Tag Archives: demographics

This Is One Heck Of A Great Bond ETF

Summary The Vanguard Long-Term Bond ETF does everything right. If investors could only hold one bond ETF, this one would be a very strong contender for that spot. The fund offers solid income, a low expense ratio, and negative correlation to most major equity classes. If you don’t like this ETF, tell me why, because I do not see a single weakness here. This is a great ETF. There are only a few ETFs that really catch my eye as I’m researching them. This is one that immediately stands out for being absolutely exceptional. It has pretty much everything an investor could want for a bond ETF. I’ve shown a strong preference for funds that I can trade without commissions from my Schwab account because it makes frequent rebalancing more appealing. I would love to see this fund show up on there, but I don’t expect Vanguard funds to show up on the Schwab list at any point. For investors that have access to free trading on Vanguard ETFs, look into using the Vanguard Long-Term Bond ETF (NYSEARCA: BLV ). This ETF comes with everything I want (except free trading) and nothing I don’t want. Let’s go through the fund. Expense Ratio The expense ratio is only .10%. That is beautiful. Just try to find a way to complain about a long term bond fund with over 2000 different holdings and an expense ratio of .10%. This is ideal. Characteristics The fund is offering a fairly respectable yield to maturity of 4.2%. In the last decade investors may have scoffed at the idea of 4.2%, but in the new normal this is great. Some investors may expect yields to increase, but I doubt the Federal Reserve can pull that rabbit out of the hat when other countries have lower rates. An increase in domestic rates would result in a surge of cash inflows to the U.S. as foreign investors would seek dollars to buy up the higher yielding treasury securities. The resulting appreciation of the dollar would slam domestic employment and contradict one of the two dual mandates of the Federal Reserve. Until we see some major changes in the world economy, 4.2% is a fairly reasonable yield. Types of Bonds The Vanguard Long-Term Bond ETF is structured precisely how I would want it to be structured. The holdings include some foreign exposure without a very large allocation and a mix between industrial bonds and treasury bonds. Despite a strong allocation to treasury securities, there are no Agency MBS or Commercial MBS. Investors wanting access to those securities can acquire them on leveraged basis at a substantial discount to book value by buying mREITs. I see no reason to pay book value, but I would like a long term bond ETF with a heavy emphasis on high quality debts. Credit Quality The holdings are all solid. This is investment grade debt with a significant portion being treasury debt. This is a very solid ETF to have in your portfolio if the market starts tanking. I put together a demonstration of the role BLV plays in a sample portfolio. Building the Portfolio The sample portfolio I ran for this assessment is one that came out feeling a bit awkward. I’ve had some requests to include biotechnology ETFs and I decided it would be wise to also include a the related field of health care for a comparison. Since I wanted to create quite a bit of diversification, I put in 9 ETFs plus the S&P 500. The resulting portfolio is one that I think turned out to be too risky for most investors and certainly too risky for older investors. Despite that weakness, I opted to go with highlighting these ETFs in this manner because I think it is useful to show investors what it looks like when the allocations result in a suboptimal allocation. The weightings for each ETF in the portfolio are a simple 10% which results in 20% of the portfolio going to the combined Health Care and Biotechnology sectors. Outside of that we have one spot each for REITs, high yield bonds, TIPS, emerging market consumer staples, domestic consumer staples, foreign large capitalization firms, and long term bonds. The first thing I want to point out about these allocations are that for any older investor, running only 30% in bonds with 10% of that being high yield bonds is putting yourself in a fairly dangerous position. I will be highlighting the individual ETFs, but I would not endorse this portfolio as a whole. The portfolio assumes frequent rebalancing which would be a problem for short term trading outside of tax advantaged accounts unless the investor was going to rebalance by adding to their