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Are Index Funds like VTI and BND really a comprehensive diverse portfolio?
Old 08-30-2016, 08:24 AM   #1
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Are Index Funds like VTI and BND really a comprehensive diverse portfolio?

I went to a class on investments at a local Community College and the Instructor told the students that he does not believe that owning VTI (Total Stock Market) and BND (Total Bond Market) is really a diverse comprehensive portfolio. He said those ETF's are more orientated towards big companies (VTI) and US Treasury Bonds (BND).

He suggested a more diverse portfolio to complement VTI and BND.

For Stocks, he said we should include:

QQQ (NASDAQ MARKET)
VNQ (REIT's)
VO (Mid Cap)
VB (Small Cap)

For Bonds:

MUB (Munc. Bonds)
VCSH (Short Term Corp Bonds)
VCIT (Intermediate Corp Bonds)
HYG (High Yield Bonds)

Only if we included these eight additional ETF's would we have a truly diverse portfolio.

WHAT DO YOU THINK?
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Old 08-30-2016, 08:55 AM   #2
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1) I'd buy a total international stock fund before adding any of that stuff.

2) Did the instructor explain the the disadvantages of each of those funds. Some of these funds are pretty niche and can have serious drawbacks.

3) Did the instructor explain the benefits of each of those funds and how they might affect a portfolio as a whole?

4) What do you need diversity for in bond funds? You can eliminate credit risk by buying US government issues
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Old 08-30-2016, 09:02 AM   #3
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The instructor showed us a number of time periods that showed that VTI and BND results and then VTI/BND (50%) and 50% in an equal mix of the other ETF's shown in my first post. In every time period shown, the more diverse portfolio of 10 different ETF's came out ahead.
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Old 08-30-2016, 09:25 AM   #4
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Similar topic discussed at length over at bogleheads.org some time ago.
https://www.bogleheads.org/forum/vie...p?f=10&t=38374
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Old 08-30-2016, 10:40 AM   #5
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Quote:
Originally Posted by Forced to Retire View Post
IFor Stocks, he said we should include:

QQQ (NASDAQ MARKET)
VNQ (REIT's)
VO (Mid Cap)
VB (Small Cap)
Every stock in the above 4 ETFs can also be found in VTI, so owning them would NOT increase diversity of one's stock portfolio. So instructor is flat out wrong or you misinterpreted what the instructor was talking about.

The amounts or percentages of any stock or stocks in a portfolio can be different from VTI by buying more of the stocks that one wishes to overweight. So if one wants more small cap stocks, then buy VB. If one wants more mid cap stocks, then buy more VO. If one wants more REITs, then buy more VNQ.

One might get better performance by owning an overweight to small-cap, mid-cap and value stocks. Perhaps this is what the instructor was trying to tell you. This does not speak to diversity.

To get more diversity, one would have to add things that are not already found in VTI and BND. For instance, international stocks, international bonds, Treasury-inflation-protected securities, municipal bonds, junk bonds, etc..
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Old 08-30-2016, 11:54 AM   #6
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Truthfully, with everything you've got going on in your life I'd leave the portfolio alone for now. You are very diversified with just those two ETFs, and while adding some other options such as international stocks might help a tiny bit, it's not that big a deal. You'll save much more money by moving to a lower COL area than any change in the portfolio will make. Then, as you get a better handle on your life moving forward you can take some time to educate yourself on investing. If you later decide to change your allocations based on your own knowledge (much better than a community college instructor's advice, IMO), go for it. Or stay with the simple couch potato portfolio. It's a pretty good one.
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Old 08-30-2016, 12:02 PM   #7
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Originally Posted by Forced to Retire View Post
The instructor showed us a number of time periods that showed that VTI and BND results and then VTI/BND (50%) and 50% in an equal mix of the other ETF's shown in my first post. In every time period shown, the more diverse portfolio of 10 different ETF's came out ahead.
Yea I can also look back at data and cook up winning portfolios. That takes no brain

IMO VTI and VXUS is all one needs. I am not into bonds
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Old 08-30-2016, 01:47 PM   #8
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You are well diversified, but only in U.S. stocks and bonds. That's not a big problem and doesn't require immediate action. I agree you could use some international exposure, using VXUS, when you feel like it.

