Immediate Annuities vs. Safe Withdrawal Rates

Posted on May 7, 2019 // 20 Comments

Annuities have a rather mixed reputation, which I think is mostly deserved. Some are amazingly complex and expensive (the word “Indexed” can be bad in this world). Then there are simple, straightforward ones that are worth consideration, including single premium immediate annuities (SPIA). The most basic version lets you convert a lump-sum payment into a regular stream of income payments that is guaranteed and doesn’t ever vary, period.

Michael Edesess has an article Are Annuities the Best Strategy to Fund One’s Retirement?. The article is on a site meant for financial advisors, so it’s got a lot of jargon inside. However, I do like that it provided some hard numbers to consider.

Here are current market rates:

In other words, a 65-year-old male hands over $100,000 and will get $6,720 per year ($560 per month), every year, for the rest of his life. Putting up $1,000,000 will get you $67,200 per year ($5,600 per month). Whether he lives to 68 or 108, he will end up with zero dollars. A female would get a bit less due to a longer average lifespan, and a joint annuity even less than that as the likelihood of at least one person living a long time is higher.

The article then compared the annuity payout against the “safe withdrawal rate” as calculated by popular industry methods. The Bengen method has a fixed payout percentage every month, adjusted annually for inflation. The HWS strategy uses a variable payout with a floor rate and allows a higher payout if the portfolio has high returns. I’ll just share one of them.

As you can see, the immediate annuity offers a higher annual payout in almost all cases. This is good.

However, you are giving up certain things in exchange for this higher income. Once you die, there is nothing left for heirs or charity. Thus, part of your return is simply them giving your own money back to you (return of principal). You have lost permanent control of that money, with no liquidity if for any reason you had a big expense. Finally, unless you buy a special inflation-adjusted annuity with a much lower initial payout, your monthly payment will buy less and less as inflation eats away at it over time.

I would also read about your applicable state guaranty limits and always stay under them. It is rare for an insurance company to fail, but it has happened. Read about the Executive Life Insurance Company. The state guaranty association system is not as good as FDIC insurance, but being within the limits is much better than being above the limits!

Bottom line. I would research single-premium immediate annuities as a source of retirement income once your reach age 59.5. I would avoid any annuity that is linked or “indexed” to the stock market. Personally, I am thinking of annuitizing a fraction of my portfolio (less than 10%) once I reach a certain age, but only if it remains under state guaranty limits.

Filed Under: Investing, Retirement //

Charlie Munger 2019 Wall Street Journal Interview Transcript

Posted on May 7, 2019 // 1 Comment

The best thing I read today was definitely Charlie Munger, Unplugged, the full transcript of a 6-hour interview with Charlie Munger about his philosophies on business, investing and life, as conducted by Jason Zweig and Nicole Friedman of the Wall Street Journal. (I’ve tried to share a link via my paid WSJ subscription, but there may still be a paywall. Articles like this definitely help make me feel that my subscription is worth the money.)

I enjoy Munger’s direct and open take on many things. Honestly, I think reading his advice helps make me a better person, not investor. Also, he’s a 95-year-old billionaire – can you imagine anyone more incentivized to do exactly what they want with their remaining time? The article is rather long, so while I recommend reading the entire thing for yourself, here are some selected highlights.

How do you spend your day?

Well, I have always sought, since I quit law practice [in 1965], to have a lot of time in every day to read and think. And talk to a few friends about this or that. And I don’t do that because it will make me more money, I do it because it’s my nature. And I had to use that nature because I needed a living for a big family. But it’s just my nature.

Warren’s the same way. We both hate too many appointments in one day. We both have long segments [of free time]. The lives we live would look to anybody else like academics.

Will Berkshire Hathaway beat the S&P 500 in the future?

I think it we’ll beat it a little. But that’s not bad with a market cap of over $600 billion. That’s difficult! Most people won’t do as well as we will. I talked to Warren today. We’re buying one little company…as we sit here. And we haven’t bought anything big for a long, long time. It’s really getting hard for us. These other people will pay a lot more.

Q: If there were one company other than Berkshire you would recommend for the next decade or two, what would it be?

In America it would be Costco. Other than in America, buy the strongest companies in China.

Q: A lot of young Americans seem to be turning against capitalism, on the grounds that income inequality is out of control. What can be done about that?

The world as I know it, from personal experience and from reading, has always concentrated power.

Without the inequality, you don’t get modern private-ownership capitalism, which is what produces the plenty. And so even your kids, if they tried to make an equal civilization, and farm the land that way, would end up with not enough to eat. You’ve got to have individual ownership of a lot of things, with somebody getting and gaining for himself, because otherwise you don’t get the plenty. And the only option you have is to make the social safety net big or small, and you can make it stupid or [you can make it] wise[r], the richer you are.

In other words, the better your inequality-producing civilization that produces the plenty is, the more you’ve got to put into the social safety net. Now if you get a place like Denmark or Sweden or something, a lot of these modern students would like it better, free education, free medical care and so forth. And if you have to bet, the United States will be way more like Canada pretty soon, in terms of more free education at the university level and more Medicare and some kind of medicine for all. And that we can afford without ruining the productivity of the civilization.

…. We can afford [a higher minimum wage]. If you make it too high it will be counterproductive but yes, a prosperous civilization can have a higher minimum wage the way it can have a social safety net. Don’t make it too great and you can afford it.

I have more Democratic children than I have Republican children. I’ve got both.

On Jack Bogle.

You’ve got to remember, Bogle happened to be right about something important. But that [was] his only advantage. He was a monomaniac. And so that’s an odd characteristic. I would not pick Bogle to have the run of the place. He just was very right on one very important subject [the importance of minimizing investment costs], and therefore he’s been very useful.

On payday lenders, the lottery, and legalized gambling.

These goddamn payday lenders, they’re the scum of the earth. Everybody’s working on it but not hard enough. That’s a group that ought to be forced out of existence.

And the way we abuse the poor with the lottery! Think of how contrary it is to the interests of the poor to play the lottery. It’s like a tax on ignorance. They’re vulnerable. I don’t think we should be doing that, but of course everything like it I’m voting against. I always vote against legalized gambling. I just lose all the time. I feel like I’m pushing on a straw and somebody is just pushing back harder every time.

On selfishness and the value of a good reputation.

Another thing that really helps is people, a lot of people think that real selfishness, very extreme, is what works. But it doesn’t.

If you have a reputation for being decent to work with and unselfish, you make more money, not less. And at Berkshire, I can’t tell you the things that we have bought where the people wanted a good home for something that they love and they trusted us to take care of their loved one. That sounds ridiculous to talk about, in that language about businesses. But why wouldn’t you love something you spent your life building up? It’s very natural to love it – it’s your own creation. Of course you want it in good hands.

On his ability to delay gratification (aka “frugal cred”).

The first 13 years I practiced law, my income [from practicing law] was $300,000 total. At the end of that 13 years, what did I have? A house. Two cars. And $300,000 of liquid assets. Everyone else’d have spent that slender income, not invested it shrewdly, and so forth.

