000-07:00

I have exported this blog to indexfundfan.wordpress.com. No additional comments may be added here. PS. Special thanks to choozm for the detailed introduction to Wordpress.

Latest discount brokerage

2006-07-11T10:22:00.000-07:00

The latest discount brokerage (as reported on this FW thread) is Sogoinvest.com. They have a few pricing models, some of which include subscription fees. From what I could gather from their website, the bottomline is that for the plan without subscription nor inactivity fees, you only pay $3 per trade (market or limit), for up to 5000 shares. One of the feature is that they support automated dollar-based investing -- which could be useful for those applying DCA with their ETF investments.

Overall, this is not a bad deal, and is probably better than the previous Izone-Seattle offer of $3/trade with $50 annual fee. Obviously, this assumes that all other references checks out OK.

Is buying gold (metal) speculation?

2006-07-09T17:16:00.000-07:00

The rise in gold prices led many people, including some "financial advisors", to think that putting money in investment vehicles that bet purely on price of gold is a good strategy. This is evidenced by the return of the popular gold savings account and the introduction of gold ETFs like GLD and IAU.

In my opinion, investors should exercise caution and take a serious look at the following figure derived from the book "Stocks for the long run" by Prof. Siegel.

Larry Swedroe puts it this way:

1. Any commodity is bad investment IMO -- (since there is) no expected real return .

2. Equities however must have an expected return to compensate for the risks, so if you are going to invest in gold IMO the way to do it is NOT to buy gold itself but to instead by gold mining stocks (which of course now involves equity risks, but at least there is compensated risk being taken).

My conclusion? Buying gold looks like speculation to me.

Portfolio return for June 2006

2006-07-04T09:13:00.000-07:00

Despite a poor start to June, my portfolio managed to eke out a small gain of 0.15% in the month, after the markets recovered in the last few trading days of the second quarter. The month's asset movements in my portfolio are as follows:

Net outflows : US L, REIT, Healthcare.
Net inflows: US S, EAFE L, EAFE S, Emerging Mkt, PME.

Most of the outflows came from US L and REIT, and they went mostly into emerging market equities. These movements are to bring the portfolio back into balance. In this month, I also completed my tax-harvesting of the emerging market equity position by using EEM in the interim for VWO.

My updated asset allocation chart is shown below:

Acid test for investors

2006-06-26T12:58:00.000-07:00

The recent 'small' correction in the equities market is a good acid test on the suitability of an investor's investment plan. Which of the following options did you take in June?

a) I have trouble sleeping and cannot stand my portfolio's volatility. I sold out all my equity funds for cash. Being able to sleep is more important to me and I consider the loss a small price to pay for my lesson.

b) I am very excited with the sale in the equities market and invested a lot more! My original equity to fixed income target was 70% : 30%. Now it has become 75% : 25%.

c) I stuck to my plan. I re-balanced out of fixed income to equity but only to the extend as to keep my equity to fixed income ratio consistent with my investment plan.

If you choose a), it is a sign that your original investment plan was way too aggressive, and if you have chosen b), you probably have a risk appetite that is greater than what you have chosen for your original investment plan (rare case I would say).

But, if you have stuck to your plan, I would say congratulations to you for a well-formulated investment plan and good financial discipline!

Gold Miners ETF

2006-06-24T18:01:00.000-07:00

I have been watching the Gold Miners ETF (GDX, ER 0.55%) with interest since it started trading a few weeks ago. It appears to track fairly closely with the Vanguard Precious Metals and Mining fund (VGPMX, ER 0.4%) and has a respectable trading volume.

I think this would be a good substitute fund in a taxable account for the VGPMX fund in my tax-deferred account. It could also be used for tax harvesting purposes -- if there is another huge run-up in precious metal equity, I would sell off some of my VGPMX allocation in my tax-deferred account and purchase the equivalent amount of GDX in my taxable account. Later, if/when this sector corrects, I would then be able to sell off GDX at a loss, harvesting a tax benefit, and at the same time purchase back VGPMX in the tax-deferred account.

Hmm, sounds like a plan...

International Real Estate added

2006-06-24T17:29:00.000-07:00

I added international REITs into my portfolio in June 2006. Several articles have mentioned the added diversification benefits of having international REITs as opposed to just having domestic REITs. A recent post on the Diehards forum also discussed this. In addition, it appears that there are certain tax advantages to holding international REITs in a taxable account (due to the foreign-tax credit).

