Right now, there is a big debate in Congress about whether the fiduciary standard should be required for all financial advisors that manage retirement accounts. A fiduciary requirement would include the following:

• They must exercise best efforts to act in the best interests of the client.
• They must provide disclosure of any conflicts of interest.
• They must clearly explain how they make their money (upfront fees, asset-based fees, commissions, etc.)

Most people probably think “Wait, don’t they do this already”? Nope. Even so, many still violate the current lower standards! Barry Ritholtz has some scary numbers in his Bloomberg article Brokers Behaving Badly:

• 1 in 13 brokers have committed misconduct that resulted in disciplinary action.
• Half of those brokers are fired, but nearly half simply move on to work for another firm within a year.
• About a third of brokers are repeat offenders (multiple events of misconduct).

(Use the FINRA Broker Check tool to look up regulatory actions, violations or complaints for a specific person or firm.)

The worst part is that much of the financial industry continues to fight against the fiduciary standard. Even popular “guru” Dave Ramsey opposes the fiduciary proposal, and has been called out on Twitter for it. They claim it will “limit middle-class access to financial advice”, which roughly translates in my mind to “if we can no longer suck huge 8% commissions from small accounts, then we might not bother anymore”.

I enjoy managing my own investments. I also believe that hiring a good financial advisor would work well for many people. A “good” financial advisor needs to have hard knowledge, soft communication skills, and the proper alignment of interests.

Whoever wins this political fight, you as an individual still have the right to demand that your financial advisor be a fiduciary. Those letters after people’s name don’t all have the same value. Certain designations like Registered Investment Advisor (RIA) include a fiduciary standard component. You may also show them this Fiduciary Pledge and see how they respond. Being a fiduciary alone is not enough to find an appropriate advisor, but it does serve as a very simple and basic filter.

I’m a fan of the Vanguard Target Retirement 20XX Funds. These Target Date Funds (TDFs) may not be perfect, but they are a low-cost, broadly-diversified, “set-it-and-forget-it” fund that I feel are consistently under-appreciated and easily maligned due to their inherent “one-size-fits-most” nature.

In a recent Vanguard blog post titled “TDF investors are not rotisserie ovens”, senior product manager John Croke felt the “set it and forget it” description “fuels the misperception that many investors in TDF strategies are disengaged, disinterested, and generally unaware of what they’re invested in.”

The subsequent points he makes are certainly valid, but I happen to think the rotisserie oven analogy should be worn as a badge of honor! As Jason Zweig writes in the WSJ article “Radical Investing Advice: Do Nothing, Nada, Zilch, Zippo”:

Target-date investors, says Jeff Holt, an analyst at Morningstar, “are less prone to take matters into their own hands and move their assets around when markets are gyrating.”

[…] research by Financial Engines found that participants with little or no money in target-date funds underperform them by an average of 2.1 percentage points annually.

You won’t see Vanguard Target Retirement funds being touted very much in the financial media. Their returns are rarely at the top since they are index-based, so magazines and newsletters won’t write about them. Most advisors are supposedly charging you for their “expert” advice, so they will of course recommend something more complicated. Even index fund enthusiasts like myself often don’t invest in them because we like to fine-tune and tinker (sometimes to our detriment). They never seem to be the “best” move, just something you settle for when you can’t think of anything better. I think this cartoon describes the situation well (found via @michaelbatnick):

It is an unpleasant truth that most people would be better off just focusing their energy on savings rate and leaving the investing to a Vanguard Target Retirement Fund. Another example of the power of inaction: A person who bought the 30 largest US companies back in 1935 and did absolutely nothing after that would have outperformed the S&P 500 over the last 40 years.

Now, I should throw in a few quick points from the Vanguard blog post about what investors shouldn’t forget about:

• TDFs will continue to hold a certain amount of stock risk after you reach your target retirement age.
• Along the same lines, TDFs do not provide guaranteed income in retirement.

To summarize, don’t be insulted when being compared to a Ronco rotisserie oven. Be proud to “Set it and forget it”. Vanguard Target Retirement Funds even perform the chore of rebalancing between stocks and bonds for you automatically. Perhaps Vanguard could even use some tips from Ron Popeil about marketing their low, low pricing 😉

Reading Warren Buffett’s Annual Letter always reminds me that stocks are not just some numbers that bop up and down, but are shares of real businesses with land, factories, knowledge, and hard-working people. This helps reassure me that the value of those companies taken together will never go to zero, and will eventually rebound and grow over the long term. At the same time, once you stop working and start selling shares, the prospect of going to zero is real. If you combine a prolonged bear market and forced withdrawals at depressed prices, you risk permanently impairing your portfolio.

According to a Merrill Lynch survey of wealthy families with $5+ million (not just people on the street!), 39% of them thought you could spend 6% or more from your portfolio indefinitely. The reality is closer to 3%.

