High Income Parent Portfolio

I’ve been at this for a couple months and have never revealed my portfolio. It probably won’t be too surprising to most of you considering I’ve preached the benefits of low-cost index-based investments from the beginning. 

The top two brokers that supply low-cost index funds at this time are Vanguard and Charles Schwab. Fidelity is also another option. 

The common advice is to just open a Vanguard account if you need access to their low-cost investments vehicles.

A little history

My circumstances have been that Vanguard was never the best option for me throughout my investment life.

My company started with a Merrill Lynch managed 401k retirement account so I started there. We have since transferred to Charles Schwab because they gave us the best options with the lowest costs for managing our account. Since we’ve invested as a company, I put some of my personal investments with them simply for consolidation.  I transferred both my wife’s and my own Roth IRA there. My taxable account is with Schwab as well.

My Solo 401k is with Etrade since I needed to roll over my previous IRA from TD Ameritrade to avoid pro rata taxes with backdoor Roth IRA’s. You can read all about that here.

Once I was able to increase my taxable account to the threshold that qualified for the Bank of America Preferred Honors I transferred a portion of my taxable account there. They have several advantages over Schwab. I get 100 free trades per month for virtually any stock or ETF I want. That is about 99 more than I need, but both Vanguard and Schwab index ETF’s are free to buy and sell within the Merrill Lynch (Merrill Edge) account.

On top of the free trades, there are several other perks that come with the BOA preferred honors. This includes a 0.75% increase in rewards on the BOA travel rewards credit card bringing up the total reward to 2.625%. This is by far the best reward card I’ve found on everyday spending. It isn’t cash back, but we travel enough that I’ve never had a hard time using the points.

Back to the portfolio

When I started investing I went through several idiotic phases. First, I tried the “pick a couple of stocks that look hot and buy those” phase. Then I tried options, that was a disaster. Then I just invested in the mutual funds that our former company fund manager suggested. That has returned about 2.3% total over the last 5 years. Thankfully I abandoned that strategy long ago, but I still keep a mock portfolio to remind me. 

High Income Parent Portfolio

This is what the “expert” recommended. A 2.3% return over the past 5 years.

 

Since reading The Little Book of Common Sense Investing: The Only Way to Guarantee Your Fair Share of Stock Market Returns I’ve decided on a simpler asset allocation and stuck to that throughout the years.

Here are the percentages:

High Income Parent Portfolio

As you can see, it’s a four fund portfolio. It’s very similar to the famed three fund portfolio but includes REIT’s too.

Analyzing the Allocation

If you’ve never done the morning star instant x-ray this can give you a great breakdown of where your allocations stand. Here is a simple 80% Total Stock Market, 10% Total Bond Market, 10% breakdown for comparison.

High Income Parents Portfolio

 

Now, here is the morning star instant x-ray breakdown of my portfolio:

 

High Income Parent Portfolio High Income Parent Portfolio High Income Parent Portfolio

High Income Parent PortfolioHigh Income Parent Portfolio

According to the Fama-French study from 1998, there is some evidence that value stocks outperform growth stocks. Also, small-cap stocks have beat their large-cap counterparts by about 1.8% since 1926.

On the other hand, Ben Carlson has an interesting article debating if there really is a small cap premium. Over the last ten years, the returns have been almost identical with VBR (Vanguard Small Cap Value ETF) posting an annual return of 7.25% and VTI (Vanguard Total Stock Market ETF) at 7.19%.

Honestly, I don’t think there is enough compelling evidence for me to make that tilt to a small value fund. At the levels I would allocate the tilt, It probably wouldn’t make a big difference anyway.

In fact, since I’ve done some tax loss harvesting and went from a total stock ETF in my taxable account to a US Large Cap Index (SCHX), my tilt has been away from small cap value. I do own some VBR though. 

International Stocks

There are a couple of debates about investing in international stocks. Some pretty smart guys like John Bogle don’t even invest in international stocks.

Others advocate going 50%/50% because the U.S. stocks are about half of the world valuation and the international stocks make up the other half. If you want a true representation of the total market capitalization, this is the allocation to use.

Of course, there is also currency risk. This can affect your return based on the way foreign currencies exchange to your local currency. Currency risk could either improve or reduce your return compared to someone who invested in a stock in the home country of that stock. There is a great example here.

I decided on a 25% international ratio since it split the difference between Mr. Bogle and the actual market caps of the world. 