There are not many international real estate funds to choose from, and there is none from Vanguard. The fund I selected was the Alpine International Real Estate equity fund (EGLRX). This fund has about 40% allocation in Europe, 30% in Asia, 28% in North America and 2% in Latin America. The expense ratio of this fund is 1.18%.

Currently, I am targetting this fund to have a 1:3 ratio of my overall REIT allocation, i.e. 1 part of international REIT (ELGRX) to 3 parts of domestic REIT (VGSIX). The new allocation will be reached by re-allocating my VGSIX assets to EGLRX in the next few months.

WisdomTree International Small Cap ETF

2006-06-24T17:11:00.000-07:00

The WisdomTree International SmallCap ETF (DLS) has started trading. Since Vanguard's international smallcap fund (VINEX) is currently closed, this might be a viable international smallcap option. However, the trading volume is currently very low. Here is the related Vanguard Diehard discussion.

Portfolio return for May 2006

2006-06-01T13:05:00.000-07:00

Stocks are on sale! Emerging markets equities had quite a tumble in May. In accordance with my investment allocation plan, more money was rebalanced into emerging market equities.

The portfolio return of -3.31% in May lags the benchmark of -2.51%, but on the YTD basis, is still ahead of the benchmark.

Are you overinvested in emerging markets?

2006-05-22T16:46:00.000-07:00

Emerging markets retreated with a vengence in recent weeks, much to the dismay of many new emerging market investors:

NEW YORK, May 22 (Reuters) - Major Latin American stock, bond and currencies plummeted on Monday, and stocks were on their way to post their biggest one-day drops in two years, as investors stampeded out of emerging markets worldwide fearing higher interest rates and slumping commodity prices.

The decline followed earlier slumps in Europe and Asia. Turkey's stock market <.XU100> fell 7 percent, and the Indian bourse <.BSESN> fell 10 percent, prompting a one-hour suspension tradimg suspension.

The Indian bourse closed nearly 4 percent down, at a 10-week low. Hong Kong stocks closed off about 3 percent <.HSI> showing their biggest fall in two years.

In Moscow, Russian shares crashed Monday in their biggest one-day percentage slide since 2003, forcing the MICEX exchange to suspend trading after its main index <.MCX> fell by 11 percent. That accelerated a nine-day selloff which has sliced over a quarter off the value of Russian stocks.

The sad part is that many of these investors only recently decided "to diversify into emerging markets", having been enticed by the many emerging market funds' recent performance numbers.

The ones that really believe that emerging market equties would add to their portfolio diversification would stay the course and continue to DCA according to their asset allocation plan. However, I believe we will see a fair number of them running for the exits very soon.

Easy allocator

2006-05-03T10:48:00.000-07:00

Easy Allocator is an interesting tool created by Diehard Nick (yobria) for performing asset allocation planning. It includes the following asset classes: commodities, foreign bonds, REIT, overweight value/small, micro-cap stock, equal weight Europe/Pacific/Emerging markets, equal weight Pacific rim and foreign small-cap. The popular portfolios like the Coffeehouse, Bernstein-4 and the Couch Potato are included as well. It even includes a forecast of portfolio performance. Try it!

Portfolio return for April 2006

2006-05-03T10:35:00.000-07:00

April 2006 has been another good month. My portfolio of 70% equity / 30% fixed income returned 1.92%. Overall, the portfolio YTD return is 8.81%. What's particularly strong this month included EAFE large-cap, EAFE small-cap, emerging markets and precious metals / resources equity.

Resource for withdrawal strategies

2006-04-23T11:21:00.000-07:00

The following link is a good resource for withdrawal strategies and considerations. As Taylor puts it, it is a wonderful resource for anyone faced with the problem

"How much can I spend without running out of money?"

Coin inflation

2006-04-20T10:06:00.000-07:00

The price of commodities have risen sharply over the past few years. As we know, coins circulated through the ages have been made from various base metals such as copper, zinc and nickel. Cheaper metals are used to mint new coins as the intrinsic value of the old coins start to exceed their nominal values.

