Fidelity just announced a new feature called Fidelity Solo FidFolios. You can make a custom index with up to 50 individual stocks, or a custom asset allocation portfolio using ETFs. You can then buy into your custom portfolio all a once using flat dollar amounts and Fidelity will juggle the fractional shares. For example, your $50 purchase could be split into 50 different individual companies.

“Now more than ever, investors want the peace of mind of trading, monitoring, and rebalancing custom stock portfolios in a simple way,” said Robert Mascialino, head of Fidelity’s retail brokerage business. “With the ability to align to a specific theme or individual values, Fidelity Solo FidFoliosSM helps leverage the power of direct indexing to build a customized portfolio while simplifying how investors manage what they own.”

Costs. Flat $4.99 per month, with a 90-day free trial. No stock commissions. Works within your usual Fidelity brokerage or IRA account. If you stop paying the fee, you just end up holding those individuals stocks and/or ETFs.

Note that this is different from their Fidelity Managed FidFolios, which is professionally managed by Fidelity and more about using tax-loss harvesting to gain a slight after-tax advantage. The cost for Managed Fidfolios is 0.40% annual management fee with a $5,000 initial minimum.

This may sound familiar, as it is pretty much what the start-up M1 Finance first introduced years ago, with the important distinction that M1 Finance is free (so far). Motif Investing also ran something similar before they shut down and their technology was acquired by Schwab.

I believe that a “custom robo-advisor” feature is going to be widespread in the future. Many DIY folks would like the ability to make your own customized all-in-one Target Retirement Fund. It’s really not that technically difficult to allow everyone to create their own custom glide path. I explored this with a small investment in M1, but in practice I have found it trickier to implement if you have to rebalance across various 401k plans, IRAs, and taxable brokerage accounts. Still, I’d rather use M1 Finance or this Solo Fidfolio over another robo-advisor that changes their model portfolios every few years to match up with whatever is currently trendy.

via GIPHY

Schwab has agreed to pay a $187 million SEC settlement due to being sneaky about the fees charged by their robo-advisor product, Schwab Intelligent Portfolios (SIP). Schwab used “free” but quietly forced its own customers to hold a lot of cash in an high-cost form where they can skim off fees (and you get paid less interest). It was a relatively open secret in the financial planning industry, as noted in my own Intelligent Portfolios review:

Schwab makes a ton of money on your idle cash, and it is NOT an accident that they force you to own cash in their automated portfolios.

However, the details of this SEC settlement show that their behavior was even worse than I initially thought. As explained by Matt Levine in Money Stuff, Schwab literally decided how much profit they wanted first, and then worked their model asset allocations around that number. The technical version:

Each of SIP’s model portfolios held between 6% and 29.4% of clients’ assets in cash. The amount of cash that each SIP model portfolio contained was pre-set so that Respondents’ affiliate bank would earn at least a minimum amount of revenue from the spread on the cash by loaning out the money. …

In order to offer SIP without charging an advisory fee, Schwab management decided that the SIP portfolios would collectively hold an average of at least 12.5% of their assets in cash. To meet that goal, management set the exact amount of cash in each of SIP’s model portfolios, with the most aggressive portfolio containing 6% cash and the most conservative portfolio 29.4%, based in large part on its analysis that Schwab Bank would make a minimum amount of revenue at these levels. Management then provided these pre-set cash allocations to CSIA. In building the SIP model portfolios, CSIA treated the cash allocations provided by management as constraints and did not alter or adjust the cash allocations in any way. …

On February 18, 2015, weeks before the SIP launch, two articles were published in the media that were critical of SIP, claiming that the drag from the high cash allocations was a hidden cost of the program. In reaction to these articles, Schwab management directed that the SWIA ADV brochure be re-written, and that a public relations campaign be launched to explain the SIP cash allocations. …

While the ADV brochures disclosed that Schwab Bank earned income from the cash allocation for each investment strategy, SWIA’s and CSIA’s ADV brochures stated that the cash allocations in the SIP portfolios were “set based on a disciplined portfolio construction methodology designed to balance performance with risk management appropriate for a client’s goal, investing time frame, and personal risk tolerance, just as with other Schwab managed products.” This was false and misleading because the cash allocations were actually pre-set in order to reach minimum revenue targets for the Respondents.

