By now, I think it is pretty clear that I am a big fan of passive investing and of course, John C. Bogle. For everyone who may not know who Mr Bogle is, John C. Bogle was the founder of Vanguard, one the largest asset manager in the world. A dominant player in the fund industry known for its low-cost index funds.
The grim irony of investing, then, is that we investors as a group not only don’t get what we pay for, we get precisely what we don’t pay for. So if we pay for nothing, we get everything.
John C. Bogle
Without Bogle’s contribution to the investing community, investors would be ‘robbed’ of their returns and saddled with the sub-optimal returns from most active funds.
The allocation of the 3-Fund portfolio uses basic allocation strategy to the 2 main asset class, equity and fixed income (bond). Conceptually, the allocation would comprise of a domestic total stock market index fund, an international total stock market index fund and a total bond market index fund. In total, there will be 3 funds in the portfolio.
When it comes to asset allocation, the good old 60/40 balanced portfolio model should serve most retail investors well. This is where 60% of the portfolio is allocated to equity and 40% to bonds. See the table below for an example.
|Fund||Asset Allocation||Asset Class|
|Domestic Total Stock Market Index Fund||40%||Equity|
|International Total Stock Market Index Fund||20%||Equity|
|Total Bond Market Index Fund||40%||Bond|
Alternatively, you could use the following formula as a rule of thumb to calculate your equity allocation: 100 – your current age. For example, if you are 30 years old. Your equity allocation should be at 70%.
The above formula implies that the younger you are, the higher the equity allocation. Reason being you are in a better position to take on more risk when you are young (generally speaking, equity is riskier than bonds). In the event of a market downturn when you are young, your investments would also more time to recoup the losses.
The above serves as a guideline. if you are young and you are uncomfortable with taking the risks for whatever reasons, by all means, reduce your equity exposure to a level that you feel comfortable.
Why adopt this portfolio model?
The beauty of this model is simplicity. The modern Singaporeans are busy and the last thing on most’s minds would be to craft up an investment portfolio for their retirement needs. The 3-Fund portfolio is easy to execute, understand and rebalance. More importantly, it gets the job done.
Buying funds based purely on their past performance is one of the stupidest things an investor can do.
John C. Bogle
The Singaporean 3-Fund Portfolio
For an individual living in the United States, the above allocation model makes a lot of sense. The US market is huge enough to justify the 40% allocation to the domestic market and most Americans will do pretty well with the above allocation model.
However, for an individual living in Singapore, the above allocation model would imply allocating 40% of his/her portfolio in an index fund that tracks the Straits Times Index (STI). STI is a benchmark portfolio that comprises of the 30 largest companies by market capitalisation listed on the Singapore Stock Exchange. The top 3 holdings in STI are DBS, UOB and OCBC.
Currently, there are two ETFs that track the STI. We have ES3.SI issued by State Street and G3B.SI issued by Nikko Asset Management.
For more information on ES3.SI, see: https://www.ssga.com/sg/en/individual/etfs/funds/spdr-straits-times-index-etf-es3
For more information on G3B.SI, see: https://www.nikkoam.com.sg/etf/sti
The problem with the Singapore market is that it is way too small for any meaningful returns to be realised, relatively speaking of course. As far as I am concerned and I believe many investors share the same sentiment, that most of the companies in the STI are not really considered as a ‘global’ and/or an innovative company.
Looking around the globe, it seems to me that the most innovative companies are located in the US and China which happens to be the two largest economies in the world (at the time of publication). Think Google, Amazon, Tencent, Alibaba and the likes.
For the past decade or so (2008 – 2019), the performance of STI and the two ETFs that track the STI paled in comparison to the US market or the SPY.
SPY is an ETF issued by State Street that tracks the S&P 500 Index. The S&P 500 Index is widely considered as the market indicator for the US market.
Having said all that, past performance is rarely an indicator of future performance. For all we know, the performance of the Singapore market may surpass that of the US and China market. But I reckon the probability of that happening is very slim.
