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VNQI: International REITs For Diversification

Summary The Vanguard Global Ex-U.S. Real Estate ETF offers investors a fairly unique risk exposure. To improve portfolio diversification, ETFs like VNQI make sense as a small allocation. The best way to establish international diversification, in my opinion, is to focus on the map. Rather than focusing just on emerging vs developed markets, investors should look at the individual countries to ensure proper diversification. Investors should be seeking to improve their risk adjusted returns. I’m a big fan of using ETFs to achieve the risk adjusted returns relative to the portfolios that a normal investor can generate for themselves after trading costs. One of the funds in my portfolio is Vanguard Global ex-U.S. Real Estate ETF (NASDAQ: VNQI ). I’ll be performing a substantial portion of my analysis along the lines of modern portfolio theory, so my goal is to find ways to minimize costs while achieving diversification to reduce my risk level. When I first looked at VNQI, it seemed like a great way to add a very unique exposure to my portfolio that would be not be duplicated by any of my other holdings. Since then, my perspective has been changing. This is still a good fund, but I think I weighted it too heavily in my portfolio. Expense Ratio While Vanguard funds are known for low expense ratios, this is ETF has the highest expense ratio of any of my holdings at .24%. I accepted that higher expense ratio strictly because I wanted the highly unique exposure and there are only a few liquid competitors in this niche of the market. Regions The following chart breaks down the regional exposure of the ETF. It is a useful chart, but it is remarkably vague about the specific exposures. For instance, I can tell that this fund offers me some emerging market exposure, but I can’t tell exactly which countries we are talking about. If an investor wants to ensure that their international diversification is giving them the full benefits of diversification, they will want to check the individual country allocations. Country Allocations I grabbed the following chart from Charles Schwab: (click to enlarge) This map is much easier for me to read. The allocations look fairly reasonable. Japan certainly appears to have a high weight relative to the amount of actual land there, but the country has a very developed market and makes sense as a key holding for the portfolio. As we go down the list the allocations to individual countries begin to rapidly decline which is another favorable factor in my opinion. Since the inclusion of the ETF is intended to diversify my portfolio, I want a diversified group of holdings. As you’ll see in the holdings section, the individual holdings are low enough in weight that the country allocations may be a larger factor than the individual holdings which include many companies you’ve probably never researched. Highlights Since I was a big bear on China, I like to see China with a lower weight in my international investments. After fierce selling and the falls we saw over the last couple months, the strength of my conviction is weakening and I’m more willing to accept exposure to China in my portfolio. I don’t think I’m to the point of actively seeking it, but I can deal with about 8.7% to China and 8.7% to Hong Kong. Missing Allocations Notice that only one small part of Africa is present and there are no allocations to Latin America. If you’re trying to build a thoroughly diversified international position for the portfolio, it would be wise to consider including ETFs that have these areas. That doesn’t mean investors should avoid VNQI, it just means the ideal compliments to VNQI will likely include exposures to Africa and Latin America. REITs The other thing investors should remember is that this international allocation is investing in REITs. In the domestic market REITs and regular equity markets can diverge quite substantially over years so investors would be wise to consider including allocations to the normal corporate international market. Holdings I built the following chart to represent the top 10 holdings. If you don’t recognize several of these names, don’t worry. I don’t recognize them either and I’m holding quite a bit of VNQI. I selected the ETF because of the country allocations and the REIT structure rather than the individual companies. (click to enlarge) Conclusion The Vanguard Global Ex-U.S. Real Estate ETF offers investors a fairly unique risk exposure. The fund is best used as part of a diversified portfolio and it should not be the only international equity ETF in a portfolio. I would favor complimenting the ETF with other funds that offer exposure to Latin America or Africa as well as some normal equity exposure to other develop markets.

