Quick Reality Check - Simple Asset Allocation

Andy R

Andy R

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So a long time ago I decided to use Scott Burn's AssetBuilder as my RIA to get access to Dimensional Funds. In hindsight, I should have just copied one of his couch potato allocations and used Vanguard funds.

About 5 years ago I got smart (or so I thought) and decided to terminate AssetBuilder as my RIA and self-manage my portfolio. As time passed, I was busy and I never rebalanced my portfolio. Now my portfolio is all out of whack and I want to clean things up.

I'm thinking of going with a very simple three fund portfolio:
- Vanguard Total Stock Market
- Vanguard Total International
- Vanguard Total Bond Market

I have about 25% of my assets in a 401k, the rest is in a taxable account. I was planning to put the total bond market fund in my 401k and set the option to reinvest dividends and reinvest capital gains. I read this is smart because those dividends can be taxable if they were earned in my taxable account.

I was then going to put the total stock and total international in my taxable account. I plan to buy and hold these for a long time, I don't day trade.

I'm just looking for a really simple solution that I don't need to check in on for 5-10 years. Does this sound like a reasonable approach? Should I consider a target retirement date fund where the allocation will change a little over time as the target date gets closer?

Which assets should I put in my 401k vs my taxable account? Does it make sense to put my total market bonds in there as described above? Historically I always thought you put equities into the 401k so if you bought and sold you would not trigger long-term capital gains. I see the logic to put in dividend distributing assets too. Will I be bummed later when it's time to take distributions if I do one or the other?

Thanks in advance for your advice/input.

Andy
 
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I just use the Vanguard Target 20xx funds in all my locations (ie after-tax / Roth / traditional IRA). Since they are balanced funds I have no need to worry about them.

Some will say I could get a bit more tax efficiency by not using balanced funds, but the savings could end up being small if emotion or life gets in the way of proper balancing.

I sleep a lot better these days after switching to this strategy in 2012 or so.

-gauss
 
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What is your target AA? What you described is 75/25. If 75/25 is ok then I like your plan... fixed income in tax-deferred and equities in taxable.

Within the 75% equities, how would you split between Total Stock and Total International Stock?

If you are in the 12% tax bracket or lower qualified dividends and LTCG on your taxable account equities would be tax-free (0%).
 
I was thinking:
25% fixed
75% equities

I'm not in the bottom tax brackets.

I do like the target date fund idea. It sure is easy and I don't have to deal with any balancing between US/International.

Too many options...
 
Are you sitting on a lot of capital gains, OP? I did the same as you and back burnered my taxable portfolio. I want to move out of individual stocks and into indexed ETFs (total domestic and total international) but I have A LOT of capital gains. I'm in the process of looking for a tax consultant.
 
Long term capital gains are taxed at a lower rate but bond income is at 100% so there is some benefit there to have equities in the taxable. I personally like to have some equities in my sheltered accounts so I can allocate away from equities as needed with no tax at that time. It is a bit more complicated but there are benefits to split things up that way.
 
Andy R said:
I'm just looking for a really simple solution that I don't need to check in on for 5-10 years. Does this sound like a reasonable approach? Should I consider a target retirement date fund where the allocation will change a little over time as the target date gets closer?
Click to expand...
Much of the benefit of having multiple asset classes comes from rebalancing. If you aren't sure you'll be doing that, consider a balanced fund option. In addition to the Target Fund, Vanguard has a the Global Wellington Fund, which is a (relatively) new version of it's very successful and popular Wellington. The equity share is around 66%, if you prefer an overall equity allocation of 75%, you could put around 3/4 in Wellington and 1/4 in the US or Int'l stock index fund.
 
This week a new book comes out, “The 3 Fund Portfolio” by the main Boglehead, Taylor Larrimore. It relies on the three exact funds in the OP. I’ve had it pre-ordered for months and am looking forward.
 
Andy R said:
I'm thinking of going with a very simple three fund portfolio:
- Vanguard Total Stock Market
- Vanguard Total International
- Vanguard Total Bond Market
Click to expand...

