Passive Portfolio 2016

I haven’t updated in a while; the story gets a little boring after a while. But, as I was asked for advice a few times this year, I think it’s finally time to do another update.

Past editions: 2009, 2010, 2011, 20122013

The last few years have been a little slower: +11% in 2014, +9.6% in 2015 and +6.3% in 2016. The difference is largely due to bonds: 2014 was a boom year and 2016 was a slow year. For me personally, the performance over this period was not a big deal; I bought a house in 2014 and now have a real estate-heavy portfolio.

Performance

Here’s the performance of my portfolio over the past several years, using the latest 2016 country weights. The table below shows the annual returns of each component of the portfolio, giving the “sequence of returns” for each piece.

weight 2007-
2011
annual
average
2012 2013 2014 2015 2016
Equities
   U.S.A. VTI 33.6% -2% 16% 43% 23% 19% 9%
   Europe / Pacific VEA 21.1% -7% 18% 30% 3% 19% -1%
   Emerging VWO 5.3% 0% 19% 2% 9% 0% 9%
   Canada XIC 15.0% 1% 7% 12% 11% -8% 20%
Subtotal 75% -2.3% 15.2% 28.5% 12.4% 11.8% 8.1%
Fixed income
   Mixed bonds XBB/VAB 20% 6% 3% -2% 9% 4% 1%
Subtotal 20% 5.8% 3.0% -1.8% 8.6% 3.6% 1.2%
Cash 5% 0% 0% 0% 0% 0% 0%
Total 100% -0.3% 12.0% 21.1% 11.0% 9.6% 6.3%

Same assumptions as usual:

  • Expressed in Canadian dollar terms (i.e., including all currency shift effects and using no currency hedging)
  • Includes all distributions/dividends
  • Rebalanced annually

Cumulative returns:

  • From Jan. 2007 to Dec. 2016: 76.9% (5.9% annually over 10 years)
  • From Jan. 2008 to Dec. 2016: 75.0% (6.4% annually over 9 years)
  • From Jan. 2009 to Dec. 2016: 117.9% (10.2% annually over 8 years)
  • From Jan. 2012 to Dec. 2016: 75.4% (11.9% annually over 5 years)

It’s always good to look at the longer term. While the 5-year performance looks quite good at 11.9% growth per year, as soon as the time window includes a major negative event — like the 2008 crash — the 10-year performance shows a more modest 5.9% growth per year: a more realistic expectation for the long run. It’s also interesting to see the benefits of a mix of stocks and bonds: during the first five years, bonds outperformed stocks and delivered a +6% annual return (+30% over 5 years) while stocks lost value. It’s a little hard to remember now, when bonds have ben so underwhelming recently, but great to see a reminder why a mixed stocks/bonds portfolio is worth while.  (As it happens, I started investing in Jan. 2009, just after the crash, so I haven’t actually yet been through a period where bonds seriously paid off.)

Other Notes

  • Currency exchange: I’m earning income in US dollars this year, and no have a sudden interest in better ways to exchange money. I did my first few Norbert’s gambit recently, and was pleased by the results. I’ll be doing that going forward. For those not willing to make the jump, I did also learn that TD Waterhouse offers a significantly better exchange rate (~1%) when swapping US$25,000 in a single transaction; but that’s still a $250 charge while Norbert’s gambit is closer to $20.
  • I’m still curious to know better strategies for managing a portfolio that includes real estate. I feel vastly overexposed to interest rate risk, not to mention the vagaries of the real estate market these days, and it feels to me that bonds may be a bit redundant when holding real estate. Oddly, I haven’t found anything that treats real estate as part of a normal portfolio.

Passive portfolio 2013

Once again, there’s nothing new to report on my investment portfolio; just an excellent +21% year!

Past editions: 2009, 2010, 2011, 2012

It was an incredibly good year to hold U.S. and European/Pacific stocks. This is clearly the time to rebalance, “sell high” and shift into bonds. Not that bonds are expected to do great in the near future, but still – that’s the hedge against a sudden drop.

The sinking Canadian dollar is a notable part of the returns here – the 6% drop in the currency this year added 6% to all of the non-Canadian stock portfolio. That’s just the luck of the draw – it went up 5% in 2009 and reduced returns that year.

