Investment Planning

Postby Laura Sat Sep 22, 2007 7:51 pm

Welcome to the Bogleheads/Diehards Forum. There are many knowledgeable and helpful people who are part
of this online community. Most of these posters are willing to share their time and expertise with new posters
who are looking for help, but they can't or won't give advice in a vacuum. We need to know some important
things about you, including all the investments you already have. Otherwise, we may be advising you to buy
into a fund that overlaps your present holding(s), doesn't fit your asset allocation plan, or, worse, is either too
risky or too conservative for your investing temperament. To make sure you get the help you need, we would
like to provide a few suggestions.

Educate Yourself

If you have never taken the time to educate yourself on investing basics, you should do that now. There are
several easy-to-read books that do not require math knowledge, finance interest, or hours to read. Several
authors post on this forum frequently and usually answer questions related to their books. Taylor Larimore, Mel
Lindauer, and Michael LeBeouf wrote the excellent The Bogleheads Guide to Investing. The series
continued with The Bogleheads Guide to Retirement Planning. In addition, Financial Advisor Rick Ferri
has a terrific online book available called Serious Money and Larry Swedroe has several easy to read books
available, including The Only Guide to a Winning Investment Strategy You'll Ever Need: The Way
Smart Money Preserves Wealth Today. Another favorite is The Coffeehouse Investor. All of these books
can help you build a base of knowledge in just a few hours. A list of other books is available on the Diehards
Reading List.

Investment Plan

After educating yourself, the first step on your investing journey should be to settle on an investment plan
that includes your desired asset allocation. Your investment plan should look out into the future and include
things like a new car or home purchase in a few years, education expenses for children, and retirement, just
to name a few. All of these goals require money in different time frames, and the money should be invested
accordingly. Studies have shown that your asset allocation will determine more than 90% of your portfolio
return, so you should focus on your asset allocation first rather than on fund selection.

Since risk and return are directly related, your asset allocation should balance your NEED to take risk with your
ABILITY to withstand the ups and downs of the market. NEED can be determined in many different ways. If you
are young, you have the benefit of many years of compounding, so in one respect your NEED to take risk is low.
On the other hand, your portfolio size is probably small, leaving you with a long way to go to reach your
retirement goals. As a result, you could argue that your NEED to take risk is high.

For people closer to retirement, it may be possible to more closely determine NEED. First, estimate
approximately how much income you will need annually after retirement. For this example, well assume you
need $100,000 per year. Next, look at any pensions or social security benefits that will provide a source of
income. If a pension provides $30,000 per year and social security provides an additional $20,000 per year,
then your portfolio would need to provide an extra $50,000 each year. To prevent running out of money, you
should probably start by withdrawing 4% a year or less with an annual inflation adjustment. To generate
$50,000 per year at 4% requires a minimum portfolio size of $1,250,000. How close are you to your goal?

Turning to ABILITY, this relates to your ability to withstand the ups and downs of the market without getting
nervous and making changes to your asset allocation. Selling in the face of a decline is about the worst thing
you can do. Here is a table offered by author Larry Swedroe, based on the 1970s bear market, showing the
amount of decline for various stock/bond allocations:

Max Equity - Exposure Max loss

20%...............5%
30%..............10%
40%..............15%
50%..............20%
60%..............25%
70%..............30%
80%..............35%
90%..............40%
100%.............50%

There are other ways to determine an asset allocation, including several rules of thumb:

Your age in bonds. So, if you are 40 years old, then use a 60/40 (equity/bond) allocation.
110 minus your age = equities (110-40 yrs old=70/30 asset allocation)
120 minus your age = equities (120-40 yrs old = 80/20 asset allocation)
Vanguard can also help you Create an Investment Plan and canmake an investment recommendation

Asset Allocation

Once you have identified the split between stocks and bonds, you need to focus on whether you prefer to use
funds that cover large parts of the market (Total Market funds) or whether you prefer to slice and dice your
portfolio into sub-asset classes. For many people, this choice will be determined by the funds available in their
401k-type plans. Others may prefer to have fewer funds that cover larger parts of the market for simplicity of
management.

One part of the market that everyone needs to consider is international investing. Many experts recommend
investing 20-40% of your equity allocation in international holdings. Some people on the forum believe that
50% is the better number to reflect the position that the US represents in the world economy (approximately
50%). Since none of us can predict the future, the correct number that would return the highest percentage in
the next 20 to 30 years could be any of these figures. Like much of investing, the ultimate choice is yours. Pick
one number and then stick with it.

