Vanguard vs IFA

[photoguy]

Comparing a Vanguard fund to a DFA fund with a similar name is a common way to compare them, but it is not the right way to compare them, since they actually hold different stocks. One should compare portfolios with the same asset allocation and not the same fund names.

For example, for two portfolios of different funds, in order to call them equivalent one would want
(a) the Morningstar 9-box style grid to have similar numbers in each of the 9-boxes so they have the same breakdown of large-cap, mid-cap, small-cap, value, blend, and growth stocks.
(b) the same percentages of US stocks, developed international stocks, emerging markets stocks, REITs, bonds, etc.
(c) the same average market cap for US, foreign, and emerging separately and together,

I think the issues you raise is yet another factor that makes the comparison not so clear cut. Slice & dice is based on the Fama French model where size, value are primary determinants of stock returns. However, vanguard funds are often criticized for not providing as much exposure to these factors -- this is why the DFA version of US small-cap value may hold different stocks (smaller and with lower P/B) and also provides at least a partial explanations of the +2%/year returns.

To compensate for the lower size/value loadings you may be able to tweak your portfolio instead. E.g., if I were to use DFA funds, I will set my small-cap value to 20% but with vanguard I will need to go up to 30% to maintain the same exposure. (Note percentages made up). This makes the comparison in a whole portfolio context (which is what really matters) non-trivial as you would need to balance across all of the slices.

According to IFA's site, DFA based S&D portfolios have outperformed ones where the slices are based on vanguard funds where simple substitution is used. Obviously this is not an unbiased source, but that result doesn't surprise me given that DFA funds have stronger loadings. What I would really be interested in knowing is (1) would a DFA based S&D portfolio outperformed a vanguard one when you let the allocations slide to make up for the lower value/size exposure in vanguard funds and (2) how much do I have to change my allocations to compensate.

Finally, another problem with vanguard funds for the do-it-yourselfer is that the funds are often mixed from a style perspective. E.g., vanguard's small-cap value fund has a big chunk of REITS whereas (to my knowledge) DFA has done a much better job of not mixing asset classes in their funds.

 

[LOL!]

What I would really be interested in knowing is (1) would a DFA based S&D portfolio outperformed a vanguard one when you let the allocations slide to make up for the lower value/size exposure in vanguard funds and (2) how much do I have to change my allocations to compensate.

Finally, another problem with vanguard funds for the do-it-yourselfer is that the funds are often mixed from a style perspective. E.g., vanguard's small-cap value fund has a big chunk of REITS whereas (to my knowledge) DFA has done a much better job of not mixing asset classes in their funds.

There are ways to calculate the so-called 'factor loadings' of Vanguard funds. Consult threads at Bogleheads on how to do this.

However, I took a more simplistic approach and simply reverse-engineered some DFA portfolios by using the Morningstar X-ray tool. Here's how:
1. Plug in a DFA portfolio and see what numbers you get. I noted the numbers to look at in my previous post.

2. Use Vanguard funds to get the same numbers. You just have to do about 5 minutes of trial-and-error and you are there. It is not complicated at all.

I can state that such a portfolio meets or exceeds the performance of the DFA portfolio with the same asset allocation since I started this. Of course, that was totally expected, you know: the whole risk/reward thing. In other words, there are no secrets or magic here.

 

[nun]

No, they sell their funds through exclusive aggreements with advisors. Vanguard is for DIY, DFA is not........

I though that's what I said....you can only get DFA funds through an DFA approved advisor. What I don't get is why DFA isn't for DIY investors. They promote passive investing...like other low cost mutual fund companies, but you have to pay an advisor to get access to the funds...why? Also their strategy of spicing up a passive indexing with some small cap just boosts gains at the expense of higher risk which sounds more like a marketing ploy to me than anything else.

 

[sundance]

Married with one child. He is entering his last year of college and he will graduate debt free! This will be a load off my back. 401k we have about $900 000 & $50 000 thousand in cash in an American on line account getting 1.15%. We both have deceit pensions & health care but neither of us took an option but we each have $200 000 in whole life insurance (bad investment). My house is almost paid off & in today's market the value would be 350 000. That's it in a nutshell.

 

[nun]

Married with one child. He is entering his last year of college and he will graduate debt free! This will be a load off my back. 401k we have about $900 000 & $50 000 thousand in cash in an American on line account getting 1.15%. We both have deceit pensions & health care but neither of us took an option but we each have $200 000 in whole life insurance (bad investment). My house is almost paid off & in today's market the value would be 350 000. That's it in a nutshell.

Your expenses are missing. Also what % of your expenses will be covered by pensions and SS and does your pension have a COLA?

