Prove Your Worth, Diversify My Portfolio

Buy yourself a low management fee blue chip fund. Reinvest the dividends, add to it monthly, and start reading the business section til you have real money and are much older.

My two cents and 35 years worth.

Think Vanguard has a low management fee blue chip index fund. You want no load, low management fee. Companies like Coke, MacDonalds in it, blue chips paying dividends for decades, that increase them. Try investing monthly, if things implode, get aggressive. Reinvest those divvies. Rule of Seven.

If you make frequent, small purchases, you'll want a mutual fund rather than an exchange-traded fund. The latter tends to offer slightly lower management fees, but you pay a small fee every time you buy shares. I'd generally recommend the mutual fund.

Now on to diversification: you want to diversify across countries and may want to diversify across asset classes. I know many think the latter is mandatory, I'm not so sure.

You should have about 50% in US stocks and 50% in international stocks. This reflects the share of the global economy that is US and international, respectively. Some tend to buy more US stocks because those have done better in the past... personally, I think on balance 50/50 is smarter. Keep in mind that your labor income is already tied to the US economy, so your investments should probably tip to international rather than US stocks. 50/50 is easy enough.

In terms of asset classes, I'm not a big fan of all the rules of thumbs that have emerged. 100% stocks seems to outperform everything in the long run. The idea behind having some bonds is that when stock prices go down, you can sell them and buy stocks. But I'm not sure if that isn't really just market timing (with the timing depending how frequently you rebalance - monthly, quarterly, annually). Moreover, when stocks appreciate, you'd keep buying more bonds to keep the allocation right - which during a recovery would lead you to underinvest in stocks and overinvest in bonds. Personally, I'm 100% stocks just because I don't need the money anytime soon.

So here's my allocation - as simple as can be:

50% VTSMX (Vanguard Total Stock Market ETF)
50% VXUS (Vanguard International Stock ETF)

Year to date performance: +15.2% (vs. DJIA +7.7% and S&P500 +12.8%)

Can't complain, really. Consider that this is despite all the troubles of the European economy.

So if you're just looking to add an international ETF, I'd recomment VXUS - or, if you have a Vanguard account (which you should have), the corresponding mutual fund.

I'd have the mutual funds, too, but Vanguard won't open accounts for non-permanent residents. So I'm stuck with the ETFs.

Pops_sl said:

Companies like Coke, MacDonalds in it, blue chips paying dividends for decades, that increase them.

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Dividends are the devil in taxable accounts. If a stock price is $1.10 and the company pays out 10c in dividends per share, the stock price will drop to $1. It's essentially a forced sell. You then pay taxes on those 10c and buy shares again with whatever is left after taxes. I'd much rather have no dividends and keep the share price at $1.10. You may own a larger number of shares after you reinvest dividends, but your actual investment will be worth less due to taxes.

There you go. Keep it simple and conservative. Don't pay hucksters like me to sell you something.

You are missing the point about dividends and time.

Pops_sl said:

You are missing the point about dividends and time.

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I must be... what's the point of dividends if you reinvest them right away? They're a taxable event and they quite obviously reduce the share price (given that money leaves the company). If I know I'll get $1 in dividends tomorrow, then I'll value a share at $1 more immediately before the dividend is paid out than immediately afterward. That's intuitive: otherwise, you could arbitrage by buying immediately before the dividends are paid out and selling immediately after, pocketing the difference.

I'm not saying reinvesting dividends is bad - that makes perfect sense. But you're even better off if the firm didn't pay out dividends in the first place, because that would translate into a higher share price. You don't pay taxes on that appreciation until you sell your shares, whereas you pay taxes on dividends the year they're paid out.

Advice I am giving is long term. Every ex-date share price is reduced by div. Concept is to save and let the growers grow without you thinking too much.

Sorry, I'm still not getting it. I agree with everything you said about regular investments, low fees... but I don't see how dividends fit in there.

We agree that a firm that pays out dividends, which you then reinvest, makes you no better off than if the firm did not pay out dividends, right? Without taxes, that's Modigliani-Miller. With taxes, you're worse off because dividends are taxed now, whereas capital gains are taxed upon sale.

To give a simple example for illustration:

Stock A pays dividends:
You invest $100
The stock price grows to $110
The firm pays out $10 in dividends
15% goes to taxes (assuming qualified dividend, otherwise as much as 35% depending on your tax bracket)
You take the $7.50 remaining after taxes and reinvest them.
New value $107.50
Stock price doubles: new value $215
You sell and pay 15% on the $107.50
Total: $198.875


Stock B does not pay dividends:
You invest $100
The stock price grows to $110
Stock price doubles: new value $220
You sell and pay 15% on the $120 profit
Total: $202

Tiny difference (actually about 3%, so maybe not that tiny) because it's a stupid example. But with quarterly dividend payouts and savings in the tens of thousands, it can add up over the years.

Note that with stock B, you could pay yourself a dividend by selling ~0.1 share (which is possible with mutual funds). In that case, the math would look identical to example A. Sure, the number of shares you own is different (you're selling versus buying), but that's completely irrelevant - only the amount invested matters. e.g. if a company splits its stock and the value drops from $20 to $10 per share, you now hold twice as many shares. Doesn't make you off any better or worse.

