Schwab just sent me an e-mail with the subject “The wait is over. The future of investing is here.” That boast means their new automated portfolio advisory platform called Schwab Intelligent Portfolios (SIP) is now opening accounts, meeting their stated date of Q1 2015. Here are some highlights of this service:

• Portfolio asset allocation will be decided using a 12-part questionnaire.
• Portfolio will be constructed using ETFs, mostly from Schwab-managed market-weighted and fundamental-weighted index ETFs.
• No advisory fees, no trading commissions, no account maintenance fees.
• Accounts must maintain a minimum balance of $5,000 to be eligible for automatic rebalancing.
• Tax loss harvesting is available on an opt-in basis for clients with invested assets of $50,000 or more.
• Live support via phone or online chat, 24/7/365

You can do the questionnaire and see your proposed asset allocation without signing up for an account. Here’s a screenshot taken from the questionnaire tool (click to enlarge).

Here are some sample asset allocations that the website provided. I basically just made up two fictional people, so don’t assume these are the only options they give out. First up is “Conservative Cal”, who is 60 years old with plans to retire at 65 and can’t stomach too much volatility. The proposed breakdown for Conservative Cal was 37% stocks, 47% bonds, 2% commodities, and 14% cash. See screenshots below.

Next up is “Long-term Linda” who is 30 years old with a long time horizon and a healthy appetite for risk. The proposed breakdown for Long-term Linda was 77% stocks, 11% bonds, 5% commodities, and 7% cash. See screenshots below.

It doesn’t actually tell you the exact ETFs you will be investing in unless you continue and fill out an application, but you can bet that most of them will be Schwab market-cap ETFs and Schwab fundamental ETFs. Also keep in mind that there will be “alternate” ETFs for each asset class to be used for tax-loss harvesting.

For example, here’s the likely primary ETF line-up for the stock portion:

US Large = Schwab U.S. Large-Cap ETF (SCHX)
US Large Fundamental = Schwab Fundamental U.S. Large Company Index ETF (FNDX)
US Small = Schwab U.S. Small-Cap ETF (SCHA)
US Small Fundamental = Schwab Fundamental U.S. Small Company Index ETF (FNDA)
International Developed Large = Schwab International Equity ETF (SCHF)
International Developed Large Fundamental = Schwab Fundamental International Large Company Index ETF (FNDF)
International Developed Small = Schwab International Small-Cap Equity ETF (SCHC)
International Developed Small Fundamental = Schwab Fundamental International Small Company Index ETF (FNDC)
International Emerging Markets = Schwab Emerging Markets Equity ETF (SCHE)
International Emerging Markets Fundamental = Schwab Fundamental Emerging Markets Large Company Index ETF (FNDE)
US REITs = Schwab U.S. REIT ETF (SCHH)
International REITs = Vanguard Global ex-US Real Estate ETF (VNQI)

SIP is a direct competitor to Vanguard’s Personal Advisor Services (VPAS) which has a lower average overall expense ratio on their suggested portfolios, but also charges a 0.30% advisory fee. Schwab’s overall average expense ratios on their suggested portfolios are higher, but charges no advisory fee. Schwab then goes as far as to guarantee that the total amount paid to ETF OneSource affiliates and Schwab ETF management fees will not exceed a 0.30% fee.

So Schwab admits that there is some extra profit baked into the program due to their more expensive fundamentally-weighted ETFs and such, but it should still be cheaper than Vanguard after all is said and done. Very interesting.

This is not my full review, as I haven’t decided if I should open a test account (superfluous trades get annoying at tax time). Although I will likely have my criticisms, I am still glad to see it finally roll out because I think Vanguard and others need the competitive pressure to keep improving their own low-cost advised portfolio platforms. A lot of people out there don’t need a full-service human advisor, but could still benefit from having occasional investment guidance available to them at a minimal cost.

Weekly business newspaper Barron’s just released their 2015 annual broker survey rankings. Here’s a snippet that helps explain their perspective and readership (emphasis mine):

To pinpoint 2015’s top brokers, we analyzed not just their security, mobility, and social media features but the depth of their investment tools and their trading capabilities. Our primary consideration in judging these 18 firms is how they work for our readers, who are high-net-worth active investors. Customization, especially of reports, is a particular focus, as is the ability to move smoothly from idea generation to a trade ticket.