positions on a regular basis and allocating the majority of the capital towards whichever portions of the portfolio had been underperforming recently. Because a substantial portion of the yield from this portfolio comes from REITs and interest, I would favor this portfolio as a tax exempt strategy even if the investor was frequently rebalancing by adding new capital. The portfolio allocations can be seen below along with the dividend yields from each investment. Name Ticker Portfolio Weight Yield SPDR S&P 500 Trust ETF SPY 10.00% 2.11% Health Care Select Sect SPDR ETF XLV 10.00% 1.40% SPDR Biotech ETF XBI 10.00% 1.54% iShares U.S. Real Estate ETF IYR 10.00% 3.83% PowerShares Fundamental High Yield Corporate Bond Portfolio ETF PHB 10.00% 4.51% FlexShares iBoxx 3-Year Target Duration TIPS Index ETF TDTT 10.00% 0.16% EGShares Emerging Markets Consumer ETF ECON 10.00% 1.34% Fidelity MSCI Consumer Staples Index ETF FSTA 10.00% 2.99% iShares MSCI EAFE ETF EFA 10.00% 2.89% Vanguard Long-Term Bond ETF BLV 10.00% 4.02% Portfolio 100.00% 2.48% The next chart shows the annualized volatility and beta of the portfolio since October of 2013. (click to enlarge) Risk Contribution The risk contribution category demonstrates the amount of the portfolio’s volatility that can be attributed to that position. You can see immediately since this is a simple “equal weight” portfolio that XBI is by far the most risky ETF from the perspective of what it does to the portfolio’s volatility. You can also see that BLV has a negative total risk impact on the portfolio. When you see negative risk contributions in this kind of assessment it generally means that there will be significantly negative correlations with other asset classes in the portfolio. The position in TDTT is also unique for having a risk contribution of almost nothing. Unfortunately, it also provides a weak yield and weak return with little opportunity for that to change unless yields on TIPS improve substantially. If that happened, it would create a significant loss before the position would start generating meaningful levels of income. A quick rundown of the portfolio I put together the following chart that really simplifies the role of each investment: Name Ticker Role in Portfolio SPDR S&P 500 Trust ETF SPY Core of Portfolio Health Care Select Sect SPDR ETF XLV Hedge Risk of Higher Costs SPDR Biotech ETF XBI Increase Expected Return iShares U.S. Real Estate ETF IYR Diversify Domestic Risk PowerShares Fundamental High Yield Corporate Bond Portfolio ETF PHB Strong Yields on Bond Investments FlexShares iBoxx 3-Year Target Duration TIPS Index ETF TDTT Very Low Volatility EGShares Emerging Markets Consumer ETF ECON Enhance Foreign Exposure Fidelity MSCI Consumer Staples Index ETF FSTA Reduce Portfolio Risk iShares MSCI EAFE ETF EFA Enhance Foreign Exposure Vanguard Long-Term Bond ETF BLV Negative Correlation, Strong Yield Correlation The chart below shows the correlation of each ETF with each other ETF in the portfolio. Blue boxes indicate positive correlations and tan box indicate negative correlations. Generally speaking lower levels of correlation are highly desirable and high levels of correlation substantially reduce the benefits from diversification. (click to enlarge) Conclusion BLV offers a clear negative correlation with each asset except for short term TIPS (no surprise, high credit quality) and equity REITs. The equity REITs in IYR have a slight positive correlation with BLV which is caused at least in part by the fact that BLV is holding some high credit quality non-Agency debt. Since a substantial portion of the debt is still corporate in origin, it has a higher correlation with equity REITs than it would if it were pure treasuries. Despite that, the ETF still has a very clear negative correlation with other equity assets classes. Normally that kind of negative correlation requires midterm or longer treasury securities, but most of those funds have very limited yields. That isn’t any surprise either since the demand for extremely high quality debt (treasury securities) has pushed the yields to extremely low levels. By incorporating investment grade corporate debt the total portfolio for BLV is able to offer a respectable return so that the fund offers investors a material amount of income along with a negative correlation that results in total portfolio risk being materially reduced. This is what a bond fund should look like. Vanguard is known for high quality and low cost funds, but this fund is downright exceptional.