The website www.coinflation.com gave some interesting information for this trend. According to the website, the quarter issued from 1932 to 1964 is now worth $2.63, more than 10 times its nominal value. More recently, the 1959-1982 one-cent coin is worth about two cents at today's copper prices. I guess people might start to horde the more valuable coins if metal prices continue to rise.

Prepay mortgage or invest the money

2006-04-19T10:03:00.000-07:00

Many investors juggle with mortgage payments as well as making regular contributions to their investment accounts. The question that sometimes come up is whether does it makes sense to prepay (i.e. make additional payments) the mortgage or invest the money.

Larry posted (49553) a paper that discusses the advantages and disadvantages of prepaying mortgage payments versus investing the money in tax-deferred accounts. Here's the abstract:

We show that a significant number of households can perform a tax arbitrage by cutting back on their additional mortgage payments and increasing their contributions to tax-deferred accounts (TDA). Using data from the three latest Surveys of Consumer Finances, we show that more than 45% of U.S. households that are accelerating their mortgage payments instead of saving in tax-deferred accounts are making the wrong choice. For these households, reallocating their savings can yield a mean tax benefit of 11 to 17 cents per dollar, depending on the choice of investment assets in the TDA. In the aggregate, these mis-allocated savings are costing U.S. households as much as 1.7 billion dollars per year. Finally, we show empirically that this inefficient behavior is unlikely to be driven by liquidity or other constraints, and that self-reported debt aversion and risk aversion variables explain to some extent the household preference for paying off their debt obligations early and hence their propensity to forgo our proposed tax arbitrage.

Benefits of DCA: Forget cost savings, think risk reduction

2006-04-16T21:35:00.000-07:00

Many investors are familiar with the concept of DCA (dollar-cost averaging) and this technique is sometimes said to offer cost savings (i.e. lowering the cost basis of the investments).

The paper Lifetime Dollar-Cost Averaging: Forget Cost Savings, Think Risk Reduction by Robert Dubil in the FP Journal however argues that

... the cost benefit of dollar-cost averaging (DCA) is dubious, since one cannot predict the path of prices. But, the risk-reduction benefit of DCA is real: averaging over time is akin to buying less-than-perfectly correlated assets. This produces a lower volatility of the terminal value of the investment -- that is, a more certain outcome.

The figure below shows the volatility reduction (according to the author) due to averaging:

Contango and backwardation

2006-04-13T12:56:00.000-07:00

Investors interested in commodity futures investments should at least have some understanding of the concept of contango and backwardation. This article from Smartmoney tries to explain this with reference to the newly listed crude oil ETF.

Jack Bogle's portfolio

2006-04-12T08:44:00.000-07:00

Sue Stevens talks to John (Jack) Bogle about his portfolio in a recent article on Morningstar.

Jack's portfolio is approximately 60% fixed income, 40% equity. The funds are

Equity
VG Total stock market index
VG 500 index
VG Extended market index
VG Explorer
VG Windsor

Fixed income
VG Intermediate bond index
VG Inflation-protected securities
VG Limited-term tax-exempt

Balanced fund (legacy)
VG Wellington
VG Wellesley

A few final words from Jack: "In all, my portfolio could have well been designed by any serious Boglehead. Sure, I may be too conservative, but that's who I am and always have been. But I know--I know!--that whatever returns the stock and bond markets are kind enough to deliver in the uncertain, risk-laden era ahead, I'll earn my fair share. That's good enough for me. So I shall 'press on, regardless,' and "stay the course!'. No surprises there."

Crude oil ETF starts trading

2006-04-10T14:15:00.000-07:00

The first crude oil-based ETF (ticker USO) started trading today on the American Exchange. This ETF is designed to track the price of U.S. benchmark crude oil and would probably become a hot favorite among "black-gold bugs".

The figure shows the trading action for this first day. A substantial 3.8 million shares were traded.

Disclosure of conflict of interest

2006-04-08T19:34:00.000-07:00

When the client is ill-informed about certain products, does disclosure of conflict of interest by the advisor help? This paper, in the Journal of Legal Studies, has an interesting viewpoint, arguing that disclosure can have perverse effects instead. I think this is because the disclosure lulls the clients into thinking that they are in good hands and reduce their guard as a result.

