Don’t Feed the Alligators

A couple of months ago I was alerted by Nickel to a great tool for Vanguard customers called Portfolio Watch. This tool allows you to look comprehensively at one’s investment portfolios, even if they are scattered across a number of different management companies.

If you are a Vanguard customer (and I strongly urge you to become one for the low overhead costs), you can use Portfolio Watch by logging into your account and clicking the link in the menu bar at the top of the page. When I first tried this, I only got an option for something called Portfolio Analysis. Vanguard has this to say:

Portfolio Watch is a tool that is almost identical to Portfolio Analysis except Portfolio Watch is only available to clients enrolled in Vanguard’s Enhanced Services (with Vanguard assets greater than and equal to $100,000).

The Portfolio Analysis tool allows you to manually enter your non-Vanguard portfolio data, but Portfolio Watch is more of an active service that actually connects to your other accounts and continually updates the analysis. Having only the former option, I entered my portfolio, totaling over $100,000, manually. Wouldn’t you know, that within a few days of doing this, Portfolio Analysis turned into Portfolio Watch. Apparently you do have to have greater than $100,000 — just not solely with Vanguard. I suspect that if this is the case it will be very easy to scam the system.

As a bit of background, I currently have 3 investment accounts at two brokerages: A Traditional and Roth IRA at Vanguard and a 401(k) from a previous employer at T. Rowe Price. Since stocks represent about 90% of the value of my portfolio, this article will concern itself with only that portion.

So, on to the analysis:

This first graph shows the relative amounts of domestic and international stock in my portfolio. Most of the money in my portfolio is allocated to the respective Target Retirement Funds at the two brokerages. At some point in the past I also purchased some shares in my 401(k) in a stand alone international fund. Because the Target Retirement Funds already invest some of their assets in international funds, the amount of money I put into the stand alone international fund has made my exposure a bit higher than in really should be in this category, as can be seen from the cautionary note that goes along with the analysis.

As a general rule of thumb, one’s international mix should be approximately 20% to 40% or so of total stock allocations. From Vanguard:

A stock portfolio can gain important diversification by investing up to 20% in international stocks. Moving beyond 20% improves a portfolio’s diversification but at a significantly lower rate. Because of the risks inherent in international investing, an upper limit of 40% is prudent.

This next table compares my portfolio to the overall market with respect to the mix of large, medium, and small companies. As you can see, my portfolio is a bit heavy on large capitalization stocks. This came as a bit of a surprise to me. This skewing largely has the T. Rowe Price Target Retirement Fund (TRF) to blame. Unlike the Vanguard TRF, which counts the Total Stock Market Index Fund as its largest asset, the T. Rowe Price fund has very few investments in medium and small cap stocks. While the vast bulk of the value of the US Stock Market is in large cap companies, much of the growth that occurs in the market is in the small and mid cap companies. Therefore, it is important to have a good amount of exposure to this class of businesses.

This deviation actually closely matches the difference between an index fund that seeks to match the Standard and Poor’s 500 Index and one that seeks to match the total market. The S&P 500 index tracks, as its name would suggest, the stocks of 500 mostly American companies, all of which are large cap. This represents about 75% of the total market capitalization. A Total Stock Market Index Fund, on the other hand, seeks to match the entire market as an index. The Vanguard version of this fund invests in approximately 1300 stocks which together represent about 95% of the total value of the stock market.

This final chart illustrates the deviation of the international portion of my portfolio from the market. Despite the fact that my portfolio is heavy on international stock, the stock itself is not well balanced with respect to the various world markets. As with the difference between large and small cap investments, Emerging Markets are (by definition) not as mature as other markets. These provide great growth opportunities that other markets do not. It is again important not to over-, or in my case under-, invest in this category.

Specific Conclusions:

• I have a number of deficiencies in my portfolio that need to be addressed.
• Most of these deficiencies seem to stem from the investment selections that I have made in my 401(k) at T. Rowe Price. Because my money is still in a 401(k) the overall number of options available to me is relatively low.

Plan:

• In the short term, I will sell some my T. Rowe Price International Fund shares and purchase some additional fund shares in the TRF as well as some in a small cap fund. This will reduce my international exposure and increase my small cap exposure. I will use the Portfolio Tester tool in the Vanguard Portfolio Watch analysis to figure out what the dollar amounts to move should be.
• In the long term, I will begin the process of finally rolling this account into my Vanguard IRA account. This will have the additional benefit of giving me enough money so that I can balance my portfolio the way that I suggested in this post. Vanguard has a $3000 minimum investment in most of its funds. To implement the strategy that I laid out before, I will need to have at least $18,000 in my account.

I also learned:

• It is important to write down your investment strategy so you remember why you made specific investment decisions.
• Not all Target Retirement Funds are created equally. Taking this for granted can find your portfolio skewed from the composition of the rest of the market and what your goals are.
• The Portfolio Watch tool (as well as the Morningstar X-Ray tool) provide much needed cross-sectional views of mutual funds, brokerage accounts, and even whole portfolios spread across multiple custodians. I strongly encourage you to give one of these tools a try as soon as possible. While my portfolio was not horrible, every fraction of a percentage in total return is important over a 30 year investment horizon.

Have you looked at your portfolio lately? What did you find out?

Partially inspired by Five Cent Nickel’s article on Reconsidering Our Asset Allocation, partly by my recent read of Burton G. Malkiel’s A Random Walk Down Wall Street, and partly by an urge to simplify, I have recently been consolidating a number of retirement accounts from a number of brokerages to one. I have chosen Vanguard as the host for the bulk of our assets, primarily because it offers the index fund options that I want with very low fees.

The process for consolidating is pretty easy. I logged into our existing Vanguard accounts and filled out 5 questionnaire pages that detailed what I wanted to move, from where, and into what fund(s). At the end of the process, I was prompted to download and print out a PDF to sign and return to Vanguard. This process had to be completed for each brokerage account not yet at Vanguard.

I called Fidelity to make sure that there would be no problem with Vanguard getting the money for the transfer. I was informed that in order for this to go smoothly, I would have to move all of our assets into cash positions. And by the way, I was told, I should do this today since the market is up… advice that smelled of market timing to me and was promptly ignored… Instead, I opted to wait until I knew Vanguard would have received our paperwork and started to execute the transaction.

Within a few days I saw that one of the Fidelity accounts was empty and the Vanguard had increased my almost the same value. Almost? you ask? Yes, Fidelity took a $50 “cash out” fee out of the money that was transferred. After researching this point for 30 minutes or so, I was unable to find this fee stated, explicitly, anywhere on Fidelity’s website. It does say that the law allows them to charge one, but they don’t say what the charge will be.

So I guess this is just Fidelity’s way of saying, “Don’t let the door hit you on the way out.” And this is yet another reason that I can’t, in good faith, recommend Fidelity to any potential investors who might seek my advice on the matter, even if it is the home town favorite in my neck of the woods.