I just think it was, to me, it was as natural as breathing, and of course I knew how compound interest worked! I knew when I saved $10 I was really saving $100 or $1,000 [because of the future growth of the $10], and it just took a little wait. And when I quit law practice it was because I wanted to work for myself instead of my clients, because I knew I could do better than they did.

On opportunities.

You only get a few opportunities, and you have to grab them aggressively when they come because even in the most favored life, they’re really rare. My mother listened to all this stuff, and it meant nothing to her. She was never interested in money or worldly success, but she just appropriated the stories to me because they’d amused her.

I always feel that the opportunities are rare. I only get a few and then I have to seize them aggressively.

This last quote is definitely something that I strongly associate with Munger. Even in this interview, you notice he says it twice. It’s something to keep in the back of your mind, whether is applies to an investing opportunity, a career opportunity, or even finding a life partner. Work hard, do your analysis, but in the end you’ll have to take action to get the big results.

Filed Under: Behavioral Economics, Inspirational, Investing //

Best Interest Rates on Cash – May 2019

Posted on May 1, 2019 // 3 Comments

Here’s my monthly roundup of the best interest rates on cash for May 2019, roughly sorted from shortest to longest maturities. There hasn’t been much movement recently, and the rate curve is still pretty flat with long-term rates only slightly higher than short-term ones. Check out my Ultimate Rate-Chaser Calculator to get an idea of how much extra interest you’d earn if you are moving money between accounts. Rates listed are available to everyone nationwide. Rates checked as of 5/1/19.

High-yield savings accounts
While the huge megabanks like to get away with 0.01% APY, it’s easy to open a new “piggy-back” savings account and simply move some funds over from your existing checking account. The interest rates on savings accounts can drop at any time, so I prioritize banks with a history of competitive rates. Some banks will bait you and then lower the rates in the hopes that you are too lazy to leave.

Short-term guaranteed rates (1 year and under)
A common question is what to do with a big pile of cash that you’re waiting to deploy shortly (just sold your house, just sold your business, legal settlement, inheritance). My usual advice is to keep things simple and take your time. If not a savings account, then put it in a flexible short-term CD under the FDIC limits until you have a plan.

  • No Penalty CDs offer a fixed interest rate that can never go down, but you can still take out your money (once) without any fees if you want to use it elsewhere. Purepoint Financial has a 13-month No Penalty CD at 2.50% APY with a $10,000 minimum deposit. Marcus Bank 13-month No Penalty CD at 2.35% APY with a $500 minimum deposit. You may wish to open multiple CDs in smaller increments for more flexibility.
  • CD Bank has a 12-month CD at 3.00% APY ($10,000 minimum) but with a big early withdrawal penalty of 12 months of interest. If you have a military relationship, Navy Federal Credit Union has a 10-month special at 2.75% APY with add-on option.

Money market mutual funds + Ultra-short bond ETFs
If you like to keep cash in a brokerage account, beware that many brokers pay out very little interest on their default cash sweep funds (and keep the difference for themselves). The following money market and ultra-short bond funds are not FDIC-insured, but may be a good option if you have idle cash and cheap/free commissions.

  • Vanguard Prime Money Market Fund currently pays an 2.44% SEC yield. The default sweep option is the Vanguard Federal Money Market Fund, which has an SEC yield of 2.36%. You can manually move the money over to Prime if you meet the $3,000 minimum investment.
  • Vanguard Ultra-Short-Term Bond Fund currently pays 2.64% SEC Yield ($3,000 min) and 2.74% SEC Yield ($50,000 min). The average duration is ~1 year, so there is more interest rate risk.
  • The PIMCO Enhanced Short Maturity Active Bond ETF (MINT) has a 2.74% SEC yield and the iShares Short Maturity Bond ETF (NEAR) has a 2.75% SEC yield while holding a portfolio of investment-grade bonds with an average duration of ~6 months.

Treasury Bills and Ultra-short Treasury ETFs
Another option is to buy individual Treasury bills which come in a variety of maturities from 4-weeks to 52-weeks. You can also invest in ETFs that hold a rotating basket of short-term Treasury Bills for you, while charging a small management fee for doing so. T-bill interest is exempt from state and local income taxes.

  • You can build your own T-Bill ladder at TreasuryDirect.gov or via a brokerage account with a bond desk like Vanguard and Fidelity. Here are the current Treasury Bill rates. As of 5/1/19, a 4-week T-Bill had the equivalent of 2.42% annualized interest and a 52-week T-Bill had the equivalent of 2.39% annualized interest.
  • The Goldman Sachs Access Treasury 0-1 Year ETF (GBIL) has a 2.30% SEC yield and the SPDR Bloomberg Barclays 1-3 Month T-Bill ETF (BIL) has a 2.24% SEC yield. GBIL appears to have a slightly longer average maturity than BIL.

US Savings Bonds
Series I Savings Bonds offer rates that are linked to inflation and backed by the US government. You must hold them for at least a year. There are annual purchase limits. If you redeem them within 5 years there is a penalty of the last 3 months of interest.

  • “I Bonds” bought between May 2019 and October 2019 will earn a 1.90% rate for the first six months. The rate of the subsequent 6-month period will be based on inflation again. More info here.
  • In mid-October 2019, the CPI will be announced and you will have a short period where you will have a very close estimate of the rate for the next 12 months. I will have another post up at that time.

Prepaid Cards with Attached Savings Accounts
A small subset of prepaid debit cards have an “attached” FDIC-insured savings account with exceptionally high interest rates. The negatives are that balances are capped, and there are many fees that you must be careful to avoid (lest they eat up your interest). Some folks don’t mind the extra work and attention required, while others do. There is a long list of previous offers that have already disappeared with little notice. I don’t personally recommend or use any of these anymore.

  • The only notable card left in this category is Mango Money at 6% APY on up to $2,500, but there are many hoops to jump through. Requirements include $1,500+ in “signature” purchases and a minimum balance of $25.00 at the end of the month.

Rewards checking accounts
These unique checking accounts pay above-average interest rates, but with unique risks. You have to jump through certain hoops, and if you make a mistake you won’t earn any interest for that month. Some folks don’t mind the extra work and attention required, while others do. Rates can also drop to near-zero quickly, leaving a “bait-and-switch” feeling. I don’t use any of these anymore, either.

  • The best one right now is Orion FCU Premium Checking at 4.00% APY on balances up to $30,000 if you meet make $500+ in direct deposits and 8 debit card “signature” purchases each month. The APY goes down to 0.05% APY and they charge you a $5 monthly fee if you miss out on the requirements. There is also the TAB Bank 4% APY Checking, which I don’t like due its vague terms. Find a local rewards checking account at DepositAccounts.
  • If you’re looking for a high-interest checking account without debit card transaction requirements then the rate won’t be as high, but take a look at MemoryBank at 1.60% APY.