The Dirt on Coming Clean: Perverse Effects of Disclosing Conflicts of Interest

Abstract: Conflicts of interest can lead experts to give biased advice. While disclosure has been proposed as a potential solution to this, we show that disclosure can have perverse effects, and might even increase bias. Disclosure may increase bias because advisors feel morally licensed and strategically encouraged to exaggerate their advice even further from the truth. As for those receiving the advice, proper use of the disclosure depends on understanding how the conflict of interest biased the advice and how that advice impacted them. Because people lack this understanding, disclosure can fail to solve the problems created by conflicts of interest.

The yield curve and predicting recessions

2006-04-07T11:33:00.000-07:00

Interesting paper by Jonathan Wright that studies the use of the slope of the Treasury yield curve as a leading economic indicator, with inversion of the curve being thought of as a harbinger of a recession. He considers a number of probit models using the yield curve to forecast recessions. The paper concludes that

Consistent with recent work by Ang, Piazzesi, and Wei (2005) on forecasting growth, I have found that there is more information in the shape of the yield curve about the likely odds of a recession than that provided by the term spread alone. Probit models forecasting recessions that use both the level of the federal funds rate and the term spread give better in-sample fit, and better out-of-sample predictive performance, than models with the term spread alone.

Link HERE.

Inventer of index investing

2006-04-06T19:32:00.000-07:00

From a post (49359) on the Diehards forum, according to DFA, Rex A. Sinquefield was the inventor of index investing. Here is the link to the DFA article.

Vanguard Diehards' discussion on Prosper.com

2006-04-05T21:10:00.000-07:00

The Vanguard Diehards have been known to be among the most investment-savvy group of people on the internet. Recently, a discussion on Prosper.com was started. The group's opinion seems to be that it is probably OK as a borrower but most would not touch the lender's side with a 10-foot pole. Post 18 sums it all:

Let me get this straight. I loan money to a bunch of people who have had financial problems, mostly from borrowing too much money, and hope they will pay me an outrageous interest rate and my loan back.

I would(n't) touch that with someone else's 10 foot pole.

Link (49322) HERE.

Selecting superior mutual fund performance

2006-04-04T10:30:00.000-07:00

A recent paper in the FPA Journal studies "The difficulty of selecting superior mutual fund performance". The study attempts to quantify the relative performance of actively managed large- and mid-cap funds during a 20 years period (11 10-year rolling perfiods). The conclusions are similar to what studies have already shown:

During the study period, most actively managed large- and mid-cap mutual funds underperformed their respective passive strategies. While every period under review had mutual funds that outperformed the passive strategy, few funds did so consistently.
Furthermore, predicting in advance which mutual funds would outperform was difficult, if not impossible, and the cost of selecting the "wrong" manager was high. These factors combined demonstrate the difficulty for financial planners to select superior performance.

The two tables below show the under-performance of the actively managed large- and mid-cap funds in the study.

Goodbye EE-bonds

2006-04-03T17:49:00.000-07:00

I submitted the sale of the last batch of EE savings bonds on Sunday from the TreasuryDirect website. TreasuryDirect is really efficient as the money was already credited into my Presidential checking account when I checked on Monday morning.

These EE savings bonds were bought at a time when TreasuryDirect still allowed the use of credit card purchases and they earned me quite some handsome credit card cashback at that time (I believed it was 1.5% on my American Express Costco card). However, recently, the California tax-exempt bond fund yields have become too attractive to ignore, and I no longer find it worthwhile to hold on to the EE savings bonds. I therefore decided to cash them out and will be consolidating the money into a mixture of the California intermediate-term and long-term tax-exempt bond funds at Vanguard. Consolidating the money with Vanguard would also hopefully help me to qualify for Flagship sooner.

Value averaging

2006-04-03T16:56:00.000-07:00

The topic of value averaging came up again (49263) on the Diehards forum. From Marshall's Spring 2000 paper "A STATISTICAL COMPARISON OF VALUE AVERAGING VS. DOLLAR COST AVERAGING AND RANDOM INVESTMENT TECHNIQUES":

According to Edleson [3], the idea behind VA is simple. The investor sets a predetermined worth of the portfolio in each future time period, as a function of the size of the initial investment, the size of periodic investments and the yield expected. The investor then buys or sells sufficient "shares" or units of the investment such that the predetermined portfolio worth is achieved at each revaluation point.