Portfolio Construction

After settling on your primary asset allocation you can turn to selecting funds that flesh out your desired asset
allocation and placing them in the most tax efficient manner. If you do not have taxable accounts, then tax
efficiency isnt a huge concern but it is still a factor that should be considered. It is usually best to consider all
of your investments together. If you are married you should usually blend accounts held by both spouses into
one unified portfolio.

The best place to start building a portfolio is by making a list of all your current investment accounts and the
investments in each account.
Next, start with the account types that offer the most limited investment choices, which are usually 401k and
403b type plans. These plans normally offer limited fund choices, so starting here and building around the best
fund choices is often the best idea. Look at all the funds available in your 401k and list the ones with the
lowest expense ratio from each category (US equity, international equity, bonds, etc).

Finally, you must consider the tax consequences of investing, especially in taxable accounts. Generally, the
most tax efficient way to use your different accounts is (our thanks to Taylor Larimore and David Grabiner for
this list):

1. Invest as much as possible in your tax-deferred and tax-free accounts.

2. Put the most tax-inefficient funds in your tax-deferred and tax-free accounts.
3. Use only tax-efficient funds in taxable accounts.
4. If all else is equal, put funds with higher expected returns in tax-free (Roth) accounts in preference to tax-
deferred (traditional 401(k), 403(b), traditional IRA) accounts.

Here is a list of securities in approximate order of their tax-efficiency. (Least tax efficient at the top.):
Hi-Yield Bonds
Taxable Bonds
TIPS
REIT Stocks
Stock trading accounts
Balanced Funds
Small-Value stocks
Small-Cap stocks
Large Value stocks
International stocks
Large Growth Stocks
 Most stock index funds
Tax-Managed Funds
EE and I-Bonds
Tax-Exempt Bonds

Investing Priority

The general rule of thumb for investing priority is:

1. 401k/403b up to the company match
2. Max out Roth
3. Max out 401k/403b
4. Taxable Investing

Now that you have established your investment plan you can follow the Asking Portfolio Questions link to
learn how to post your portfolio and receive many helpful suggestions.

Laura

The Three-Fund Portfolio

Postby Taylor Larimore Sun Jan 01, 2012 6:02 pm

After a lifetime of investing since 1950 trying to "beat the market," I am convinced that a simple 3-fund (or
ETF) portfolio of Total Stock Market, Total International, and Total Bond Market, properly allocated, is an ideal
portfolio for most investors. The advantages are many (use blue links):

* Avoids wasted time, confusion and the possibility of mistakes trying to pick the best of thousands of mutual
funds and ETFs.
* Very diversified with over 18,000 worldwide securities (lower risk).
* Very low expense ratios.
* Very low (hidden) turnover costs.
* Very tax-efficient.
* The many Advantages of Simplicity.
* Fewer but larger funds results in earlier eligibility for low-cost Admiral shares.
* No adviser risk.
* No fund manager risk.
* No style drift.
* No asset bloat.
* No tracking error to cause abandonment of the strategy.
* No fund overlap.
* No front-running that reduces sub-index returns.
* Efficient (highest return per unit of risk).
* Automatic rebalancing within each fund.
* Less worry. Never under-performs the market.
* Easy to maintain for the owner, spouse, caregivers and heirs.
* More free time.
* Mathematically certain to out-perform most investors. This was Morningstar's 15-Year Category
performance for each stock fund (return) and bond fund (risk) updated on January 01, 2017[/color]:

TOP 21% = Vanguard Total Stock Market (VTSMX)

TOP 13% = After tax.

TOP 32% = Vanguard Total International (VGTSX)

TOP 30% = After tax.

TOP 9% = Vanguard Total Bond Market (VBTLX) in 2008 bear market.`

GOLD Analyst Rating: Total Stock Market and Total International

SILVER Analyst Rating: Total Bond Market

Asset Allocation: Use this Investor Questionnaire to help you decide your very important stock/bond
allocation. I suggest International stocks = 20% of equity.

Fund Placement For Maximum Tax-Efficiency: Place Total Bond Market in tax-advantaged account(s). If
full, use a tax-exempt bond fund in a taxable account. Place Total Stock Market and Total International Stock
Market in either a tax-advantaged account (best) or a taxable account.