Here it is more accurately summarized in this Reuters quote:

“Schwab claimed that the amount of cash in its robo-adviser portfolios was decided by sophisticated economic algorithms meant to optimize its clients’ returns when in reality it was decided by how much money the company wanted to make,” SEC enforcement chief Gurbir Grewal said.

Here’s what Schwab says in their press release:

We are proud to have built a product that allows investors to elect not to pay an advisory fee in return for allowing us to hold a portion of the proceeds in cash, and we do not hide the fact that our firm generates revenue for the services we provide.

Really, you don’t hide the fact? Let’s look at your product page now as of 6/15/2022. This is what you see without clicking further:

We believe cash is a key component of an investment portfolio. Based on your risk profile, a portion of your portfolio is placed in an FDIC-insured deposit at Schwab Bank. Some cash alternatives outside of the program pay a higher yield.

What else is not mentioned on their product page? The actual interest rate paid. The APY is not mentioned anywhere on that page, even through a link or fine print. You must go searching for this link, where you will find that SIP actually holds special “Sweep Shares” of the Schwab Government Money Fund (SWGXX) with a annual expense ratio of 0.44% and SEC yield of 0.38% as of 6/15/22. In comparison, Vanguard’s default cash sweep is the Vanguard Federal Money Market Fund (VMFXX) with a net expense ratio of 0.11% and SEC yield of 0.76% as of 6/15/22.

If you click further, you find their new fine print:

Assume a $100,000 account with a 10% Cash Allocation ($10,000), which would be a moderate—aggressive investment portfolio allocation. Using market interest rates from the first quarter of 2022, Schwab Bank earned about 1.03% on an annual basis on the cash it invested net of what it paid to clients in the Program. Schwab Bank would have received about $103 ($10,000 x 1.03%) on that cash deposit, annualized, which equates to 0.103% or 10.3 basis points ($103/$100,000) of the total client investment of $100,000.

However, the true cost to investors is not just the fees that Scwhab gets. Cash is not necessarily ideal for long-term portfolios. By dictating cash, you ignore other higher-yielding and arguably more appropriate options like their own Schwab Short-Term U.S. Treasury ETF (SCHO, 0.04% ER, 2.60% SEC yield) and Schwab Short-Term Bond Index Fund (SWSBX, 0.06% ER, 2.98% SEC yield).

Schwab customers are at this very moment, losing significant money from their high-cost cash drag instead of a low-cost, high-quality money market and/or short-term bond fund. Schwab customers should note that this quiet profit via cash holding motive runs throughout the company. The Schwab Bank “High Yield” Investor Savings account pays 0.05% APY. Uninvested bank sweep cash in your Schwab brokerage and retirement accounts pays a measly 0.01% APY.

I would bet that if you did a poll of all Schwab IP customers and asked them about it, a majority would have no idea about this arrangement.

Bottom line. After reading the details of this SEC settlement, the fact that Schwab put profit first and the actual design of the product second is the most offensive. I’d much rather you sell me a great product at a fair price. Schwab’s reputation is now lower in my mind. They have some good products, but I would not recommend Schwab Intelligent Portfolios (or any Schwab managed product based on their behavior here) for my family or friends.

Even though I don’t check my retirement account balances daily (or weekly, or often monthly) it can still be nearly impossible to tune out all the market noise. I was promptly notified via e-mail press release that the S&P 500 index officially reached “Bear Market” status today 6/13/2022. A bear market is defined as a 20% drop from previous high, ending when the index reaches a low and subsequently rises by 20%.

The email also included this handy list of every bear market in the history of the S&P 500 index (since 1928). Credit to S&P Dow Jones Indices:

Takeaway: You should always be prepared for a drop of 50% in your stock holdings. Enduring such uncomfortable volatility is the price of investing in stocks, and if you don’t pay it, you don’t get the full returns.