Certificates of deposit (greater than 1 year)
CDs offer higher rates, but come with an early withdrawal penalty. By finding a bank CD with a reasonable early withdrawal penalty, you can enjoy higher rates but maintain access in a true emergency. Alternatively, consider building a CD ladder of different maturity lengths (ex. 1/2/3/4/5-years) such that you have access to part of the ladder each year, but your blended interest rate is higher than a savings account. When one CD matures, use that money to buy another 5-year CD to keep the ladder going.

  • CD Bank has an 18-month CD at 3.10% APY ($10,000 minimum) but with a big early withdrawal penalty of 12 months of interest. Hanscom Federal Credit UnionBank has a 19-month CD special at 3.00% APY ($1,000 minimum) with an early withdrawal penalty of 6 months of interest.
  • 5-year CD rates have been dropping at many banks and credit unions, following the overall interest rate curve. A good rate is now about 3.25% APY, with First National Bank of America offering 3.35% APY on a 5-year CD with an early withdrawal penalty of 1.5 years (!) of interest..
  • You can buy certificates of deposit via the bond desks of Vanguard and Fidelity. These “brokered CDs” offer FDIC insurance and easy laddering, but they don’t come with predictable fixed early withdrawal penalties. Nothing special right now. As of this writing, Vanguard is showing a 2-year non-callable CD at 2.45% APY and a 5-year non-callable CD at 2.75% APY. Watch out for higher rates from callable CDs listed by Fidelity.

Longer-term Instruments
I’d use these with caution due to increased interest rate risk, but I still track them to see the rest of the current yield curve.

  • Willing to lock up your money for 10+ years? You can buy long-term certificates of deposit via the bond desks of Vanguard and Fidelity. These “brokered CDs” offer FDIC insurance, but they don’t come with predictable fixed early withdrawal penalties. As of this writing, Vanguard is showing a 10-year non-callable CD at 3.00% APY. Watch out for higher rates from callable CDs from Fidelity. Matching the overall yield curve, current CD rates do not rise much higher as you extend beyond a 5-year maturity.
  • How about two decades? Series EE Savings Bonds are not indexed to inflation, but they have a guarantee that the value will double in value in 20 years, which equals a guaranteed return of 3.5% a year. However, if you don’t hold for that long, you’ll be stuck with the normal rate which is quite low (currently a sad 0.10% rate). I view this as a huge early withdrawal penalty. You could also view it as long-term bond and thus a hedge against deflation, but only if you can hold on for 20 years. As of 5/1/19, the 20-year Treasury Bond rate was 2.74%.

All rates were checked as of 5/1/19.



Filed Under: Banking, Deals & Offers, Investing //

Savings I Bonds May 2019 Interest Rate: 1.40% Inflation + 0.50% Fixed Rate

Posted on May 1, 2019 // 11 Comments

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Update 5/1/19. The fixed rate will be 0.50% for I bonds issued from May 1, 2019 through October 31st, 2019. This is the same as it was for the last 6 months. The variable inflation-indexed rate for this 6-month period will be 1.40% (as was predicted). The total rate on any specific bond is the sum of the fixed and variable rates, changing every 6 months. If you buy a new bond in between May 2019 and October 2019, you’ll get 1.90% for the first 6 months. See you again in mid-October for the next early prediction for November 2019.

Original post 4/11/19:

Savings I Bonds are a unique, low-risk investment backed by the US Treasury that pay out a variable interest rate linked to inflation. You could own them as an alternative to bank certificates of deposit (they are liquid after 12 months) or bonds in your portfolio.

New inflation numbers were just announced at BLS.gov, which allows us to make an early prediction of the May 2019 savings bond rates a couple of weeks before the official announcement on the 1st. This also allows the opportunity to know exactly what a April 2019 savings bond purchase will yield over the next 12 months, instead of just 6 months.

New inflation rate prediction. September 2018 CPI-U was 252.439. March 2019 CPI-U was 254.202, for a semi-annual increase of 0.70%. Using the official formula, the variable component of interest rate for the next 6 month cycle will be 1.40%. You add the fixed and variable rates to get the total interest rate. If you have an older savings bond, your fixed rate may be very different than one from recent years.

Tips on purchase and redemption. You can’t redeem until 12 months have gone by, and any redemptions within 5 years incur an interest penalty of the last 3 months of interest. A known “trick” with I-Bonds is that if you buy at the end of the month, you’ll still get all the interest for the entire month as if you bought it in the beginning of the month. It’s best to give yourself a few business days of buffer time. If you miss the cutoff, your effective purchase date will be bumped into the next month.

Buying in April 2019. If you buy before the end of April, the fixed rate portion of I-Bonds will be 0.50%. You will be guaranteed a total interest rate of 2.82% for the next 6 months (0.50 + 2.32). For the 6 months after that, the total rate will be 0.50 + 1.40 = 1.90%.

Let’s look at a worst-case scenario, where you hold for the minimum of one year and pay the 3-month interest penalty. If you theoretically buy on April 30th, 2019 and sell on April 1, 2020, you’ll earn a ~2.06% annualized return for an 11-month holding period, for which the interest is also exempt from state income taxes. Comparing with the best interest rates as of April 2019, you can see that this is lower than a current saving rate or 12-month CD.

Buying in May 2019. If you buy in May 2019, you will get 1.40% plus a newly-set fixed rate for the first 6 months. The new fixed rate is unknown, but is loosely linked to the real yield of short-term TIPS. In the past 6 months, the 5-year TIPS yield has dropped from 1% to about 0.5%. My best guess is that it will be 0.20%. Every six months, your rate will adjust to your fixed rate (set at purchase) plus a variable rate based on inflation.

If you have an existing I-Bond, the rates reset every 6 months depending on your purchase month. Your bond rate = your specific fixed rate (set at purchase) + variable rate (minimum floor of 0%).

Buy now or wait? In the short-term, these I bond rates will definitely not beat a top 12-month CD rate if bought in April, and most likely won’t if bought in May either unless inflation skyrockets. Thus, if you just want to beat the current bank rates, I Bonds are not a good short-term buy right now.

If you intend to be a long-term holder, then another factor to consider is that the April fixed rate is 0.5% and that it will likely drop at least a little in May in my opinion. You may want to lock in that higher fixed rate now.

Honestly, I am not too excited to buy either in April or May, but if I really liked the long-term advantages of savings bonds (see below), I would consider buying now in April rather than May due to my guess of a higher fixed rate. You could also wait, as things might change again during the next update in mid-October. For my own accounts, as I am now semi-retired and thus no longer a big saver looking for any tax-deferred space possible, I will probably just buy TIPS in other accounts instead since the real yield is similar.

Unique features. I have a separate post on reasons to own Series I Savings Bonds, including inflation protection, tax deferral, exemption from state income taxes, and educational tax benefits.

Over the years, I have accumulated a nice pile of I-Bonds and now consider it part of the inflation-linked bond allocation inside my long-term investment portfolio.

