The Simplicity Portfolio

vanguard

Thanks to Morgan Housel!

Investing can be made simple enough for anyone to manage their own investments. Here’s how.

Here’s a simple example portfolio using low cost Exchange Traded Funds (ETFs) from Vanguard.

Its no harder for anyone to buy or manage than it would be to open an online bank account.  Its so simple that a child could manage it themselves with minimal effort.

Why Vanguard? Because its owned by the customers. So Vanguard are the only fund management group who have no incentive to over-charge you.

Why ETFs? Because they are simple and offer the lowest ongoing fees. The ETFs are traded on the London Stock Exchange and can be bought as easily as a regular share.  These ETFs pay out dividend income every quarter (eg Mar, Jun, Sep, Dec) which can either be used for living expenses or reinvested.

The ETFs used are:

VHYL = Vanguard All-World High Dividend Yield ETF

VEUR = Vanguard FTSE Developed Europe ETF (includes UK)

VUSA = Vanguard S&P 500 ETF

VFEM = Vanguard FTSE Emerging Markets ETF

This short video from Lars Krojer makes the point nicely about how simple investing can be made.  All you need is just a single all-world equity tracker fund.

But the reservation that I have about just chucking everything into something like the Vanguard All World ETF (VWRL) is that the US equity market looks expensive at the moment. And the USA makes up ~50% of VWRL.  US small caps and tech / social media stocks look particularly pricey. Maybe for good reasons, maybe not.

One issue with index investing is that if the index is over-priced at the time of purchase, then the long term investor is doomed to underperformance.  You can either ignore this and just keep on dripping money in each month, putting your investing on automatic pilot (this is often called $ / £ cost averaging).

Or you can choose to look for value. The Simplicity Portfolio seeks to overweight better value indexes and underweight over-priced indexes. I selected indexes that looked like they offered better value based on metrics like the Shiller PE, price: book value and dividend yield.

The Simplicity Portfolio currently underweights the USA on the basis that the CAPE on the S&P 500 is currently approximately 26x, against a long run average of about 16x. So only 10% is allocated to the USA instead of a purely passive weighting based on market capitalisations of over 50%. For the same reason (valuation), there is no allocation to small cap equities.

With US valuations relatively high, particularly for many companies without long operating histories and track records of dividend payment (think Twitter, Facebook etc), I think its appropriate to tilt towards value as well as getting global exposure via VHYL which excludes non-dividend paying stocks. I also think its appropriate to have allocations to Europe (including the UK) and Emerging Markets, both of which trade on lower CAPEs than the US market.

Here are the allocations in The Simplicity Portfolio:

So The Simplicity Portfolio responds to prevailing valuations and tilts towards value.

Valuation is not a reliable predictor of short term returns. In other words, shares or indexes that start expensive can, in the short term, get more expensive.  And cheap assets can get cheaper.  But, over the long term, lower starting valuations usually lead to higher future returns. That’s why value investing has historically provided a performance advantage.

I’ve been investing for over 20 years now and, during that time, there have always been asset classes that are popular (and relatively over-priced) and others that are unpopular (and relatively under-priced). Imagine an American High School.  The popular assets are a bit like the quarterbacks and cheerleaders (popular now but doomed to future under-achievement) and the unpopular assets are a bit like the geeks (that go on to start tech companies and get rich).

Turning to asset allocation, the 75% equity exposure equates to the highest level suggested by Ben Graham in The Intelligent Investor (which Warren Buffett describes as the best book on investing ever written). With interest rates low, the opportunity cost of holding bonds or cash is high. So The Simplicity Portfolio currently maximises equity exposure subject to the 75% constraint proposed by Graham.

As Warren Buffett reminds us, the long term investor has more to fear from inflation than from equity volatility. Remember that price volatility is not the same thing as real risk. Price volatility is just numbers on a screen bobbing up and down. Real risk is something big, bad and permanent happening to your assets…which is something quite different.

Equally, many people will say having 25% in cash / short term gilts represents an unacceptable drag on performance with yields so low. If you are in the wealth-building phase and can ignore equity volatility, then feel free to take your equity allocation up towards 100%.

Jim Collins, the elder statesman of US financial independence bloggers, offers a neat rule of thumb to choose an asset allocation. Jim suggests that people working towards financial independence have 100% of their portfolio in shares (plus an emergency fund of cash). Later, once you’ve quit working, you include a 25% bond allocation to act as a portfolio stabiliser.