Investing Basics: Asset Allocation For The Near Term

By Anne Bucciarelli and Heather George Stocks tend to perform best over longer-term periods, but over shorter time periods, stock returns can be all over the map. Bond returns are usually lower, but far more predictable. Since you can’t know for sure what will happen in the period ahead, the right asset allocation for you depends in large part on your time frame. If you plan to use the money fairly soon (say, in less than two years) for something important (such as a down payment on a house or a wedding), it generally makes sense to keep most of that money in risk-mitigating assets such as cash instruments or fairly short-term bonds. For longer-term uses, such as education for your children or endowing your spending in retirement, a greater allocation to return-seeking assets such as stocks makes sense, as the Display below shows: Cash rarely loses value in nominal terms: Cash (represented by 3-month Treasury bills) has delivered negative returns in less than 1% of all three-month periods and no two-year periods since 1926. By contrast, stocks (represented by the S&P 500) have had negative returns in 37% of 3-month periods and 20% of two-year periods. Moving just 30% of an all-cash portfolio into stocks dramatically increased the share of periods with negative returns materially vs. the all-cash portfolio. Cash is also highly liquid: There’s little chance that you won’t be able to withdraw your money when you want to, without accepting fire-sale prices or paying high transaction fees. But holding cash has a cost. Cash returns have been lower than inflation over many three-year periods, as well as about one-third of all 10-year periods since 1926. Given the very low interest rate and low inflation environment today, we expect the return on cash after taxes and inflation to be negative over the next three years, as the next Display shows: We expect the after-tax, inflation-adjusted return on bonds to be significantly better than cash over the next three years if market conditions are typical, represented by the diamond, or very good; we expect bond returns to lag cash only slightly if market conditions are very bad. Even more remarkable, in today’s unusual market conditions, we estimate that returns for a conservative portfolio, with 30% in global stocks and 70% in bonds, would be no worse than cash if markets are hostile for the next three years – and would be much better if markets are typical or very good. In sum, cash instruments are suitable if you need to put money aside for near-term needs, but when you’re investing for three years or more, holding cash is likely to mean forgoing significant gains. The Bernstein Wealth Forecasting System uses a Monte Carlo model that simulates 10,000 plausible paths of return for each asset class and inflation and produces a probability distribution of outcomes. The model does not draw randomly from a set of historical returns to produce estimates for the future. Instead, the forecasts (1) are based on the building blocks of asset returns, such as inflation, yields, yield spreads, stock earnings and price multiples; (2) incorporate the linkages that exist among the returns of various asset classes; (3) take into account current market conditions at the beginning of the analysis; and (4) factor in a reasonable degree of randomness and unpredictability. The views expressed herein do not constitute research, investment advice or trade recommendations and do not necessarily represent the views of all AB portfolio-management teams. Anne K. Bucciarelli – Director, Wealth Planning and Analysis Group Heather A. George – Associate Director, Wealth Planning and Analysis Group

The Strongest European ETF Will Surprise You

Summary Ireland’s markets stands out in tepid Eurozone markets. A closer look at the Ireland ETF. Outperformance in Ireland compared to other Eurozone equities. Buoyed by impressive economic growth, the iShares MSCI Ireland Capped ETF (NYSEArca: EIRL ) has climbed 13.5% year-to-date, good for one of the best performances among single-country exchange traded funds tracking Eurozone nations. However, there is more to the story when it comes the steadiness of EIRL and the Irish economy. In the first quarter, the Irish economy expanded by an upwardly revised 5.2% in 2014, its best performance since 2007, and the country’s economy is now larger than at the height of its so-called Celtic Tiger boom. Ireland’s central bank pointed to support from domestic demand as robust retail sales and an improved labor market bolstered the economy . Often seen as the steadiest hand of the five PIIGS ETFs, is up 22.2% over the past year. “A big reason the country has done so well is that it applied austerity in quick and dramatic fashion by cutting spending and raising taxes. This, along with a weak euro which helped bolster exports, has Ireland’s government predicting gross domestic product growth of 6 percent this year, matching last year’s pace. In addition, the country’s unemployment rate has dropped, from 15 percent in 2012 to 9.7 percent today ,” reports Eric Balchunas for Bloomberg . The $163.3 million EIRL holds 24 stocks with the materials and consumer staples sectors combining for half the ETF’s weight. The ETF is top heavy as CRH Plc occupies almost 21% of EIRL’s weight on its own. EIRL’s top five holdings combine for over 54% of the fund’s weight. “Ireland’s performance over the past four years stands in stark contrast to its peripheral peers in the euro zone. Portuguese stocks are down about 12 percent, equities in Italy are up 32 percent, and Spain’s are up 15 percent. Unsurprisingly, debt-ridden Greece has been the worst performer, down 33 percent since the debt crisis,” according to Bloomberg. iShares MSCI Ireland Capped ETF (click to enlarge) Share this article with a colleague