When you see the term safe withdrawal rate, it almost always refers to how much money you can safely withdraw from an investment portfolio each year without running out of money. Usually, this number is set during the first year, and is adjusted annually for inflation. The key phrase is “without running out of money”. You could start out with a $800,000 dollars, but as long as you end with at least $1 and never drop below zero, you’re considered “safe”. In the real world, having your portfolio nosedive while you’re still relatively young may cause you to panic prematurely.

Since I last mentioned PortfolioCharts.com, the creator Tyler has released a new tool called the Withdrawal Rates Calculator. It is quite cool, at least for an asset allocation geek like myself. You can enter your own custom asset allocation, and it will show both the historical safe withdrawal rate and the sustainable withdrawal rate. As defined there, a sustainable withdrawal rate is one where you must end the period with your initial principal amount, for example you must both start and end with $800,000 dollars.

Here are the results for the Classic 60/40 portfolio:

60% Total US Stock Market
40% Total US Bond Market

Here are the results for the Swensen Portfolio, on which my portfolio is loosely based:

30% Total US Stock Market
15% International Developed
5% Emerging Markets
15% 5 Year US Treasuries
15% US TIPS
20% US REIT

For the Classic 60/40 portfolio, the rough numbers for a 40-year period are 4% for Safe WR and 3.4% for Sustainable WR. For the Swensen portfolio, the rough numbers for a 40-year period are 4.6% for Safe WR and 4.2% for Sustainable WR. If you were to focus on the sustainable numbers, that’s a surprising result of 24% higher withdrawals with the Swensen portfolio (and other asset allocations do even better!)

Can you depend on these historical differences to persist into the future? I would be careful about looking at things too finely, as correlations are always shifting. However, I do prefer using the sustainable withdrawal rate number for my own early retirement planning, and I am thankful to have this tool to tinker with.

(You may also be interested to know that a 100% US stock portfolio, despite its higher historical average returns, has a slightly lower 30-year sustainable withdrawal rate that either of the options above.)

As a follow-up to my last post on 100% stocks forever, the referenced NYT article had some neat data that I hadn’t seen anywhere else. This chart shows how the overall asset allocation of IRAs held by Vanguard change according to the age of the investor. The glide path of Vanguard Target Retirement mutual funds is also included for comparison.

Eyeballing things, it appears that past age 65, Traditional IRAs settle at roughly 58% stocks, while Roth IRAs settle at roughly 67% stocks. This “real world glide path” declines much more gradually than ones from the major all-in-one fund providers, and also stays flat from retirement age onward. For comparison, here are additional glide paths for Fidelity, T. Rowe Price, Blackrock, and American Century, taken from a Morningstar paper. (For this chart, retirement age would be roughly 2015.)

I don’t know any studies that have found the real reason behind the “real world” numbers. I would suggest as a possible explanation that the average percentage must be asset-weighted, and “rich” people have more assets in aggregate. The “rich” don’t need to make big withdrawals (unless required by law), and so they don’t need to spend every penny before they die. They will leave a chunk of money to heirs and thus have a long time horizon. In turn, this longer time horizon would support the holding of more stocks. Roth IRAs are especially useful as an inheritance vehicle as they don’t have required minimum distributions (RMDs), which could also explain why they are even more strongly weighted in stocks.

Meanwhile, if you need to spend down your assets during retirement, then the asset allocation suggested by Vanguard Target Retirement funds (and all the other major target-date funds) would make more sense. But it’s certainly a good point that these one-size-for-all solutions will not apply to everyone.

If you like low costs, diversification, and simplicity but want more control, I would suggest the option of switching to a Vanguard LifeStrategy all-in-one fund that stays fixed at 40%, 60% or 80% stocks. I use the 60/40 LifeStrategy Moderate Growth Fund (VSMGX) as a benchmark for my own long-term portfolio asset allocation.

The NY Times had a provocative two-part series on portfolio asset allocation by David A. Levine, former chief economist at Sanford C. Bernstein & Company:

• Why Your Portfolio Needs Plenty of Stocks, Whatever Your Age
• How Much of Your Nest Egg to Put Into Stocks? All of It

I enjoyed reading his opinions, but didn’t agree with all of his points. The heart of my argument is that when the writer says “most people”, he seems to be talking about his Wall Street peers with multi-million dollar retirement portfolios, where most of it will eventually be passed onto heirs or charity. Instead, “most people” are actually trying to make something like a $200,000 nest egg last as long as it possibly can.

Time horizon vs. asset size. The first article brings up the topic of “time horizon”:

This consensus view, though, rests on a fallacy: the belief that as people grow older, their investment horizon shortens and, therefore, their ability to withstand volatility diminishes considerably.