100% in equities may sound like an aggressive asset allocation but remember this is for people that are still working and saving.  So, if the stockmarket crashes, they should be pleased (not scared) because they will be benefiting from £ / $ cost averaging and getting more units for their money each month.

The Simplicity Portfolio excludes gold and other commodities because I prefer to focus on wealth generating assets that pay an income and compound in value over the long term.  It also excludes assets that have limited upside but are not really safe (eg corporate bonds, P2P lending etc).

The portfolio is based on the principle of keeping costs low.  Note the expense ratio of just 0.15% per year. This compares to typical total fees of 2.0% – 2.5% per year typical for customers of a financial adviser / wealth manager with active funds. Why give all your portfolio income away to advisers and fund managers for nothing?  The simplicity portfolio costs less than 10% of these (arguably inferior and riskier) alternatives.

stealing candyAs I showed here, minimising fees is incredibly important due to the effects of compounding. Many people can easily save a million pounds over the course of a lifetime by reducing fund management fees. If you have an easier way to make or save an extra million pounds, then I’m all ears.

This is a low turnover, passive portfolio but all portfolios may need some change from year to year to rebalance and reallocate away from overpriced markets and towards better value alternatives. Low churn is good but complete neglect may not be. So its worth reassessing your asset allocation at least once a year and rebalancing if appropriate.

I’ve seen a lot of investors portfolios over the years (including many with the “benefit” of a wealth manager or financial adviser) and most of them are a mess. Most are full of historical baggage, pointless complexity and incur ridiculous fees for no good reason. The Simplicity Portfolio is simpler, lower cost and easier to run (without sacrificing expected returns) than 99% of what’s out there. Welcome to the 1%.

So that’s UK based investors sorted out. But what about international readers? Well, in the countries that provide most international readers, I’ve looked to see whether its possible to replicate The Simplicity Portfolio using the local Vanguard product range.

And, for the most part it is! The Vanguard ETF product range is available right across Western Europe. So the same ETFs that I used to construct the Simplicity Portfolio are available from Vanguard in Ireland, Germany, Finland, Switzerland, Italy, Netherlands, Belgium, Sweden, Denmark, Norway, France, Spain etc etc

Its a bit more complicated in the USA, Canada, Australia etc where the Vanguard product ranges are a bit different. But for each of those countries I had a look at the local Vanguard website and had a go at seeing how closely I could replicate The Simplicity Portfolio using only Vanguard ETFs. And here are the results:

This is provided for information and is not regulated investment advice. These are model portfolios and have not been tailored for any individual, including me. My portfolio is different, not least because it contains a large slice of actively selected shares. So think about your risk tolerance and asset allocation preferences when constructing your own portfolio.

One final word.  If you are struggling to start, by all means keep it simple with a single all world ETF (or a LifeStrategy Fund in the UK). Or if you are in the US, you could just follow Jim Collins guidance. Remember, there is no single right answer in investing.  So there’s no need to sweat the small stuff obsessing about micro differences between different Vanguard products.

The most important thing is to get started.

37 comments

  1. dawnmartyne · · Reply

    Excellent post. youve addressed all my constant internal churning arguments.
    logical . sensible .my portfolio is similar but not the same.
    no Japan though, unless exposure is in VHYL
    i read once no more than 75% in equities and no less than 25%. this suits my risk tolerance.
    i thought about the landlord route but have been put off .
    as thats the case with me then i agree with you, you just have to get used to and tolerate equity volitility.

  2. Instant diversification and extremely low cost…what more do you/we/they need?!

  3. Very interesting thoughts in this article. It comes at the right time. As my goal is to have a mix of dividend stocks and an index portfolio, I wonder when and how to build up the dividend portfolio.
    an answer might be right here: buy dividend stocks if there is a general over valuation of the etfs you have… It gets me thinking…

  4. I retired a while back (Similar to yourself) and this is very close to my portfolio – I have 5 funds over your 4. I added a specific Pacific/Asia a year or so back (Looked good value at the time). Overall, whilst not producing “stunning” returns, the dividend income delivers 1.5x my outgoings and the volatility is way within my comfort zone. Sat on about 23% Bonds at the moment, but if the equity market crashed (say 20%+ further) I would dump the majority of these and go 99% equity. To be honest, I’m secretly hoping that it happens as I would love to buy something that seems really cheap again.

  5. Derrick · · Reply

    Great post. Thank you. One question:
    Isn’t the essence of ‘VUSA Vanguard S&P 500’ contained within ‘VHYL Vanguard All-World High Dividend Yield’?

