Kevin Feldman

Etf investing, fixed income, dividend investing
Kevin Feldman
ETF investing, fixed income, dividend investing
Contributor since: 2011
If Lehman's balance sheet had looked anything like the Fed's, it would still be in business today, so no, I'm not particularly concerned with the Fed's leverage ratio. If it makes us all feel better, we can mark to market US gold reserves the Fed keeps on its balance sheet $42/oz. That should clear up any concerns with its leverage ratio.
I think it's probably more helpful to look at the composition of the balance sheet. The Fed is essentially rearranging parts of the Treasury yield curve in an attempt to bring down all other rates. Holding a large portfolio of Treasury securities is not itself a problem, especially since banks have been parking trillions in excess reserves at the Fed.
For all those who have been confused on why we haven't yet seen massive inflation following this dramatic increase in money supply, take a look at velocity which has fallen to levels not seen in the past 50 years. The Fed can rearrange parts of its bond portfolio all day long, but it's not going to mean much until we see much faster growth in credit creation and ultimately, economic output. That will be the time to start worrying about how quickly the Fed can unwind all its bond buying.
Todd - I'm not sure I understand how an investor would use these rankings in portfolio design: Is this meant to be a tactical overlay on a larger portfolio that has some baseline (i.e. strategic) asset allocation that doesn't move around with the rankings? If so, what does that look like?
Also, what's the benchmark to know whether you're "successful" with these country and sector tilts? ACWI?
One challenge I see for individual (vs tax exempt) investors is how one would implement a strategy like this without generating large short-term capital gains as you move between the different countries and/or other market sectors you have in your model above.
I'm glad you mentioned the May 2009 date when we first heard about the New Normal, which came just two months after the bear market low of March 2009.
Since then, equity markets have rallied sharply and though bonds have also performed well given the weak recovery and unconventional monetary policies in place, it's an excellent reminder that even when the road ahead looks the most uncertain and smart people are giving us a gloomy picture of the future, we should guard against overreaction in our investment decisions.
It will take a few more years to fully evaluate the PIMCO view and no doubt for the many who lost their jobs, this has been an extremely challenging economic period, but for investors who ignored the New Normal predictions and held steady in a balanced and diversified stock and bond allocation, their investment returns have been perhaps more normal than new.
Great question!
Actually, you hit on something that would have been a much better WSJ article for investors nearing retirement, because this is the real challenge they face in an extended period of ZIRP - how to adjust their asset allocation in a way that both reduces risk with age, but doesn't force them into negative real yields for extended periods of time.
Yes, I would be looking for ways to reduce equity risk, perhaps even more so now that we've had such strong recent equity market returns. Perhaps the market is signaling faster economic growth ahead and if so, great news for all of us, but if you're about to retire, you don't need to take that additional gamble.
So, what's available to reduce equity risk? As I mention at the end of the post, I would be looking to high quality international and corporate bonds to generate positive real yields. A couple good ETFs to consider for this: VCIT, LQD and EMB. EMB is a nice way to get access to US$ denominated EM debt with yields well above US treasuries.
I would also consider some modest adjustments to the equity portfolio to favor large or even mega cap dividend stocks, which tend to be both less volatile and are producing tax-favored income under current QDI rules.
Thanks for commenting.
Yes, there are structured products that deliver various hedging strategies currently available and no doubt more of them on the way. Many of them are tailored to solving specific portfolio objectives, but in general I'm not a huge fan of using most of them over the long time period that's necessary to build a sound retirement portfolio.
As the authors note, some of the hedging in these products is very complex and transparency is an issue. They also tend to have higher fees, which in a low return environment is only going to lower returns more.
I think a balanced portfolio of stocks and bonds (including a small allocation to TIPS) that gradually shifts from stocks to bonds as one ages is still the best starting point for sound retirement portfolio design.
Interestingly, the authors never mention what actually happened following the financial crisis to investors who didn't fiddle with their portfolios too much. Assuming one was broadly diversified, even a portfolio with a high allocation to equities has recovered from 2008 losses and the more typical balanced allocation that an investor nearing retirement would have had recovered a long time ago with the strong bond rally we've seen the last three years.
Hey James. I stumbled upon this older post. Just curious if you have the same view as last fall?
With continued Fed intervention and what looks like a continued "savings glut" I wonder if we're not in for another year or two below 2% for the 10Y.