I’ve yet to find anyone with a clear way to avoid these swings. Beyond buy-and-hold, perhaps the only thing is to wait only for the “fat pitches”, which are rare and far between. Even then, will you have the guts to swing? This is why I think of my primary portfolio as the “Humble Portfolio”.

Here is list of every bull market in history. A bull market is defined as 20% rise from the previous low, ending when the index reaches a high and subsequently drops by 20%.

Takeaway: The bull markets more than make up for the bear markets over the long run. At some point, you will be reminded that in order to make up for a 50% drop, stocks would have to go up by 100% just to break even again. That’s sounds like a lot, but in fact that has happened repeatedly and then some. You can see in the chart that this most recent bull market was a +400% change, and that doesn’t even include dividends.

Every one needs to find a good balance through education and experience where they can hold the risky stuff through the bad times, while also be happy holding the boring stuff through the “but my neighbor got rich daytrading crpyto” times. We are currently going through another period of heightened uncertainty. How do you feel about your portfolio today?

“History doesn’t repeat itself but it often rhymes.” – attributed to Mark Twain

Photo credit: Unsplash

A satoshi, or “sat” for short, is the smallest unit of the cryptocurrency bitcoin. “Stacking Sats” is a popular term for gradually accumulating bitcoin by purchasing small amounts of bitcoin at a time. (100 million sats = 1 bitcoin.) The idea is that you should be excited about adding any amount to your stack, focusing on that forward progress instead of the current market price.

If only it would be as trendy for folks to “stack VOO” or “stack VTI”. A low-cost S&P 500 or US Total Market index ETF is a tax-efficient way to build up your ownership of a share of excellent American businesses. Unfortunately, there is always something shinier next to this vanilla product. Factor ETFs, themed ETFs, sector ETFs, and so on. John Rekenthaler of Morningstar has an interesting series of articles comparing the long-term returns of various alternatives to Vanguard index funds. See Vanguard’s Other Index-Fund Invention.

Even way back in 1992, Vanguard started offering “Value” and “Growth” index funds, essentially splitting the US stock market into two halves based on price/book ratios. Essentially, these were the first variation on the plain S&P 500 index fund. You might think one was better than other. (Most academics would have guessed Value would win.) So what happened over the next 20 years? Not very much! (Plus Growth won slightly.)

Of course, I would not be surprised at all to see Value squeak out a slight win over Growth after another 10 or 20 years. One is always going to be winning slightly, but take a step back and you can argue they are effectively tied. Why not just own the S&P 500 index fund and get the average?

(Quick reminder: The Rule of 72 says that 10% annualized means your money will double every 7.2 years. That means $10,000 will have doubled three times in about 21 years. $10k doubled to $20k, then doubled to $40k, then doubled to $80k!)

What if you rebalanced regularly between Value and Growth? If you rebalanced between the two funds every single month, your annual return would have increased by 0.10%. If you rebalanced between the two funds only once every 5 years, your annual return would have increased by 0.28%. But really, who rebalances only once every 5 years? In view, these numbers are still low enough to be in the noise range, and the extra return is not dependable.

What if you bought a low-cost actively-managed fund from Vanguard instead? Due much to Vanguard’s extremely low costs on their active funds, some actively-managed funds did do better, but others did worse. If you chose to buy the funds with the highest trailing returns, or the best Sharpe ratios, or the most popular funds (most assets), all that Ivy League brainpower and decades of investing experience would have still lagged behind a simple index fund portfolio. Only with the power to see the future would you have picked the index-beating funds.

As the saying goes, don’t let the pursuit of perfect be the enemy of the good. As someone sitting on a relatively big pile of VTI after 15+ years of stacking it share by share, I am certainly relieved that I didn’t get too distracted by all of the other shiny objects out there. Instead of remembering your highest portfolio value ever from your monthly statement, remember the number of shares of VTI or VOO that you own. Every $200 saved = 1 share of VTI. But in the end, as long as you get excited about stacking something of high-quality with long-term productive value, you’ll likely end up in a good place.