Their overall winner was again Interactive Brokers, a broker designed for more advanced traders with an extensive feature set, low commissions, and low margin rates. Note that they have a minimum opening balance of $10,000 ($3,000 if age 25 and younger) and a minimum monthly fee of $10 even if you don’t trade at all (waived at $100,000+ equity balance). If you rack up those trades every month, this is the place to be.

Barron’s defines an “occasional trader” as someone who averages 6 stock trades and 2 options trade per month. A “frequent trader” makes 100 stocks trades a month, 100 option trades a month, and carries $30,000 in margin debt. I am not active enough to even be called an “occasional trader”, but I still like having a clean user interface, relatively low commissions, no maintenance fees, and helpful customer service when I need it. Thankfully, Barron’s again ranked the brokers for these folks as well:

Top 5 Brokers for Novice Investors

1. TD Ameritrade. Performed well in customer service & education, research tools, and mobile offerings. Improved desktop site and mobile apps integration. Free real-time quotes from NYSE, AMEX, and NASDAQ Level 1 and 2.
2. Fidelity
3. E-Trade
4. Capital One Sharebuilder
5. Merrill Edge

Top 5 Brokers for Long-Term Investing

1. TD Ameritrade. The only broker to provide a wide range of commission-free ETFs from various providers based on popularity instead of in-house ETFs or paid placement).
2. Fidelity
3. Charles Schwab
4. Merrill Edge
5. E-Trade

Top 5 Brokers for In-Person Service

1. Scottrade. Scottrade has over 500 physical branches across US, so that when you call you reach a human in that local branch. Free in-person educational seminars are offered as well.
2. Merrill Edge
3. Charles Schwab
4. Fidelity
5. TD Ameritrade

I would note that due to their active trader readership, most of Barron’s rankings don’t really consider the benefits of any commission-free ETFs that a broker like Fidelity or TD Ameritrade might offer. Perhaps their “long-term investing” ranking takes this factor into account. Vanguard’s brokerage arm is not included in the review. Also not included are automated brokers like Betterment or Wealthfront and other specialized brokers like Motif Investing.

Newcomer Robinhood and their free trades were mentioned in passing, but basically dismissed with skeptical quotes like “There’s no such thing as a free lunch […] They will make their money one way or another” and “A “free” trade could cost quite a bit if the broker is relying on payment for order flow rather than trying to create price improvement opportunities.” I still think Robinhood will eventually be bought out by one of these big brokers for their mobile-first design and young client base.

I always keep track of the Vanguard Target Retirement 20XX Funds because:

• They are a low-cost, broadly-diversified, “all-in-one” fund that I think are a good starting point for both beginning investors and those desiring simplicity.
• I have recommended them to my own immediate family, and they hold them in their retirement portfolios.
• I view them as an indicator of what the big wigs at Vanguard think is the “right” mix for most people.

So I was interested to see that Vanguard is again tweaking the asset allocation of their Vanguard Target Retirement Funds and Vanguard LifeStrategy® Funds. The claimed goal is “enhanced global diversification”. In practical terms:

• International stocks as percentage of total stock allocation will be increased from 30% to 40%.
• International bonds as percentage of total bond allocation will be increased from 20% to 30%.

Portfolio changes are expected to occur gradually and be completed by the end of 2015. Expense ratios are not expected to change.

For some perspective, here is a history of the major tweaks to Vanguard Target Retirement funds:

• 2003: Target Retirement 20XX Funds are first introduced.
• 2006: Overall total stock exposure is increased slightly for various Target dates. Emerging markets stocks are added to certain Target dates with longer time horizons.
• 2010: International stocks as percentage of total stock allocation is increased from 20% to 30%. Three of the underlying funds (European Stock Index, Pacific Stock Index, and Emerging Markets Stock Index) were replaced by a single fund, Vanguard Total International Stock Index Fund.
• 2013: International bonds are added as 20% of the total bond allocation. Vanguard Short-Term Inflation-Protected Securities Index Fund replaced the Vanguard Inflation-Protected Securities Fund for certain Target dates with shorter time horizons.
• 2015: International stocks as percentage of total stock allocation will be increased from 30% to 40%. International bonds as percentage of total bond allocation will be increased from 20% to 30%.

I’m not exactly sure how I feel about all this. On one hand, I think Vanguard tweaks their formula too often. Their asset allocation today looks rather different from 10 years ago. Has the historical investment data really changed that much? What is going to happen over the next 10 years? I would argue that none of the recent changes are absolutely necessary. On the other hand, taken individually each change is a relatively small tweak and can be supported by historical data. The funds remain low-cost and broadly-diversified, and that is probably the most important thing to consider. I would still recommend them to my family (who primarily invest in tax-deferred accounts).