The Best Mutual Fund For A Conservative Investor Retiring Today

Summary The Vanguard Target Retirement 2015 Fund has a simple construction and a low expense ratio. Despite being a very simple portfolio, they have covered exposure to most of the important asset classes to reach the efficient frontier. This is quite simply one of the best constructed portfolios I’ve seen for a worker nearing retirement. Lately I have been doing some research on target date retirement funds. Despite the concept of a target date retirement fund being fairly simple, the investment options appear to vary quite dramatically in quality. Some of the funds have dramatically more complex holdings consisting with a high volume of various funds while others use only a few funds and yet achieve excellent diversification. My goal is help investors recognize which funds are the most useful tools for planning for retirement. In this article I’m focusing on the Vanguard Target Retirement 2015 Fund Inv (MUTF: VTXVX ). This is the kind of fund I would suggest for using in a 401K account in planning out a safe retirement strategy . What do funds like VTXVX do? They establish a portfolio based on a hypothetical start to retirement period. The portfolios are generally going to be designed under Modern Portfolio Theory so the goal is to maximize the expected return relative to the amount of risk the portfolio takes on. As investors are approaching retirement it is assumed that their risk tolerance will be decreasing and thus the holdings of the fund should become more conservative over time. That won’t be the case for every investor, but it is a reasonable starting place for creating a retirement option when each investor cannot be surveyed about their own unique risk tolerances. Therefore, the holdings of VTXVX should be more aggressive now than they would be 3 years from now, but at all points we would expect the fund to be more conservative than a fund designed for investors that are expected to retire 5 years later. What Must Investors Know? The most important things to know about the funds are the expenses and either the individual holdings or the volatility of the portfolio as a whole. Regardless of the planned retirement date, high expense ratios are a problem. Depending on the individual, they may wish to modify their portfolio to be more or less aggressive than the holdings of VTXVX. Expense Ratio The expense ratio of Vanguard Target Retirement 2015 Fund is .16%. That is higher than some of the underlying funds, but overall this is a very reasonable expense ratio for a fund that is creating an exceptionally efficient portfolio for investors and rebalancing it over time to reflect a reduced risk tolerance as investors get closer to retirement. In short, this is a very solid value for investors that don’t want to be constantly actively management their portfolio. This is the kind of portfolio I would want my wife to use if I died prematurely. That is a ringing endorsement of Vanguard’s high quality target date funds. Bonds or Stocks The Vanguard Target Retirement 2015 fund is currently using a fairly equal allocation between bonds and stock. Over time that allocation will shift to hold more bonds and fewer stocks. The next section breaks it down further. Holdings / Composition The following chart demonstrates the holdings of the Vanguard Target Retirement 2015 Fund: (click to enlarge) This is a fairly simple portfolio. Only five total tickers are included so the fund can gradually be shifted to more conservative allocations by making small decreases in equity weightings and increases in bond weightings. The funds included are the kind of funds you would expect from Vanguard. The top 4 which create most of the returns are very solidly diversified passive index funds. The Vanguard Total Stock Market Index Fund (NYSEARCA: VTI ) is also available as an ETF. I have a significant position in VTI because it carries an extremely low expense ratio and offers excellent diversification across the U.S. economy. Volatility An investor may choose to use VTXVX in an employer sponsored account (if their employer has it on the approved list) while creating their own portfolio in separate accounts. Since I can’t predict what investors will choose to combine with the fund, I analyze it as being an entire portfolio. Since the fund includes domestic and international exposure to both equity and bonds, that seems like a fair way to analyze it. (click to enlarge) When we look at the volatility on VTXVX, it is dramatically lower than the volatility on SPY. That shouldn’t be surprising since the portfolio has some large bond positions. Investors should expect this fund to retain dramatically more value in a bear market and to fall behind in a prolonged bull market. The chart above used returns since 2003 so it included a fairly solid fall in 2007. As you can see, the worst drop was significantly less damaging than what the S&P 500 incurred. However, this fund is being regularly rebalanced towards a more conservative weighting and the current portfolio is more conservative than the weightings would have been in 2007. The following chart isolates the last 5 years. (click to enlarge) The volatility has dropped down even further and the beta has fallen from .57 to .52. Within a few years that beta will probably fall under .50. The worst drawdown in the last 5 years was substantially less damaging for VTXVX than it was for the broad equity market. Opinions Warren Buffet has suggested that investors would be wise to simply buy the S&P 500 because many will underperform the market after adjusting for trading costs. To be fair, many will underperform the S&P 500 even before trading costs. For investors that can take on the risk of pure equity positions, that is fine. For investors that don’t have that luxury, this is a remarkably complete fund that works incredibly well as the core of a portfolio. For the investor nearing retirement with this as an option in their employer sponsored account, it should receive extremely strong consideration. Conclusion VTXVX is a great mutual fund for investors looking for a simple “set it and forget it” option for their employer sponsored retirement accounts. It is ideally designed for investors planning to walk out the employer door for the last time in the very near future. Vanguard doesn’t create target retirement date funds for every year, so the next option after this one is the 2020 fund. There is one thing I’d still like to see Vanguard do with this fund. I’d love to see them make an ETF version for easier use in taxable accounts and for investors with different brokerages.

