Unveiling the 2011 Models

The new year is a time for change. When I first created this blog 12 months ago, I added a page of Model Portfolios almost as an afterthought. Little did I know that it would become the single most popular page on the site.

After hearing lots of feedback from investors, looking more deeply into the specific funds, and seeing the launch of new products, I decided that the Model Portfolios page needed some updating. I’ve revised some of the portfolios and added a few entirely new ones. I’ve also removed a couple that seemed redundant in this new light.

One of the main principles of Couch Potato investing is not tinkering your portfolio, so I thought it was worth describing the thinking behind these changes. None of them have anything to do with market conditions.

No more currency hedging

The original Global Couch Potato portfolio used currency hedging in its US and international equity funds. I’ve become convinced that currency hedging adds an extra layer of costs that the long-term investor does not need, especially given that hedging strategies are poorly executed by many funds. So I’m now recommending unhedged funds for this basic index portfolio. (The one exception is the RBC International Index Fund in Option 3, because the only unhedged international index funds in Canada are much too expensive.)

In Option 1 (the ETF variation), I have decided to recommend a 40% allocation to the iShares MSCI World Index Fund (XWD), rather than 20% to the iShares S&P 500 Index Fund (XSP) and 20% to the iShares MSCI EAFE Index Fund (XIN). XWD holds approximately equal amounts of US and international equities (plus a trivial allocation to Canada), but unlike XSP and XIN it does not hedge currency. It also simplifies the portfolio by turning two holdings into one, and still allows Canadian investors to trade on the TSX rather than using US-listed ETFs.

Making things simpler

Over the last couple of years I have come to appreciate the value of simplicity. While keeping costs low is always important, adding a few basis points in MER is often worth it if it means reducing the number of funds in a portfolio. Fewer funds means less rebalancing and lower transactions costs, especially with US-listed ETFs.

That’s why I’ve created the new Complete Couch Potato, which takes advantage of Vanguard’s Total World Stock ETF (VT). This gem of a fund covers virtually the entire world (unlike XWD, it includes emerging markets) in one fell swoop. You can cover all these markets at slightly lower cost with three Vanguard ETFs, and I suggest this option as well, but there’s a lot to be said for the simplicity of this one-stop solution.

Specialized options

I started writing a regular ETF column for Canadian MoneySaver last fall, in which I’ve suggested some specialized portfolios, including an income-focused portfolio in the January 2011 issue (on newsstands now). I’ve included this new Yield-Hungry Couch Potato, as well as an updated Cheapskate’s Portfolio, and will add others in the future.

I’ve also put together a  simple Fundamental Couch Potato for investors who want to use fundamentally weighted indexes, rather than traditional cap-weighted funds. After much thought, I’ve decided to recommend PowerShares ETFs for the US and international components, rather than their counterparts from Claymore, which follow the same strategy. Claymore’s flagship Canadian Fundamental ETF (CRQ) has tracked its index extremely well (and significantly outperformed the market) since its inception. However, the tracking error on Claymore’s US and international fundamental ETFs have been so large that I can’t recommend them in good conscience. There’s reason to expect that this will change as the funds improve their sampling methodology, and if that happens, I will happily reconsider.

I look forward to your feedback on these new Model Portfolios.

64 Responses to Unveiling the 2011 Models

  1. Canadian Couch Potato January 23, 2011 at 8:41 pm #

    @Mark: That sounds like a perfectly valid alternative. In general, I would recommend ETFs for a portfolio that size (you can get even lower than 32 bps), but if you want to avoid brokerage fees, the CIBC index funds would be fine. Thanks for the suggestion.

  2. Mark January 24, 2011 at 7:19 pm #

    One of the rules if investing is to match the duration of the investment instruments to one’s investment horizon. The duration of a stock (or a broad market fund) is perpetuity. A weighted duration of XBB is 9.12 years, XLB is 22.63 years, and XSB is 2.88 years. Logically, someone who needs the money in three to five years should not be investing into XLB or XBB. Only XSB is an option because its weighted duration does not exceed the investment horizon. If someone is saving for a down payment in one or two years, they should stay away from XSB and the other two bond ETFs, because of the duration mismatch: they would need to use an investment instrument with a shorter than XSB duration: money market or t-bill fund.
    At the same time a couch potato portfolio above recommends one instrument with 9.12 duration (XBB) and the other two instruments have a duration = perpetuity. Would it make sense to use XLB instead? This way portfolio instruments match the portfolio investment horizon as far as duration is concerned.
    The “The Cheapskate’s Couch Potato” and “The Über–Tuber” portfolios use even shorter duration bonds: 2.5 years for the 40% of money. That does not match the duration of the stock holdings in the same portfolio.
    I am likely missing something, but one explanation I know is bond holdings should cover the broad market and the broad market consists of bonds of all durations. But XBB does not include bonds <1 year, so it is not really a true "broad market index fund".
    Another explanation may be that anything beyond 10 years is as good as perpetuity. Not sure if that makes sense for someone whose investment horizon is 30 years…
    Neither of the above explanations really answers the question.
    Any comments on why the portfolio should not be XLB/XIC/XWD?

  3. Canadian Couch Potato January 24, 2011 at 8:23 pm #

    @Mark: It’s not necessarily true that a bond fund’s duration should much an investor’s time horizon. Short-term bonds and long-term bonds have different risks associated with them: if interest rates rise, short bonds will lose less much value than long bonds. The trade-off is that long bonds pay a higher coupon. It is perfectly reasonable for a long-term investor to hold only short-term bonds if they want to reduce volatility, or a broad-market fund like XBB to diversify across all maturities.

    As for bonds with less than one year to maturity, even short-term bond funds do not include these. They would be more likely to be found in a money market fund.