    1. Not really…the US is only about 36% of VHYL. And the dividend yield screen means the US element of VHYL is not the same as the S&P500.

  6. Rookie question: why these ETF’s instead of something like Vanguards Lifestrategy 80% equity fund…. https://www.vanguard.co.uk/documents/portal/factsheets/lifeStrategy80_equity.pdf

    Is it down to the even lower charges you can obtain this way, or do you consider you will see better returns on the ETF’s.

    I am currently building up a fair bit (for me) of ISA holdings in the Lifestrategy 80% fund, so genuinely interested in learning opinions on this.

    1. dawnmartyne · · Reply

      @livingcheaplyinlondon
      i think i can answer your question
      lifestratergy funds asset allocations are pre set and theres a huge US proportion in there, i think its about 60 % US and quite a small emerging market allocation.
      TEA is trying to ’tilt’ away from these pre set allocations by using these 4 individual ETF ,s so he can underweight the US which is possibly too expensive at present to justify 60% of your money
      and overweight Europe and the UK which is generally considered a cheaper market at the moment.
      emerging markets are possibly where alot of future growth may come from. so hes upped VFEM
      hope that answers your question.

      I have a question for TEA
      Why is VHYL considered a ‘value’ fund?

      1. LCIL – I’m looking for better expected returns by tilting towards value (as Dawn rightly says) as well as slightly lower costs.

        Dawn – high dividend yield is a screen for value….there are others of course (low PE multiple, low price : book or price : sales etc)…but high dividend yield is probably the simplest…and its the one that Vanguard offers.

      2. LS80 has three components involving US equity:

        19.5% US equity index fund, 3% S&P500 etf, & 19.2% dev world ex-UK fund (of which 60% is US).

        Overall, the US equity component of LS80 is about 34.02%

  7. What do you think about robo-advisers like Betterment and Wealthfront? Is it even good for new investors or should the naive investor start with Vanguard?

    1. Personally, I don’t see the need as using them increases your expenses and The Simplicity Portolio is simple enough to easily rebalance yourself. I don’t think Betterment operate in the UK either. But MMM seems to like them so maybe worth checking out his articles?

  8. I see basic flaws in this asset allocation, if its to survive a 2008/09 scenario. You are not in the accumulation phase anymore, I would bump up the bond allocation, even at current bond valuations, use a broad bond market ETF, low TER, do it in 10k blocks over a period, and add long maturity bonds as a hedge against equity market drops. Also, if you needed to realise income from this, you would be shafted if indexes went down double digit % and kept dropping. Its obvious to a lot of professional investors that valuations are stretched in equity markets. Better to go for dividend ETFs for all the equity portion, IUKD, European and Global. Also, you need corporate bond exposure, good for more income. Hands up, I am a hedge fund manager. I just wanted to add my 2 pence. NG.

    1. …if you are a hedge fund manager then you might want to read this and this

  9. I’ve seen this mentioned a lot and I am quite impressed with it. Currently advising Miss DD to consider adopting it for her investing activity. Whether or not she is persuaded is a different matter.

    Thanks for the fascinating write-up. Very interesting.

    1. TDD, glad you found it helpful. Thanks for the comment and the feedback.

  10. I agree, simplicity is important when selecting your investments, and there really is a lot of overly-complex but under-performing crap out there with ridiculously high fees.

    Diversification is fine, but do you really gain anything more by having 400 stocks in your portfolio than by having 40 stocks? Many fund managers seem to think so, but it doesn’t show up in their returns and just creates more work that someone needs to be paid for.

    It’s direct shares/stocks all the way for me, but I agree that ETFs/managed funds/mutual, funds have their place for some investors.

  11. therhino · · Reply

    great article – thats a very nice looking portfolio

    you hint at a mechanical allocation based on index PE ratio – maybe you could include the PE numbers relevant to each of the indices in your mix, i.e. the current value compared to long term average (as you have done for the S&P500)

    also – are all those ETFs income only as opposed to accumulation units?

    1. Yes, they all pay out income

  12. Great post – a simplicity portfolio is a great idea. I have moved quite a few funds across to Vanguard equivalents to reduce costs. I would like to invest in the High Dividend Yield fund but this isn’t offered by my investment platform. I am looking to move platform, looking at the platform charges so that I can move to someone who does offer the full Vanguard suite and has a low-cost charging structure.