(Also see: Do You Need International Bonds In Your Portfolio?)

My personal portfolio still looks pretty similar as a Target fund with big holdings in Vanguard Total US and Total International. But as a self-directed investor that prefers having control of the ship, unexpected changes like this remind me why I not longer hold these auto-pilot funds.

Berkshire Hathaway has released their 2014 Letter to Shareholders [pdf]. To commemorate the 50th anniversary of Warren Buffett taking over the company (1965-2015), both Warren Buffett and Charlie Munger wrote separate letters discussing both the past 50 years and looking forward to the next 50 years. This is in addition to normal discussion of 2014 activities and performance.

As always, the letter is written in a straightforward and approachable fashion. Even if you aren’t interested in BRK stock at all, reading the letter is very educational for investors and business owners of any experience level. Highly recommend reading the entire thing.

In terms of investing advice for the individual investor, he talks about the difference between buying shares of businesses and buying “dollars”.

The unconventional, but inescapable, conclusion to be drawn from the past fifty years is that it has been far safer to invest in a diversified collection of American businesses than to invest in securities – Treasuries, for example – whose values have been tied to American currency. That was also true in the preceding half-century, a period including the Great Depression and two world wars. Investors should heed this history. To one degree or another it is almost certain to be repeated during the next century.

Stock prices will always be far more volatile than cash-equivalent holdings. Over the long term, however, currency-denominated instruments are riskier investments – far riskier investments – than widely-diversified stock portfolios that are bought over time and that are owned in a manner invoking only token fees and commissions. That lesson has not customarily been taught in business schools, where volatility is almost universally used as a proxy for risk. Though this pedagogic assumption makes for easy teaching, it is dead wrong: Volatility is far from synonymous with risk. Popular formulas that equate the two terms lead students, investors and CEOs astray.

It is true, of course, that owning equities for a day or a week or a year is far riskier (in both nominal and purchasing-power terms) than leaving funds in cash-equivalents. […] For the great majority of investors, however, who can – and should – invest with a multi-decade horizon, quotational declines are unimportant. Their focus should remain fixed on attaining significant gains in purchasing power over their investing lifetime. For them, a diversified equity portfolio, bought over time, will prove far less risky than dollar-based securities.

One other tidbit that will surely be dissected by the media is that Charlie Munger hinted who would be the successor as CEO if/when Buffett were to step down. The two people named were Greb Abel, CEO of Berkshire Hathaway Energy, and Ajit Jain, who heads Berkshire’s reinsurance business. From Munger’s letter:

Provided that most of the Berkshire system remains in place, the combined momentum and opportunity now present is so great that Berkshire would almost surely remain a better-than-normal company for a very long time even if (1) Buffett left tomorrow, (2) his successors were persons of only moderate ability, and (3) Berkshire never again purchased a large business.

But, under this Buffett-soon-leaves assumption, his successors would not be “of only moderate ability.” For instance, Ajit Jain and Greg Abel are proven performers who would probably be under-described as “world-class.” “World-leading” would be the description I would choose. In some important ways, each is a better business executive than Buffett.

I would also point out this part from Buffett’s letter:

Our directors believe that our future CEOs should come from internal candidates whom the Berkshire board has grown to know well. Our directors also believe that an incoming CEO should be relatively young, so that he or she can have a long run in the job. Berkshire will operate best if its CEOs average well over ten years at the helm. (It’s hard to teach a new dog old tricks.) And they are not likely to retire at 65 either (or have you noticed?).

Greb Abel is 52 and Ajit Jain is 63. So my prediction would be Abel, the younger person. But really, the more important part of the letter is how they explain the structure and the culture of Berkshire will endure.

(I was surprised that Buffett also recommended AirBNB for booking a room for their annual meeting in Omaha.)

Shareholder letters from 1977 to 2014 are available free to all on the Berkshire Hathaway website. You can also now purchase all of the Shareholder letters from 1965 to 2013 for only $2.99 in Amazon Kindle format (~$22 paperback). Three bucks is a very reasonable price to have an approved copy forever stored in electronic format; you used to be able to find PDFs floating around on document-sharing sites, but it looks like they have reclaimed copyright protection on them.

If you missed it, last year’s letter discussed Buffett’s Simple Investment Advice to Wife After His Death.