Bonds

As for the bond allocation, there are several schools of thought on this as well. Some advocate 100 minus age as the stock allocation and the rest in bonds. Others are more aggressive at 110 minus age. I’m more aggressive than that.

My reasoning is that I am basing my allocation on my investing horizon being pretty far away. I also base that on the fact that I really do like my job and I’m not in a big hurry to leave just yet. If I experience a market downturn because I have a larger stock allocation, I would be fine working a few years more to let the market recover. I know that we are more likely to lose a job in a market downturn, but thankfully I’m in a pretty high demand, highly trained profession. The type of medicine I practice is less sensitive to market downturns. I am prioritizing maximizing my gains over retiring at a certain year in the future. 

My family is in a good place as far as community, children’s educational opportunities, and church community. In my opinion, we live a great part of the U.S. with plenty of things we like to do and more people moving here every day. Plus it’s close to a lot of my family and that is a big plus. 

I do wish we could ski and hike the mountains a bit more, but these are the places we spend our vacation dollars on. The other aspects of our little part of the world are very nice. I’m not in much of a hurry to leave and my work schedule is pretty good. The autonomy I have would be hard to match in another place.

Of course, if I retired, I could have even more autonomy but I still get up every day enjoying what I do, so I figure that is a good sign to stay the course.

If we go through a rough patch in the market I will happily buy more stock funds and work a bit more to let the market recover to a level at which I could retire.

Why the REIT’s?

Going back to my previous article, Magnificent 7 Investments for High Income Parents, I like the philosophy of real estate and the way you are effectively renting commodities out to other people. I see this as putting an asset that other people buy on their own, such as gold, silver, oil, etc to work for myself. That’s the best of both worlds. I see stocks as buying little pieces of companies and little pieces of the products and services that those people produce. Then they work for me. Real estate allows commodities to work for me too. 

REIT’s also have less of a correlation with stocks. Combining the correlation of stocks,  bonds, and REIT’s decreases the volatility of my portfolio and makes for a smoother ride making it more likely that I stay the course with my investment strategy.

Putting it all together

So that is the down and dirty of the HIP portfolio. Not too exciting, but I hope you would at least give me that it is well thought out. You might disagree here and there but that is what makes it fun. We can have a lively discussion(as lively as a discussion about asset allocation can be).

 

What do you think? Do you agree with the portfolio? Do you think it could be improved? How would you change things? Let me know in the comments.

Tom
Tom is a doctor and father of five with a passion for parenting and finance. When he isn't skateboarding, riding BMX, or jumping on the trampoline with his kids, he is reading and writing about personal finance. He helps high income parents educate and mentor their kids to become financially, emotionally, and intellectually self sufficient.

21 Responses to “High Income Parent Portfolio

  • Well thought through, that’s for sure! I agree with a lot of the principles. I’ve gravitated more and more toward index funds over the years and away from actively managed funds. I more or less have a three fund approach now with an S&P 500 index fund, a small cap index, and international. No REIT or bonds for me. Less diversified but the thought is that stocks outperform in the long term and since I’m a long term investor I have no problem riding out the good and bad (no doubt 2008 was tough though).

    And I choose to break up the large and small cap domestic funds rather than a total market index because I like a slightly higher tilt in small cap for the reasons you mentioned. Lastly I’m shooting for a 35-40% international mix.

    Thanks for breaking out your detail! I like your approach and we’re probably more similar than different!

    • Those of us with international allocations haven’t been rewarded lately for that decision. Hopefully, that will change in the near future. Mr. Bogle makes a very valid point in his video and he has been right recently. I’m sticking to my allocation though.

      If you had the stomach to ride out 2008 then you’ve been tested and have a great asset allocation for you. Thanks for sharing.

      Tom @ HIP

  • Love the simplicity of your investment strategy. Looks remarkably like my own. I don’t have the REITs in there yet, but plan on adding them into the mix. Thanks for sharing!

    • I like real estate. I even bought a few rental properties after the housing crisis but I like REIT’s more than being a landlord. VNQ has a higher dividend so I only buy that in tax-deferred accounts as well.
      I’m still in the infancy stages of looking at some of the real estate crowdfunding sites but I might look into those as well in the future. Hope you’re having a fun trip.

      Tom @ HIP

  • TheGipper
    2 weeks ago

    Thanks for sharing your approach.