So, +21% this year. Notice that the “legendary bad year” for the stock market, 2008, was a -20% return year. How many headlines did you read about a “new depression” in 2008 compared to the headlines about a fantastic boom in 2013? I think this just shows the asymmetry of the news, and the impact that has on our perception. The bad news in 2008 was given massive coverage – and rightly so – but the good news in 2013 is seen as just “business as usual.” Many people made changes to their investment strategy after 2008, but many will not even notice 2013.

Performance

Here’s the performance of my portfolio over the past several years, using the latest 2013 country weights. (Note that South Korea moved from “emerging” to “europe / pacific” category this year.) The table below shows the annual returns of each component of the portfolio, giving the “sequence of returns” for each piece.

2007 2008 2009 2010 2011 2012 2013
Equities
   U.S.A. VTI -9% -23% 11% 11% 6% 16% 43%
   Europe / Pacific VEA -6% -27% 10% 3% -8% 18% 30%
   Emerging VWO 17% -42% 52% 13% -15% 19% 2%
   Canada XIC 9% -33% 34% 17% -9% 7% 12%
Subtotal -2.2% -27.8% 18.9% 9.9% -3.3% 15.2% 28.5%
Fixed income
   Mixed bonds XBB/VAB  3% 6% 5% 6% 9% 3% -2%
Subtotal 3.0% 6.1% 5.1% 6.0% 9.1% 3.0% -1.8%
Cash 0% 0% 0% 0% 0% 0% 0%
Total -1.1% -19.7% 15.2% 8.6% -0.7% 12.0% 21.1%

Same assumptions as usual:

  • Expressed in Canadian dollar terms (i.e., including all currency shift effects and using no currency hedging)
  • Includes all distributions/dividends
  • Rebalanced annually

Cumulative returns:

  • From Jan. 2007 to Dec. 2013: 34.1%
  • From Jan. 2008 to Dec. 2013: 35.5% (5.2% annually over 6 years)
  • From Jan. 2009 to Dec. 2013: 68.7% (11.0% annually over 5 years)
  • From Jan. 2010 to Dec. 2013: 46.4%
  • From Jan. 2011 to Dec. 2013: 34.7%
  • From Jan. 2012 to Dec. 2013: 21.1%

Passive portfolio 2012

I have little new to add about my investment portfolio; mostly, this is just an update on the fine, fine results of the past year – a +12% year!

Past editions: 2009, 2010, 2011

I’ve made only a few tweaks to my portfolio targets this year:

  • Switched to a 75/20/5 portfolio split on equities/bonds/cash, from 80/15/5.  I’ve been meaning to do this for a while, but wanted to wait for a good stocks year before doing it.
  • Dropped XRB (real return bonds) from the target portfolio. I’ve been a little baffled by the ETF’s good performance for the past several years; it didn’t make sense to me, and while I’d added XRB to my target portfolio, I hadn’t actually gone through and purchased yet. I finally figured out the reason: XRB holds mostly long duration bonds, with an average duration of 20.4 years. It’s the inflation-protected equivalent of XLB (long bonds, avg. 22.6 years), not the twin of XBB (mixed bonds, avg 9.7 years). That explains the good recent performance – long bond prices have been on a tear as interest rates plummeted and settled at zero. But their future performance doesn’t look good at all; it’s a terrible time to enter an XLB or XRB position. If there was a Canadian real return bond ETF with a shorter duration, I’d consider it, but there isn’t.
  • Adjusted target weights due to Vanguard changes regarding South Korea (a.k.a. jokingly as “Samsung”). Vanguard is in the process of migrating its funds to a different set of target indices, and the new indices classify South Korea as a “developed” economy rather than an “emerging” economy. My target weights for VEA and VWO have to change as a result.
  • Adjusted target weights for shifting national market cap shifts. This raises the US market exposure in particular. I use Vanguard data on the components of their VT fund to decide the appropriate weights for VTI/VEA/VWO; I’m essentially trying to manually match the contents of VT excluding Canada.

Here’s a table comparing last year’s portfolio target with my current target:

Weight
(last year)
Weight
(now)
Equities
   U.S.A. VTI 28.7% 28.7%
   Europe / Pacific VEA 26.4% 24.2%
   Emerging VWO 8.9% 7.1%
   Canada XIC 16.0% 15.0%
Subtotal 80% 75%
Fixed income
   Broad bonds VAB/XBB 11.3% 20.0%
   Real return bonds XRB  3.8%
Subtotal 15% 20%
Cash 5% 5%

Performance

Let’s close with a quick review of the performance of this portfolio over the past several years. The table below shows the annual returns of each component of the portfolio, giving the “sequence of returns” for each piece.

