For the first time in many years, we made some significant changes to our asset allocation this year. This is not something we do lightly nor frequently and we try not to do it in response to changes in the markets. These changes are changes we have been thinking and talking about for literally years and put down in writing for months before implementing to make sure we really wanted to make them.
Reasons for Changing Portfolio
Our goals with this restructuring were the following:
- Reduce overall number of asset classes
- Reduce number of accounts
- Maintain similar overall risk (both market risk and currency risk)
- Maintain a small value tilt with domestic equities
- Increase allocation to real estate
- Decrease platform risk and active management risk
- Decrease costs
As you will recall, our old retirement allocation looked like this:
75% Stock
- 50% US Stock
- Total US Stock Market 17.5%
- Extended Market 10%
- Microcaps 5%
- Large Value 5%
- Small Value 5%
- REITs 7.5%
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Thoughtful meditation before changes to my portfolio.
25% International Stock
- Developed Markets Large 15%
- Developed Markets Small 5%
- Emerging Markets 5%
25% Bonds
- Nominal Bonds (G Fund) 10%
- TIPS 10%
- P2PLs 5%
There were 12 total asset classes, which seems okay until you realize that might mean closer to 20 different investments spread across almost ten different accounts. The portfolio complexity was overkill.
The new allocation looks like this:
60% Stock
- 40% US Stock
- Total US Stock Market 25%
- Small Value Stocks 15%
- 20% International Stock
- Total International 15%
- International Small 5%
20% Bonds
- G Fund 10%
- TIPS 10%
20% Real Estate
- REITs 5%
- Real Estate Debt/Hard Money Loans 5%
- Real Estate Equity, Small Businesses, Websites, and Other Opportunities 10%
That cuts us back to 9 asset classes and allows several accounts to be closed (eventually.)
Let's go through each of the significant changes and discuss the reasoning behind them.
# 1 Dropping Peer to Peer Loans
This was such a significant change it got its own blog post-Why I Decided to Liquidate My Lending Club Account. The bottom line is that the asset class, and particularly the way in which I was investing in it, was becoming less and less attractive as the years went by, especially when compared to the hard money lending opportunities out there. In addition, dropping this asset class will eventually allow us to close three accounts- the Roth IRA at Lending Club and taxable accounts at both Lending Club and Prosper.
# 2 Giving up on BRSIX
I have been a faithful holder of the Bridgeway Ultra-Small Market Fund for over a decade at 5% of the portfolio. My records show that my first purchase was shortly after walking out of residency. Over that time period, we have enjoyed an annualized return of 10.8%. I certainly would not call it a bad investment. However, there have been several things that have bothered me about it over the years.
First is the expense ratio. At 0.75%, it is approximately 15 times higher than many of my investment holdings.
Second, it has relatively high turnover and frequently sends out massive capital gains distributions. This doesn't matter much to me since I have always held it in a Roth IRA, but for a fund that is supposedly tax-managed, this has driven a lot of investors away.
Perhaps most importantly, the fund has shown that it really cannot meet its stated goal. I don't blame John Montgomery. He and his team sure tried hard. But I think they have chosen an impossible task. It is basically impossible to capture the return of the CRSP 10 (i.e. the 10% smallest stocks on the market.) The tracking error of this fund against its stated benchmark has been both positive and negative, but it was always much more than you would hope from an index-like fund.
In many ways, this fund is actively managed, and I'm not a big fan of active management. I think it's great that Bridgeway gives away half of its profits to charity and pays it's most poorly paid employee no less than 1/7 of the CEO's salary, but I would rather they passed that savings on to me as the investor and owner of the fund to decide which charity I wish to support. The bottom line is that I have been using this fund to help me get my small value tilt. I think I can maintain that tilt about as effectively by just moving this 5% of my portfolio into the small value allocation. A year ago when Bridgeway raised IRA fees I moved this holding to my Vanguard account. That makes the exchange for small value that much easier and eliminates one account to track.
# 3 Dropping Large Value
In a similar manner to the microcap fund, this was an easy target when it came time to reduce the number of asset classes in the portfolio. This 5% basically went into the small value allocation.