Given that the instructor missed international exposure completely, I'd be cautious about following his advice.

That said, I do use roughly equal portions of growth/value, small/large, U.S./international, plus REIT's and energy. That might (or might not) lower my portfolio volatility a bit, and might improve returns by a very small amount. There's some nice arguments for doing that, but it is more work for marginal gains.

I don't have bonds. BND would be fine with me.
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Old 08-30-2016, 03:52 PM   #9
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During the last ten years, counting dividends, VTI has gained 89.31% while the Mid Cap ETF (VO) has gained 110% and the Small Cap ETF (VB) has gained 113%. The Instructor at the Community College was right, you can earn more if you combine VTI with a Mid Cap and Small Cap Index Fund.
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Old 08-30-2016, 04:12 PM   #10
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Originally Posted by Forced to Retire View Post
During the last ten years, counting dividends, VTI has gained 89.31% while the Mid Cap ETF (VO) has gained 110% and the Small Cap ETF (VB) has gained 113%. The Instructor at the Community College was right, you can earn more if you combine VTI with a Mid Cap and Small Cap Index Fund.
What the instructor didn't tell you is that all he did is weight VTI more heavily toward small and mid-cap stocks. He didn't diversify your holdings with that any more. If he's using that word "diversify", he's misleading the class.

By tilting toward small and mid-cap stocks in the manner in which your instructor suggested, all you're really doing is increasing volatility. The last ten years, as a net total, have been largely positive as you pointed out. That data is cherry-picked and you should use extreme caution. In the down times, the small and mid-cap funds get hammered. If you had invested $10,000 in 2006, VTI left you with ~$6200 by 2009 and the small cap Vanguard fund left you with $5700 at that same time, an annualized difference, at that time, of about -2%. Over the ten year course cited by your instructor, the small cap has beaten VTI by less than 1% annualized. So you're getting a small bump in return, but risking bigger losses in the short term.

You are in a situation where you should be limiting volatility rather than chasing higher returns, particularly in a time where the market is likely in an overvalued condition. Preservation of capital is far more important for you than growth at this point, especially considering you're already talking about a 5% WR. The difference between a 10% loss vs. a 20% loss in the next year for you is immeasurable. (Look up sequence of return risk). Following his guidance in your position at this point in time is going to take your situation from bad to worse in the near term, IMO. If I were you, I would stick to your present allocation.
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Old 08-30-2016, 04:23 PM   #11
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Originally Posted by Forced to Retire View Post
...WHAT DO YOU THINK?
I think your instructor is a moron.

For one thing, they don't call it "Total Stock Market Index" for nothing... it includes the entire domestic US stock market including NASDAQ, REITS, mid-cap and small-cap... and if he took 20 seconds to read the description then he would know that:

Quote:
  • Seeks to track the performance of the CRSP US Total Market Index.
  • Large-, mid-, and small-cap equity diversified across growth and value styles.
  • Employs a passively managed, index-sampling strategy.
  • The fund remains fully invested.
  • Low expenses minimize net tracking error.
Total Bond is heavy on treasuries because treasuries are a huge part of the bond market, but Total Bond is much more than that:

Quote:
  • Provides broad exposure to U.S. investment grade bonds.
  • Goal is to keep pace with U.S. bond market returns.
  • Offers relatively high potential for investment income; share value tends to rise and fall modestly.
  • More appropriate for medium- or long-term goals where you’re looking for a reliable income stream.
  • Appropriate for diversifying the risks of stocks in a portfolio
Now if he had said that it is incomplete because it lacked international equities or even international bonds then he might have had a valid point.
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Old 08-30-2016, 04:33 PM   #12
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Originally Posted by Forced to Retire View Post
During the last ten years, counting dividends, VTI has gained 89.31% while the Mid Cap ETF (VO) has gained 110% and the Small Cap ETF (VB) has gained 113%. The Instructor at the Community College was right, you can earn more if you combine VTI with a Mid Cap and Small Cap Index Fund.
That is only because what you are then doing is overweighting in mid-caps and small-caps and those asset classes have higher returns over long periods of time but they also have higher risk and higher volatility.