Imagine that it is 1935, and the US has just survived the Great Depression. You think to yourself – if a company can survive this, it’s got to be pretty solid. So you buy equal amounts of stock from 30 of the largest US companies, and hold them… forever! If a company splits, you just keep the two new companies. If a company gets sold, you just keep the new shares of the purchasing company. If they go bankrupt, you let them. 80 years later, you would have the Voya Corporate Leaders Trust Fund (LEXCX), which has beaten 98% of other Large Value fund peers over the last 5 and 10 years. It’s also beaten the S&P 500 over the last 40 years:

I found about the fund via this Reuters article, which outlines its interesting history and helps explain some of its holdings. Standard Oil is now ExxonMobil and Chevron. Santa Fe Railway is Berkshire Hathaway. The remnants of retailer Woolworth eventually became Foot Locker.

Let’s be clear, I am not saying people should run out and invest in this fund. I just want to point out that this is a very early predecessor to the first index fund – it is passive, low-turnover, transparent, and (relatively) low-cost. I have no idea how the future performance will hold up, but I view it is another example of the power of less stock-picking and more patience. Even Jack Bogle seems to approve:

Its unique nature has often drawn attention including from Vanguard Group Inc founder Jack Bogle, who said he remembers the fund from his days as an undergraduate around 1950. “It’s not a bad idea at all,” he said.

The expense ratio today is 0.52%, which is lower than average for all funds but somewhat expensive given that the managers don’t seem to do much beyond administrative duties. Given the simplicity of this method, can’t we avoid the middleman costs and do even better?

I’ve written about Motif Investing (review) before, which allows you to essentially create your own ETF (“motif”) of up to 30 stocks with zero management fee. Well, only 21 stocks are left in the Voya fund, so that’s perfect. Motif is a registered brokerage firm that will let you trade all 21 stocks at once for $9.95 a trade. I couldn’t find anything similar in their existing catalog, so for kicks I created my own Community Motif using the LEXCX holdings as of 12/31/2014. I called it Depression Survivors – Blue Chip Stocks Since 1935. Here’s the widget they made for it:

 
If you create a custom motif, they have a Creator Royalty program which gets you $1 royalty if someone invests using it. If I get even a dollar I’ll be highly amused. You can build your own motif by tweaking things or adding your own dividend stocks or whatever. Motif Investing still offers a $150 sign-up bonus if you open with $2,000 and make 5 trades.

I enjoy reading articles by Scott Burns (also here) because he sometimes offers a unique perspective on things. He recently released the 2015 Annual Letter for his asset management company AssetBuilder. The whole thing is a good read, but here are two items of note:

Keep in mind the effect of currency fluctuations on your portfolio returns. In 2014, the MSCI European Index fell 6% in dollars. However, that index actually rose nearly 7% in Euros. Most international stock funds sold to US investors, including the Vanguard Total International Index fund, are not currency-hedged. The strong dollar in 2014 has made international returns looks worse from a dollar-based perspective.

At the same time, the dollar rose against other currencies. Over the year, the dollar gained 12.5 percent against a basket of widely traded currencies tracked by the Wall Street Journal. That increase created a looking glass problem. U.S. investors felt investing in Europe was a losing proposition, with the MSCI Europe Index falling 6.18 percent in dollars.

Europeans, meanwhile, felt differently because the index rose 6.84 percent in Euros. Indeed, the world looked strangely positive to an internationally diversified Russian investor. Thanks to the miracle of modern currency collapse, international portfolios measured in Rubles soared. We doubt that gave Russian investors great comfort.

I still like the idea of having my portfolio diversified globally, and hopefully this makes you feel a little better about the recent performance of your international holdings. This will someday work in reverse, where currency fluctuations makes returns look even better.

Also included is an interactive table of asset classes ranked by returns over the last 15 years, similar to the Callan Periodic Table. But with this graphic, you can hover your mouse over any asset class and see it in highlighted. Here it is with the S&P 500:

Notice that the S&P 500 has had quite a run the last 6 years. Since the -37% drop in 2008, in subsequent years 2009-2014 the S&P 500 has went up 26%, 15%, 2%, 16%, 32%, and 14%. It would have been really hard for the “I’ll buy on the next dip” folks to time their way back in the market. If you’ve been invested throughout the entire time, you should be rather pleased with yourself.

