Millionaire Teacher
Page 17
Indexing in Australia—Winning with an American Weapon
Andy Wang is a 37-year-old software developer. In 2016, he bought a home in Melbourne. He moved there from Adelaide in July of that year.
Many new investors start out with actively managed mutual funds. Andy’s story is different. “I started to invest in the stock market in 2007,” he says. “In the beginning I just bought stocks by recommendations from friends and relatives. But I soon realized that was crazy.”15
Andy began to read some investment books. He liked Benjamin Graham’s classic, The Intelligent Investor. Ben Graham taught at Columbia University. His best student was Warren Buffett, the man who many people consider to be the greatest investor of all time. Late in his life, Ben Graham also supported the index fund concept, much as Warren Buffett does today.
“I didn’t really catch on to index fund investing,” says Andy, “until I read some of John Bogle’s books.” Bogle, the founder of Vanguard, wrote a couple of classics. They include Common Sense on Mutual Funds and The Little Book of Common Sense Investing.
That’s when something dawned on Andy. “I realized I didn’t have the time and capability to do the fundamental analysis on individual stocks. And I didn’t think I could beat the professional analysts who run actively managed mutual funds.”
That’s when Andy decided that he was better off with index funds. Today, he has a globally diversified portfolio of ETFs. He invests with the brokerage Nabtrade. “My portfolio is split between an Australian stock index, an International stock index, and an Australian bond index. I also invest $1,000 in my superannuation every month. All my super is also invested on index funds.”
I’ve listed some model portfolios for Australians in Table 6.8. As investors age, many prefer balanced and cautious allocation models with higher bond market exposure. Such portfolios don’t tend to perform as well over long periods of time, but they are less volatile.
Table 6.8 Australian Couch Potato Model Portfolios: Vanguard ETFs
Fund Name Invests In
Fund Code
Conservative
Cautious
Balanced
Assertive
Aggressive
Vanguard Australian Fixed Interest Index Fund Australian Bonds
VAF
70%
55%
40%
25%
10%
Vanguard Australian Shares Index Fund Australian Stocks
VAS
10%
15%
20%
25%
30%
Vanguard International Shares Index Fund Global Stocks
VGS
20%
30%
40%
50%
60%
Source: Vanguard Australia
Those who expect a secondary source of retirement income (guaranteed pension income or a multimillion dollar inheritance) might choose to invest in a higher risk portfolio, regardless of their age. Just remember, if you’re banking on an inheritance from your old Aunt Matilda, she could end up creeping around until she’s older than 100. In a game of musical wills, she could also bequeath everything to her hairdresser if she starts to go gaga.
Not everyone, however, wants to build his own portfolio. In the following chapter, I introduce some low-cost financial services companies that build portfolios of indexes for Australian-based investors. They also rebalance the holdings.
Indexing in Singapore
Singaporeans looking to invest in low-cost indexes might Google their options online. But like hidden vipers in the jungles of the Lion City, there are snakes in the financial services industry. They wait to venomously erode your investment potential. Googling “Singapore Index Funds” will bring you to a company offering index funds that charge nearly 1 percent a year. That might seem insignificant. But paying one percent for an index fund can cost you hundreds of thousands of wasted dollars over an investment lifetime.
Singaporean index-fund retailer Fundsupermart flogs the Infinity Investment Series. It offers an S&P 500 Index that charges 0.90 percent per year. That includes Fundsupermart’s platform charge.16
Let’s assume that two Singaporean twin sisters decide to invest in a US index. One of them buys the S&P 500 Index Fund through Fundsupermart. The other chooses to go with Vanguard’s low-cost S&P 500 ETF that charges just 0.08 percent annually. She could buy the ETF through any number of Singapore-based brokerages, including DBS Vickers, Standard Chartered, or Saxo Capital Markets.
Before fees, each of the sisters’ funds would make the same return. That’s because each fund tracks exactly the same market. Costs, when presented in tiny amounts—like 0.9 percent—look minimal. But they’re not. Table 6.9 shows how seemingly small fees can kill investment profits. If the US S&P 500 index makes 5 percent a year for the next five years, an investor paying “just” 0.90 percent is giving away 18 percent of her profits, every year.