Annual purchase limits. The annual purchase limit is now $10,000 in online I-bonds per Social Security Number. For a couple, that’s $20,000 per year. Buy online at TreasuryDirect.gov, after making sure you’re okay with their security protocols and user-friendliness. You can also buy an additional $5,000 in paper bonds using your tax refund with IRS Form 8888. If you have children, you may be able to buy additional savings bonds by using a minor’s Social Security Number.

For more background, see the rest of my posts on savings bonds.

[Image: 1946 Savings Bond poster from US Treasury – source]

Filed Under: Banking, Investing, Savings Bonds //

Vanguard ETFs Now Permanently Cheaper Than Admiral Shares (More Examples)

Posted on April 30, 2019 // 37 Comments

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Updated with more examples. Up until recently, Vanguard has had a long history of keeping the expense ratios of their corresponding ETFs and Admiral Shares mutual funds the same. As of 2019, this is no longer the case. Inside a Vanguard notice, this was quietly added:

The growing size and scale of our funds have helped fuel operational efficiencies that lower our costs to serve clients, particularly ETF shareholders. As a result, the ETF share class of these ten funds is now lower than their Admiral™ share class counterparts.

Initially, I figured it was just a matter of the reporting dates being staggered and the Admiral Shares expense ratio would soon be updated back to being identical. But Allan Roth at ETF.com interviewed a Vanguard spokesperson who confirmed that the expense ratios of ETFs and Admiral Shares will no longer automatically be matched up:

What’s largely driving these changes is the increasing adoption of ETFs by Vanguard investors as their index vehicle of choice, which has enabled us to pass along the cost savings of scale,” Woerth said. “To put some numbers around it, even though ETFs make up only about 20% of our assets, they’ve garnered more than 35% of Vanguard’s net cash flow over the past three years.”

Another reason given is that the mutual fund structure requires more administrative paperwork than ETFs and thus inherently cost more to run.

The most recent expense ratio update as of 4/26/19 is further evidence of this new stance. The expense ratios of 21 different ETFs were dropped, yet the corresponding mutual fund expense ratios all remained the same.

Expense ratio comparison, ETF vs. Admiral Shares (4/30/19):

Fund ETF expense ratio Admiral Shares expense ratio
US Total Stock
Vanguard Total Stock Market Fund (VTI, VTSAX)		 0.03% 0.04%
US Large (S&P 500)
Vanguard 500 Index Fund (VOO, VFIAX) 		0.03% 0.04%
Total World Stock
Vanguard Total World Stock Index Fund (VT, VTWAX)		 0.09% 0.10%
International Total Stock
Vanguard Total International Stock Market Fund (VXUS, VTIAX) 		0.09% 0.11%
International Real Estate
Vanguard Global ex-U.S. Real Estate Index Fund (VNQI, VGRLX) 		0.12% 0.14%
Emerging Markets
Vanguard Emerging Markets ETF (VWO, VEMAX) 		0.12% 0.14%
Total US Bond Market
Vanguard Total Bond Market Fund (BND, VBTLX) 		0.035% 0.05%
Municipal Bonds
Vanguard Tax-Exempt Bond Index Fund (VTEB, VTEAX) 		0.08% 0.09%
Total International Bond
Vanguard Total International Bond Index Fund (BNDX, VTABX) 		0.09% 0.11%

 

Should I convert my Admiral Shares to ETFs? Vanguard lets you convert most Vanguard mutual funds held at Vanguard to their ETF version (if it exists) on a tax-free basis. Allan Roth goes on to discuss this question as well. You should first set your tax lot tracking to “SpecID” if you want the cost basis to carry over to every specific share (otherwise they would use average cost basis on all of them).

I always liked the “slow food” feel of mutual fund investing. Your trade doesn’t execute until the end of the day. You just enter your trade whenever, and it gets filled at the end of the next market day. The price is set exactly at net asset value (NAV). There are no high frequency traders involved.

Now, a single basis point (0.01%) is a difference of $1 annually per $10,000 invested. In many cases, the difference may not be worth much attention. However, if you have $1,000,000, that becomes $100 every year. Two basis points is $200 every year. Will the gap widen further?

Sometime this year, I will probably convert my Admiral Shares to ETFs. Vanguard is basically telling me that mutual funds are old technology, and they won’t be spending any more resources on future updates. In the last few years, Vanguard has been aggressively converting people with old mutual fund-only accounts into brokerage accounts.

I’ve kept my primary brokerage account at Vanguard because they offer commission-free trading of mutual funds. However, if I am switching to ETFs, then I can have commission-free trades at many different brokerage firms. I recently opened a new IRA account at M1 Finance because they will give me back free dollar-based transactions of mutual funds (i.e. I can buy exactly $500 via fractional shares) while also adding a free rebalancing service that has Vanguard never offered.

Filed Under: Investing //

The Personal Finance Index Card: Book Version Differences

Posted on April 22, 2019 // 7 Comments

After rediscovering the young adult versions of fitting personal finance advice on an index card, I decided to go back and read the book The Index Card: Why Personal Finance Doesn’t Have to Be Complicated by Helaine Olen and Harold Pollack. (I was able to find it via library eBook.)

I noticed that the book version of the “index card” was slightly different. The original card had 9 items, but two of them were merged away into each other (401k/IRAs) and (Pay Attention to Fees/Buy Index Funds). I bolded the new additions below. (You can see all chapters on the Amazon page.)

  1. Strive to Save 10 to 20 Percent of Your Income
  2. Pay Your Credit Card Balance in Full Every Month
  3. Max Out Your 401(k) and Other Tax-Advantaged Savings Accounts
  4. Never Buy or Sell Individual Stocks
  5. Buy Inexpensive, Well-Diversified Indexed Mutual Funds and ETFs
  6. Make Your Financial Advisor Commit To a Fiduciary Standard
  7. Buy a Home When You Are Financially Ready
  8. Insurance – Make Sure You’re Protected
  9. Do What You Can To Support the Social Safety Net
  10. Remember The Index Card

Here again is the original:

Here are my notes on the newly-addressed topics of home-buying and insurance.

Home-buying. This will always be a hard topic because it mixes in emotion, personal history, peer pressure, and all that fuzzy stuff. If you want to own a home, you need to make sure the purchase won’t blow up your overall financial picture. Nothing really surprising, but still good advice.

  • Get your debt under control first.
  • Save up as close to a 20% down payment as you can.
  • Stick with a 15 or 30 year fixed-rate mortgage.
  • Prioritize what you really want and need in a home. Stay within your budget.
  • Location, location, location.

Insurance. There are low-probability events that can destroy decades of hard work, and that’s why humans invented insurance to spread the risk. Here are their cut-to-the-chase bullet points:

  • Emergency fund – Maintain one!
  • Life insurance – If you’re young(ish), just buy 30-year level term insurance.
  • Property insurance – Raise your deductible as high as you can handle.
  • Health insurance – Always sure you stay in-network.
  • Liability insurance – Coverage for at least twice your net worth.