If that mix does better than VTI, just think what going all in on Small Cap would do! 113% vs 89.31%... isn't that better?

The point is to diversify and mirror the market... it is fine to overweight as long as you recognize that you are taking on more risk and that is why you are getting more return.
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Old 08-30-2016, 04:38 PM   #13
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I think Nash covered it well. You can get more detail on what is in the ETF's from the market maker's site for each.
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Old 08-30-2016, 05:32 PM   #14
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Truthfully, with everything you've got going on in your life I'd leave the portfolio alone for now. You are very diversified with just those two ETFs, and while adding some other options such as international stocks might help a tiny bit, it's not that big a deal. You'll save much more money by moving to a lower COL area than any change in the portfolio will make. Then, as you get a better handle on your life moving forward you can take some time to educate yourself on investing. If you later decide to change your allocations based on your own knowledge (much better than a community college instructor's advice, IMO), go for it. Or stay with the simple couch potato portfolio. It's a pretty good one.
+1 - I was reading this, not realizing this was the same poster with far more pressing issues.

Focus! As harley said, this is minor if anything at all. You got bigger fish to fry right now, and there's nothing wrong at all with your VTI/BND mix.

-ERD50
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Old 08-31-2016, 08:21 AM   #15
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Plus if their not a Ira or 401k you might have pay capital gains when you sell.
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Old 08-31-2016, 07:46 PM   #16
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Quote:
Originally Posted by Forced to Retire View Post
I went to a class on investments at a local Community College and the Instructor told the students that he does not believe that owning VTI (Total Stock Market) and BND (Total Bond Market) is really a diverse comprehensive portfolio. He said those ETF's are more orientated towards big companies (VTI) and US Treasury Bonds (BND).

He suggested a more diverse portfolio to complement VTI and BND.

For Stocks, he said we should include:

QQQ (NASDAQ MARKET)
VNQ (REIT's)
VO (Mid Cap)
VB (Small Cap)

For Bonds:

MUB (Munc. Bonds)
VCSH (Short Term Corp Bonds)
VCIT (Intermediate Corp Bonds)
HYG (High Yield Bonds)

Only if we included these eight additional ETF's would we have a truly diverse portfolio.

WHAT DO YOU THINK?
I think he is more correct than wrong. This will do "better", but there is more risk. In a 2008-2009 scenario, there would be more downside.

For the equity side, he is suggesting you ignore most of the S&P500, and grab the NASDAQ100 only. And overweight REIT, SM/MIDCAP. This may not be the best time to start an approach like that.
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Old 08-31-2016, 08:05 PM   #17
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I think he is more correct than wrong. This will do "better", but there is more risk. In a 2008-2009 scenario, there would be more downside.

For the equity side, he is suggesting you ignore most of the S&P500, and grab the NASDAQ100 only. And overweight REIT, SM/MIDCAP. This may not be the best time to start an approach like that.
It looks like the 8 funds listed are in addition to VTI and BND. Since VTI replicates the entire US equities market (incl S&P 500), the additional stock funds would tilt things toward small/mid caps and REITs. The glaring omission is foreign stocks, which is the most important type of equities VTI is missing.
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Old 08-31-2016, 09:08 PM   #18
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Yes, agreed... that lack of international stocks is particularly glaring since even most target date funds include a healthy dose of international stocks.
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Old 09-01-2016, 02:39 AM   #19
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It looks like the 8 funds listed are in addition to VTI and BND. Since VTI replicates the entire US equities market (incl S&P 500), the additional stock funds would tilt things toward small/mid caps and REITs. The glaring omission is foreign stocks, which is the most important type of equities VTI is missing.
Bogle says ok on no foreign.
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Old 09-01-2016, 09:49 AM   #20
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When looking backwards at historical returns, it is important to understand the concept of reversion to the mean, which suggests that funds that outperformed the index for a period of time are likely to underperform in the future, so that over a longer period, they just earn the average return.

So if the past decade suggests above average performance in certain segments, reversion to the mean suggests there is a greater than average likelihood that some of these segments will underperform at some point in the future.

I never pay attention to past performance when making investment decisions. It's just like having a dog chase its own tail.


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