What experts say:

American Association of Individual Investors: "It should come as no surprise that behavioral finance
research makes a strong case for buying and holding low-cost, broadly diversified index funds."

Mark Balasa, CPA, CFP: "That three-pronged approach is going to beat the vast majority of the
individual stock and bond portfolio that most people have at brokerage firms. There is a certain
elegance in the simplicity of it."

Christine Benz, Morningstar Director of Personal Finance: "By buying total-market index funds--one
for U.S. stocks, one for foreign stocks, and one for bonds--investors can gain exposure to a huge
swath of securities in three highly economical packages."

Bill Bernstein, author of The Four Pillars of Investing: "Does this (three fund) portfolio seem overly
simplistic, even amateurish? Get over it. Over the next few decades, the overwhelming majority of
all professional investors will not be able to beat it."

Jack Bogle, Vanguard founder: "The beauty of owning the market is that you eliminate
individual stock risk, you eliminate market sector risk, and you eliminate manager risk.
-- There may be better investment strategies than owning just three broad-based index
funds but the number of strategies that are worse is infinite."

Warren Buffett, famed investor: Id rather be certain of a good return than hopeful of a great one.
-- Most investors are better off putting their money in low-cost index funds."

Scott Burns, financial columnist: "The odd are really, really poor than any of us will do better than a
low-cost broad index fund."

Jonathan Burton, MarketWatch: "There are plenty of ways to complicate investing, and plenty of
people who stand to make money from you as a result. So just think of a three-fund strategy as
something you won't have to think about too much."

Andrew Clarke, co-author of Wealth of Experience: "If your stock portfolio looks very different from
the broad stock market, you're assuming additional risk that may, or may not, pay off."

Jonathan Clements, author and Wall Street Journal columnist: "Using broad-based index funds to
match the market is, I believe, brilliant in its simplicity.

John Cochrane, President American Finance Association: "The market in aggregate always gets the
allocation of capital right."

Consumer Reports Money Book: "Simply buy the market as a whole."

Laura Dugu, Ambassador and co-author of The Bogleheads' Guide to Retirement Planning: "With
only these three funds in your investment portfolio you can benefit from low costs and broad
diversification and still have a portfolio that is easy to manage."

Charles Ellis, author of Winning the Loser's Game: "The stock market is clearly too efficient for
most of us to do better."

Eugene Fama, Nobel Laureate: "Whether you decide to tilt toward value depends on whether you
are willing to bear the associated risk...The market portfolio is always efficient...For most people,
the market portfolio is the most sensible decision."

Paul Farrell, author of The Lazy Person's Guide to Investing: "Where does Fama invest his
retirement money? 'In index funds. Mostly the Wilshire 5000.' "

Rick Ferri, Forbes columnist and author of six investment books: "The older I get, the more I believe
the 3-fund portfolio is an excellent choice for most people. It's simple, cheap, easy to maintain, and
has no tracking error that would cause emotional abandonment to the strategy."

Graham/Zweig, authors of The Intelligent Investor: "The single best choice for a lifelong holding is a
total stock-market index fund."

Alan Greenspan, former Chairman of the Federal Reserve: "Prices in the marketplace are by
definition the right price."

Mark Hebner, author of Index Funds: A diversified portfolio which captures the right blend of
market indexes reaps the benefit of carrying the systematic risk of the entire market while
minimizing exposure to the unsystematic and concentrated risk associated with individual stocks
and bonds, countries, industries, or sectors.

Hulbert Financial Digest: "Buying and holding a broad-market index fund remains the best course
of action for most investors."

Sheldon Jacobs, author of No-Load Fund Investing: "The best index fund for almost everyone is the
Total Stock Market Index Fund.--The fund can only go wrong if the market goes down and never
comes back again, which is not going to happen."

Kiplinger's Retirement Report: "You'll beat most investors with just three funds that cover the vast
majority of global stock and bond markets: Vanguard Total Stock Market; Vanguard Total
International Stock Index and Vanguard Total Bond Market Index."

Lawrence Kudlow, CNBC: "I like the concept of the Wilshire 5000, which essentially gives you a
piece of the rock of all actively traded companies."

Prof. Burton Malkiel, author of Random Walk Down Wall Street: "I recommend a total-maket index
fund--one that follows the entire U.S. stock market. And I recommend the same approach for the
U.S. bond market and international stocks."