I would argue, instead, that there is an insufficient appreciation of just how apt the metaphor of the “investment horizon” is. Just as a sailor sees but never reaches the horizon, the same is true for nearly all investors.

[…] But what if there’s a bear market? “No big deal,” I say. As long as you don’t panic and sell most of your holdings at the worst times, your annual withdrawals are limited. As a result, you should not really worry about fluctuations in the stock market.

A rule of thumb is that stocks can drop 50% in any given year. Again, let say all you have is $200,000 and you’re withdrawing 4% of that ($670 a month) to supplement your Social Security and/or pension income. If your balance drops to $100,000 due to a economic crisis, and you still need that $670 a month to pay the bills, yes you are going to panic.

If you have a $10 million portfolio, and a market crash means that you simply reign in some of your discretionary purchases, then your stress level is going to be lower. As my own portfolio has grown, I now only hold 70% stocks but also worry less about the stock portion as I know can ride out a bad sequence of returns.

As Josh Brown reports on The Reformed Broker:

Having worked directly and indirectly with investors from all walks of life and every region of the country over the last 18 years, I can promise you that almost no one can endure – emotionally speaking – the volatility and drawdowns that an all-equity portfolio brings to the table.

Long-term performance vs. asset allocation. The second article makes the point that the historical long-term performance of stocks has been higher than all types of bonds, over many different holding periods:

In my opinion, the logical conclusion from such tables as above is limited to saying that if you are going to invest in stocks, you need to hold them for 20+ years. So if your portfolio is 60% stocks, keep that portion in stocks for 20+ years. The table doesn’t take into account withdrawals or timing risks where you are forced to take out money to meet spending needs during a period of negative returns.

In addition, Warren Buffett is used as an example because he stipulated 90% S&P 500 stocks and 10% Treasury Bills for his wife’s trust upon his passing. Buffett is worried about the long-term returns, not the risk of his wife running out of money. Do you think her withdrawal rate will be anywhere near 4%? It’s going to be a tiny fraction of 1%. I’d bet big bucks that Buffett would not have set the same asset allocation if she only had $500,000 to live on.

In the end, I guess what I am saying is that your asset allocation also depends on your asset size. Your time horizon matters, but also how close you are to missing a rent payment matters too. Products like target-date retirement funds don’t adjust based on if your balance is $10 million or $10,000. Nor should they really, as they don’t know your future spending needs either. Investors themselves (or their advisors) need to take both of these factors into account.

Of course, it would be great not to have to worry about keeping a balance greater than zero. With a big asset base and modest spending levels, you could indeed have an indefinite time horizon and keep 60% in stocks forever, much like a traditional pension plan. I’d require some enormous amount like $10+ million to be 100% stocks forever, though.

Vanguard is the one of the biggest providers of defined contribution (DC) plans like 401(k) and 403(b) plans, with more than 3.9 million participants. An optional service they provide for these DC plans is managed account advice, where you pay them an asset-based fee and you cede all portfolio control to them. Vanguard Managed Account Program (VMAP) serves as a fiduciary that sets asset allocations, chooses investments, and monitors/rebalances portfolios on a continuing basis. Fees typically begin at 0.40% on the first $100,000 in assets under management.

Vanguard published a research paper on the before-and-after results from actual participants called The value of managed account advice [pdf].

Even if you aren’t considering paying for such a service, I figured there would be some worthwhile takeaways from their results. Here are my condensed notes from reading their paper.

Reallocation of company stock. About 12% of participants initially had a concentrated position of 20% or more in employer stock. Holding too much stock in your employer is generally understood to be too risky, so VMAP fixes that. The average allocation to company stock fell from 46% to 4% as a result of managed account advice. This group was probably impacted the most by professional advice.

Personalized advice. Not only do you simply indicate an expected retirement age and desired level of risk, but you can add outside assets to the overall asset allocation evaluation. 35% of all VMAP participants personalized the service in some manner.

Forcing you to make savings rate decision. When you sit down and start this service, you have to talk about your goals and see some projected numbers. Then you must make a decision as to your savings rate. Overall, people saved more once faced with this situation. Specifically, 1/3rd of participants increased their savings rates, 7% decreased them, and the remaining majority maintained contribution rates at the same level. See chart below:

More appropriate asset allocation. In terms of asset allocation, VMAP made things more appropriate and efficient in relation to the need and ability to take risk. Some people got more equity exposure, some people got less. On average, people were told to hold less employer stock, less cash, and more international stocks. See chart below:

Net effect on retirement wealth. Let see. On average, VMAP participants saved more money. On average, expected returns on VMAP-advised portfolio rose. On average, expense ratios on VMAP-advised portfolio were reduced by 0.06%. But everyone also paid advisory fees. What happens when you take all the factors together? In their own words:

To summarize the interplay of these effects, we used the change in participants’ projected ten-year real retirement wealth as a benchmark for evaluating advice. This allowed us to observe the true effect of managed accounts, independent of the participant’s starting account balance or asset allocation.