I’m glad that this book still retained its “quick-and-dirty” nature. No single rule will cover every scenario, but it’s good to have a clear and concise collection of the big points along with just enough explanation that you understand the basic reasoning behind it.

Filed Under: Book Reviews, Budgeting, Credit Cards, Insurance, Investing, Real Estate, Retirement //

Vanguard to Launch Low-Cost Commodity Strategy Fund

Posted on April 15, 2019 // 3 Comments

Vanguard announced in a press release that it is creating a new actively-managed mutual fund using the Bloomberg Commodity Total Return Index as a benchmark. The Vanguard Commodity Strategy Fund will have an estimated 0.20% expense ratio and June 2019 launch date.

bcom

The fund will at least initially not be directly targeted at retail investors, as it will only be available as Admiral Shares with a $50,000 investment minimum. Considering that commodities are usually only included in portfolio as a hedge at around 5% allocation, you would need a $1 million portfolio to justify putting $50,000 into commodities.

The direct competition is the PIMCO Commodity Real Return Strategy Fund (PCRIX) which has a 1.24% expense ratio and about $5 billion in assets. GraniteShares also released some low-cost commodity ETFs in 2017, including the GraniteShares Bloomberg Commodity Broad Strategy No K-1 ETF (COMB) with a 0.25% expense ratio. This means that the new Vanguard fund will become the lowest-cost commodity fund available by a small margin.

Here’s a quick summary of the Bloomberg Commodity Total Return index:

The Bloomberg Commodity Total Return index is composed of futures contracts and reflects the returns on a fully collateralized investment in the BCOM. This combines the returns of the BCOM with the returns on cash collateral invested in 13 week (3 Month) U.S. Treasury Bills.

BCOM is the Bloomberg Commodity Index, which incudes aluminum, coffee, copper, corn, cotton, crude oil, gold, diesel, lean hogs, live cattle, natural gas, nickel, silver, soybeans, sugar, unleaded gas, wheat, and zinc (image source).

There is active debate as to whether commodities should be included in your portfolio. My take is that commodities futures may offer the draw of being a diversification and/or inflation hedge, but I don’t want to pay the price of possibly lower returns, higher volatility, and higher complexity. As in other areas of life, sometimes the “insurance” is worth the cost, and sometimes it isn’t.

Bottom line. Vanguard is launching a commodities fund. If you like low-cost access to the commodities asset class, this looks to be a positive development even though right now it has a $50,000 investment minimum. Where will Vanguard expand to next with its growing appetite for assets?

Filed Under: Investing //

Buying The Haystack: Sleeping Well Because I’ll Own The Winners

Posted on April 8, 2019 // 2 Comments

Vanguard has a new research paper on How to increase the odds of owning the few stocks that drive returns [pdf], found via How Concentration Affects Portfolio Performance by Michael Batnick. Inside, there is a chart that sorts the individual returns of the US stock market (Rusell 3000) over the last 30 years (1987-2017) into total performance buckets. What happens to the stock prices of individual companies over 30 years? Lots of big losers. A few huge winners.

The whitepaper has a lot of math and investment jargon that you can read for yourself. Let’s skip to the conclusion here:

Historical cumulative returns of individual stocks are skewed whereby overall market returns are determined by a small minority of stocks. Therefore, all else being equal, a more diversified portfolio is more likely to hold these outperforming stocks while displaying a lower dispersion of portfolio returns. We conducted simulations of various portfolio sizes and showed that those portfolios with fewer holdings underperformed those with more holdings, leading to a higher return hurdle to overcome.

As the late Jack Bogle told us: “Don’t look for the needle in the haystack. Just buy the haystack.”

I don’t know which will be the most successful US companies in the future, but I know that I will own them via the total US index fund in my portfolio. I will own the next Amazon, Google, Facebook, Apple, or Visa. I’ll also own whoever disrupts them after that. Since I own a big chunk of global stocks inside the Vanguard Total International Stock Index fund, I’ll be covered if they come from the other side of the world.

Now, when you own the entire haystack, you will get the losers as well as the winners. Also, I won’t be as rich as if I invested in them when operated out of a dorm room. It just turns out that in this capitalist structure, owning them all still works out pretty darn well. I will own shares of all these businesses in proportion to their market value, and by extension a share of their profits. Some of those profits will be reinvested for future growth, and some will be sent to me as cash dividends every three months. I’ll happily spend those dividends, and the let rest grow into more dividends in the future.

Filed Under: Investing //

Schwab Commission-Free ETF List Review (Updated 2019)

Posted on April 7, 2019 // Leave a Comment

ETFs are surpassing mutual funds as the standard building blocks of stock and bond portfolios. Here’s a closer look at the latest updates to the Charles Schwab commission-free ETF list. While the commercials often focus on quantity instead of quality, I will do the opposite. Here are the factors that I think are important:

  • Total Assets. This is a measure of popularity and reputation. A more popular ETF will have a smaller bid/ask spread and won’t have to liquidate in a bear market. A more reputably ETF manager will have lower index tracking error. However, ETF size isn’t everything.
  • Index/Asset Class. What index does it track? Does that index cover an asset class that I want to include??
  • Cost. What is the expense ratio? Low costs are important.

Schwab Commission-Free ETF full list. This Schwab ETF OneSource page includes a full list of their 503 commission-free ETFs.

Brief history of changes. In early February 2019, Schwab announced that it would increase the number of commission-free ETFs on their list to 503 as of March 1st, 2019, including no early redemption fees (no minimum holding period). Here is the list of 246 added ETFs, including 90 iShares ETFs.

Schwab’s ETF OneSource started in February 2013 with 103 commission-free ETFs including many in-house ETFs. Schwab has become very competitive with Vanguard and iShares by developing their own brand of low-cost, index ETFs. Outside providers now include: Aberdeen Standard Investments, ALPS Advisors, DWS Group, Direxion, Global X ETFs, IndexIQ, Invesco, iShares ETFs, John Hancock Investments, J.P. Morgan Asset Management, OppenheimerFunds, PIMCO, State Street Global Advisors SPDR® ETFs, USCF, WisdomTree and Charles Schwab Investment Management.

In March 2017, Schwab dropped their standard stock commission to $4.95 per trade + $0.65 per options contract. In addition, expenses for the Schwab market cap-weighted index mutual funds were lowered to match their Schwab ETF equivalents. Schwab Index mutual funds now have no investment minimum.

Largest ETFs on Schwab Commission-Free ETF list. Here are the top 20 most popular ETFs on their list, sorted by largest total assets. Also listed are the asset class and expense ratios.

