Money Magazine ETF Recommendations: Keeping It Simple May Be Stupid

Finally! A mainstream writer who gets it. (At least some of "it.")

During the market lows in the 3rd week of March, Walter Updegrave for CNNMoney.com challenged his doom-n-gloom peers. He even recalled the now infamous 1979 Business Week cover story titled “The Death of Equities,” where the writers doubted stocks as an asset class entirely.

"Stunningly wrong," is how Mr. Updegrave characterized it. After all, in the nearly 30 years that followed the cover, the S&P 500 has annualized roughly 12%. What's more, investors achieved 12% through 5 recessions (counting the current one) as well as an epic 2000-2002 bear and numerous stock market sell-offs.

It follows that the recent wave of magazine features on the "dos" and "do-not-dos" of ETF investing is worthy of a write-up. After all, when financial magazines preach... well... you might want to maintain a healthy dose of skepticism.

(Business Week gave us "The Death of Equities." Smart Money's March 2000 cover gave us "15 Great Tech Stocks" in what they dubbed the "Ultimate Tech Portfolio." That's down more than 85%... 8 years later. Trust me when I say, Wall Street's elite media will fail to mention just how "wrong" they can get it.)

So what concerns me? I am troubled by the overly simplistic approach that Money Magazine has to ETF investing. (Mr. Updegrave... these are your peers at Money here in 2008!)

For starters, senior writer Penelope Wang has accurately pointed out the rising costs and increasing complexity of exchange-traded funds. And, in fact, I agree that too many providers are providing "products for product sake."

However, ETFs still offer the low cost of index mutual funds and the trading flexibility of individual stocks, bonds, currencies and commodities. And Money's answer to the 1000+ ETFs in existence is... ignore all but 5?

5 ETFs for all your worries- 4 from Vanguard. (I wonder which fund company is the biggest advertiser in the pages and on the web portals for Money?)

Here is Money's recommended cure-all:

1. Vanguard Total Stock Market (VTI) 30%
2. Vanguard FTSE All-World excl U.S. (VEU) 20%
3. Vanguard Total Bond Market (BND) 30%
4. Vanguard Real Estate Inv Trust (VNQ) 10%
5. iShares Lehman TIPS Bond Fund (TIP) 10%

I have written about, and supported, each of the above 5 possibilities individually. Nevertheless, I believe it is too simplistic to buy-n-hold-n-hope with these 5 alone. Portfolios should be dynamic enough to respond to changing circumstances. Moreover, most portfolios need to consider a wider range of investments and a greater number of them.

(The claim made in today's Money feature is that a 50% stock/50% income portfolio can cure all of your ills. Note that, just last month, Money was touting a 75%-80% exposure to stock for investors with a 10-year time horizon.)

Allocation percentages aside, let's consider the fact that the Money fails to identify two of the most powerful forces in diversification: foreign bonds and commodities. For foreign bonds, one could use the SPDR Lehman International Treasury Bond ETF (BWX) and for commodities, one could employ the services of the Dow Jones AIG Total Commodity Index (DJP).

And why should an equity investor be relegated to market-cap weighted indexes alone? Specifically, both VTI and VEU have precious little weight in the small- and mid-sized companies across the U.S. or abroad. It follows that iShares Small Value (IWN) could help on the domestic front, whereas WisdomTree International Small Cap Dividend (DLS) could bolster the international picture.

Although I do not recommend all-purpose/never-change portfolios, Money should have given its readers something more. Consider the following:

1. SPDR S&P 500 Trust (SPY) 15%
2. iShares Small Value (IWN) 15%
3. Vanguard FTSE All-World excl U.S. (VEU) 15%
4. WisdomTree International Small Cap Dividend (DLS) 15%
5. Vanguard Total Bond Market (BND) 10%
6. SPDR Lehman International Treasury Bond ETF (BWX) 10%
7. Dow Jones AIG Total Commodity Index (DJP) 10%
8. Vanguard Real Estate Inv Trust (VNQ) 5%
9. iShares Lehman TIPS Bond Fund (TIP) 5%

Does this involve a bit more sophistication? Yes. Yet I think the readers of Money deserve the opportunity to increase performance while simultaneously lowering risk through genuine diversification.

• International ETF Update: Japan, China, Australia  »
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• New Up/Down Oil ETFs Open for Business  »
• Green Commodities for a Complete Green Portfolio  »

This article has 8 comments:

• cranky old
  investor

  Apr 10 05:45 AM
  10 etf's are no safer than 3 when the whole world marches in lockstep
• Lee Eudy

  Apr 10 09:21 AM
  commodities and international bonds have hardly marched in lock-step - that's part of the point being made here
• etf admirer

  Apr 10 09:58 AM

  My Website
  But SPY, IWN, VEU and DLS do march in lock-step (high correlation & even higher downside correlation) - so thats basically a 60% exposure to equities.
  
  
• Panskeptic

  Apr 10 10:17 AM
  This urge towarfd simplicity does not originate at Money Mag. Paul B. Farrell over at Marketwatch has been beating the drum for "Lazy Man's Portfolios" for a long time. His April 8th column trumpets 1st quarter performance for 8 different portfolios for passive investors.
  
  Restless, inquisitive types who write/read at Seeking Alpha are not likely to be comfortable with these simple recipes that require little tweaking.
• cheesey mike

  Apr 10 01:02 PM
  As a new ETF investor (who has moved away from managed wrap accounts), I greatly appreciate these articles that talk about allocation strategies. I believe the CNNMoney portfolio is too simple though, and perhaps even Gary's Gorden's as well, but its a great starter portfolio and would have weathered the recent correctly well. I would consider adding intl real estate (though not right now) and emerging market debt. Also, I am not sure about VEU/DLS as a complete proxy for international equities. I have been using EFA/EEM/VWO/EEB but plan to move toward single country or regionals as I get more comfortable with self management. These tweaks start to cross the line from simple/lazy, but the bueaty of ETF's is one can pick their own level of involvement and complexity, or evolve there over time, and there is more low-cost diversification here than many "old-school" portfolios.
• User 171371

  Apr 10 03:13 PM
  I have not been diversified in twenty years,I buy what I like.J P Morgan recently gave my portfolio a free make over trying to gain my business.They used thirty five different products over the the last fifteen years and guess what, I beat them over 8%.(33% ETF's)
• JohnB

  Apr 10 04:18 PM
  You're making it too complex for the average investor. Money Magazine's recommendation is very reasonable, if not sophisticated. And Vanguard is hardly a bad ETF recommendation, considering the rock-bottom expenses.
  
  
• AAI

  Apr 11 03:03 AM

  My Website
  Some of the other "asset classes" you mentioned are highly correlated with the five highlighted by Money magazine, which puts you FURTHER away from your efficiency frontier because of expenses and taxes as investors try frantically to re-balance such an over-diversified portfolio quarterly or semi-annually. I strongly recommend you take a look at David Swensen's "Unconventional Success: A Fundamental Approach to Personal Investment." Swensen is one of the world's most successful investors, whose arguments you don't address at all.

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