Inside various financial forums, I am seeing the “anyone else worried?” 😓 posts as most portfolios are down double-digits. For a retiree with a $1 million portfolio, seeing $100,000 or $200,000 of value evaporate is understandably stressful. However, much of this is because you are comparing to your portfolio’s all-time high, or high-water mark, which is a relatively arbitrary number. Just because at one moment in time, there were a few willing buyers of your assets for a given price doesn’t mean you should anchor yourself to that number.

Step back and have some perspective. I would offer up this historical performance chart of the Vanguard Target Retirement 2050 Fund (VFIFX) as evidence that things really aren’t that bad if you take a step back. This chart tracks the growth of a $10,000 investment place in 2012 in this all-in-one Target Date Fund. Taken 5/30/22.

• As of 5/30/22, the 10-year trailing return for VFIFX is 10.28% annualized even after the recent drop. Can you reasonably ask for more than 10% average annual returns for a decade?
• If you invested in January 2020, right before the COVID pandemic started, you are still up 18.7% if you held through today.
• If you invested funds anytime between January and August 2020, those funds are up even more than that!
• The last time your investment value was this low was… March 2021. That’s it.

Things might get much worse, things might get better and never look back, I don’t know the future. This is another reason why I no longer check my portfolio balance on a daily basis. How can I say that, when his whole blog was once based on the idea that I would share my net worth every month?! Back then my savings rate was much more significant than my portfolio performance. Side hustle money made a big difference and I felt in control. These days, the opposite is true. The portfolio movement overwhelms our savings contributions.

Track something better. If you keep staring at that portfolio balance, you’ll get overly excited when you hit an arbitrary number like $50,000 and then get really depressed if it drops below and stays there for a while. You need to track something better. If you are still in the accumulation phase, your metric for success could be:

• Your 401(k) contribution rate. A reasonable target might be 15% or higher.
• Your overall savings rate. Heck, if you are tracking this number at all, you are probably way ahead of the game.
• Your side hustle monthly total. If your day job has a fixed salary, you might focus on the side income instead.
• Your portfolio’s 2-year trailing average or similar. Anything that has a longer time horizon and offers more perspective.

If you are in the spending phase, you could track something like your spending rate as a percentage of portfolio, and if that’s still reasonable then go back to enjoying your life. You may also explore a dynamic spending strategy.

Bottom line. Your quoted portfolio value in November or December 2021 doesn’t matter. If you tell yourself stuff like “I’ve lost $XX,000” since December 2021, you are experiencing the anchoring cognitive bias.

Although I enjoy managing my own investments, I’ve generally avoided managing other people’s money. That always felt like such an important responsibility to take on. Below is the real investment portfolio of an older family member (over 75) that is professionally managed by an large “brand name” financial firm. Understandably, the recent market volatility has hurt the balance and there is some concern, so I took a look.

Before opening up the statement, I joked to myself “There better not be that ARK ETF in there!”…. and there it was. Down 66%! 😱 Deep breaths! My thoughts went to the four basic steps to performing emergency first aid:

1. Assess the situation
2. Plan for interventions
3. Implement first aid
4. Evaluate the situation.

Here are some anonymized screenshots (with permission) that show holdings, balances, performance, and rough asset allocation breakdown.

Why in the world does this portfolio only have 10% in bonds, at least according to the pie chart above? What exactly are those “alternatives”? I created a Google spreadsheet and started collecting more data from Morningstar:

The Goldman Sachs “multistrategy” fund turns out to consist of roughly 50% net stocks and 50% net cash/bonds. So the overall asset allocation is about 80% stocks and 20% bonds. Perhaps they confused the “age in bonds” rule of thumb with “age in stocks”? 🤔

I don’t know all the details and communications that took place before the creation and implementation of this portfolio, but my first impression is not positive. In addition to an overly-aggressive asset allocation, I see a mishmash of high-cost mutual funds. There isn’t a single penny in a low-cost index fund as a core holding! I don’t believe that you need 15 different funds to be “diversified”. While a relatively small holding, the fact that ARK ETF holdings are down 67% also means they decided to buy in after all of the initial outperformance. In other words, performance chasing.