I have all my IRA in a single Vanguard VBIAX index fund for a 60/40 mix. I looked at their individual Stock and Bond index funds and the historical performance was exactly the same for a 60/40 mix (I guess they use the same indexes). The only reason I can see choosing the individual index funds is if you want a different asset allocation.
 
Even though the rule of thumb is stocks in taxable, fixed in tax-advantaged, it may make sense to keep a little of your equity allocation in tax-advantaged. That way you can use your tax-advantaged account for rebalancing in the future without any CG considerations. Even though I'm philosophically a 3 fund guy, i use a 4th fund, Vanguard Total World Stock Index (VTWSX), as the equity fund in my IRAs. That way I've got both domestic and international covered without having two separate (and relatively small) equity funds there.
 
Why not Vanguard Total World Stock Index Fund (VTWSX) for equities? That's what we did. Buys you basically everything; all sectors, all countries, etc. Fire and forget except for equity/fixed rebalancing once in a while.

On the fixed side we have TIPS and, for liquidity, 5% in SAMBX.

Rebalancing every year or two in calm markets is IMO enough. If you look at historical performance, 60/40, 50/50, and 40/60 really haven't performed much differently and looking forward none of us know what the exact optimum recipe is anyway.

Edit: My point in mentioning those AAs was not to recommend. The point is that being surgically accurate in maintaining an AA is IMO a waste of time.
 
MichaelB said:
Much of the benefit of having multiple asset classes comes from rebalancing. ...
Click to expand...
Rebalancing is over-rated.

https://www.portfoliovisualizer.com/backtest-portfolio?s=y&timePeriod=2&startYear=1988&firstMonth=1&endYear=2018&lastMonth=5&endDate=03%2F14%2F2016&initialAmount=100000&annualOperation=0&annualAdjustment=1800&inflationAdjusted=false&annualPercentage=0.0&frequency=4&rebalanceType=0&showYield=false&reinvestDividends=true&symbol1=VFINX&allocation1_1=100&allocation1_3=70&symbol2=VBMFX&allocation2_2=100&allocation2_3=30

Try that with and w/o rebalancing. It seems obvious, if stocks outperform in the long run, the more the better. Yet, volatility doesn't seem to get higher either. In fact, the ending ratio w/o rebal was almost exactly 70/30. Oddly, it was actually closer than the annual rebalance - since that was done 6 months ago, the AA actually came back to 70/30 with no action at all.

And overall, no re-balancing had slightly better returns.

Maybe throwing in international would be a little different, but I don;t know if there are any intl index funds going back 30 years? And at a typical ~ 15%, probably not a big effect?

-ERD50
 
Yes, but someone who is still working and has many years before considering on how to draw on the portfolio can get a little more growth (or losses) in a 75/25 portfolio. Then tamp it down to 60/40 or some other lower equity mix a few years from retirement.
 
MichaelB said:
Much of the benefit of having multiple asset classes comes from rebalancing. If you aren't sure you'll be doing that, consider a balanced fund option. In addition to the Target Fund, Vanguard has a the Global Wellington Fund, which is a (relatively) new version of it's very successful and popular Wellington. The equity share is around 66%, if you prefer an overall equity allocation of 75%, you could put around 3/4 in Wellington and 1/4 in the US or Int'l stock index fund.
Click to expand...

+1

If it was me, and if it was important for me to be able to just ignore my portfolio rather than rebalance periodically, then I'd pick just one balanced fund and put it all in there. Wellington is one of the finest and has a long and successful track record.

Its ~65% equity fraction really isn't perceptibly different from 75% IMO. So I'd just buy Wellington and be done with it.

Yes, putting bond funds in tax sheltered accounts and equity funds in taxable accounts is preferable, from a tax management viewpoint. However this eliminates the "one balanced fund" approach and you would have to rebalance periodically. It won't kill you to ignore this tax savvy approach, buy just Wellington and put it in either tax sheltered or taxable or both, and just take the tax hit. You'll still make plenty of money if not the very last cent possible.
 
+1 to W2R's above comment.