It's a little more complicated to compare prices because GLD and IAU had different inception dates and IAU also did a 10-for-1 stock split in 2010 around the same time it began accruing expenses at 25 bps vs 40 bps for GLD. If you look at a performance chart from 7/1/10 until now, you will see the effect of the lower sponsor's fee.
Two good questions.
On GLD and IAU pricing: the original prices were set to equal approximately 1/10 of the spot gold price, but since the ETFs launched about two months apart from each other and have now been accruing expenses at different rates (40 bps for GLD and 25 bps for IAU), the prices have diverged. IAU also had a 10-for-1 stock split in 2010, so it's now closer to 1/100 of the spot gold price.
The best way to compare would be looking at their performance. As of 1/31/12, IAU's 1-year performance was 30.52% and GLD was 30.37%.
On Canadian CEFs, you're into some tricky tax territory. From the comments I've read from IRS officials, it's not at all clear that a QEF election (the process that allows the lower tax rate) would hold up to scrutiny since these funds clearly invest solely in precious metals.
Also keep in mind that with CEFs, you also have to factor in premiums. PHYS, another popular Canadian gold CEF has been trading at around a 3% premium according to Morningstar. In my book, that's 300 bps more than anyone needs to pay to hold a highly liquid asset like gold.
Thanks for the comment, but I'm not sure I understand your point.
AGG and SPY also have the same yield of around 1.9% right now. This yield parity is a bit unusual in recent time periods, but not unprecedented particularly given the severity of the financial crisis we're still digging out from.
That high quality equities are yielding more than their IG bond cousins is one the reasons I point out about why I think HDV (and yes, other equity income ETFs) have been so popular. On a pure expected returns basis, it's reasonable to assume that high quality equities (along with their dividends) will likely outperform similar quality bonds over the next ten years barring any severe economic downturn.
As for ETFs with higher yields, it's always possible to get a higher yield if you want to take on more risk.
I just noticed that some of the links were missing from my post. Here's the Morningstar methodology and historical performance information:
That's just inaccurate.
GLD, IAU and SGOL are all organized as grantor trusts under the 1933 Act and are regulated as such. The trusts don't generally receive or hold cash, as they are creating and redeeming ETF shares in exchange for physical gold bullion. The trusts file regular reporting with the SEC including financial statements that are all available to review on line.
The gold is the property of the trust (for the benefit of all the ETF shareholders) and is stored in bank vaults at HSBC and JP Morgan. It's subjected to multiple reviews and audits at random time intervals where each gold bar serial number is matched back to the ownership records of the trust.
There may still be some cracks in the global financial system, but I've seen nothing to suggest that GLD is the next LEH.
Good point Richard.
Given that jewelry demand overall has not increased substantially over the the past few years while scrap recycling has, I agree that more mine production is likely supporting higher investment demand in the form of bars.
This is also consistent with my observation in visiting gold vaults in London where the majority of the bars I saw were brand new--i.e. delivered directly from mine production.
I agree with @DVK definition of strategic asset allocation: setting target percentages for each asset class and rebalancing periodically to maintain the target allocation. This is not a "forever allocation;" one should generally be reducing risk and volatility when approaching and during retirement years, where big market swings can have more dramatic impact on a portfolio.
Which brings me to the portfolio above. I need to take a look at Faber & Richardson's book to better understand their overall framework here in applying endowment & foundation (E&F) investing concepts to individual investors.
My initial reaction though is that an allocation that only has 20% in bonds (and what about TIPS?) and 80% in risky assets can produce a volatile series of returns, especially if you are an older investor. One need only look back as far as 2008 to find a year when this allocation would have felt like falling off a cliff for anyone about to retire.

My colleagues at work harass me sometimes about my "vanilla" (60/40) balanced index allocations I often use for comparisons, but I think many investors approaching retirement would have slept much better at night with more reasonable bond allocations in 2008.
There are multiple challenges in applying E&F investing concepts to individual investors, but perhaps one of the most important is time horizon. E&F managers are generally investing with a very long time horizons, where individual investors have a more fixed retirement horizon that's not 100% certain for any of us, but it's also not perpetuity.
Thanks. What I was suggesting was for someone who had actually retired in 1965.
Assuming he or she was around 65 years old in 1965 and didn't live past 95 (which happens to be in 1995 by coincidence of calendar years), would the income from a portfolio of d-g stocks and I/T bonds have produced stable REAL income levels through the rocky period of the 1970s without either eroding principal or failing completely like the 60/40 index portoflio with the 4% + COLA withdrawal rate?
Thanks for the lively dialogue.