Table 6.9 Two Sisters Invest SGD$20,000
Sister 1 Sister 2
$20,000 given to each sister to invest Sister 1 invests in an S&P 500 index fund that costs 0.90% annually Sister 2 invests in a Vanguard S&P 500 exchange-traded fund via DBS Vickers that costs 0.08% annually
Assume an 8% return for the S&P 500 index Sister 1 makes 7.1% annually after expenses Sister 2 makes 7.92% annually after expenses
How much will each sister have after 35 years? Sister 1 will have $220,628 Sister 2 will have $288,136
After 40 years, assuming the same rate of return? Sister 1 will have $310,891 Sister 2 will have $421,800
After 45 years, assuming the same rate of return? Sister 1 will have $438,082 Sister 2 will have $617,471
What would happen if the S&P 500 averaged an 8 percent compound annual return? The sister paying 0.9 percent in annual fees would average 7.1 percent per year. Her twin, if she paid just 0.08 percent in fees, would earn 7.92 percent per year.
Over time, this makes a massive difference.
Small fee differences pack very big punches. In the above example, somebody paying 0.82 percent more in annual fees would have $179,389 less money after 45 years. Costs matter. Don’t let the industry fool you into thinking differently.
Singapore Residents Embrace Their Indexing Journey
Seng Su Lin and Gordon Cyr met in 2001, while volunteering at the Special Olympics in Singapore. Gordon teaches at Singapore American School and Seng Su Lin (who goes by Su) teaches technical writing at Singapore Polytechnic and at the National University of Singapore. She has a PhD in psycholinguistics, the study of how humans acquire and use language.
The couple married in 2008, and Gordon (originally from Canada) looked over his investments with frustration. He explained his concerns:
“I used to teach in Kenya, and the school mandated that we invest our money with one of two companies. One of them was an offshore investment company called Zurich International Life Limited, headquartered on the Isle of Man. They invested in actively managed funds, but I started to feel cheated. Before opening the account, I clearly asked the representative if I could have control of how much or how little I was investing, and he said that I could. But after some time had passed, I wanted to stop contributing. The statements were really confusing. I couldn’t see how much I had deposited over time and it was tough to see what my account was even worth.”17
Feeling uncomfortable, Gordon thought it would be easy to stop making his monthly payments to the company. But the Zurich representative (who no longer works for the firm) said Gordon had signed a contract to deposit a certain amount each month—and that he had to stick to it. Frustrated, Gordon pulled his money from Zurich. The firm charged him a hefty penalty for doing so.
Gordon was keen to take control of his finances. He opened an account with DBS Vickers in Singapore to build a portfolio of low cost ETFs. But he doesn’t know where he wants to retire.
Su’s family is in Singapore. Gordon’s family is in Canada. They own a pie
ce of land in Hawaii. For that reason, Gordon thought it would be prudent to split his assets between Singaporean, Canadian, and other global stock and bond markets. Here’s what their portfolio of exchange-traded funds looks like:
20 percent in the Singapore Bond index (Ticker Symbol A35)
20 percent in Singapore’s Stock Market Index (Ticker Symbol ES3)
20 percent in Canada’s Short-Term Bond Index (Ticker Symbol VSB)
20 percent in Canada’s Stock Market Index (Ticker Symbol XIC)
20 percent in the World Stock Market Index (Ticker Symbol VXC)
The first two indexes above trade on the Singaporean Stock Market; the following three trade on the Canadian Stock Exchange. But you can purchase them all using an online Singaporean-based brokerage such as DBS Vickers or Saxo Capital Markets. Singaporeans shouldn’t buy ETFs off the US market. By doing so, they might indirectly hand their heirs a hefty US estate tax bill when they die. Singapore’s brokerage representatives won’t tell you that. If you ask them about the US estate tax liability, they’ll say, “We don’t give tax advice.” But if you die with more than $60,000 USD in assets, Uncle Sam will want his share.18
Some Singaporeans don’t buy bonds. There’s a reason for that. All citizens contribute to CPF (the Central Provident Fund). It’s guaranteed, like a bond. Investors who choose to bypass bonds can rebalance their stock market ETFs once a year.