Harry Markowitz, Nobel Laureate: "A foolish attempt to beat the market and get rich quickly will
make one's broker rich and oneself much less so."

Bill Miller, famed fund manager: "With the market beating 91% of surviving managers since the
beginning of 1982, it looks pretty efficient to me."
E.F.Moody, author of No Nonsense Finance: "I am increasingly convinced that the best investment
advice for both individual and institutional equity investors is to buy a low-cost broad-based index
fund that holds all the stocks comprising the market portfolio."

Motley Fools: "Invest your long-term moolah in index mutual funds that are designed to track the
performance of a broad market index."

John Norstad, academic: "For total-market investors, the three disciplines of history, arithmetic, and
reason all say that they will succeed in the end."

Suzy Orman: "One of my favorite index funds, Vanguard Total Stock Market (VTSAX), has a total
expense ratio of 0.06%"

Anna Pryor Wall Street Journal writer: "A simple portfolio of 3 funds. It may sound counter-intuitive,
but for the average individual investor, less is actually more."

Jane Bryant Quinn, syndicated columnist and author of Making the Most of Your Money: "The
dependable great investment returns come from index funds which invest in the stock market as a
whole."

Pat Regnier, former Morningstar analyst: "We should just forget about choosing fund managers and
settle for index funds to mimic the market."

Ron Ross, author of The Unbeatable Market: "Giving up the futile pursuit of beating the market is
the surest way to increase your investment efficiency and enhance your financial peace of mind."

Paul Samuelson, Nobel Laureate: "The most efficient way to diversify a stock portfolio is with a
low-fee index fund. Statistically, a broadly based stock index fund will outperform most actively
managed equity portfolios."

Gus Sauter, former Vanguard chief investment officer: "I think a very good way to gain exposure to
the stock market is through the Total Stock Market Portfolio on the domestic side."

Bill Schultheis, author of The Coffee House Investor: The simplest approach to diversifying your
stock market investments is to invest in one index fund that represents the entire stock market."

Charles Schwab: "Only about one out of every four equity funds outperforms the stock market.
That's why I'm a firm believer in the power of indexing."

Chandan Sengupta, author of The Only Proven Road to Investment Success: "Use a low-cost, broad-
based index fund to passively invest in a little bit of a large number of stocks."
William Sharpe, Nobel Laureate: "You may think your opinion is superior, but it pays to be
humble, investing in the market rather than trying to beat it."

Robert Shiller, Nobel Laureate: "A portfolio approximating the market may be the most important
portfolio."

Prof. Jeremy Siegel, author of Stocks For The Long Run: "For most of us, trying to beat the market
leads to disastrous results."

Dan Solin, author of The Smartest Portfolio You'll Ever Own: "You can get as simple or as
complicated as you'd like. You can keep it very simple by owning just three mutual funds that
invests in domestic stocks, foreign stocks, and bonds. That's precisely what I recommend in my
model portfolios."

William Spitz, author of Get Rich Slowly: "Few are able to beat a simple strategy of buying and
holding the securities that comprise the market."

Prof. Meir Statman, author of What Investors Really Want: "It makes sense to have those three
funds. What makes it hard is that it seems too simple to actually be a winner."

Stein & DeMuth, authors of The Affluent Investor: "Buying and holding a few broad market index
funds is perhaps the most important move ordinary investors can make to supercharge their
portfolios."

"Robert Stovall, investment manager: It's just not true that you can't beat the market. Every year
about one-third do it. Of course, each year it is a different group."

Larry Swedroe, author of 17 financial books: "Over the last 75-years, investors who simply invested
passively in the total U.S. stock Market would have doubled their investment approximately every
seven years."

Peter D. Teresa, Morningstar Sr. Analyst: My recommendation: "A fund that indexes the entire
market, such as Vanguard Total Stock Market Index."

Wilshire Research: "The market portfolio offers the best ratio of return to risk."

John Woerth, Vanguard director of public relations: "We would agree that this three-fund approach
offers most investors a prudent, well-balanced, diversified portfolio at a low cost."

Jason Zweig, Wall Street Journal columnist and author of Your Money and Your Brain: "I think a total
stock market index fund is not only the simplest, but the very best core investment for most
people."

Warren Buffett, famed investor: "There seems to be some perverse human characteristic
that likes to make easy things difficult."