Speaking of performance, the portfolio is down 25% from the initial purchase amounts. That’s seems like a lot for someone in their 70s, and we haven’t even technically hit a bear market in the S&P 500 yet.

Often you’ll hear investment advice like “just buy an index fund and forget about it”, but when a severe crisis occurs, it’s really hard to just forget about it. Substitute advice like “sell now and wait for the dust to settle” may start to sound equally wise. It’s harder to maintain faith in an investment if you don’t understand what you actually own.

As an example, I own real estate investment trusts, and Visual Capitalist just published a handy infographic on The World’s Largest Real Estate Investment Trusts. They are all headquartered in the United States, which makes them also the top 10 holdings of the Vanguard Real Estate ETF (VNQ).

In fact, these ten companies make up about 50% of VNQ. Here’s a quick peek at what specific types of real estate properties these companies own.

• Prologis. This industrial REIT manages things like warehouses and distribution centers. Their largest customers are Amazon.com, Home Depot, and FedEx.
• American Tower. This communications REIT owns communications infrastructure like cellular towers. Their largest customers are AT&T, T-Mobile, and Verizon.
• Crown Castle. This communications REIT owns communications infrastructure like cellular towers. Their largest customers are AT&T, T-Mobile, and Verizon.
• Public Storage. This self-storage REIT is the largest self-storage brand in the US.
• Equinix. This data center REIT manages internet connection and data centers. Their customers include Amazon, Apple, AT&T, Meta/Facebook, and Nokia.
• Simon Property Group. This mall REIT manages shopping malls, outlet centers, and community/lifestyle centers. The largest of their 200+ properties all around the country is King of Prussia in Philadelphia.
• Welltower. This healthcare REIT owns senior housing (independent living, assisted living and memory care communities), post-acute care, and outpatient care centers.
• Digital Realty. This data center REIT owns “carrier-neutral data centers and provides colocation and peering services” for hundreds of large companies.
• Realty Income. This commercial REIT specializes in free-standing, single-tenant commercial properties that work on triple net lease agreements (the lessee handles property taxes, insurance, and maintenance on the properties). Largest tenants include Walgreens, Dollar General, 7-11, and Dollar Tree.
• AvalonBay Communities. This residential REIT invests in apartment complexes.

REITs own a wide variety of real estate that touch our lives every day. You may live in or drive by an apartment complex, shop at a Walgreens, have your Amazon order shipped from, connect your phone to 4G/5G from, or be browsing a website that pays rent to one of these companies. When the next crisis inevitably occurs, you should remember that your investment in REITs owns a part of all these physical properties. Yes, their stock market price may drop for a while, but you are still owning critical infrastructure for the economy that isn’t going anywhere.

With a market-cap weighting, you will always own the most successful REITs. Would I have invested in data centers on my own? Cell towers? Public storage? The good news is that I don’t need to know.

Here is the historical chart for the Vanguard REIT ETF (VNQ). $10,000 invested at inception in 1996 would be worth $130,000 today with dividends reinvested. A traditional rental property would have also appreciated a lot over the last 25 years, but there are also several variables in the mix (leverage via mortgage, interest paid, repair/maintenance costs, time spent, taxes, deprecation, deferred capital gains, etc.) I am still fascinated by the idea, but for now owning real property via REITs suits my lifestyle and personality much better.

The official IRA contribution deadline for Tax Year 2021 is April 15th, 2022. However, I choose to use April 15th as the informal deadline for my same-year IRA contributions (Tax Year 2022). By around April 1st, I have usually finished filing my income taxes and thus have handled any expected tax bills. I also have the first quarter of dividends arrive in my brokerage accounts, so I also have funds ready to re-invest. The optimal time would actually be make my contributions on January 1st, but sometimes we just have to settle for “good enough”.