 

[sundance]

We are VERY POOR budget people. CLUELESS. The only reason we have this amount is through automatic savings w/ our 401k. We need a complete makeover. Our pensions have cola. We have no debt except mortage. I guess you could say that our pensions cover all expenses with 30 / 40 % left over. We have the usual bills & upkeep for our home.

 

[sundance]

Opps. We have a car payment that will be finished at the end of next year "0" interest. We did have some money in a 529 but thats just about done. Be back later

 

[nun]

We are VERY POOR budget people. CLUELESS. The only reason we have this amount is through automatic savings w/ our 401k. We need a complete makeover. Our pensions have cola. We have no debt except mortage. I guess you could say that our pensions cover all expenses with 30 / 40 % left over. We have the usual bills & upkeep for our home.

OK so it sounds as if you don't need to invest the 401k for income and that you'll be debt free very soon. You are in great shape! but I would strongly urge you to find out exactly what you spend each month and think of any big one time bills that you need to pay for, things like a new roof, car etc. If you still have a 30/40% pension excess you can start putting that into the bank and a Vanguard taxable account.

I'd make sure you have 1 or 2 years worth of expenditure in cash in your bank and Vanguard account and then divide the rest between the total stock market and international equity fund. In your IRA you can also be stock heavy as your pensions cover your expenses, you might look at one of the lazy portfolios that is 60/40 or 70/30 stock/bonds. I'd talk to Vanguard as with $900k to rollover you will get special service.

One issue is going to be RMDs from your IRA, so tax planning is important for you. I'd consider doing annual IRA to ROTH rollovers to draw down the IRA.....you'll have to see how that changes your current tax situation. Also you can definitely defer SS until 70.

 

[sundance]

I feel a little weid giving all this info but what the heck! But my husband is 7 years older then me so I think for him a 60/40 mix & for me 70/30. But then I thought of puting the bonds in his portfolio with mabe 20% in stock And doing the reverse for me. I never thought about doing an annual ira to roth roll over. So the BIG question is a target retirment fund versus slice & dice as close to ifa portfolio as possible. ETF vs Vanguard mutual funds

 

[LOL!]

I think the BIG question might be which books are you going to read first in order to understand how to make investments for the rest of your life?

 

[nun]

I feel a little weid giving all this info but what the heck! But my husband is 7 years older then me so I think for him a 60/40 mix & for me 70/30. But then I thought of puting the bonds in his portfolio with mabe 20% in stock And doing the reverse for me. I never thought about doing an annual ira to roth roll over. So the BIG question is a target retirment fund versus slice & dice as close to ifa portfolio as possible. ETF vs Vanguard mutual funds

Choose the AA that you and your husband are comfortable with. You have the luxury of being able to be aggressive in your investing as you have your income requirements covered by pensions. In fact you probably don't need as much cash as I recommended as you have lots of pension income coming in; 1 year's cash is more than enough.

I'd stick with Vanguard mutual funds. If you buy a target retirement fund make it one that is for 15, 20 or 25 years from now as it will be biased towards equities. You could put a slice and dice portfolio together, but IMHO it quickly gets complicated and I like to keep things simple. Maybe just do 25% small cap index, 25% total stock market, 25% international equity and 25% total bond market. I have no idea how this compares to you IFA's portfolio recommendations. But if you like your "buy and hold aggressive" fundadvisor portfolio go with that.

 

[photoguy]

There are ways to calculate the so-called 'factor loadings' of Vanguard funds. Consult threads at Bogleheads on how to do this.

However, I took a more simplistic approach and simply reverse-engineered some DFA portfolios by using the Morningstar X-ray tool. Here's how:
1. Plug in a DFA portfolio and see what numbers you get. I noted the numbers to look at in my previous post.

2. Use Vanguard funds to get the same numbers. You just have to do about 5 minutes of trial-and-error and you are there. It is not complicated at all.

I can state that such a portfolio meets or exceeds the performance of the DFA portfolio with the same asset allocation since I started this. Of course, that was totally expected, you know: the whole risk/reward thing. In other words, there are no secrets or magic here.

I went to the morningstar site as you suggested and played around with their x-ray tool. What I'm finding is that if I normalize the portfolios on the boxes, etc. then the DFA and vanguard portfolios have very different P/B (not sure how mstar calculates this). On the other hand, if I try to match on P/B the allocations by box are very different. This suggests to me that either (1) you are much better matchmaker than me or (2) for the portfolios I am interested in the morningstar value/size boxes are too coarse.

In any case, the effect size we are trying to capture is pretty small, perhaps on the order of a percent. While this can have a substantial effect on a portfolio in the long term, it's pretty small statistically especially compared to the yearly variation of returns. Thus I feel to determine whether method A is better than B, or that A and B have the same expected returns really requires a rigorous analysis. I don't know of any such study (and I'm not interested in doing this myself), but would welcome any pointers if somebody has already done this and published it.