Dividend distributions from mutual funds and ETFs are either qualified or non-qualified, and the difference could have you paying double the taxes. Qualified dividends are taxed at the lower long-term capital gains rate, which varies from 0% to 20%. Non-qualified dividends are taxed at ordinary income rates, which can be as high as 39.6%. Even though they all show up as “dividends” in your account, their classification can make a big difference in your final after-tax performance.

At the end of each year, Vanguard provides a list of their mutual funds and what percentage of their dividends are qualified. Here is their 2014 report and 2013 report [pdf]. I don’t know if other fund companies do the same. The Vanguard (US) Total Stock Market Index ETF and mutual funds had 100% of their dividends as qualified for 2014 (VTSMX, VTSAX, VTI). The Vanguard Total International Stock Index ETF and funds had 72% of their dividends as qualified (VGTSX, VTIAX, VXUS). The numbers for 2013 were similar. To me, this establishes a sort of baseline expectation.

I recently made a tweak in my portfolio and replaced my value-tilted holdings with a couple of WisdomTree ETFs. While doing my 2014 taxes, I noticed on the 1099-DIV tax form that only half of the dividend distributions were counted as “qualified dividends”. What was up? I took a closer look.

Here are the specific Wisdom Tree ETFs, their closest Vanguard competitor ETFs, and their respective 2014 qualified dividend income (QDI) percentages with the WisdomTree numbers based off my 1099-DIV form:

• WisdomTree SmallCap Dividend ETF (DES) 64%
• Vanguard Small-Cap Value ETF (VBR) 72%

• WisdomTree Emerging Markets SmallCap Dividend ETF (DGS) 34%
• Vanguard FTSE Emerging Markets ETF (VWO) 37%

After comparing these numbers, I guess the WisdomTree ETFs aren’t that inefficient on a relative basis, but I’m still not very happy about it because I am holding these ETFs in taxable accounts. My current ordinary income tax rate is pretty high, and I need to figure out a way to fit these inside an IRA or 401(k) plan.

I hadn’t realized that the dividends from nearly all Emerging Markets ETFs were so tax-inefficient. (I usually just hold Emerging Markets exposure inside a Total International fund.) As the dividend yield on these Emerging Markets ETFs range from 2.5% to 3%, it makes a difference over the long-run to keep these in tax-sheltered account if possible.

By the way, I think noticing these types of things is one of the benefits of doing your income tax returns yourself. Even if you hire a professional, try running the numbers on your own and see if they match up. Even CPAs can make mistakes.

The purpose of Vanguard’s commitment to low-cost investing is not just to be cheap, it is to give their clients higher performance. Whenever a money manager charges higher fees for themselves, they will have to compensate by creating that much higher returns through whatever combination of skill or luck.

Over long periods of time, the luck tends to shake out and the higher expense ratios usually become a very hard hurdle to continually overcome. (In turn, this pressure also leads some managers to take increasingly risky bets and have luck either save their butts or lose all their client’s money!)

Taken from a recent Vanguard article, the chart below confirms this tendency. It shows the percentage of Vanguard funds in each major asset category that exceeded the average returns of their competing fund peer groups (as determined by industry-standard Lipper) over the 1-, 3-, 5-, and 10-year periods ended December 31, 2014.

Every single number on that 10-year return column is 90% or higher. Every asset class. Is that something I could interest you in?

The debate between active and passive investing has come full circle. We’ve officially gone from “index funds will never work!” to “index funds are working too well, it can’t keep on going”. Check out the Forbes article Is Vanguard Too Successful?

Passive vs. active is just a smokescreen. You know what really works? Low costs! There was a big hubbub when Morningstar admitted that expense ratios were a better predictor of performance than their much-advertised star ratings system. Vanguard has many successful actively-managed funds and that is due both to good managers and low costs. Wellington, Wellesley, PrimeCap, they all have expense ratios that are fractions of their competitors.

In addition, what makes Vanguard special is their inherent, longstanding commitment to low costs. Look at how the asset-weighted average expense ratio of all Vanguard funds (including actively-managed funds) has dropped since their inception:

Providers like Schwab and iShares all have some ETFs that are very low cost now, but they also have a duty to maximize shareholder value. If you’re a for-profit company and you think you can keep prices the same even as your assets rise, you do that. The very structure of Vanguard states that the investors themselves own the funds, which means they naturally pass on any savings onto the retail investor. (I do believe that the recent competition is good however and it keeps everyone, including Vanguard, on their toes.)

The “at-cost” investing structure is why the majority of my assets are invested in Vanguard funds and ETFs.