ETF Name (Ticker) Asset Class Expense Ratio
iShares Core U.S. Aggregate Bond ETF (AGG) US Total Bond 0.05%
iShares iBoxx $ Investment Grade Corporate Bond ETF (LQD) US Corporate Bonds 0.15%
iShares Edge MSCI Min Vol USA ETF (USMV) US Low Volatility 0.15%
iShares TIPS Bond ETF (TIP) US Inflation-Protected Bond 0.19%
iShares 1-3 Year Treasury Bond ETF (SHY) Short-Term Treasury Bond 0.15%
iShares J.P. Morgan USD Emerging Markets Bond ETF (EMB) Emerging Markets Bond 0.39%
Schwab International Equity ETF (SCHF) International Developed 0.06%
iShares MBS ETF (MBB) US Mortage-Backed Bonds 0.09%
iShares MSCI Japan ETF (EWJ) International Country Stock 0.47%
iShares iBoxx $ High Yield Corporate Bond ETF (HYG) US High-Yield Corporate Bond 0.49%
Invesco S&P 500® Equal Weight ETF (RSP) US Large-Capk 0.20%
Schwab U.S. Large-Cap ETF (SCHX) US Large Cap Blend 0.03%
Schwab U.S. Broad Market ETF (SCHB) US Total Stock 0.03%
iShares 7-10 Year Treasury Bond ETF (IEF) Interm-Term Treasury Bond 0.15%
iShares National AMT-Free Muni Bond ETF (MUB) Municipal Bond 0.07%
iShares 20+ Year Treasury Bond ETF (TLT) Long-Term Treasury Bond 0.15%
iShares Edge MSCI Min Vol EAFE ETF (EFAV) International Developed Stock 0.20%
iShares Short-Term Corporate Bond ETF (IGSB) US Short-Term Corporate Bond 0.06%
Invesco S&P 500® Low Volatility ETF (SPLV) US Large-Cap Stock 0.25%
iShares Edge MSCI USA Quality Factor ETF (QUAL) US Large-Cap Stock 0.15%

 

Lowest Expense Ratio ETFs on Schwab Commission-Free ETF list. Here are the top 20 cheapest ETFs on their list, sorted by lowest expense ratio.

ETF Name (Ticker) Asset Class Expense Ratio
Schwab U.S. Broad Market ETF (SCHB) US Total Stock 0.03%
Schwab U.S. Large-Cap ETF (SCHX) US Large Cap Blend 0.03%
SPDR Portfolio Large Cap ETF (SPLG) US Large Cap Blend 0.03%
SPDR Portfolio Total Stock Market ETF (SPTM) US Total Stock 0.03%
SPDR Portfolio Developed World ex-US ETF (SPDW) International Developed Stock 0.04%
Schwab U.S. Aggregate Bond ETF (SCHZ) International Developed Large Cap Blend 0.04%
SPDR Portfolio Aggregate Bond ETF (SPAB) US Total Bond 0.04%
Schwab U.S. Large-Cap Growth ETF (SCHG) US Large-Cap Growth 0.04%
SPDR Portfolio S&P 500 Growth ETF (SPYG) US Large-Cap Growth 0.04%
Schwab U.S. Large-Cap Value ETF (SCHV) US Large-Cap Value 0.04%
SPDR Portfolio S&P 500 Value ETF (SPYV) US Large-Cap Value 0.04%
Schwab U.S. Mid-Cap ETF (SCHM) US Mid-Cap 0.04%
Schwab U.S. Small-Cap ETF (SCHA) US Small-Cap 0.04%
Schwab U.S. TIPS ETF (SCHP) US Inflation-Protected Bond 0.05%
Schwab 1000 Index ETF (SCHK) US Large-Cap Blend 0.05%
SPDR Portfolio Mid Cap ETF (SPMD) US Mid-Cap 0.05%
SPDR Portfolio Small Cap ETF (SPSM) US Small-Cap 0.05%
SPDR Bloomberg Barclays Corporate Bond ETF (CBND) US Corporate Bond 0.06%
Schwab International Equity ETF (SCHF) International Developed 0.06%
Schwab Intermediate-Term U.S. Treasury (SCHR) US Treasury Bond 0.06%

 

Commentary. Overall, Schwab’s OneSource ETF list does include a good mix of Schwab ETFs with good management, low costs, and low bid/ask spreads. There are also a few good iShares and SPDR ETFs that could be potential ETF pairs for tax-loss harvesting. A DIY investor should find it easy create a diversified portfolio of ETFs according to their desired asset allocation, if you know what you are looking for. With 500+ ETFs, many will be short-lived duds, while still others are ETFs that track a very similar index but are much more expensive than the competition.

Filed Under: Deals & Offers, Investing, Reviews //

Best Interest Rates on Cash – April 2019

Posted on April 4, 2019 // 8 Comments

Here’s my monthly roundup of the best interest rates on cash for April 2019, roughly sorted from shortest to longest maturities. The big news is that we are starting to see some slight rate drops in CDs! Folks who locked in at 4% APY may end up pleased they did. Check out my Ultimate Rate-Chaser Calculator to get an idea of how much extra interest you’d earn if you are moving money between accounts. Rates listed are available to everyone nationwide. Rates checked as of 4/3/19.

High-yield savings accounts
While the huge megabanks like to get away with 0.01% APY, it’s easy to open a new “piggy-back” savings account and simply move some funds over from your existing checking account. The interest rates on savings accounts can drop at any time, so I prioritize banks with a history of competitive rates. Some banks will bait you and then lower the rates in the hopes that you are too lazy to leave.

Short-term guaranteed rates (1 year and under)
A common question is what to do with a big pile of cash that you’re waiting to deploy shortly (just sold your house, just sold your business, legal settlement, inheritance). My usual advice is to keep things simple and take your time. If not a savings account, then put it in a flexible short-term CD under the FDIC limits until you have a plan.

  • No Penalty CDs offer a fixed interest rate that can never go down, but you can still take out your money (once) without any fees if you want to use it elsewhere. Purepoint Financial has a 13-month No Penalty CD at 2.50% APY with a $10,000 minimum deposit. Marcus Bank 13-month No Penalty CD at 2.35% APY with a $500 minimum deposit, Ally Bank 11-month No Penalty CD at 2.30% APY with a $25k+ minimum, and CIT Bank 11-month No Penalty CD at 2.05% APY with a $1,000 minimum. You may wish to open multiple CDs in smaller increments for more flexibility.
  • Colorado Federal Savings Bank has a 12-month CD at 2.86% APY ($5,000 minimum) with an early withdrawal penalty of 3 months of interest.

Money market mutual funds + Ultra-short bond ETFs
If you like to keep cash in a brokerage account, beware that many brokers pay out very little interest on their default cash sweep funds (and keep the difference for themselves). The following money market and ultra-short bond funds are not FDIC-insured, but may be a good option if you have idle cash and cheap/free commissions.

  • Vanguard Prime Money Market Fund currently pays an 2.46% SEC yield. The default sweep option is the Vanguard Federal Money Market Fund, which has an SEC yield of 2.36%. You can manually move the money over to Prime if you meet the $3,000 minimum investment.
  • Vanguard Ultra-Short-Term Bond Fund currently pays 2.71% SEC Yield ($3,000 min) and 2.81% SEC Yield ($50,000 min). The average duration is ~1 year, so there is more interest rate risk.
  • The PIMCO Enhanced Short Maturity Active Bond ETF (MINT) has a 2.84% SEC yield and the iShares Short Maturity Bond ETF (NEAR) has a 2.80% SEC yield while holding a portfolio of investment-grade bonds with an average duration of ~6 months.

