Tag Archives: vti

Current Recommendations For Dual Momentum Portfolio

How to construct a dual momentum portfolio using a few simple rules. Applying absolute and relative momentum to build a portfolio. Current recommendation is to invest 100% of the portfolio in U.S. Equites. Gary Antonacci’s popular book, Dual Momentum Investing: An Innovative Strategy for Higher Returns with Lower Risk is used as a template for the following analysis. The primary deviation from Antonacci’s logic is the choice of securities used to populate the portfolio. To hold down trading costs, the following commission free ETFs from TDAmeritrade are used. They are: VTI – Vanguard Total Stock Market ETF VEU – Vanguard FTSE All-World ex-US ETF BIV – Vanguard Intermediate – Term Bond ETF SHY – iShares 1-3 Year Treasury Bond SHY is not used as a potential investment, but rather serves as a cutoff or “circuit breaker” ETF. The dual momentum rules are quite simple as they make use of absolute and relative momentum principles. Absolute momentum is where the investor examines the performance of the security with respect to its own past. Relative momentum is where the investor compares the trend or past performance with respect to other securities. Dual momentum makes use of both concepts. Antonacci recommends a look-back period of one year or 252 trading days with a monthly review. Think of this as one of those monthly reviews. With the ETFs selected for possible purchase, the cutoff ETF ((NYSEARCA: SHY ))) identified, and the look-back period settled, here are the few rules for portfolio management. This is a simplification of the diagram shown on page 101 of the dual momentum text. Rank VTI and VEU with respect to SHY. If both VTI and VEU rank above SHY, invest 100% of the portfolio in the highest ranked ETF. VTI is that ETF in this review. If neither VTI or VEU rank above SHY, invest 100% in the bond ETF, BIV. Other options for bonds are AGG or BND. I selected BIV for this example as I expect interest rates will rise so I am reluctant to use long-term bond ETFs. Wait a month for the next review. Current Recommendations: Based on 11/23/2015 data and a look-back period of 252 trading days, the highest ranking ETF on an absolute scale is VTI. Since it is ranked higher than VEU and is performing above SHY, we invest 100% of the portfolio in VTI. Had VEU ranked above VTI and SHY, 100% would have been invested in VEU. If neither VTI or VEU ranked above SHY, 100% of the portfolio would go to BIV. (click to enlarge) The above worksheet is designed for a more complex portfolio, but still works for a dual momentum portfolio with very minor adjustments.