2007 2008 2009 2010 2011 2012
Equities
   U.S.A. VTI -9% -23% 11% 11% 6% 16%
   Europe / Pacific VEA -6% -27% 10% 3% -8% 18%
   Emerging VWO 17% -42% 52% 13% -15% 19%
   Canada XIC 9% -33% 34% 17% -9% 7%
Subtotal -2.2% -27.8% 18.9% 9.9% -3.3% 15.2%
Fixed income
   Mixed bonds XBB/VAB  3% 6% 5% 6% 9% 3%
Subtotal 3.0% 6.1% 5.1% 6.0% 9.1% 3.0%
Cash 0% 0% 0% 0% 0% 0%
Total -1.1% -19.7% 15.2% 8.6% -0.7% 12.0%

Same assumptions as usual:

  • Expressed in Canadian dollar terms (i.e., including all currency shift effects and using no currency hedging)
  • Rebalanced annually

Cumulative returns:

  • From Jan. 2007 to Dec. 2012: 10.7%
  • From Jan. 2008 to Dec. 2012: 11.9%
  • From Jan. 2009 to Dec. 2012: 39.3%
  • From Jan. 2010 to Dec. 2012: 20.9%
  • From Jan. 2011 to Dec. 2012: 11.3%

I started investing in late 2008, so I usually look at the Jan. 2009 – Dec 2012 return – but it’s always good to remember that this gives a very rosy view compared to other starting dates.

Closing Thoughts

Despite all of the European fear and the “fiscal cliff” in the US at year end, it’s been a very good year. This year finally demonstrated the value in a globally balanced portfolio, as Canada’s markets stagnated. And the portfolio’s already up another 3% since Jan. 1st…

Passive portfolio tweaks 2011

I’ve posted several times previously about my investment portfolio, but I thought I’d update regarding a few tweaks I’ve made in the last year. The main inspiration for the tweaks comes from reading Rick Ferri’s book All About Asset Allocation — I  finally found a book that laid out the main aspects of portfolio selection in a thorough way, with enough graphs and correlation coefficients to satisfy my inner mathematics geek.

Here’s a table comparing last year’s portfolio target with my current target:

Weight
(last year)
Weight
(now)
Equities
   U.S.A. VTI 30.1% 28.7%
   Europe / Pacific VEA 28.7% 26.4%
   Emerging VWO 5.2% 8.9%
   Canada XIC 16.0% 16.0%
Subtotal 80% 80%
Fixed income
   Short bonds XSB 15.0%
   Broad bonds XBB/VAB 11.3%
   Real return bonds XRB 3.8%
Subtotal 15% 15%
Cash 5% 5%

Equities

I took a more careful approach to splitting equities up across the regions of the world. The weights are based on the total market capitalization of the stock markets in each region (rather than “GDP weighted”) as of Oct. 2011, with an adjustment to force Canada to 20% of the equity portfolio.  As can be seen, the emerging markets are the main item that changed in this review, mostly because different sources list different countries in the “emerging” category, and because emerging markets have gained quite a bit against developed markets since I first put my targets together several years ago.

(Side note: there’s also now a nice VXUS Vanguard fund covering VEA, VWO and some XIC, with better small-cap exposure and reasonable fees. Definitely a nice way to keep the VEA/VWO balanced for less effort.)

Fixed income

Ferri’s book helped me understand bonds better, and how stocks and bonds interact in a portfolio. I’d read advice that “long bonds have poorer returns that stocks over the long term, and therefore you should own stocks for high risk/high return and short-term bonds for safety.” On that basis, I’d bought XSB (a short-term bond index, average duration of about 2.9 years).

Medium- and long-term bonds are also quite “safe” (over an investment horizon of several years). They also typically offer better returns than short-term bonds. One source I read described short-term bonds as helpful in “inflationary recessions” and long-term bonds as helpful in “deflationary recessions.”  Regardless, I’ve seen little evidence to favour short-term bonds over the other types. As a result, I’ve shifted to XBB (or VAB) which contains a mix of short, medium and long-term bonds, all investment grade.