Treasury Bills and Ultra-short Treasury ETFs
Another option is to buy individual Treasury bills which come in a variety of maturities from 4-weeks to 52-weeks. You can also invest in ETFs that hold a rotating basket of short-term Treasury Bills for you, while charging a small management fee for doing so. T-bill interest is exempt from state and local income taxes.

  • You can build your own T-Bill ladder at TreasuryDirect.gov or via a brokerage account with a bond desk like Vanguard and Fidelity. Here are the current Treasury Bill rates. As of 4/3/19, a 4-week T-Bill had the equivalent of 2.42% annualized interest and a 52-week T-Bill had the equivalent of 2.41% annualized interest.
  • The Goldman Sachs Access Treasury 0-1 Year ETF (GBIL) has a 2.30% SEC yield and the SPDR Bloomberg Barclays 1-3 Month T-Bill ETF (BIL) has a 2.25% SEC yield. GBIL appears to have a slightly longer average maturity than BIL.

US Savings Bonds
Series I Savings Bonds offer rates that are linked to inflation and backed by the US government. You must hold them for at least a year. There are annual purchase limits. If you redeem them within 5 years there is a penalty of the last 3 months of interest.

  • “I Bonds” bought between November 2018 and April 2019 will earn a 2.82% rate for the first six months. The rate of the subsequent 6-month period will be based on inflation again. More info here.
  • In mid-April 2019, the CPI will be announced and you will have a short period where you will have a very close estimate of the rate for the next 12 months. I will have another post up at that time.

Prepaid Cards with Attached Savings Accounts
A small subset of prepaid debit cards have an “attached” FDIC-insured savings account with exceptionally high interest rates. The negatives are that balances are capped, and there are many fees that you must be careful to avoid (lest they eat up your interest). Some folks don’t mind the extra work and attention required, while others do. There is a long list of previous offers that have already disappeared with little notice. I don’t personally recommend or use any of these anymore.

  • The only notable card left in this category is Mango Money at 6% APY on up to $2,500, but there are many hoops to jump through. Requirements include $1,500+ in “signature” purchases and a minimum balance of $25.00 at the end of the month.

Rewards checking accounts
These unique checking accounts pay above-average interest rates, but with unique risks. You have to jump through certain hoops, and if you make a mistake you won’t earn any interest for that month. Some folks don’t mind the extra work and attention required, while others do. Rates can also drop to near-zero quickly, leaving a “bait-and-switch” feeling. I don’t use any of these anymore, either.

  • The best one right now is Orion FCU Premium Checking at 4.00% APY on balances up to $30,000 if you meet make $500+ in direct deposits and 8 debit card “signature” purchases each month. The APY goes down to 0.05% APY and they charge you a $5 monthly fee if you miss out on the requirements. Find a local rewards checking account at DepositAccounts.
  • If you’re looking for a high-interest checking account without debit card transaction requirements then the rate won’t be as high, but take a look at MemoryBank at 1.60% APY.

Certificates of deposit (greater than 1 year)
CDs offer higher rates, but come with an early withdrawal penalty. By finding a bank CD with a reasonable early withdrawal penalty, you can enjoy higher rates but maintain access in a true emergency. Alternatively, consider building a CD ladder of different maturity lengths (ex. 1/2/3/4/5-years) such that you have access to part of the ladder each year, but your blended interest rate is higher than a savings account. When one CD matures, use that money to buy another 5-year CD to keep the ladder going.

  • Hanscom Federal Credit UnionBank has a 19-month CD special at 3.00% APY ($1,000 minimum) with an early withdrawal penalty of 6 months of interest. If you have a military relationship, Navy Federal Credit Union has a 6-month special at 3.00% APY and 17-month special at 3.25% APY.
  • 5-year CD rates have been dropping at many banks and credit unions, following the overall interest rate curve. A good rate is now about 3.25% APY, with The Federal Savings Bank offering 3.30% APY on a 5-year CD.
  • You can buy certificates of deposit via the bond desks of Vanguard and Fidelity. These “brokered CDs” offer FDIC insurance and easy laddering, but they don’t come with predictable fixed early withdrawal penalties. As of this writing, Vanguard is showing a 2-year non-callable CD at 2.45% APY and a 5-year non-callable CD at 2.80% APY. Watch out for higher rates from callable CDs listed by Fidelity.

Longer-term Instruments
I’d use these with caution due to increased interest rate risk, but I still track them to see the rest of the current yield curve.

  • Willing to lock up your money for 10+ years? You can buy long-term certificates of deposit via the bond desks of Vanguard and Fidelity. These “brokered CDs” offer FDIC insurance, but they don’t come with predictable fixed early withdrawal penalties. As of this writing, Vanguard is showing a 10-year non-callable CD at 3.10% APY. Watch out for higher rates from callable CDs from Fidelity. Matching the overall yield curve, current CD rates do not rise much higher as you extend beyond a 5-year maturity.
  • How about two decades? Series EE Savings Bonds are not indexed to inflation, but they have a guarantee that the value will double in value in 20 years, which equals a guaranteed return of 3.5% a year. However, if you don’t hold for that long, you’ll be stuck with the normal rate which is quite low (currently a sad 0.10% rate). I view this as a huge early withdrawal penalty. You could also view it as long-term bond and thus a hedge against deflation, but only if you can hold on for 20 years. As of 4/3/19, the 20-year Treasury Bond rate was 2.75%.

All rates were checked as of 4/3/19.



Filed Under: Banking, Deals & Offers, Investing //

Barron’s Best Online Broker Rankings 2019

Posted on April 2, 2019 // 7 Comments

Each year, Barron’s releases their list of top online brokers. I like read and share it, hoping to find deeper insights into industry trends and specific broker features. However, this year their 2019 rankings article is firmly behind a paywall. That is certainly their right, but it also discourages sharing and discussion. (I am a paying subscriber to the NY Times, WSJ, and Bloomberg Businessweek, but not Barron’s.)

However, hidden in a Merill Edge press release, I found that Merrill paid for a full article reprint which lets anyone read the main article for free. I could not find a way to view the their secondary rankings, i.e. “Top 5 for Long-Term Investors” or “Top 5 for Occasional Traders”.

Their rankings only include 14 brokers this year, which means several are being left out. Firstrade and Vanguard were mentioned only to state that they both declined to participate. Robinhood wasn’t ranked, just quickly dismissed with an offhand “they take payment for order flow”, even though many other brokers on their list like E-Trade and TD Ameritrade also take payment for order flow. I mean, TD Ameritrade made $320 million from order flow in 2017 alone! WeBull wasn’t even mentioned.