Increase Your Portfolio’s Return By Dropping International Funds

Summary International stocks have underperformed historically – performing even worse in the recent past. Multiple hypothetical portfolios demonstrate the poor returns of international stocks. Short periods of outperformance by international stocks do not make up for their overall performance. Will International Stocks Really Outperform? With emerging markets in the dumps and international funds trailing the returns of domestic funds, analysts everywhere are calling for investment in international stocks, claiming that the chronic underperformance is a sign that they are “due” to outperform. International stocks may very well outperform in the next few years. There is nobody who can know that for sure. I am here to present the facts, and the facts show that international stocks have not been delivering on the promise of outperformance given their higher risk. An investment portfolio built entirely from U.S. stocks can outperform international portfolios while avoiding the political and currency risks of other smaller countries. Hypothetical Portfolios For the sake of this hypothetical situation, let us assume that the owner of this portfolio will be investing in 100% equities and plans to maintain that portfolio for the next decade before moving into some safer bonds. The owner of this portfolio currently has $300,000 invested. Let us see how this portfolio would have performed from 2005 to 2015. First, a control sample: 100% U.S. equities for the entire investment period, invested in the broadest manner possible with the Vanguard Total Stock Market ETF (NYSEARCA: VTI ). In this case, the portfolio would be worth $654,240 at the end of the investment period. Not too shabby, the portfolio has more than doubled with an annualized rate of 8.12% ( Source ). Let’s say the investor wished to broadly diversify his equity portfolio with companies from around the world, putting the U.S. weighting at around 40% with the Vanguard Global Equity Fund (MUTF: VHGEX ). In this case, the portfolio would be worth $533,880 at the end of the investment period. The portfolio has increased at an annualized rate of 5.93%. The investor has missed out on $120,360 ( Source ). Perhaps the investor believed that emerging markets would be a good addition to his U.S. equities. Let’s say the investor allocated 20% to emerging markets with the Vanguard FTSE Emerging Markets ETF (NYSEARCA: VWO ) and 80% to Vanguard Total Stock Market ETF. In this case, the portfolio would be worth $625,080 at the end of the investment period. The portfolio has increased at an annualized rate of just over 7.542%. The investor has missed out on $29,160 ( Source ). Let me note that emerging markets are the only international option I would consider. Emerging markets have outperformed U.S. markets from time to time and their current weakness has much to do with the strong U.S. dollar and oil prices. However, emerging markets do not represent all international stocks and therefore I still stand by the statement that international stocks, as a whole, underperform – as seen by the performance of broad international funds such as VHGEX. In all hypothetical portfolios, the investor would have been better off simply investing in the United States market and would have even paid lower fees (and perhaps taxes as well) while doing so. The below table and graph illustrate the results of including international stocks in your portfolio. (click to enlarge) (Excel, using data from Vanguard.com) (click to enlarge) (Excel, using data from Vanguard.com) International Stocks have Underperformed Historically U.S. funds have beaten international funds the past five, 10, 15, 20 and 25 years. Over the past 25 years, large-cap U.S. funds have gained an average 691%, vs. 338% for international funds. The graph below illustrates the difference in performance. (Please note I am not in favor of investments in managed futures. Managed future data is subject to extreme survivorship bias and the results are thus skewed. Survivorship bias is the logical error of concentrating on the people or things that “survived.” inadvertently overlooking those that did not because of their lack of visibility.) (click to enlarge) (AutumnGold) Small Bursts of Outperformance by International Stocks Don’t Make Them a Good Investment Some will argue that there are periods of time when international stocks outperform. This is true. However, these periods of time are often small and they haven’t made up for the underperformance both historically and lately, assuming investors invest gradually over time. For long term investors, a long history of strong performance is needed before an investment can be made. The United States stock market has provided that performance for over a century now. The below chart shows the periods of outperformance for domestic and international equities for roughly the past 20 years. As you can see, in the mid-80s international stocks did very well and mildly outperformed in the mid-2000s. However, in all other years the U.S. stock market outperformed and overall U.S. stocks came out far ahead as mentioned earlier, assuming you didn’t throw all your money into international stocks in 1984. However, most people invest over time and if you had done that, you would have had higher returns with domestic stocks. (Bason Asset Management) For the past 15 years domestic stocks have pulled ahead of international stocks by a fairly wide margin. This is achieved even when the domestic market returns are relatively normal compared to historical averages. International stocks have simply underperformed consistently. You would be very hard pressed to find an international broad market fund that has beaten a U.S. broad fund from inception to date with reasonable fees, assuming the inception dates are relatively similar and that the funds didn’t start around 1984. The Vanguard International Explorer Fund is one exception I have found as it has performed very well since inception in 1996. Unfortunately, over the past 10 years it has returned less than 6% annually. Having a Portfolio of Pure U.S. Stocks Outperforms and Provides International Exposure Investing in U.S. stocks doesn’t mean you lose out on foreign growth potential. In fact, U.S. companies are very savvy and have the luxury of being able to choose which countries to do business in. There is no reason the U.S. equity market can’t benefit from the growth of other nations. Companies in the S&P 500 get 46.2% of their earnings from overseas . If you are looking for diversification to reduce the risk of a drastic drop in your portfolio value, international stocks won’t help you. The 2008 stock market crash showed that all equities fell drastically at the same time. Investing in one country or another made no difference. So do the smart thing: invest in domestic funds and enjoy the decent returns, as boring as they may be.