Gordon and Su rebalance their account with new purchases every month. For example, if the Singapore Bond Index hasn’t done as well as the others, after a month it will represent less than 20 percent of their total investment. (Remember that they’ve allocated 20 percent of their account for each of the five indexes.) So when they add fresh money to their account, they would add to the Singapore Bond Index.
If the World Stock Index, the Canadian Stock Index, or the Singapore Stock Index decrease in value, they would add fresh money that month to the worst performing index. This ensures a couple of things:
They’re rebalancing their portfolio to increase its overall safety.
They’re buying the laggards. That could boost long-term returns.
If you are interested in following step by step instructions on how to buy exchange-traded index funds in Singapore, you can access my website at the following: andrewhallam.com/2010/10/singaporeans-investing-cheaply-with-exchange-traded-index-funds/.
Not everyone, however, wants to build their own portfolio of index funds. As of this writing, no low-cost financial services firm in Singapore will do it with small accounts.
Those with at least $500,000 (USD equivalent), however, could use Mark Ikels. He provides full-service financial planning. He uses low-cost index funds and ETFs. You can read a profile about Mark on my website.19
The Next Step
Once you learn how to build indexed accounts, you won’t have to spend much time making investment decisions. It could take less than 1 hour a year.
Nobody knows how the stock and bond markets will perform over the next 5, 10, 20, or 30 years. But one thing is certain. If you build a diversified portfolio of index funds, you’ll beat about 90 percent of professional investors.
There are only two risks standing in your way. Most financial advisers are your biggest risk. They’ll try to convince you to buy actively managed funds. They’ll use tactics that I outline in Chapter 8. To them, index funds are plagues. Most advisers will do what they can to keep you from buying them.
The second risk faces you in the mirror each morning. Harnessing your emotions is tougher than it sounds, especially when markets go haywire. That’s why many investors need help. For them, the next chapter is a roadmap.
Notes
*Investors with Vanguard USA can buy Vanguard’s ETFs commission free.
1Juhani T. Llnnainmaa, “Do Limit Orders Alter Inferences about Investor Performance and Behavior?” The Journal of Finance (August 2010), citeseerx.ist.psu.edu/viewdoc/ download?doi=10.1.1.680.8246&rep=rep1&type=pdf.
2Personal interview with Kris Olsen, April 10, 2005, in Singapore.
3Andrew Hallam, “How Do TD’s Mutual Funds Stack Up Against Its Index Funds?” Globe and Mail, February 26, 2016, www.theglobeandmail.com/globe-investor/ investment-ideas/strategy-lab/index-investing/how- do-tds-mutual-funds-stack-up-against-index-funds/article17126059/.
4“Interview With Félix Rousseau,” e-mail interview, July 1, 2016.
5TD Canada Trust, e-Series Funds, www.tdcanadatrust.com/products-services/investing/mutual-funds/perfor Frame.jsp.
6Canadian Couch Potato, Model Portfolios: TD e-Series Funds, canadiancouchpotato.com/wp-content/uploads/2016/01/CCP-Model-Portfolios-TD-e-Series-2015.pdf.
7“Interview with Dan Bortolotti,” e-mail interview, July 5, 2016.
8MoneySense, “Canada’s Best Online Brokers, June 2016,” www.moneysense.ca/save/investing/canadas-best-online-brokers- 2016.
9Canadian Couch Potato, Model Portfolios: Vanguard ETFs, canadiancouchpotato.com/wp-content/uploads/2016/01/ CCP-Model-Portfolios-Vanguard-2015.pdf.
10Richard Branson, Losing My Virginity: How I’ve Survived, Had Fun, and Made a Fortune Doing Business My Way (New York: Times Business, 1998), 405.
11Virgin Money, Unit Trusts, uk.virginmoney.com/virgin/unit-trusts/.