A couple of points, although i am not based in the US so could be incorrect:

1. Mutual funds should have an accumulation vs an income share class, hence you can buy some units of a mutual fund and gain access to lots of stocks, and when they pay dividends the manager will reinvest them on your behalf - where i am, this isnt a taxable event, dont see that it would be where you are provided all of the investment remains in one wrapper (e.g. O never actually get the divi, so you cant be taxed on it)

2. Diversification: recent years have seen an increase in cross equity market correlations, so, if the s&p falls a couple hundred points international equity markets tend to fall by the same, you arent getting diversification when it actually matters. Different macroeconomic conditions are going to be supportive to different asset classes, so, if inflation doesnt pick up or stays muted and interest rates from the fed remain fairly low, would probably expect to see high yield debt do quite well, in which case i think you are picking up 5-7pct in the US just now. Id probably want to try to get access to some commodities, as they are driven by different risk factors to stocks too.

One of you guys pointed out correctly that you need to consider your income as an investment etc, which will be correlated to the US economy (maybe) and dont forget if you own a home etc that is an asset which is going to change in price over time. As an aside, if i didnt own a home in the US maybe a REIT (real estate investment trust) could be an interesting way to gain access to a depressed sector.

S

Honestly, for 99% of the population the best advice it to invest in one of the target retirement ETF's and be done with it. It is simply not possible to "consistently" beat the return these guys get. Actively managing your portfolio is a losing bet if you don't eat and breathe this stuff.

Soriak, I think your disconnect is that unless the dividends are disbursed to you it is not a taxable event. All the dividends reinvested are not taxed.

Cash it out and put it all on red. You've got a 49% chance at doubling your money.

Thorne_sl said:

Soriak, I think your disconnect is that unless the dividends are disbursed to you it is not a taxable event. All the dividends reinvested are not taxed.

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This is definitely not the case in the US. You are taxed on dividends both in mutual funds and ETFs, unless they are in a tax deferred account. It does not matter whether or not you reinvest them for tax purposes - "reinvesting" just automates the process of buying new shares with the payout.

Soriak_sl said:

This is definitely not the case in the US. You are taxed on dividends both in mutual funds and ETFs, unless they are in a tax deferred account. It does not matter whether or not you reinvest them for tax purposes - "reinvesting" just automates the process of buying new shares with the payout.

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No, it is Soriak. You can even take it as a loss if the stock drops.

But you don't pay taxes on reinvested dividends unless you cash out the stock. You still have to report it, but you don't pay for it twice.

Jait_sl said:

No, it is Soriak. You can even take it as a loss if the stock drops.

But you don't pay taxes on reinvested dividends unless you cash out the stock. You still have to report it, but you don't pay for it twice.

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You do pay tax.

The sad thing is your risk is high here but I have no easy answer, money market pays nothing, cds and bonds pay nothing. Stocks are not cheap.

Pops_sl said:

You do pay tax.

The sad thing is your risk is high here but I have no easy answer, money market pays nothing, cds and bonds pay nothing. Stocks are not cheap.

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Yeah that's what sucks right now with your traditional low risk investment vehicles. Rates are so low that they return practically nothing

Soriak_sl said:

In terms of asset classes, I'm not a big fan of all the rules of thumbs that have emerged. 100% stocks seems to outperform everything in the long run. The idea behind having some bonds is that when stock prices go down, you can sell them and buy stocks. But I'm not sure if that isn't really just market timing (with the timing depending how frequently you rebalance - monthly, quarterly, annually). Moreover, when stocks appreciate, you'd keep buying more bonds to keep the allocation right - which during a recovery would lead you to underinvest in stocks and overinvest in bonds. Personally, I'm 100% stocks just because I don't need the money anytime soon.

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bonds vs. stocks is about risk mitigation. I seem to recall that having an allocation of 30% bonds to 70% stocks would return roughly .5% less per annum, while being one standard deviation of risk lower than a 100% stock portfolio. Bonds therefore are great tools if there is a need that requires regular dividends. That is why you see that rule of thumb about weighting further towards bonds as you age. Although stocks outperform bonds on the long term, the difference is small enough that it truly matters at what point in time you got into the market.

rebalancing toward 30% bonds means you are selling bonds when prices are high, and buying stocks when they are lower, and vice versa during a stock bull run. Rebalancing a portfolio is absolutely market timing as you have stated, but its done so not from a profit perspective, but from a risk perspective. It has less to do with actual prices or timings, and more to do with whats going on with your portfolio's risk profile at any given moment.

Personally, I hate bond funds and will only buy the bond outright. bond funds trade principal protection for default protection, which lessens the risk mitigation benefits of buying them in the first place.

Jait_sl said:

No, it is Soriak. You can even take it as a loss if the stock drops.

But you don't pay taxes on reinvested dividends unless you cash out the stock. You still have to report it, but you don't pay for it twice.

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Wrong

If you reinvest your dividends, either in mutual funds or dividend reinvestment plans, things are just a little bit trickier. You still pay tax on the dividends that are distributed to you, and the shares purchased with dividends are accounted for exactly as if you had bought them with money sitting in your bank account. So you must keep the statements showing your cost basis on dividend reinvestment-acquired shares just as you do when you make optional cash payments to buy shares. When it comes time to sell, you need to know the cost basis for all of your shares -- those bought with reinvested dividends and those bought separately with your hard-earned money.

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