Peer Inside The Vanguard High Dividend Yield ETF

Summary VYM offers a solid dividend yield of 3.28% to go with a low expense ratio and a reputable firm backing the fund. The holdings are solid overall, but a few of the top allocations concern me. The sector allocations show that the portfolio changes quite a bit as we get out of the top 10. I love seeing stocks like JNJ and Wal-Mart in a dividend growth portfolio. The Vanguard High Dividend Yield ETF (NYSEARCA: VYM ) looks great. After readers suggested I take a look at the portfolio, I decided it was time to dive inside and see what I could find. This is a great ETF. Investors may quibble on whether the allocations are perfectly or merely good, but there is far more to like than to hold against the fund. Quick Facts The expense ratio is a mere .10%. That is very appealing for the cost conscious long term investor. When it comes to investing, who wants to throw away their capital on high expenses ratios or trading costs? This fund looks like a great long term choice. Holdings Of course simply having a low expense ratio and the name “Vanguard” is not enough to establish a fund as a great investment. Those two aspects are a great starting point, but investors should always look to the holdings in making their decision. I put together the following chart to demonstrate the weight of the top 10 holdings: (click to enlarge) I love seeing Exxon Mobil (NYSE: XOM ) as a top holding. Investors may be concerned about cheap gas being here to stay, but I think money in politics will be around decades (centuries?) longer than cheap gas. Bet against big oil at your own peril. Johnson & Johnson (NYSE: JNJ ) is another great dividend company to hold. They have an effective R&D team and a global market presence. Just look at their dividend history and try to come up with a reason that this company shouldn’t be in a dividend growth portfolio: (click to enlarge) All around Telecommunications I’ll admit that allocations to Verizon (NYSE: VZ ) and AT&T (NYSE: T ) are enough to concern me. I have been staunchly opposed to investing in the telecommunications sector since Sprint (NYSE: S ) appointed a new CEO that knew how to wage a war based on pricing. Sprint immediately ditched their terrible marketing plans and started emphasizing price. Since I had switched from Verizon to the Sprint network within the last few years, I was keenly aware of how difficult it was to find any reliable information on price comparisons. The difficulty of getting quality information about pricing was a deliberate plan to avoid price-based competition. When Sprint decided to wage a war on prices, margins across the sector were put in jeopardy. Outside the Top 10 The beauty of this ETF, in my opinion, lies on the entire portfolio more than the simple top 10. The portfolio has large allocations just outside the top 10 to major dividend champions like Altria Group (NYSE: MO ). They also have heavy positions in some of the big players that have recently fallen out of favor such as Wal-Mart (NYSE: WMT ) and McDonald’s (NYSE: MCD ). I love these positions for their ability to stabilize the portfolio if the market turns south. While few investors may think of Wal-Mart as a stabilizing force after their declines over the last year, I think investors are simply showing far too much fear about margin compression. Wal-Mart has been hammered by a fear of higher wages eliminating their already thin operating margins. It is true that those higher wages will slam earnings over the next year or two, but who will stop Wal-Mart from passing on higher prices to customers? Seriously, ask yourself who is going to grab their market share. Is it Target (NYSE: TGT )? Target is also raising wages and has the same incentive to boost prices and protect their operating margins. Target is also in the portfolio and weighted at about .7% of the total value. Sectors The sector composition looks fairly reasonable as well. The positions are highly diversified and I love to see that telecommunications only comes in at 5.3%. I really wouldn’t want any more exposure with the problems I mentioned before. This portfolio is structured in a fairly solid manner with heavy weights on companies that have solid yields and a solid history of maintaining and growing their dividends. What to Add If an investor wants to use VYM as the core of their dividend portfolio, I would look to enhance the utility allocation. The allocations within the ETF are reasonable but investors focused on getting a reliable dividend year after year that grows with inflation would be wise to consider keeping a strong allocation to the utilities. Conclusion VYM has the right name and the right expense ratio. The top 10 holdings are a mixed bag in my eyes because of sector specific concerns. When we look further into the portfolio and examine the sector allocations I find the portfolio becoming more attractive. Currently the ETF is yielding 3.28% and I would expect distributions to increase in most years. For an investor looking to build a simple and solid portfolio that creates reliable income for them to live on, this looks like a great core holding. For investors going through TD Ameritrade, this option excels even more because it is on their “free to trade” list.