# 4 Dropping Extended Market
When I designed this asset allocation, a major chunk of my investments were in the TSP. However, as the years go by, the TSP becomes less and less of my portfolio since I am not making any ongoing contributions to it. The only small cap fund in the TSP is really an extended market fund, which is mostly midcaps. While that helped me some to get my small value tilt and perhaps also helped me capture a unique mid-cap factor, this asset class has somewhat reluctantly made its way to the chopping block. If I want to own more real estate, something has to give. Since it will take me a while to ramp up the real estate since I'll be doing a big chunk of it in taxable (a relatively small portion of my portfolio still), I'll use these mid-caps (specifically the TSP S Fund) to make up the difference until I get there.
# 5 Dumping Emerging Markets
We actually never had the intention to overweight emerging markets. We simply wanted to market weight the European, Pacific, and Emerging Market components of the international stock asset class. However, since the TSP was our main investing account, we were kind of stuck with the I Fund, a developed market only fund. So we added the Vanguard EM fund in the Roth IRAs to get the EM stocks. Over the years, as more and more of the international holding has moved out of the TSP and into various other accounts and I prefer the Total International fund to the relatively highly correlated Developed Markets Fund, EM has gradually been overweighted. Seems like a good place to shave an asset class to me. It's not like we don't still own all of the emerging markets stocks. We're just no longer unintentionally overweighting them. We plan to continue our 5% allocation to international small stocks as we have been pleased with this Vanguard fund since we first invested in it when it opened.
# 6 Figuring Out Real Estate
Although some people think I'm anti-real estate for some bizarre reason, I really view stocks, bonds, and real estate as the three major investment asset classes. In some ways, this formal real estate allocation is really just an acknowledgment of what we have been doing already. I have been running a separate (separate from our retirement allocation) allocation for our real estate empire. It currently includes some syndicated equity and debt investments and the administrative building for our partnership. In addition, I am going to fold the REIT allocation into this 20%, using Vanguard's excellent index fund of publicly traded REITs to assist with rebalancing between the other major asset classes. I plan to use 5% of this 20% for hard money lending, basically real estate-related debt investments. Many of these are available via the crowdfunded syndicated sites and through personal relationships I have. Holding periods are usually less than a year, often as little as six months, yet returns of 8-12% are routine and the debt is backed by the value of the asset. It seemed a great replacement for peer to peer loans in the portfolio. The remainder of the allocation will be dedicated to equity investments, both real estate and other business opportunities such as syndicated shares of my hospital or websites. Even with our 7.5% REITs we're not at 20% yet, but we should be able to get there gradually over the next year. While many of these investments are even less liquid than our P2PLs were, it is still only a small portion of the portfolio, they generally produce good cash flow, and they reward us appropriately for the illiquidity. I'll have an ongoing series of posts about what I'm doing with this section of the portfolio (since it is far more interesting to talk about than the 80% of the portfolio invested in boring old stock and bond index funds.)
Have you ever made changes to your asset allocation? What was your process and reasoning? What asset classes do you think belong in a portfolio? Do you invest in real estate? Why or why not and how? Comment below!
Personally, I don’t see a need to invest in other than growth mutual funds (across the 3 market caps, including international). Aside from real estate, these provide the greatest return over time.
Speaking of real estate, the IRR of my RE investments easily clear 15%. There is definitely a hassle factor, but this is managed by not being in debt up to your eyeballs and having a good renter screening system.
I came across with this old thread and seems like I am late for the party. I just want to comment on OCMD101. What a personality!! I don’t condone violence but it is impossible not to imagine punching his face.
I have been reading WCI since 2012 when I was doing fellowship. Do I agree on all his ideas? May be not. But the notion that he is trying to misled young MDs is glib. I learned a lot and I was able to avoid financial pitfalls early in my career. Thank you for what you do and I know people like OCMD101 won’t discourage you from your mission.
As always, the best thing to do is to take what you find useful and leave the rest. I don’t know anybody that I agree on every point of finances with.
Jim, I love your website and am slowly making my way through most of your archives, and have altered my asset allocation to some degree based on your recommendations. My concern is that when/if I die, my wife–who is far less interested in finances/investing–won’t be able to easily handle taking the reins on this. Do you have the same concern about your wife, or is she perhaps as in-the-know as you are? If you do have similar concerns, do you ever wonder how well she can inherit the maintenance of your fairly complex portfolio including all the real estate? This is the subject that concerns me most about my family’s investments, and I’ve been wondering if I should dramatically simplify for the sake of my wife if (God forbid) I die early–knowing the simpler portfolio may not be as profitable. I realize the answer to this question may be long. Might it possibly worth its own blog entry if you haven’t done one about this before? Specifically, something along the lines of how you’re prepping your wife to handle your current WCI asset allocation and investments if you die (theoretically) next week? Apologies for the morbid question. Thanks Jim!