On average, managed account participants experienced a relative increase of 15% in projected retirement wealth over 10 years. I’m a little disappointed in “projected” wealth increase vs. actual wealth increase, but I think that’s the best they could do with their limited data set. In order to better see how this works, they broke things into ten equal groups, or deciles, based on the change in retirement wealth. This chart includes the 88% of participants that didn’t have a huge chunk of company stock to start with.

As you can see, the bottom decile is mostly affected by the fact that they simply chose to save less money (lower annual contribution rate) and they lowered their stock exposure (lower expected real return). I can only guess that these folks needed to lower their risk levels to a more appropriate level. The top decile both chose to save more money and increased their stock exposure.

Summary. Each of the factors listed above could all be converted to standard advice, i.e. “Things an Investor Should Do”. You should make sure not to hold too much company stock. You should assess your situation, and increase your savings rate if needed. You should make sure your asset allocation is appropriate for your age and risk requirements. Yes, a DIY investor could certainly do these things for themselves. But have you? Will you?

This part is purely my opinion, but how about a general rule, if you haven’t done these things in the last 3 years, perhaps paying for advice may just be worth it? For example, if you’re holding more than 30% of your portfolio in company stock, and haven’t gotten rid of it in the last 3 years, maybe you need someone to do it for you.

The problem with a lot of good advice is that you really don’t understand it without experience. For example, Jack Bogle always says “Stay the course”. I was lucky enough to trust in that advice, but it took me a while to really appreciate the power of investing in productive assets and then treating them with what I call beneficial neglect. That is, I make the most money when I fight off the urge to take action.

I managed again to do as very little during the hiccups, tantrums, seizures, or other bodily functions the markets had in 2015. As the year ends, we all like to take look back and assess the situation. Here are the trailing 1-year returns for select asset classes as benchmarked by passive mutual funds and ETFs. Return data was taken from Morningstar after market close 12/31/15.

Stocks. The Total US Stock Market (VTI) ended up mostly flat, while the rest of the world’s markets (VXUS) dropped a little bit (~4%). Emerging Markets (VWO) did the worst, with a -15% total return. US REITs (VNQ) were up a little bit (~2%). If you were like most people and owned mostly US stocks with perhaps a little international exposure, you were probably close to breaking even.

Bonds. The Total US Bond Market (BND) and short-Term Treasuries (SHY) went up a little bit. Long-Term Treasuries (TLT) and Inflation-linked Treasuries (TIP) went the other way, going down a little bit instead. There were no huge moves, despite all the talk about interest rates.

Gold dropped around 10%, joining the other industrially-useful commodities in having a down year.

Another year, another batch of predictions into the shredder. How many people were saying that oil prices, already said to be “too low” at $50, would drop another 30% in value? Did anyone listen to me when I said not to speculate with the USO ETF? A funny book that came out this year was The Devil’s Financial Dictionary by Jason Zweig. Here’s how he defines forecasting:

Forecasting (n.) The attempt to predict the unknowable by measuring the irrelevant; a task that, in one way or another, employs most people on Wall Street.

Most people who owned a diversified portfolio in 2015 had their money go nowhere or perhaps lost a little bit of money. The 2015 total return of my personal investment portfolio was roughly -1.5%, right in that “meh” range. I imagine the people who like to focus on dividends, interest, and rental income collected them happily and went about their lives. That sort of mental framework is becoming increasingly appealing to me.

As a follow-up to Vanguard founder Jack Bogle’s 2015 stock market prediction paper and related Morningstar article, here are a few selected slides from the presentation deck by Jack Bogle at the Bogleheads XIV conference in October 2015.

The formula for predicting future stock market returns is:

Future stock returns = Current dividend yield + Predicted earnings growth ± (Reversion to long-term average P/E ratio)

The formula for predicting future bond market returns is:

Future bond returns = Current yield to maturity

At 6% nominal for stocks and 3% nominal for bonds, both 10-year numbers are below long-term averages. However, the 10-year breakeven inflation rate based on TIPS and Treasury yields is roughly 1.5% as of now (late 2015). Using those inflation numbers would result in 4.5% real returns for stocks and 1.5% real returns for bonds, a brighter picture than that painted by other forecasts.

Admittedly it is not a large sample size, but here is a plot of how the 10-year predictions have done so far (1990-2014):

As noted previously, I like to keep track of these forecasts along with those provided by:

• Research Affiliates Expected Returns by Asset Class Tool
• Portfolio Solutions® 30-Year Market Forecast for 2015
• GMO 7-Year Asset Class Return Forecasts, December 2015