Here's the conclusion of the paper:

Results strongly suggest, believe it or not, that value averaging does actually provide a performance advantage over dollar-cost averaging and random investment techniques, without incurring additional risk.

Portfolio return for March 2006

2006-04-03T10:34:00.000-07:00

March 2006 had been another reasonably good month for my 70%/30% (equity/fixed income) portfolio. The return was 2.07%, bringing my year-to-date portfolio return to 6.76%.

The two closest Vanguard funds that match my portfolio are the LifeStrategy Moderate Growth fund, target 60% equity/40% fixed income, and the LifeStrategy Growth fund, target 80% equity/20% fixed income.

The first fund returned 0.95% in March and 3.63% year-to-date, and the second fund returned 1.61% in March and 5.05% year-to-date. A spliced version (50:50) that matches my 70%/30% allocation portfolio would have returned 1.28% in March and 4.34% year-to-date.

Rebalancing (without tax considerations)

2006-03-31T14:18:00.000-08:00

A recent paper "Rebalancing for Tax-Deferred Accounts: Just Do It, Don't Worry How" in the FPA Journal discusses 21 different technique of re-balancing and tries to quantify which technique is better. According to the authors, it turns out that,

... given our assumptions, none of the techniques tested here are clearly superior when evaluated solely on the basis of average risk and return. The decision to employ one technique over another should ultimately be driven by how closely you want to adhere to the strategic targets that have been established for your client.

The authors' conclusion was "Just do it, don't worry how".

Perfect market timer?

2006-03-31T12:09:00.000-08:00

We all know that holding stocks for the long run is the recipe for wealth accumulation. According to MIT Professor Andrew Lo, $1 invested in the S&P 500 index on 1/1/1926 would have grown to about $4000 by the end of 2005. Not bad considering that $1 invested in the aggregate bond market over the same period would have only grown to $18.

However, for a "perfect market timer" who knows precisely when to sell and when to buy, this perfect timer would have grown the $1 to $23 billion. Now we know why market timing remains a popular sport among investors and speculators alike.

Source: April 2006 issue of Fund Alarm.

End of bond yield curve inversion?

2006-03-30T08:32:00.000-08:00

With the most recent Federal Reserve target rate hike to 4.75% on 3/28, the yields of longer-term bonds are finally moving up. As of this moment, it sure looks like the percularity of the inverted bond yield curve is ending.

Investment guide

2006-03-29T14:39:00.000-08:00

Taylor posted (49073) a link to yet another great online book. According to Paul K, author of the online book "Investment Guide", the book was written to help an investor to

Implement the five essentials of investing,
Understand and manage risk,
Evaluate and select mutual funds,
Recognize and control the devastating effects of cost,
Develop and write an Investment Policy Statement,
Evaluate and choose an Investment Advisor, and
Locate a large collection of reference material.

TIPS are getting attractive

2006-03-28T17:41:00.000-08:00

According to data posted HERE, the real yields of TIPS are getting attractive

Date	5 yr	7 yr	10 yr	20 yr*

03/28/06

2.22%

2.25%

2.30%

2.28%

Larry posted a note (49100) on the Diehards website about this today. The upcoming treasury auctions on April 10 (10-yr TIPS) and April 20 (5-yr TIPS) might be good opportunities to get some nice yielding TIPS.

Do you Prosper?

2006-03-28T07:53:00.000-08:00

I loaned out $200 as a test of the Prosper system before deciding whether to commit more money. To date, however, I am quite disappointed with the system. From my experience, I found a long overhead waiting time before your money can be loaned out and before payment can be collected and deposited back into your bank.

The following is my experience:

1) Funding of the account. The money disappeared from my linked bank account on the morning of 2/15 but appeared in the Prosper system for use more than two full days later on the evening of 2/17. I lost 2 days of float of my money.

2) I funded two loans which were closed on 2/18 but for whatever reason, the origination date was delayed to 2/22. I lost another 4 days of float of my money here.

3) The borrower made a payment on 3/22 but the money was only available on 3/28. Six days are lost here.

4) You need to have $25 before you can transfer out any payment. If your loan payments are too small, sorry, they cannot be transferred out.

Bummer. I can't transfer out the loan payment because the amount is too small.

5) When you have finally accumulated $25 of payment, it again will take a few days for the money to make it to your bank after you submit a request at Prosper. I estimate I will lose another 3 days of float.