    It’s kind of a catch-22. We all agree we need to pick an allocation, stick to it, and avoid tinkering and behavioral mistakes. But when we are early in our investing career and deciding on our AA, we have the least knowledge.

    Early on, I arbitrarily picked 30% of equities in international, with 10% tilts to small/mid cap value and REIT. I am not at all convinced that the small or value premia will persist, but I plan on sticking with it. I have made a pact not to get involved in any other factors (ie momentum) despite the growing evidence.

    The one area I am more convinced in a diversification benefit is in international small caps, which are far less correlated to the US stock market that international large caps/total international market funds. I have decided to dedicate half of my Roth space to VSS (Vanguard international small cap).

    Otherwise I try my best to keep it simple, realizing that savings rate and tax minimization will have a more long term impact then tilting or factor investing.

    By the way, excellent tip on BoA preferred platinum honors coupled with Merill Edge. 2.625% cash back on all spend with Travel Rewards Card. 5.25% cash back on gas, 3.5% cash back on groceries and wholesale clubs with Cash Rewards card. And can avoid the 100k savings/checking acct requirement by maintaining some holdings in Merrill Edge, in which you can buy any low cost ETF with free trades as well as get a sign up bonus. Finally to those comparing to a 1% online savings account, or short term CD or bond fund for their emergency funds, remember that credit card cash back rewards are tax free, thus for me have a 46% bonus in marginal tax savings!

    • That’s very interesting about the international small caps. I’ll have to run some simulations and see how that changes the beta of my overall portfolio. I own some VSS as well to round out my international allocation because I only had VEA and VSS available in one of my account commission free. (I couldn’t just by VXUS instead, it wasn’t’ offered)

      The Bank of America card is the best thing going if you have $100K to put in a taxable account. I recommend it to anyone once their account gets to that level. I guess you could roll over an IRA also to qualify.
      There was a thread on Bogleheads recently cautioning about going over $250K in assets though and losing some of the perks of preferred honors with BoA. I called and they said I shouldn’t lose any free trades over that level, but I’m keeping my account level below that for the foreseeable future.

      Tom @ HIP

  • Thanks for the article.
    My wife and I we are learning about all the differences between MFs, Bonds and REITs (you can’t find those equivalents in Russia) and as of now we invest in MFs only. In our IRAs and 401(k)s we spread our investments between 3 categories
    – Growth
    – Aggressive Growth
    – Growth and Income

    In addition to our retirement accounts we have a taxable account where we put money for a house, and in this account we invest all the money into S&P500 (VSTAX)

    • The Fama French data says value outpaced growth but you would have to look at the makeup of each fund to see how much they really tilt value or growth. Sometimes you can’t completely trust the name the fund is given.
      I wouldn’t invest in Russian REITs if that was all I had access to either.

      Tom @ HIP

  • HIP-PhD
    2 weeks ago

    Thanks Tom. I totally agree with you. I think if you are investing regularly, what matters most is the savings rate rather than the specific portfolio long term. Three colleagues and I have been DIY investors for the last 16 years. We share info, argue and try to one up each other. One is only in a 2035 target retirement, the other is a crazy market timer, and the third invests in Vanguard actively managed funds. I have a portfolio similar the Tom’s, all in Vanguard Index funds. Our returns and the value of the portfolio are pretty much the same. Maybe this is not a large enough sample size, but, a cool blog called Portfolio Charts has done an analysis as well. Keep costs low, simple, and over time, it will work out.

    • That is definitely the most important part. Keep costs low.
      That is interesting that the market timer has been able to keep pace with the passive investors. That is unusual. Good for him but I bet he has spent a lot more time researching his investments to only just stay up with the passive investors.

      Tom @ HIP

  • I like the addition of Real Estate in the portfolio. Personally I like adding a slightly higher allocation to dividend paying large cap stocks to compliment the total stock market fund. Vanguards high dividend yield etf might be worth a look.

    As an registered investment advisor I want to give the disclaimer my comment is not offering investment advice.

    • That’s interesting about adding the high dividend yield etf. So you would basically tilt away from the small caps?
      I assume you would want this in tax deferred accounts to maximize tax efficiency.

      Thanks for stopping by.