Commentary. Here is my own list of brokers that I think are worth considering, along with their pros and cons. If a family or friend asked me what I thought were the best online brokers, this would be my reply.

Interactive Brokers

  • Pros: Best for active traders. Low average commissions for active traders. Best trading interface for active traders. Proof: Their average account makes ~500 trades a year. Good interest rate on cash sweep.
  • Cons: Minimum commission of $10 a month for accounts under $100,000, or a minimum commission of $20/month under $2,000. This means you must pay them $120/$240 a year no matter what. Not set up for newbies.

Fidelity

  • Pros: Good all-around broker. Best customer service in my experience. Free ETF list. No more mutual fund minimums. Good index fund selection.
  • Cons: $4.95/trade for stocks and ETFs not on their list. Average cash sweep options.

Vanguard

  • Pros: The classic broker for low-cost index fund lovers. $0 trades on all ETFs, both Vanguard and non-Vanguard (iShares, Schwab, etc). Free trades on Vanguard index and active mutual funds. Excellent index fund selection. Excellent cash sweep options. No direct profit motive.
  • Cons: Not good for active traders. They’ve had some struggles with customer service due to their huge growth.

Merrill Edge

  • Pros: Best for those with a Bank of America checking account. 30+ free trades/month when you move over $50,000+ in assets across Bank of America and Merrill (Preferred Rewards program), even if just moving over a bunch of low-cost ETFs. Good customer service.
  • Cons: Below-average cash sweep options. $6.95 trades without Preferred Rewards relationship.

M1 Finance

  • Pros: My favorite amongst the new crowd of app-centric brokers and robo-advisors. Free stock and ETF trades. Fractional share ownership means full investment of any dollar amount. You can fully customize an asset allocation “pie” using stocks or ETFs, and it will automatically rebalance for free with no management fees. Basically a free robo-advisor that is fully-customizable.
  • Cons: Newer startup. If you really want to add banking features, that will cost extra. (I’d just skip it.)

Disclosure: I am now an affiliate of M1 Finance and TD Ameritrade, and may be compensated if you click through my referral link and open a new account. I am not an affiliate of Interactive Brokers, Fidelity, Merrill Edge, or Vanguard.

Filed Under: Deals & Offers, Investing //

Schwab Intelligent Portfolios Premium Feature Review: $30 a Month For Unlimited CFP Access

Posted on March 31, 2019 // 8 Comments

Schwab has revamped their Intelligent Portfolios “robo-advisor” service, renaming the upper tier to Schwab Intelligent Portfolios Premium and adding an in-depth financial plan and unlimited advice from a Certified Financial Planner for an additional upfront fee of $300 plus an ongoing $30 a month. Bloomberg compares this to a Netflix subscription:

Current users won’t have to pay the $300 fee, and they’ll be transitioned to the new pricing model as early as Thursday, but only once they have enough assets to make it more cost-efficient for them, at around the $125,000 level. The free version of the service, Schwab Intelligent Portfolios, which automatically builds and rebalances exchange-traded fund portfolios as well as offering more limited guidance, will continue charging no advisory fee.

Feature comparison. The base Intelligent Portfolios product including the following features:

  • Design and choose an appropriate asset allocation.
  • Construct and maintain (rebalance) portfolio using ETFs.
  • Tax-loss harvesting.
  • No advisory fee*.
  • No commissions.
  • $5,000 minimum balance.

* You might see this referred to as a “free” (as it is by Bloomberg above) in that it charges no advisory fee on top of the underlying fees of the portfolio components. I’ll argue below that is it not really “free”.

Schwab Intelligent Portfolios Premium adds the following:

  • Unlimited 1:1 guidance from a Certified Financial Planner (CFP).
  • Personalized Action Plan and portfolio review with a CFP® professional.
  • One-time $300 initial planning fee and $30/month for unlimited guidance.
  • $25,000 minimum balance.

I agree that is a big shift in the portfolio management industry. A major player now offers unlimited access to a CFP for a flat fee of $30/month. CFP access is becoming a commodity. If you pay $15 a month for Netflix and $50 a month for unlimited cell phone data, why not pony up $30 a month for unlimited financial advice? I have pointed out previously that an overlooked feature of Blooom 401k advisory services was that they include unlimited CFP access in their $10/month fee.

I really like the idea of paying a flat fee instead of an asset-based fee for financial advice. I think this move from a big name like Schwab will attract some large portfolios from DIY investors. If you had a $500,000 portfolio, this would only be 0.07% of assets annually. I really hope Vanguard comes out with a flat-fee pricing option while still keeping their ability to work with your existing portfolio. Most robo-advisors, including Schwab Intelligent Portfolios, make you sell out of all your current positions and rebuy using their model portfolios. I have a lot of capital gains already such that selling would cause tax issues.

Schwab Intelligent Portfolios still has the same “catch” in their fine print, however. Every Schwab Intelligent Portfolios client is forced to hold a cash position of about 8% of the total portfolio in cash. More importantly, you also don’t have a choice in how they define “cash”. Here’s the fine print:

The portfolios include a cash allocation to a deposit account at Schwab Bank. Our affiliated bank earns income on the deposits, and earns more the larger the cash allocation is. The lower the interest rate Schwab Bank pays on the cash, the lower the yield. Some cash alternatives outside of Schwab Intelligent Portfolios Solutions pay a higher yield.

My primary concern is NOT that holding 8% cash is bad. It’s that the Schwab cash component that they force you to use is bad. As of 3/31/19, Schwab cash pays only 0.70% APY while the Vanguard Prime Money Market fund earns 2.46% SEC yield and a one-month Treasury Bill has a 2.43% yield. This gap may narrow or widen in the future.

If you assume a 1.50% drag on a 8% cash allocation, that’s the equivalent paying a 0.12% fee because you are losing that much in potential interest. As you grow older and/or become more conservative, the cash allocation grows as well. It is a guaranteed profit source for Schwab, and thus a guaranteed loss for you (not free!). This loss is not “cash drag”. If you wanted to argue that the return on cash is worse than a bond fund, “cash drag” would be an additional cost on top of this issue.

This is the equivalent of them making you hold an S&P 500 ETF with a 1.50% expense ratio instead of an equally-available S&P 500 ETF with an 0.03% expense ratio. People would be up in arms about that, so why not put up a fuss about this? The net fee may be still be a reasonable size, but this is not the type of behavior I am looking for in a service that I am supposed to entrust with my life savings. Just be upfront and charge me a fee. If Schwab replaces their cash component with a competitive money market fund or a simple allocation to Treasury Bills (make your own ETF, Schwab!) then I would get much more excited about this product.

Bottom line. Schwab is adding the ability to get unlimited human advice from a Certified Financial Planner (CFP) for $300 upfront + a flat $30 a month. I think this is a bold move that will affect the overall industry, but I still have concerns about their overall robo-advisor product that includes a low-interest cash component.

Filed Under: Deals & Offers, Investing //
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