  13. This is pretty close to what I was trying to put together for myself.

    I am going for 100% equities for this porfolio:
    VHYL – value 30%
    VEUR – europe 30%
    VFEM – emerging 15%
    VMID — FTSE midcap 10%
    VUSA – USA 10%

    And plan on rebalancing annually. If only the S and P had a correction I would just pump 100% into an all world tracker. From visiting american forums they are definitely extremely bullish on US shares which is a warning sign to me.

  14. Any feedback would be much appreciated before I pull the trigger in the next month

    1. dawnmartyne · · Reply

      that looks a good selection to me
      i agree , i wish the S and P would have a correction it would make things alot simpler and easier

  15. Why have You missed the FTSE Developed Asia Pacific ex Japan Index UCITS ETF (VAPX)? It is cheap: dividend (3,2%); P/B (1,4); P/E (14,2).

    1. for simplicity…the fewer ETFs you buy, the lower your transaction costs.

  16. Thoroughly enjoy the website and as someone sitting on a pile of cash this post and the recent one on fear were particularity interesting. Wondered if you had any thoughts on investment trusts as part of a simple portfolio, especially with regards to the generation of income? I am torn at the moment between something like the portfolio you post above and an investment trust portfolio as put forward in John Baron’s website. Any thoughts could be illuminating.

    1. TJ – Investors in investment trusts suffer much higher fund management fees…so will underperform in aggregate over the long term. With investing fees, you get what you don’t pay for.

      If you are sat on a pile of cash, read this.

  17. The Weasel · · Reply

    Hey TEA, my portfolio looks very similar to the one you’ve put together here. I wonder if you know of any substitute for VIGSCA. (This is where I differ from your portfolio) I’m in this fund as I wanted some exposure to small caps given my long term horizon. But I don’t like the relatively high fees (0.38). At the time I couldn’t find any alternatives with my broker AJ Bell, but maybe you can give me some clues.

    Thanks for sharing this stuff with us newbies!

  18. Nice. I didn’t know Vanguard did a high yield ETF, will check it out!
    Hoping for another mini crash soon so can pick it up even cheaper after next payday 🙂

  19. This is a great article and I enjoyed the comments. I am now looking to add some ETFs and maybe switch some of my other unit trusts and investment trusts ( i have about 8 across a balance of areas) when I feel the time is right. I try not to tinker so mainly have an invest in value funds and leave strategy. I realised I didn’t have enough money in bonds so have been so have been investing quarterly into Vanguard Life Strategy 20% as I am 62, but I should have a good enough Army, Teaching, Private and State pensions to be able to keep investing in retirement when I am 65. I also have no mortgage and a letting property with no mortgage, mainly because i have always been a saver throughout my life. Your articles are very helpful because they make me do some deep thinking on the best strategies to suit my needs. I definitely like the idea of lowering investing charges and costs so Vanguard are very attractive.

    1. Glad you found it helpful, Howard.

  20. darkwhizz · · Reply

    What do you think of the SPDR S&P Global Dividend Aristocrats ETF as an alternative to the Vanguard All-World High Dividend Yield ETF? The index it tracks seems to have a different methodology as it has a very different list of companies on its list. (I can’t work out what’s the difference in method) The TER is at 0.45%, slightly higher compared to Vanguard’s 0.29%.

  21. I enjoyed your article, thank you. I hope someone can help. In this instance, Google as not helped but confused things further for me. I have been paying a small amount on a monthly basis into these two index funds:

    Vanguard FTSE DvpWldExUK EqIdx A
    L&G Global Emerging Mkts Idx I Acc

    My question is: are ETFs better in longer term compared to the funds above? My understanding is that the main different between an index fund and an ETF is that ETFs are priced throughout the day like a stock, whereas an index fund is priced once a day. I cannot see how this would make a different to a small investor like me who squirrels away a bit of money once a month over the longterm. My current platform, Axa Self Invest does not seem to offer ETFs. I would rather make the change now whilst I do not have a lot invested.

  22. Fulla · · Reply

    I’m approaching 70 y,going to retire end of this year, living in one of the golf country, having few hundreds thousand £ in the bank , zero interest , what would you advise me to use this money please?

    1. dawnmartyne · · Reply

      It depends if you want to leave any money to anyone once your gone. If it was me Id hang on to most of the cash and enjoy spending it over the next 10 plus years . Id certainly put ‘an amount ‘ in the markets, id use the simpliciy porfolio suggestion as my allocation. The problem is if you put a fair whack in now and the markets fall it can take 10 years to break even again and youd be 80 ish then . Cash is safe at 1% theres no growth but do you need to take the risk putting it in equities?

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