      Tom @ HIP

  • wishicouldsurf
    2 weeks ago

    I like the idea of REITs but I have chosen the Peerstreet.com route – actually replaced all my REIT investments with Peer Street not quite two years ago. I’m not quite a fan of some of the nuances of REIT funds. Admittedly, it’s a little more work but I can dig into the granular detail of each property and pick and choose based on a short list of criteria. Of course it’s an untested investment strategy from a long term data perspective, but I’m curious to see how it works. Since I’m retiring shortly, I get to put it to the test. Interesting tips on the BAML accounts with the cash back – I’ve been focusing on accumulating travel points lately but the cash back option stays in the back of my mind and 2.625% seems pretty favorable.

    • Those type of websites are very interesting to me but for now I’m playing it safer with the REIT’s index fund.
      The problem I see for myself with Peer Street and others is that they wouldn’t be very tax inefficient in my taxable account and I’m not excited about trying to place those in an IRA right now.
      The BOA points are great because as long as you do the travel purchase with your BOA card, you just use those points to pay the bill. Definitely a lot of flexibility there.

      Tom @ HIP

      • wishicouldsurf
        2 weeks ago

        That’s interesting that you don’t think they are tax efficient…. Are you saying they aren’t tax efficient while you are still earning income? If that’s the concern, then I agree somewhat. I actually do think they are tax efficient especially if you are ER. The interest income is the only thing that is taxed (at your highest marginal tax rate) and when the loans pay back, the principal goes back into your account and that is not taxable and then you can either choose to reinvest that principal into more loans or put it in the stock market or use it for personal cash flow needs. The true test will be in 2018 when I’m not earning any income. I have projected my state and federal tax liability two different ways – with the REITs and with Peer Street and PS seems more favorable. For me, I was looking for an easier way to access cash flow in a tax efficient way with a hedge against selling index funds when they were either super high (thus creating a capital gains taxable event), or had a severe market correction because that’s not a good time to sell those small slices of company ownership. As I approached FIRE, honestly, this was an answer to my question on how can I mechanically access cash flow I need in up and down markets. The only complaint I have is that the automated investing doesn’t have enough criteria for me to truly dial in my investment criteria so I still have to look at every investment in there. My hope is that this changes in the future.

        • That’s a good point. I was thinking about my current situation of earning income. They definitely become more tax favored when I’m not earning an income.
          Plus there is probably more opportunity to exploit inefficiencies in that market than a REIT index. I just don’t know if I’m smart enough to exploit to inefficiencies. 🙂

          Tom @ HIP

          • wishicouldsurf
            2 weeks ago

            REITs are laden with fees which take away from the returns and there is a lack of transparency in them, of which I’ve never been a fan. Hard money/bridge loans are by nature exploiting inefficiencies in the market because they buyer of said property is buying it at a below market price, in theory*. Lending money is not rocket science and in a lot of ways it’s less complicated than stock investments (which is why we should all stick to index funds). My issue with some of these real estate investing vehicles other than Peer Street are selling preferred equity, mezzanine or other far riskier investment and exotic investment options which are exciting because of the % return, but way more risky than index funds.
            Congrats on your blog, I’ve read a few articles and it’s been relevant to me. 🙂 *Theory is great, but we don’t know when the next major market correction in real estate is coming so there is still plenty of risk, just like anything else.

            • I’m with you there. I’m not touching any exotic real estate right now or probably ever.
              Thank you for contributing to my blog. It is great to hear back from readers and get others opinions. I do my best to present the pluses and minuses of any investment but readers telling us how to walk a mile in their shoes is even better and gives all of us more insight.
              Tom @ HIP

              • wishicouldsurf
                2 weeks ago

                I read several different blogs because it helps open my mind. I’m 45 days away from ER and I’m hoping to be armed with as much information as possible. I haven’t read one blog that has structured their investments the same way I have, which is great. I’m sure that all of us do it slightly differently depending on our personal experiences, risk tolerance and whatnot. In some ways this is a huge experiment since I have zero clue how this will all play out in a down market. We will see if my hedge works… or not!

  • We also subscribe to the three-fund approach. We haven’t added a small cap fund because they tend to be too volatile in my experience. We keep about 15% in Vanguard’s international stock fund, 10% in bonds, and the rest in the S&P 500 index. We also have international real estate in our portfolio, mainly because life worked out that way :).

    • I bet that’s an interesting story how international real estate got in there.
      The small caps are definitely more volatile and that is good you know yourself well enough to tune your holdings so you can sleep soundly at night. 🙂

      Tom @HIP

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