As @RAS points out, most US citizens have not saved enough for retirement, which is a much bigger problem for society overall, particularly with so many baby boomers nearing retirement during a period of slow growth and lower expected returns.
Speaking of returns, thanks also for posting the links to @DVK's blogs from the summer on d-g investing. I had read them months ago, but went back and took a second look.
The first blog is interesting because it looks at our "lost decade" -- where the US equity market has been both volatile and produced lower average returns for investors, raising the question: Is this going to be like 1965 or 1966? Would a retirement portfolio with a 4% drawdown fail in such a period?
The short answer is we don't know yet, as we're only in the first 10 years of the current time period, but I'm sure for most people retiring around 2001, it's felt like a rough ride!
I would also point out a couple things in assuming that a 4% rate will fail during the present time period: First, if investors had been broadly diversified in their equity investments over the past decade, they would have owned emerging markets, which unlike the US markets have produced above average positive returns over this period.
Second, investors retiring in 2001 would have also likely had a sizable portion of their portfolio in bonds, which have rallied during the past decade as interest rates have fallen to historic lows.

Even if an investor held no international stocks during the past decade, the average return for a 60/40 US equity and bond portfolio has been about 5% for the past ten years (as of 9/30/11), so it's not nearly as bleak as it first seems looking at equity returns in isolation during this period.
Reading the remaining @DVK blogs, it occurred to me: Wouldn't an intriguing test be to use a set of rules to select a d-g stock portfolio as it would have looked in 1965 and see how it performed over the next 30 years in combination with a 40-60% allocation to bonds (as you get older, your bond allocation should generally be increasing)? This would be challenging analysis from a data perspective (getting historical dividend payments and corp action data over long time periods is time consuming work), but it would give a good apples-to-apples comparison for one of the two years where the 4% drawdown for a 60/40 index portoflio failed to last for 30 years.
Given the hostile market environment of the 1970s where we witnessed severe bear markets and very high inflation, my guess is that many of these portfolios would still have been challenged in this time period to maintain sustained real income levels for 30 years.
@NFC - Thanks for the comment and you're correct to point out sector risks. That was a key part of the point I was making in the first section: in order to implement an investment strategy focused on increasing dividends each year, you will need to add different risk characteristics to a portfolio -- style, size, sector and/or invidivual security -- that by definition move the portoflio away from the market portfolio.
If that's an explicit objective, then I think a low cost, tax efficient ETF or index fund might be able to to accomplish the task better than performing individual security selection. That was the only point I was trying to make above.
As I mention my previous comment above, I personally favor both a total return approach to retirement investing and broad market exposure.
@Au - Thanks for the question.
No, I'm not defining value stocks as all stocks that pay a dividend. There are differences of methodology on how to divide the full universe of stocks into the growth and value styles. For the purpose of this post, I used the S&P definition, which relies on criteria like change in EPS, sales and momentum to define "growth" companies and book value, earnings and sales all compared to stock price to define the "value" style.
Why is this of interest? There has been an enormous amount of academic research done in the area of attribution to understand the source of returns. When looking at a diversified portfolio of stocks, the #1 source of returns is the market itself (i.e. beta), hence the reference to the S&P 500 above. What's often discovered looking back in time is that a portfolio of stocks (or a mutual fund) that performs better than the S&P 500 does so by having more growth vs value stocks or vice versa during the time period when one of the styles was outperforming the other.
As I mention above, growth and value move in and out of favor over over random time periods, which is why I personally prefer blended exposures like the example of the S&P 100 above.
Thanks James. I'm just getting started writing for SA. Have really enjoyed reading your posts too.
In terms of this topic, it's an area of finance that's very interesting to me and often not discussed in the depth it deserves. We're all affected in some way (sometimes large, sometimes small) by the information we receive and over time, I think that can shift our perceptions of which investment strategies to favor in certain time periods.
Not a critique on value investing per se, which has been around a long time. I happened to just dust off my own fourth edition of Ben Graham's Intelligent Investor that I read twenty years ago and there's certainly a lot that resonates now.
What do you mean my making money more expensive? Raising interest rates?

It took many generations of monetary economists and historians to unravel some of the bigger mysteries of the Great Depression, but one of the clear findings from history is that countries that kept monetary policy too tight, often raising interest rates to maintain gold reserves -- even in the face of economic contraction -- extended the depth and length of the Depression.
In the U.S., the Fed tightened monetary policy at several key points leading up to and during the Great Depression. No doubt, the current Fed looking back at this period is using the reverse playbook.