Our problem when I was considering the "multiple fund with rebalancing" approach was that DW and I had a minimum of 9 different account that needed attention:

(2) - DW and my 401k
(2) - DW and my Roth IRA
(2) - DW and my traditional IRA
(2) - DW and my HSA
(1) - jointly owned after tax Vanguard account

Trying to maintain multiple funds in all these accounts with re-balancing and bookkeeping was surely to get out of control for us. With not having a full set of the funds in each account it would be difficult to keep up with the balancing especially when money could not be moved between accounts and no new money was being added.

Target date retirement MFs (to determine AA) has worked great for us.

I guess once one is FI, doesn't have non-charity heirs, and isn't philosophically opposed to paying taxes, especially now in a record low rate environment, then it makes the case easier.

-gauss
 
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gauss said:
+1 to W2R's above comment.

Our problem when I was considering the "multiple fund with rebalancing" approach was that DW and I had a minimum of 9 different account that needed attention:

(2) - DW and my 401k
(2) - DW and my Roth IRA
(2) - DW and my traditional IRA
(2) - DW and my HSA
(1) - jointly owned after tax Vanguard account

Trying to maintain multiple funds in all these accounts with re-balancing and bookkeeping was surely to get out of control for us. With not having a full set of the funds in each account it would be difficult to keep up with the balancing especially when money could not be moved between accounts and no new money was being added.

Target date retirement MFs (to determine AA) has worked great for us.

I guess once one is FI, doesn't have non-charity heirs, and isn't philosophically opposed to paying taxes, especially now in a record low rate environment, then it makes the case easier.

-gauss
Click to expand...

Maybe I'm misunderstanding, but you don't need to keep each of the 9 accounts balanced with multiple funds in each. Just look at the whole pie.

For example, if each of those 9 were equal (for simplicity), and you wanted a 2/3rds - 1/3rd AA, 6 accounts would hold equity index funds, 3 accounts would hold bond index funds. Split based on your best guess tax optimization.

-ERD50
 
VTWSX doesn't have an admiral equivalent, so you'd want the ETF (VT) for lower cost. You'd still come out a bit better on fees with VTSAX+VTIAX, plus you can control the ratio of international to US yourself rather than accept what VT does.

The issue I'd have with going all in with Wellington is that it has only 12.6% international, at least currently. Plus it can throw a lot of income so some may want more tax efficient (and lower fee) index funds there instead.

Both do offer some simplicity with rebalancing if that is your goal, but for anyone who doesn't have a problem with doing it themselves, the 3 listed in the OP are very solid. I'm primarily in those 3 myself.
 
So my understanding of how to utilize mutiple accounts even if less than 59.5:

Tax-Deffered: 100% Total Bond Fund (Note: or you max allocation to Bonds if not enough tax deferred space continue filling up Taxable with Bond fund till you get there than start on stock)

Taxable: 100% Total Stock Fund

Tax Free: Highest Growth investment: Growth Stock Fund

Withdraw 4% while keeping allocations:

say you need money for living expenses and you want them from bonds,

1. Sell 4% from Taxable account Total Stock Fund.
2. Sell 4% Total Bond Fund in Tax Deferred and Buy equal 4% from Tax-Deffered of Total Market Stock fund

Transactions should be same day if possible to avoid market swing effects.

There done you are essentially spending down Bond allocation.
 
capjak said:
So my understanding of how to utilize mutiple accounts even if less than 59.5:

Tax-Deffered: 100% Total Bond Fund (Note: or you max allocation to Bonds if not enough tax deferred space continue filling up Taxable with Bond fund till you get there than start on stock)

Taxable: 100% Total Stock Fund

Tax Free: Highest Growth investment: Growth Stock Fund

Withdraw 4% while keeping allocations:

say you need money for living expenses and you want them from bonds,

1. Sell 4% from Taxable account Total Stock Fund.
2. Sell 4% Total Bond Fund in Tax Deferred and Buy equal 4% from Tax-Deffered of Total Market Stock fund

Transactions should be same day if possible to avoid market swing effects.

There done you are essentially spending down Bond allocation.
Click to expand...

Yup, you got it.
 
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