She can certainly handle it, but she also knows where to go for help, i.e. advisors that offer good advice at a fair price.
https://www.whitecoatinvestor.com/financial-advisors/
WCI, thanks for the link. One other unrelated question: I appreciate you discussing your current asset allocation, but you didn’t mention in which buckets all these investments are going. I’m curious to know where yours are, i.e., is G fund in Trad or Roth TSP, where are your TIPS, your other mutual funds, REIT, etc. If you’d rather not share that info, no worries. Just curious b/c I’ve realized–a bit late in the game–that I haven’t smartly allocated my investments in the most tax-savvy buckets and am now trying to reallocate/repair. Thanks!
Funny you should ask:
https://www.whitecoatinvestor.com/how-i-currently-implement-my-asset-allocation/
https://www.whitecoatinvestor.com/implementation-of-my-asset-allocation-an-update/
Of course, both of those are hopelessly out of date and I’ve got some current changes brewing right now.
As I recall, currently the TSP is all G fund, the Roth IRAs are all small value and REITs, taxable has TSM, TISM, a muni bond fund, and a bunch of real estate, and the 401(k)s have a mix of TSM, TIPS, and international small. But it changes frequently as accounts change size in relation to one another. The trend the last couple of years has been moving stuff to taxable.
One other question . . . if you weren’t so diverse in your real estate and simply were using REITs, would all 20% have gone to REIT or would you have decreased that allocation below 20%? I ask because I’ll probably never do all the real estate investments you’re doing, but can more easily invest in REITs. Just curious.
I would have decreased the allocation. When all I had were publicly traded REITs, it was 7.5% of the portfolio (10% of equity). David Swensen of Yale fame argues for 20% REITs though in his book.
Thank you for this and my prior question, great info.
I’m investing for my parents who are nearing retirement. They have a three fund portfolio with vanguard and I’m taking over from their advisor who is not doing tax loss harvesting. I was thinking of doing the 5% Small value and 5% REIT to get a lil more diversification on a 50-50 stock bond portfolio (rest in total US and Int mkts). Are you still doing this with your own parents retirement account?
Pretty much, yes. 30% US stocks, 5% SV, 5% REIT, 10% International stocks, 20% TIPS, 20% intermediate bonds, 10% cash. It’s reasonable and has worked well over the years.
Any reason for multiple bond holdings vs. just total bond market index? I have them at vanguard and could easily switch into them. Currently I have total bond market at 50% for simplicity.
26% US
14% INT
5% SV
5% REIT
50% Total bond mkt index
Yes, that’s the simplest option. You know there aren’t any TIPS at all in TBM, right? That’s why I added a separate TIPS fund. The biggest risk with bonds is unexpected inflation, and that’s what TIPS protect against. So I use a fair number of TIPS in my portfolio and my parents.
Didn’t realize. Excellent. Thank you for your help! I may consider the same.
Paul Merriman recs:
“50% intermediate-term, 30% short-term and 20% in TIPS funds for inflation protection. ” He says long term bonds and corp bonds go against conservative approach to bonds.
Merriman’s approach also reasonable. A little Swedroe-esque with the aversion to corporates/longs.
I was going to say. There is no TIPS in Total Bond Market.
I held Broadmark as well during the recent IPO. It has taken a small price bump last I looked. Are you selling and investing according to your asset allocation or holding if I might ask? Not sure what to do, its a large position in one publicly trader REIT (also in taxable account).
I think I’ll be selling. I’m still in the process of moving it in-kind to Vanguard. Too bad, it was my favorite investment in that asset class but I’m rapidly warming up to the CityVest/DLP I fund I bought. It had a great third quarter-11% annualized.
Question for WCI and others on this thread… when you say you’re allocating 15% to small value, do you mean that you’re allocating 15% of your total investment portfolio to one (or more) small value strategy funds (such as VSIAX vanguard small value mutual fund)? Or do you mean that you are adding up all of the small value portions of all of your investments and dividing that sum by your total investment portfolio to get your small value percentage?
