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Low-Fee ETF Model Portfolio

|Includes: BND, EFA, GLD, iShares Core S&P 500 ETF (IVV), IYZ, VO, VWO, XLE, XLK
Exchange-traded funds provide a simple, cost-effective way to build a diversified portfolio. Similar to mutual funds, ETFs are comprised of a basket of underlying stocks, bonds, and/or commodities that combine to make up the fund’s Net Asset Value (NYSE:NAV). Unlike mutual funds, ETFs trade on an exchange, allowing investors to buy and sell these funds throughout the day. Mutual funds are bought and sold at their NAV when the market closes the day the order is placed. The ability to trade throughout the day gives investors the liquidity of a stock, with the diversification of a mutual fund.
Below is an ETF model portfolio that provides a low-fee, simple way to build a sufficiently diversified portfolio. This model can be used as a core structure for larger portfolios, providing a foundation on which to build using individual bonds and equity positions where suitable. This model can also serve as a valuable tool when used as part of a dollar-cost-averaging plan for smaller portfolios, a concept which I will elaborate on below. For the sake of simplicity, let’s assume an initial contribution of $100,000 for the following model.
 
Symbol
Description
Weight
Expense Ratio
Yield
Annual Income
IVV
iShares S&P 500 Trust
24%
0.09%
1.8%
$432
VO
Vanguard Mid Cap
6%
0.12%
1.1%
$66
XLE
SPDR Energy Select
3.33%
0.22%
2.3%
$77
XLK
SPDR Tech Select
3.33%
0.22%
1.7%
$57
IYZ
iShares Telecom
3.33%
0.48%
3.5%
$116
EFA
iShares MSCI EAFE
12%
0.35%
2.7%
$324
VWO
Vanguard Emerging Markets
5%
0.27%
1.3%
$65
GLD
SPDR Gold Trust
3%
0.40%
-
-
BND
Vanguard Bond Fund
30%
0.10%
3.3%
$990
CASH
Cash & Cash Equivalents
10%
-
-
-
 
Looking at the performance of this portfolio over the first two quarters of 2010 in comparison to the S&P 500 Index, it is clear that the large fixed-income allocation helped the portfolio outperform the broader market. The model portfolio laid out above showed a 3.08% loss in the first two quarters of 2010. While losses are never desirable, the model fared better than its benchmark S&P 500, which sustained a 7.57% loss.
The model above is based on a 60/40 split between equity and fixed-income holdings. Within the 60% equity position (NYSEARCA:IVV) is the largest single position. By holding nearly one quarter of the portfolio in a passive index fund, it is likely that losses far beyond those of the broader market will be avoided. The three sector plays (NYSEARCA:IYZ) (NYSEARCA:XLE) (NYSEARCA:XLK) are tactical, meaning they can be changed to take advantage of shifting trends in the market. These tactical pieces are where investors can attempt to outperform. The international plays, (NYSEARCA:EFA) and (NYSEARCA:VWO) give the portfolio the global exposure that any portfolio must have today. 
(NYSEARCA:BND) is the sole fixed-income investment in this core portfolio. This is a broad market fund with an intermediate time-horizon. The low fees, combined with its diversification make this holding a perfect choice for a core fixed-income position. As the portfolio grows (and interest rates increase!) individual bonds can be purchased to fill out the fixed-income allocation.
The simplicity of this portfolio makes it a great model for a smaller portfolio using a dollar-cost-averaging plan. Dollar-cost-averaging is a strategy whereby a person invests a set amount, in set securities, at regular intervals; the result being that more shares are purchased when the share price has dropped and fewer shares are purchased when the share price has increased. Because the greater number of shares are purchased when the shares are trading lower, the average price paid per share will be lower, creating a larger net gain when shares are finally sold.
 Take an annual Roth IRA contribution of $5,000 beginning 12/31/2009, the first purchase would look something like this:
Order
Size
Symbol
Price
Total Cost
Allocation
Buy
10 shares
IVV
 $111.34/share
$1,113.40
23%
Buy
5 shares
VO
$59.95/share
$299.75
6%
Buy
8 shares
IYZ
$19.67/share
$157.36
3.1%
Buy
3 shares
XLE
$56.75/share
$170.25
3.4%
Buy
7 shares
XLK
$22.85/share
$159.95
3.2%
Buy
10 shares
EFA
$55.28/share
$552.80
11%
Buy
6 shares
VWO
$41.00/share
$246
4.9%
Buy
1 share
GLD
$107.31/share
107.31
2.1%
Buy
20 shares
BND
$76.97/share
$1,539.40
31%
 
 
 
Commissions
$80.55
 
 
 
 
 
$4,426.77
 
 (12.3% cash allocation)
A year later, when it’s time to make the next contribution, the values of each holding will likely have shifted such that the portfolio no longer fits the model. Purchases then need to be made to rebalance the portfolio so that it once again fits the model.  As the account value increases, the model can be adjusted to reflect changes in risk tolerance and/or income requirements.
The combination of low fees, simplicity, and diversification make an exchange-traded fund model a viable option for any investor. Certainly there are some who prefer to hold individual stocks and bonds, and models can be created using individual stocks and bonds as well. But for those looking for a no-hassle, inexpensive way to build a diversified portfolio, ETFs provide sturdy building block for any successful Game Plan.


Disclosure: No Positions