Only future history will tell us whether this key difference in the Fed's policy response will be effective, but we certainly know what the opposite policy brought during the 1930s.
A rough day in EUR bond markets with the 10Y bund at 1.86% (source: Bloomberg). What do you think James - how low will the 10Y tsy go this week?
Thanks for the above comments. This was not meant to be anattack on dividend growth investing. I was more interested in how investor psychology favors some strategies over others in certain time periods.
If you go back to the late 90s for example, you'll find a lot more 'growth' vs. 'dividend growth' commentary given the market psychology of that time period which was rooted in a belief of rapid technological change and innovation. Not only was value out of favor with the S&P 500 dividend yield touching a low of 1.1% in 2000 (source: Bloomberg), you also saw large, stable corporate giants (perhaps even what would have looked like good d-g candidates of this time period) in some ill-fated mergers as they tried to keep up with where they thought new technology was headed.
If you've read my other posts, you know I personally favor a total return approach to retirement investing, but I understand the d-g strategy and its appeal, particularly in this very unusual low interest rate environment where many high quality equity yields are higher than bonds.
In part 2, I'm going to discuss two risks to consider in building d-g portfolios: first, selecting individual stocks vs using a rules-based dividend growth index to gain this exposure over longer time periods; and second, the point I ended on above: why not also add a little exposure to the highest quality growth companies who may not pay a dividend (yet) but offer the potential for returns through price appreciation, while also diversifying other risks in the portfolio.
Stay tuned.
Good post Michael. Two points I would add:
1. For target date ETFs, I think the market just needs some more time to develop. We might also see more usage if brokerage firms made it easy for investors to do automatic periodic purchases and dividend reinvestment without too many fees or other hassles, as the simplicity and diversification of these ETFs are good options particularly for younger investors who are just beginning to save for retirement.
2. To your last point on newer low cost ETF options, investors are evaluating cost (hopefully with an eye to "total cost" that includes liquidity and transaction costs) as one factor in their selection decisions, but the track record of each ETF, individual index preferences and the reputation of the ETF manager are also important factors. New ETFs that offer identical or similar exposures with no track record and only small differences in cost to differentiate them face higher hurdles to success.
James - Good to see part 2. Hadn't noticed that before I commented on part 1. Interesting topic.
As I commented on Part 1, in terms of long periods of low interest rates, I think Japan is the one real world analogue, though not a perfect one for the reasons you mention.
With that said, I don't entirely agree with your conclusion on how the past differences between U.S. and Japanese savers historically will be the same looking into the future.
U.S. households have not historically exhibited the exceptionally low savings rates and high leverage that led us into 2008 and by most measures are now in the process of (slowly) repairing balance sheets, through increased savings and reducing debt.
This increased net savings has to go somewhere and older and more risk averse U.S. savers might continue to favor bonds -- even low yielding bonds -- especially if the economy weakens further.
Not suggesting that turns us into a nation of savers at the Japanese scale, but looking back to the late 1930s and into the WW II years, we can find time periods where U.S. savers were larger buyers of low yielding government bonds.
Not a prediction by any means as we're already testing a lot of the economic orthodoxy I learned in school, but one could imagine a set of unusual forces coming together in a weak economic environment that could drive the 10Y yield lower.
A clever thought experiment James. I agree with your conclusion, though I think one has to be cautious in looking for any past precedents to the current environment.
The only interest rate environment that resembles our current situation is the 1930s when the Fed made what we now believe were significant policy errors in how they responded to the early years of the Great Depression.
Given how much the current generation of central bankers has been schooled in 'what not to do' from a monetary policy perspective, we're now embarked on a journey through a set of policies that had previously only been tested in academic literature.
The only real world example that seems relevant is Japan, which has tested the boundaries of conventional monetary policy over the past decade with limited success. Still, it's worth noting that Japan's 10Y bond was yielding 1.07% as of Friday (source: Bloomberg), so it seems entirely possible nominal yields could drift lower if you have the combined forces of economic contraction and as noted above, strong demand for government bonds by banks, including the biggest bank of all.
What you're describing is an ETN (note), not an ETF. It's important to remember with most ETNs, you are also exposed to the credit risk of the issuer (generally a large bank).
In addition to the lower sponsor's fee mentioned above, IAU is also the first gold ETF to offer 100% allocation daily to reduce counterparty risks. Learn more about IAU here:
Great post to stimulate a lively conversation. Clearly, d-g is getting a lot of attention.