Don’t Fall Victim To Home Country Bias

Summary The US only makes up 22% of the world economy. Emerging markets in Africa and the Pacific are showing the strongest growth. International stocks are trading at lower multiples than US stocks. We’ve written a several articles in the past about what investments and assets classes shouldn’t be in your portfolio such as commodities , currency funds , and bank loan funds . We also wrote a few articles about asset classes that should be in your portfolio such as international bonds . But, we’ve never discussed how to assemble a comprehensive, well diversified portfolio. It’s important to note we are talking about an investment portfolio so we will not be considering cash which would be part of someone’s savings portfolio. In this ongoing series of articles we’ll be discussing each of the asset classes we use to assemble client portfolios. Over the next few weeks we’ll be discussing each asset class in depth and talking about what risk and reward attributes they bring to a portfolio. For this series of articles we’ve divided the asset classes into three conceptual categories: low risk, medium risk, and high risk. The links to previous articles are below. Low Risk Treasury Inflation Protected Securities ( OTC:TIPS ): Why TIPS Deserve a Spot in Your Portfolio Domestic Government Bonds: Government Bonds Greatest Strength is Downside Protection Medium Risk Currency Hedged Foreign Bonds: International Bonds Belong in Every Investors Portfolio Corporate Bonds Municipal Bonds: Comprehensive Guide to the Municipal Bond Market High Risk Real Estate: REITs Belong In Your Diversified Portfolio Domestic and International Stocks: Don’t Fall Victim to Home Country Bias Summary How to Assemble a Comprehensive Investment Portfolio For investors looking for growth, stocks usually make up the bulk of their accounts. The reasons for investing in stocks are well known; they provide the highest potential returns of all the major asset classes and thus are the growth engine of your portfolio. So rather than rehash the well known case for owning stocks over the long run ( hat tip to Jeremy Siegel ) What I want to focus on is how to properly allocate the stock section of your portfolio to domestic, international, and emerging market stocks. When reviewing client portfolios one of the biggest issues I come across is home country bias. Investors typically overweight their home country and severely underweight global equities. Before we get into why you want to own international and emerging market stocks let’s first examine the one case where home country bias might be the best course of action. Also, since I’m from the US and most readers are from the US I’ll be writing this article from the perspective that the US is our home country. However, everything here still applies no matter what country you are from. When Domestic Bias Can Be a Good Thing Probably the number one argument for overweighting your home countries stocks is if you are a retiree or anyone else on a fixed income that is depending on the dividend income generated from your stocks for living expenses. The reason why you may want to have a portfolio of all or predominately all domestic stocks has to do with currency fluctuations. If all of your living expenses are denominated in dollars then you may want all of your dividend income denominated in dollars as well. While currencies as a whole are a zero sum game and over the long-term currency fluctuations tend to cancel each other out they can be quite volatile in the short term. If your income is close to your expenses, you may not be able to weather a 10% drop in the value of a currency you are receiving dividends in. After all, you can’t very well call the electric company and tell them you’ll pay this month’s bill later once the Norwegian Krone regains its value! This doesn’t mean a retiree should own no foreign stocks. If your expenses are below your income or if you have a decent cushion of cash and can weather some fluctuations, then owning foreign stocks is a great idea. You can also concentrate on companies whose dividend payments are denominated in “safe haven” currencies such as the British Pound or Swiss Franc (this is what we do for our dividend portfolio) instead of more volatile currencies like say the Argentinean Peso. Reasons to Avoid Domestic Bias The primary reason to own international stocks is diversification. United States stocks make up roughly half (depending on what index you look at) of the global stock market. However, because the US has some of the best-developed capital markets and a large amount of publicly traded companies that doesn’t tell the whole story. The United States only makes up around 22% of world GDP according to data from 2014 from the International Monetary Fund. Investing in either foreign companies or US companies that have significant foreign operations gives investors much needed exposure to the 78% or so of the world that is not the United States. While global conditions are always changing, right now international markets have two attractive factors. First, many international markets particularly emerging markets have economies that are growing faster than developed countries. The graphic below based on data from the World Factbook puts worldwide growth rates in perspective. (click to enlarge) We can see that Africa and Asia have many fast growing economies while Western Europe is quite stagnant. Exposure to these high growth markets should be an important component in investors’ stock allocations. Second, and probably most important is that international markets right now can give investors stock exposure at lower multiples then the US market. The table below shows the TTM P/E for the total US stock market ETF offered by Vanguard compared with various Vanguard international market stock ETFs. Fund Index Current Valuation (TTM P/E) Vanguard Total Stock Market ETF (NYSEARCA: VTI ) CRSP US Total Market Index 20.2 Vanguard Total International Stock ETF (NASDAQ: VXUS ) FTSE Global All Cap ex US Index 16.4 Vanguard FTSE Developed Markets ETF (NYSEARCA: VEA ) FTSE Developed ex North America Index 14.3 Vanguard FTSE Emerging Markets ETF (NYSEARCA: VWO ) FTSE Emerging Markets 15.2 Vanguard FTSE Europe ETF (NYSEARCA: VGK ) FTSE Developed Europe All Cap Index 18.7 Vanguard FTSE Pacific ETF (NYSEARCA: VPL ) FTSE Developed APAC All Cap Index 13.9 Many international markets are trading at levels significantly cheaper than the US market. With international stocks, particularly emerging market stocks, having underperformed US stocks in the current bull market it might be hard for investors to rotate out of the winning hand of US stocks. If you’re a macroeconomic expert then by all means concentrate your portfolio in the best geographic areas. However, for most investors they would be best served with a diversified portfolio spread among the entire world. You will have exposure to better performing economies like the US but at above average multiples, underperforming economies such as Western Europe at slightly below average multiples, and faster growing economies albeit with currency concerns at very low multiples. A global stock portfolio insures that no matter which area of the globe is poised to outperform you’ll have some exposure to it.