Just to clarify, as you know any small value strategy fund will have a certain % dedicated to small value (i.e. 22% in VSIAX, 22% in FSSNX, 1% in VTSAX, etc) and the rest broken up among small blend, small growth, mid value, etc. The two methods I mentioned above can yield VERY different allocation calculation results. For my portfolio for example, if you do the calculation the first way you end up with 25% of my total portfolio being small value. But if you do the calculation the second way, you end up with only 6.6% of my portfolio as small value. Obviously a huge difference here.
Curious to hear other peoples’ approach to this. Thanks!
That second method sounds tedious. Per Morningstar, small value only makes up 2% or so of a TSM fund so it can be safely ignored. The Vanguard Small Value Fund is 23% small value and 25% mid cap value. The DFA Small Value Fund is 44% small value and 4% mid cap value.
If you really want to know what you own, run it through the Morningstar Instant X-ray Tool. https://www.tdameritrade.com/education/tools-and-calculators/morningstar-instant-xray.page
My current mix of 25% TSM and 15% Vanguard Small Value looks like this:
Value Blend Growth
Large 15 19 15
Medium 12 12 6
Small 10 8 3
I’d vote for your second method of accounting. Find all the small cap value in your holdings and call that your percentage of small cap value. This will give you a more accurate view of your holdings, if you’re interested in actual asset allocation.
Too many funds will juice their returns by owning assets outside of their stated goals. Just because the fund says it’s goal is to own small cap value doesn’t mean that it’s not going to grab an enticing medium or large cap value, or dip its toes into small cap growth, then boast about its returns. They may even jack up their fees to profit off the headline numbers. Not that I’m cynical or anything.
I see you have 5% small international. I’ve done the same myself via VSS vanguard small cap eft, but bogleheads seem to think its such a small amount it doesn’t move the needle . A lot of people seem to be doing 10% VSS or more, or 50/50 ratio of small/large international. Just wondering how you came to 5% decision regarding small international.
I’m also doing 15% small value. Just feels right. Might not hurt so badly if it underperformed, but get some of the long term performance if value/small premium persists.
Thank you for all that you do!
My general rule with asset classes is that less than 5% doesn’t move the needle, but 5% does. I also try not to tilt any more than I believe in the tilt. If I was absolutely certain that small would outperform large over my time horizon, I’d only buy small. The size of my tilt reflects the size of my belief. If you tilt more than you believe, you are liable to doubt yourself and sell low, only to abandon your plan at the worst possible moment.
Thanks. I have 5% VSS, but bogleheads investors feel the needle doesn’t really move below 10%. They say “its really just basis points at 5%.” Not sure, maybe there is some paper illustrating the difference. Maybe I’ll go 20% large and 10% small international. Not sure it matters, like you said something reasonable.
If you do the math you’ll see it’s really a spectrum, a continuum if you will. There’s nothing magic that happens when you go from 4% to 5% or 9% to 10%. I think it moves the needle at 5% and I’m a “bogleheads investor” too. But there’s room here for reasonable people to disagree. It’s your portfolio, so you have to decide where the balance between potential additional return vs additional complexity lies for you.
Pick something reasonable and stick with it.
Hi,
Been reading a lot of the articles, learning, and loving it. As a new resident with Roth IRA with ~25k split in some index funds but mostly cash, I would like to imitate the New WCI portfolio.
However, I have a question in regards to tax-efficient and tax-inefficient funds. Should tax-inefficient investments (ex. REIT funds, actively managed mutual funds with high turnover, and high-yield bond funds) be done through my roth IRA and then tax-efficient investments (ex. municipal bond funds, passive stock index mutual funds) be done in a taxable account?
Also, should I be maxing out my 403b just to how much my hospital matches (5%) or putting in the absolute maximum amount I can contribute each year?
If all you have is a Roth IRA, great for you, all your investments go in there. No reason to use a taxable account until you can’t fit all of your annual savings into your retirement account space.
If you can max out a 403b and a Roth IRA each year as a resident I’m impressed. Good job. If you can’t save that much (and I couldn’t) then at least make sure you get any available match.
My thinking on the role of bonds tends to be shifting from a fixed percentage to more of how much do I need to draw from during a portfolio downturn until the equities recover.
Depends on what role you see for bonds in your portfolio. If it is only to provide something to spend until stocks recover, your approach works well.