12Kyle Caldwell, “The 500,000 Fund Investors Failed by Trackers,” The Telegraph, www.telegraph.co.uk/finance/ personalfinance/investing/10580063/The-500000-fund-investors-failed-by-trackers.html.
13“Interview with Paul Howarth,” e-mail interview, July 1, 2016.
14“Compare UK’s Cheapest Brokerages,” Monevator, monevator.com/compare-uk-cheapest-online-brokers/.
15“Interview with Andy Wang,” e-mail interview, July 2, 2016.
16Fundsupermart.com, www.fundsupermart.com/landing/welcome.jsp.
17Personal interview with Gordon Cyr, October 18, 2010, in Singapore.
18“Some Non Residents with U.S. Assets Must File Estate Tax Returns,” IRS, www.irs.gov/individuals/international- taxpayers/some-nonresidents-with-u-s-assets-must-file-estate-tax-returns.
19Mark Ikels-Singapore, May 8, 2016, https://andrewhallam.com/2015/04/marc-ikels-singapore/.
RULE 7
No, You Don’t Have to Invest on Your Own
The world is Internet-savvy. Millions of people have learned that actively managed mutual funds pad Wall Street’s pockets. Low-cost index funds, by comparison, give more to investors.
The public doesn’t need an Occupy Wall Street protest. Instead, they can vote with their wallets. Many run to Vanguard. It’s the world’s biggest provider of index funds. It’s also now bigger than any actively managed mutual fund company in the world.
Vanguard has a hippie-like backstory. John Bogle started the company in 1974. He set it up like a nonprofit firm. If you buy its index funds, you’re an owner of the firm. No private investors own a piece of the company pie. Unlike most banks (and many mutual fund companies), no public shares trade on the stock market.
Instead, Vanguard was created for the people. It was capitalism born in a commune. Until recently, however, most people had to go solo if they wanted a portfolio of index funds. They waded through Vanguard’s offerings of index funds without any guidance. Or they built their own portfolios with ETFs (hip little cousins of the traditional index fund).
These two options are still the cheapest way to go. They take less than an hour a year. You never have to follow stock market news or forecasts. Your results would also dust those of most professional investors.
But for some investors, that feels like running naked. Many prefer the clothing and the guidance of a financial advisory firm. Your grandparents couldn’t have done this—without getting handcuffed and stuffed into actively managed mutual funds. Your parents couldn’t have either. But times have changed.
Enter robo-advisers. No, they aren’t run by robots. That’s a media-created name that rings well with science fiction. I prefer to call them intelligent investment firms. Most are Internet-based. These firms
have said, “People are getting smarter. Let’s offer something better!”
Such firms are now present in the United States, Canada, Europe, Australia, and Asia. They build and manage portfolios of index funds, charging low fees to do so. Costs and services, however, vary. Some provide comprehensive financial planning (investments, estate planning, tax advice, etc.). Others just invest your money.
Traditional investment firms usually lie in bed with actively managed funds. These firms are like horse-drawn buggies. Intelligent investment firms (robo-advisers, if you must) are hybrids or Teslas. No matter how you slice it, they perform much better and they cost a lot less.
But why pay somebody, even a small amount, when you could invest on your own?
Are You Wired Like a Buddha?
Could you sit cross-legged on a stone . . . with a little smile on your face . . . in a five-hour rainstorm? If not, congratulations, you’re normal. But investors who are capable of building and maintaining a portfolio of index funds might require something special. Don’t feel misled. The process is simple. It takes less than one hour a year.
But it’s easier said than done. Market rainstorms occur when nobody expects them. Stormy headlines will try to push you from that rock.
For years, I’ve been giving seminars to DIY investors. My lessons are simple. For Americans (as an example), I recommended a US stock index, an international stock index, and a US bond market index. Investors should add money every month. Ignore investment forecasts. Rebalance once a year to maintain a constant allocation.
In other words, if the portfolio were split equally in thirds between the three index funds at the beginning of the year, investors would need to make sure that it was adjusted, at year-end, so it was equally split in thirds 12 months later.