If your Modified Adjusted Gross Income (MAGI) exceeds the limits for a direct Roth IRA contribution ($144,000 for singles and $214,000 for married filing joint for tax year 2022), you may still be eligible for the “Backdoor” Roth IRA. Christine Benz of Morningstar has a excellent summary of Backdoor Roth IRA concerns.

A backdoor Roth is simple enough and should be tax-free in many cases. An investor who earns too much to make a direct Roth IRA contribution simply opens a traditional nondeductible IRA–available to investors regardless of income level. Shortly thereafter–and here’s where the backdoor part comes in–he converts it to a Roth IRA, another move unrestricted by income limits. Assuming he has no other IRA assets, the only taxes due on the conversion would be any appreciation in the investments since he opened the account. That taxable amount should be limited, assuming he converts the money promptly and/or leaves the money in cash until the conversion is finalized.

Here’s my even-shorter version of the tips:

• First, check if you have other pre-tax traditional IRA assets such as a rollover IRA. Converting to a Roth IRA may subject these assets to taxes on a pro-rated basis.
• Get rid of these pre-tax IRAs, if possible, by rolling them into an employer 401(k), 403(b), or 457 plan instead. Self-employed business owners can also roll into a Solo 401k.
• Contribute and then convert to Roth quickly. Make the non-deductible Traditional IRA contribution, invest for a day or two in cash, and then quickly convert to Roth. The IRS has clarified that no waiting period is required, making it better to do it right away to avoid any tax complications.
• Repeat at the beginning of every year. Just keep doing it every year, as soon as you can, and build up that precious Roth IRA balance that can grow tax-free forever with no required minimum distributions. Ignore news about the option “maybe” going away until it actually goes away.

Here’s our simple three-day process at Vanguard.

Day one: Make non-deductible contribution to a Traditional IRA account. You could fund in various ways, I exchanged from funds within my Vanguard taxable brokerage account. Just put it in Vanguard Federal Money Market temporarily.

Day two: Go to “Balances & Holdings” page and find the “Convert to Roth IRA” link. Complete required steps.

Day three: Your traditional IRA balance is now $0. Invest the funds that are now in your Roth IRA. In this case, I would have a taxable gain of just $0.03, which simply rounds to zero.

Note: There is still some debate about how much time should pass between the non-deductible Traditional IRA contribution and the Roth conversion. Some people believe that the 2017 Tax Cuts and Jobs Act (TCJA) officially signaled acceptance of this move. Others still want you to wait either for a monthly statement or even a full year in between the steps. I’m not a tax attorney and this is not tax advice. This is just what I did and I don’t lose any sleep over it.

The WSJ article Why Target-Date Funds Might Be Inappropriate for Most Investors (free gift article) discusses new research using “deep learning” artificial intelligence to find the optimal asset allocation over time. There are several interesting insights that also agree with common sense. For example, one size doesn’t fit all. Wealthier investors can withstand the volatility from holding a much higher stock allocation, whereas lower net worth investors need to be more conservative to avoid a hitting zero due to a bad sequence of returns.

Here is how the optimal glide path for the average investor differs between Deep Learning analysis vs. actual Target Date Funds:

Though the primary insight of this modeling is that one size doesn’t fit all, the research did reach one conclusion that does apply to all of us on average: The typical glide path used by target-date funds is too conservative starting at the age of 50. In contrast to an equity exposure level that drops to 50% by retirement age and to as low as 30% during retirement, the average recommended equity exposure in the researchers’ model never falls below 60%.

While I don’t know the details regarding the underlying assumptions of this research, the red AI line caught my eye because I also don’t plan on going below about 60% stocks ever in my lifetime. My reasoning is that I am going for a “perpetual withdrawal rate” scenario where my I just live off a base of growing dividends and interest. (I’m not talking about owning only extreme high-yield products like closed-end ETFs, junk bonds, and leveraged REITs). After reaching the “safe withdrawal rate” number that is based on a very high likelihood of not dying with zero, I wanted even more margin of safety. It can be counterintuitive, but over the long run owning businesses can be “safer” than just own a big bag of cash that is constantly exposed to inflation risk.