  4. Kristi January 25, 2011 at 10:52 pm #

    First of all, thank you Dan, for the new portfolios.

    After thinking and reading (too much), I set up my own “complete couch potato”.

    I fear I’ve created a monster – I used to have to wait for those quarterly statements. Now….not so much. While I know I won’t fiddle with the portfolio until this time next year, I just can’t resist going to my account and seeing if it’s “up or down” – my husband says the novelty will wear off – hope he’s right….

    And over time, I’m thinking this won’t matter so much – but we live in the west, and I did all my buying at night (when I got home from work), so the markets were long closed.

    My calculations about # of shares were a little off because prices changed slightly by
    the next day.

    This may be another silly question (newbie alert), but what should I do differently next time if I can’t re-balance/trade during the day i.e. in real time?

    Set the maximum price as the one I did my calculations with and then just live with the fact that my % will always be slightly off???? Or???

    Thanks, Dan – I really enjoy reading and learning from you and the other readers on your blog.

  5. Slacker January 26, 2011 at 12:24 am #

    @Kristi: I used to obsess over getting the asset allocation perfectly right. And in doing so, paid a lot of trading fees and foreign exchange fees. I encourage you to start tracking how much you’re spending on trading cost and foreign exchange cost, this ought to persuade you to reduce worries about getting the allocation slightly off.

  6. Canadian Couch Potato January 26, 2011 at 8:54 am #

    @Kristi: I agree completely with Slacker. Try not to obsess over the small details, as they really make no difference in the long run. Too many trading expenses, however, will definitely cut into your returns. When in doubt, do nothing.

    The small daily price changes make no difference to your portfolio allocations. If you’re planning on holding 20% in a certain asset class, even a move to 18% or 22% really makes no meaningful difference. I’d encourage you not to rebalance more than once a year, and if the portfolio is rather small, even that might be too often. The costs can often outweigh the benefits.

  7. Curious January 26, 2011 at 10:49 am #

    Good Morning DB,

    Have just recently retired with a current yearly pension of approximately 25K CAD/USD. There is a chance my pension may go up to circa 40K per year, depending upon a judges decision in an on going case.

    Other than the pension I have about 25K in USD savings and about 85k in an RSP that make up the portion of my cash that I would like to invest in the markets. I am keeping two rainy day/savings funds of 12K USD and 36K CAD a side.

    As a neophyte to “the markets” I have been reading your site a fair bit (asked a “dah” question the other day, sorry). I am confused about which ETF portfolio would be right for my situation as a “Baby Boomer” who is retired, a “Care Giver” to a parent and I have little time, energy, or patience to watch the markets. I thought ETFs would be the answer, but how simple do I go without causing myself to reduce the chances of some future security, since “Caring Giving” needs an income flow especially when your parent’s money runs out?


  8. Canadian Couch Potato January 26, 2011 at 11:50 pm #

    @Curious: This is a really big question that I can’t answer for you, unfortunately. Choosing an appropriate portfolio depends on a lot of factors. I suggest you find a financial planner who can help put you on the right path.

  9. yoginidoc June 19, 2011 at 10:02 pm #

    Thankyou for sharing your knowledge. I am slowly taking responsibility for my money and inching away from my advisor. Baby steps.
    I have 6oK and 1000$ /mo of corporate funds to invest.
    What can you tell me about monthly contributions. With ETF’s I will have to pay a fee to invest each month.
    Put the 60 K into couch -potato portfolio and the monthly contributions into MF?

  10. Canadian Couch Potato June 19, 2011 at 10:11 pm #

    @yoginidoc: Yes, you will pay a commission every time you buy an ETF, so monthly investing can become costly. You may want to either consider mutual funds, or letting your monthly contributions sit in cash for a while and only make quarterly or semi-annual ETF purchases. This post may help:

  11. mark December 30, 2012 at 6:56 pm #

    I was wondering to keep things simple, why not 60% in VT (vanguards total stock index) and 40% XBB bonds.

    2 funds no(low) trading cost and tons of diversification??
    Is anybody using that set-up??



  12. Canadian Couch Potato December 30, 2012 at 7:03 pm #

    @Mark: For a Canadian, that portfolio would leave you with 60% of your holdings exposed to foreign currency risk, and you would have to make all of your equity trades in US dollars. That’s not outrageous, but it certainly isn’t optimal. While I think most Canadians have too much home bias, your suggestion is probably swinging the pendulum too far in the other direction:

  13. mark December 30, 2012 at 9:48 pm #

    Thank you for the response about the VT(vanguard total stock market index) and my question,

    Look I am a 50 year old male, have a child(13) single parent, I have 70 k after divorce, and want to invest in the market.
    If you listen to Garth Turner real estate is dead. I want a etf portfolio that i can set and forget….

    I like the REIT and income from all my investments.

    I have on line investing and have some money in the couch potato portfolio, ieeee

    I wanted to invest in VT with XBB and set it and forget it but you say curency risk??

    I want to keep thing simple so maybe the XIU,XWD,XBB is the simple solution, this is alot of stress as this is a lump sum payment from my last employer, and i just hate the money sitting there doing #$%%^&


  14. Canadian Couch Potato December 31, 2012 at 9:30 am #

    @Mark: It’s not appropriate for me to recommend specific funds for any individual. But your XIU/XWD/XBB suggestion is essentially the same as the Global Couch Potato on my model portfolios page. It’s a globally diversified, balanced portfolio that is suitable for many investors with a moderate risk tolerance. Yo can, of course, raise or lower the bond allocation to adjust the risk level. For portfolios under $100K, it probably does not make sense to add more ETFs than this, or you’re just adding expense and complexity.

    Wishing you all the best.

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