The Money Mustache Community
Learning, Sharing, and Teaching => Investor Alley => Topic started by: brandino29 on June 08, 2013, 08:16:41 PM
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After some great help from fellow mustachians in the 'ask a mustachian' thread, I've decided to open a traditional IRA to rollover about $16,000 in money from a 457(b) and pension with a previous employer (probably seems like it should've been a no-brainer).
Now the question is what fund(s) to invest in. Should I go with a dividend growth fund a la VDIGX which has had a pretty solid performance since inception, or a standard total stock market index fund?
In the new SIMPLE IRA I have offered through my new job, I'm putting 100% of my contributions into the Vanguard 2040 Target Retirement Fund.
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Why go with one? Why not go with both?
Also, IRA? You could also throw in a REIT fund as well.
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A big part of the reason I see with going for both is large funds like that are going to have a lot of overlap. Between the top 10 holdings of the VG Dividend Growth and VG Total Stock Market Index, three (Microsoft, Johnson and Johnson, and IBM) are in both, plus Wal-Mart, McDonalds, UPS, etc also are likely to be high up in both. Holding both is going to de-diversify your portfolio.
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First of all, is this the totality of your tax-advantaged retirement savings, or do you have more?
Second, what level of risk are you comfortable with? 100% stocks is nice when the market is going up, but if you've never been through a crash, you probably don't know your risk tolerance. Many people who said they'd never sell at the low did so back in 2008-09.
Based on these two questions, come up with a desired asset allocation: how much in bonds, how much in stocks, and whether (and how much) to diversify internationally in either or both categories.
Once you have that, we can fill each category (and finally answer your question). For the domestic stock portion in a tax-advantaged account, go with total stock market index. Dividend-paying stocks are fine to some extent for cash flow purposes in taxable (more so back in the day when selling stocks had a cost, but receiving dividends didn't have additional cost, but that's not really the case today), but in an IRA, it's total return (given risk tolerance) that matters the most.
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Brandino,
If you are considering going with just one, going with both will not de-diversify your portfolio, at the worst case you are at the same diversification.
Imagine 2 portfolio (A and B) that are equally weighted 10 stocks in each. 9 of those 10 are the same. Assuming that you have 3 choices: invest $100 in A, $100 in B or $50 in each. The most diversified is still the third option: you get $10 in the 9 stocks and $5 in the two stocks. True it is poorly diversified but going with only one choice is even worse. You can diversify in other parts of your portfolio.
Only issue that I can see are that the third option needs more tracking efforts since you need to keep tab on two investments. It may incur more fees if you start going in and out too.
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Your diversification will be worse - the Total stock market fund is the most diversified fund available. Buying any other fund concentrates you in some small subset of stocks within the total market and reduces your diversification.
Lets pretend the total stock market is 100 stocks and the dividend fund owns 20 high-yield stocks from these 100. Basically, if you put 50% in each fund, you will have 0.5% of your portfolio in every one of the 100 stocks, but you would have 3% total in each of the highest yielding stocks due to 50% of your holdings being in the dividend fund. This is compared to owning 1% of each stock if you invested 100% in the total stock market fund.
Honestly - the reason I will never buy ANY dividend fund is because they tend to concentrate in a single sector. Right now the utility sector and REITs tend to be the highest yielding sectors. Back in 2008 it was the banking sector - we all know how that one went...
Just my 2 cents - I'm not an expert by any means...
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Reido,
Your logic is spot on and mine was flawed since I idiotically forgot that one of the funds was a total market index.
Since I consider myself an expert (but by no mean am I always right), I nominate you as an expert as well.
Ok, I am out: 2 minutes on the penalty box.
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No worries...
There are situations when a dividend fund and total market fund would be a terrific asset allocation!