Forum Mailbag: Rebalancing, Roth Allocation, NASDAQ vs. Total Market, And More!

There is so much great information on personal finance forums. I participate on several message boards, including the Bogleheads and White Coat Investor forums. Here are some of the discussions happening around the internet.

1. Bogleheads: Does Rebalancing Reduce Risk?

Question: CULater does some math and notes that from the time period of 2000-2018, a 50/50 stock/bond portfolio that is never rebalanced actually had higher returns and lower risk than a portfolio that was rebalanced either annually or when the portfolio deviated a certain percentage from the target allocation. He seeks input from the Bogleheads community on this anomaly.

WSP’s Take: I don’t know the details of the reader’s calculations, but my guess is that this is likely an artifact of cherry-picking dates. The start period of 2000 (right before the tech bubble bursting) is frequently used to justify counter-intuitive arguments (for example, stocks are a bad investment because the S&P 500 was flat between 2000-2012).

As others noted in the thread, cherry-picking other time periods, such as 2003-2017, does demonstrate a benefit to rebalancing.

To be clear, rebalancing should not increase your expected return; in fact, it should decrease your expected return because you will generally be selling stocks as it is rising and buying stocks as it is falling since it is more volatile than bonds. But rebalancing should also reduce the volatility of your portfolio (matching your overall risk tolerance based on your set asset allocation) compared to a portfolio that is never rebalanced. This will not always be the case (as the cherry-picked example showed), but on average rebalancing will achieve this goal.

2. White Coat Investor: Roth Allocation

Question: Orthodoc2018 is in his early 30s and finishing fellowship this year. He has started maxing out his Roth IRA for himself and his wife each year. He is currently planning to invest in Vanguard Target Retirement 2050 (ER = 0.15%), which would match his expected retirement date. He does note that the fund holds 10% bonds, which seemed a little bit high for him.

WSP’s Take: Investing in a target retirement fund is fine, but you can get the same allocation of the target-date fund for cheaper by purchasing the individual components of the target-date fund. In the case of Vanguard Target Retirement 2050, you could use VTI (U.S. Stocks), VXUS (International Stocks), BND (U.S. bonds), and BNDX (international bonds) to replicate the target-date fund at a fraction of the cost.

10% bonds is certainly reasonable for someone in their 30s — I strongly caution against a 100% stock portfolio, especially for new investors.

3. Physician On FIRE Facebook Group: NASDAQ vs. Total Stock Market

Question: A reader on the Physicians on FIRE Facebook group currently holds FNCMX (Nasdaq Composite Index Fund), which has a net expense ratio of 0.3%. However, she hears all about FSKAX (Total U.S. Stock Market) as the best U.S. stock index fund option. She notes that both indices hold thousands of stocks, so she is not sure about the additional diversification benefit of FSKAX over FNCMX.

WSP’s Take: The reader is correct that the NASDAQ Composite, which consists of over 3,000 stocks, has a similar number of stocks as the U.S Total Stock Market index. However, the composition of stocks in the NASDAQ (technology-heavy) make it more volatile than the total U.S. stock market index. Whenever you listen to the news, the NASDAQ Composite Index usually has larger swings than the S&P 500, despite having more stocks. In the absence of tax consequences, I would switch from FNCMX (ER = 0.30%) to FSKAX (ER = 0.015%). The Fidelity ZERO Total Market Index Fund (FZROX) is also a good option. However, if you have large capital gains on your FNCMX holdings in a taxable account, it might be worth it to just keep the FNCMX.

4. Bogleheads: VUG vs. VTI

Question: OnBoard has a 25-year time horizon and is deciding between VUG (Vanguard Growth Index ETF) and VTI (Vanguard Total Market ETF).

WSP’s Take: Vanguard Growth ETF (VUG) has an expense ratio of 0.05%, while Vanguard Total Stock Market ETF (VTI) has an expense ratio of 0.04%. Vanguard Growth ETF focuses on large-cap growth stocks, while Vanguard Total Stock Market ETF tries to replicate the entire stock market. My preference would be VTI over VUG, as the Total Stock Market ETF gives more diversification for a slightly lower price.

Wall Street Shares: 5 Articles To Read This Week

1. A Wealth Of Common Sense: Revisiting the 4% Rule — If many nonprofits are required to spend 5% per year and are designed to last forever, why are retirees only “allowed” to spend 4%?
2. Get Rich Slowly: Your financial family tree: What our parents teach us about money — J.D. Roth believes that many of our personal finance patterns are learned from our parents.
3. Our Next Life: There Is No Financial “Truth” (But Why That’s a Good Thing) — Personal finance is personal.
4. Senior Resident: Buy the Best versus Buy Cheap — It depends on what you’re buying.
5. Xrayvsn: I Send My Kid to Private School. Gasp! — This radiologist explains his decision to send his daughter to private school.

What do you think? Do you agree or disagree with any of my responses? What’s your take on the topics in this week’s forum mailbag?