I get the intuitive and psychological appeal here for investors, but I'm still thinking over why investors are being drawn to a strategy that's not really new, more like something our grandparents would have recognized, except that in modern times holding individual stocks requires a lot more time and attention. Could it be a reaction to two bear markets the past decade affecting our long-term investing psychology?
From a more analytical perspective, my main question for d-g investors is what's the underlying source of returns for most d-g portfolios? I would suspect that many if subjected to a returns based style analysis would show a bias toward the size and value factors.
Given the low cost index options available for large cap value exposure, why would an investor want to take on the added risks of selecting individual d-g stocks vs just buying the ETF that gives you the factor exposures that generate the desired result?
Once you've made that leap then the next question is are you sure you want a portfolio that favors lg cap value forever? Why? There have been long time periods historically where growth has done well, preceded or followed by time periods where value was king. And we haven't even touched on small cap yet.
This has been the nature of markets: times for growth, times for value, times for large cap, times for small cap, etc. This is also the main reason for having broadly diversified portfolios and not taking on uncompensated risks.
On that basis, selecting individual d-g stocks sounds both like a lot of work and adding a new layer of risks for most investors.
@varan, what did you use for the 40% fixed income assumption in your calculation? Did you reinvest equity dividends and bond income and rebalance annually to maintain 70/30% asset allocation through both saving years and drawdown? (And yes, a retiree would likely shift this asset allocation to a higher weight of bonds in retirement.)
To address a couple points above, yes, we're in a weak economic recovery, following a severe recession, but the U.S. economy has historically proven quite resilient.
It's one thing to believe that we've got some tough years ahead of us as people continue to pay down debt, but I don't agree with the sentiment on increased risk of the U.S. paying its own debts and more importantly, neither do bond investors who have driven treasury yields to historic lows.
In terms of asset allocation, with perhaps a few small adjustments in fixed income given this current environment of very low yielding government bonds, I don't think younger investors today need a significantly different strategy than what's worked historically: a broadly diversified and balanced portfolio of U.S. and international stocks and bonds.
I'm working on a new blog on how our current psychology is affecting our investment choices in ways that may make us feel better, but if history is any guide, may produce some disappointing results in the years ahead. Stay tuned.
Thanks for all the great comments above. Always nice to generate a stimulating discussion. Actually, I cover cash flow in my first post -- 'getting your number right' -- which 40-50 years into the future is not that easy a task. From a financial planning perspective, understanding future cash flow needs allows you to then find the adequate savings rate into retirement that generates the future value you'll need, ideally at the lowest risk level necessary to achieve that goal.
In terms of total return assumptions, there are various approaches to use, all with their strengths and weaknesses. I tend to use historical data for illustrations, mostly because, over long time periods (i.e. 40-50 years), mean reversion tends to produce similar return series. Also, keep in mind that these are nominal returns.
Notwithstanding our current economic challenges, one question I would ask is why should we expect the next 50 years to be significantly different than the last 50 years in terms of broad market returns? I purposely included the years of the Great Depression in my earlier data to balance even more challenging economic times with decades of great prosperity like the 1950s. The U.S. has made it through some pretty rough patches in the past and I'm optimistic over the long-term that we'll find our way through this current period of challenge.
Stay tuned for thoughts on dividend growth strategies and how to forecast expected returns on this strategy. I'm working on a new blog on that topic this week.
Lots of opportunity to improve the conversation here on SLV -- or more broadly the operations of metals ETFs -- but just to take a few of the less informed comments above:
1. Selling metal to pay trust expenses and the sponsor's fees is a standard practice across metals ETFs. In the case of SLV, these fees are transparent and disclosed in the trust's financial filings, which you can find here:
2. JPM is the trust's custodian, hired by the trustee and has no legal ownership rights to the silver in custody. The silver in vaults is solely the properly of the shareholders of SLV.
3. We've written on the question of short selling of SLV in the secondary market. It does not affect the ownership rights of SLV shareholders. You can read more about this here:
4. Everyone should do their homework on cloesend-end metals funds -- many trade at premiums, some at quite substantial premiums to the underlying metal
The 9% assumption (actually, 9.1% but I rounded down) is from looking at historical returns on a 70% stock / 30% bond portfolio from 1926 - 2010. It's just meant to be an illustration using historical data, not a forecast on future expected returns.
Doug - As usual, great charts! Really helps to visulalize the long-term trend here and see the historic interest rate picture more clearly.