More importantly, I now understand how stocks and bonds interact. In technical language, they have low correlation, but I find there’s an easier way to think about it.  When you hold both stocks and bonds and rebalance at the end of each year, you’re essentially using the “low correlation” as a way to sell high/buy low. If it’s a great year for stocks, it’s usually a poor year for bonds. Rebalancing will require you to sell stocks at the end of the year (“sell high”) and shift money into bonds (“buy low”). It’s a really simple way to force you into this strategy. Additionally, stocks and bonds have a good fundamental basis for being “low correlated” – they are really different ways of providing capital to a company. Stocks are “high risk” ownership where stockholders take on the risk of good/bad economies, good/bad company performance etc. Bonds are “low risk” loans where bondholders receive income regardless of the economy or company performance; the main risk that bondholders retain is interest rate risk (that is, the risk that they could have asked for more interest on their loans if they’d loaned at a later date).  These two different types of retained-risk fundamentally drive the low correlation, and make stocks and bonds much more distinct than, say, two stocks from different industries.

I also find that this “buy low / sell high” understanding of stocks/bonds helps me decide how to make changes to my portfolio targets. For example, given the past year of poor stock performance and good bond performance, it’s a poor time to change the stock/bond allocation in my portfolio from 80%/15% to 75%/20% because that would mean “selling stocks low” and “buying bonds high.” Instead, if I want to make that change, I’ll wait a year or two.

Finally, I’ve also added “real return bonds” to the portfolio – as I understand it, they are very similar to the “broad bonds,” but with a different mix of interest-rate vs. inflation risk.  I’ll admit my understanding remains a little fuzzy.

Cash

I keep most of my cash in the bank to avoid transaction fees.  However, I’ve seen some portfolios where short-term bond ETFs are treated as cash – after all, they’re very safe and liquid instruments with a healthy 3-4% annual return.

Small-caps and Value

I learned a little about the Fama/French finding – that small-cap companies and “value-oriented” companies have historically offered higher returns than the overall stock market. I considered buying some ETFs for this purpose, but ultimately held back. My take is that the Fama/French findings are very well-known now, and that it’s not clear that a premium will continue to exist.  Tilting the portfolio in that direction is essentially a “bet” on an ongoing premium.

Instead, my equity investment goal is simply to reproduce the performance of the global equity market, weighted by market capitalization. No ifs, ands or buts; and no addition of extra layers of “bets.”  I’ll continue to aim to get coverage of small-caps and micro-caps in my portfolio, but I won’t give them extra weight as a Fama/French bet.

Performance

And now, a quick detour into the performance of this portfolio over the past several years. The table below shows the annual returns of each component of the portfolio, giving the “sequence of returns” for each piece.

2007 2008 2009 2010 2011
Equities
   U.S.A. VTI -9% -23% 11% 11% 6%
   Europe / Pacific VEA -6% -27% 10% 3% -8%
   Emerging VWO 17% -42% 52% 13% -15%
   Canada XIC 9% -33% 34% 17% -9%
Subtotal -1.6% -28.3% 19.8% 9.9% -3.9%
Fixed income
   Mixed bonds XBB/VAB  3% 6% 5% 6% 9%
   Real return bonds XRB  1% 0% 14% 10% 18%
Subtotal 2.5% 4.6% 7.4% 7.1% 11.4%
Cash 0% 0% 0% 0% 0%
Total -0.9% -22.0% 16.9% 9.0% -1.4%

Assumptions:

  • Expressed in Canadian dollar terms (i.e., including all currency shift effects and using no currency hedging)
  • Rebalanced annually

Cumulative returns:

  • From Jan. 2007 to Dec. 2011: -2.9%
  • From Jan. 2008 to Dec. 2011: -2.0%
  • From Jan. 2009 to Dec. 2011: 25.6%
  • From Jan. 2010 to Dec. 2011: 7.4%

I started investing in late 2008, so I usually look at the Jan. 2009 – Dec 2011 return – but it’s always good to remember that this gives a very rosy view compared to other starting dates.

Closing Thoughts

Sure, it’s been a poor year – the European crisis hit stocks hard – but the impact on the whole portfolio was still not huge.  I’m feeling steadily more comfortable with investment, thanks to a few years of watching the markets closely and really trying to understand what’s happening.  I can’t predict the ups and downs, but at least I’ve done my homework.