I am sure glad that I tried out the system with only $200. On hindsight, I should never have signed up with Prosper at all. Until Prosper can positively address the above concerns, I will pull out the money at the first opportunity. (But alas, the loans are all for three years unless the borrower decides to pay up early).

Conclusion? With the long delays associated with funding and loan payment, Prosper seems to be skewed against the lender.

EDIT 04/05/06: See also Vanguard Diehards' discussion HERE.

Cognitive Reflection Test

2006-03-28T00:21:00.000-08:00

I found the following three questions from an article in the April 2006 issue of Smartmoney rather interesting:

1) A bat and a ball cost $1.10 in total. The bat costs $1 more than the ball. How much does the ball cost?

2) If it takes five machines five minutes to make five widgets, how long would it take 100 machines to make 100 widgets?

3) In a lake, there is a patch of lily pads. Every day, the patch doubles in size. If it takes 48 days for the patch to cover the entire lake, how long would it take for the patch to cover half the lake?

Each question has an intuitive -- but wrong -- answer. See if you are 'tricked' by your intuition. ;-)

PS. The answers are given in the Comments.

Fidelity 529 college rewards credit card

2006-03-27T22:16:00.000-08:00

I received the Fidelity 529 college rewards credit card earlier this month. I think for parents setting up a 529 College Plan, this credit card offers a fantastic deal and it is one of the rare credit cards that gives you 2% back on practically anything you charge to the card. In addition, it also offers you online Bill Payment service which lets you pay many merchants including even your mortgage or electric bill, companies that traditionally do not accept credit cards. Although for these payments no reward points are earned, you can still benefit by enjoying the additional float on the money that you otherwise would have to pay earlier.

I just hope that MBNA would not pull the plug on this card after the recent merger with Bank of America.

Should I add commodities to my portfolio?

2006-03-27T21:47:00.000-08:00

The big debate of the benefits of adding CCF (collateralized commodities futures) funds to a portfolio continues on the Diehards forum (48981). As for myself, I had previously bought PCRIX as part of my Precious Metal / Commodity asset class allocation but decided to eliminate it due to difficulties in re-balancing and performing DCA (PCRIX is a transaction-fee fund at VBS). I replaced it with VGPMX instead.

The new ETF DBC sounds interesting but I would defer any consideration until the expense ratio is lowered to at least below 0.8%.

International money transfer options

2006-03-27T21:35:00.000-08:00

I have been looking at various international money transfer options. The following three looks interesting:

www.customhouse.com
www.orderwires.com
www.xe.com

Xe seems to be using the transfer services of Custom House and I came across OrderWires from a Google Ad. Another option is to use Citibank's online international wire service at $30 a pop.

Recently, Washington Mutual introduced a FREE checking account that is supposed to provide FREE domestic and international wire services. That might be another viable cheap option.

Asset class returns 1927 - 2005

2006-03-27T19:04:00.000-08:00

Vanguard Diehard enels today posted (49075) a link to asset classes returns from 1927 to 2005. This is a valuable resource for any future use when I might want to run various portfolio return/risk scenarios. I am saving a copy of the file.

Here is the link -- http://www.tamasset.com/Site/TAM.html

My portfolio allocation

2006-03-27T18:14:00.000-08:00

Recently, I generated an interesting chart showing how my asset allocation has evolved since 2002. I started out with a 100% equity allocation, being modelled along Larry Swedroe's two parts of "value" equity to one part of "blend", and with roughly equal allocations to US large-cap, US small-cap and International equities. Subsequently, I added REIT, emerging markets and precious metal equity asset classes. These asset classes proved to be life-savers for my portfolio. I have also abandoned the 2:1 value to blend ratio to simplify matters and to reduce the number of funds I need to hold.

My current target allocation is 70% equity and 30% fixed income, with the following breakdown:

US large cap 20%
US small cap 10%
EAFE large cap 10%
EAFE small cap 5%
Emerging markets 10%
REIT 5%
Precious metal equity 5%
Healthcare 5%
Fixed income 30%

I also used to have about 5% allocation to energy and individual stocks. But with the huge run-up in energy prices last year, I decided to close out the allocation and re-allocate the money. These go mostly into the now enlarged emerging market equity allocation.