Modification to the 3-Fund Portfolio for the busy-minded investors in Singapore
For investors in Singapore, rather than confining 40% of our portfolio to the STI, we should be looking at ‘global’ ETFs.
Equity Allocation – Developed Markets
One such example of a ‘global’ ETF is the IWDA ETF listed on the London Stock Exchange (LSE). The Total Expense Ratio (TER) of IWDA is 0.20% p.a., which is reasonable for a ‘global’ ETF.
IWDA ETF <iShares Core MSCI World UCITS ETF> is part of the core series of funds by Blackrock, that gives you broad exposure to most developed countries in the world. It has an ‘overwhelming’ allocation of approximately 60% to the US.
For more information on IWDA, see: https://www.bloomberg.com/quote/IWDA:LN
Core funds are funds that should form the majority weightage of your portfolio, typically in the range of 50% to 80% of your portfolio. They are plain-vanilla funds that give you broad exposure to the market, which will provide you with instant diversification.
Another example of a ‘global’ ETF is the Vanguard FTSE All-World UCITS ETF (VWRL). VWRL is issued by Vanguard and listed on the LSE. The TER of VWRL is at 0.25% (slightly higher than IWDA).
Unlike IWDA, VWRL invests in the emerging markets (EMs) however its allocation in EMs is relatively small. As of 31 Aug 2019, allocation to the US stands at 55.2% and to China at 3.4%. Considering that China is the second-largest economy in the world, the allocation to China may be a little understated in VWRL.
Equity Allocation – Emerging Markets
For exposure to the emerging markets, investors could look to 3010.HK which is an ETF listed on the Hong Kong Stock Exchange. 3010.HK would give investors exposure to emerging and developed Asian markets. The TER of 3010.HK is 0.29%.
While 3010.HK is not a pure-play on the emerging markets, it does have approximately 40% of its portfolio allocated to China, the second-largest economy in the world and home to many innovation powerhouses such as Tencent and Alibaba.
For more information on 3010.HK, see: https://www.blackrock.com/hk/en/products/251579/ishares-core-msci-ac-asia-ex-apan-index-etf
The bond allocation in the 3-Fund portfolio model serves as a stabilizer in one’s portfolio.
For bond allocation, investors in Singapore can easily subscribe to Singapore Saving Bonds (SSB) which serves as a very strong stabilizer in one’s portfolio, i.e. the value of the bond will not suffer in the event of a huge market downturn.
In summary, SSBs are bonds issued by the Singapore Government. As far as I am concerned, SSBs are the Fort Knox of bonds.
For more information on SSB, see https://www.mas.gov.sg/bonds-and-bills/Singapore-Savings-Bonds
For more information on how to apply for SSB, see https://blog.seedly.sg/guide-investing-singapore-savings-bond-ssb-interest-rate-how-to-buy/#guide-invest-SSB
Alternatively, if SSBs are way too conservative for you, you can consider the Nikko AM SGD Investment Grade Corporate Bond ETF (MBH.SI). The management fee of the fund is 0.15% p.a. and the TER of the fund should come in at less than 0.30% p.a. (after combing through the prospectus).
The fund invests in investment-grade (IG) corporate bonds that are denominated in Singapore dollars. The top holdings in the fund consist of Singapore household names such as DBS, UOB, LTA and etc.
MBH’s potential for yield/return should be higher than SSB since MBH is not investing in Singapore Government Securities which would typically serve as the risk-free rate. Risk premium in the investment-grade corporate bond space should provide as an opportunity for the fund to generate additional yield over the risk-free rate. However, note that the risk premium in the IG space will not be as high as the risk premium in the non-investment-grade bond space.
For more information on MBH, see: https://www.nikkoam.com.sg/etf/sgd-investment-grade-corp-bond
MBH.SI prospectus: MBH.SI — Prospectus
For the 3-Fund portfolio model, I would not advocate investing in the non-investment-grade bond space. Non-investment-grade bonds, as the name implies, are bonds that have been rated as non-investment-grade by the major credit rating agencies. These bonds are also known as ‘junk bonds‘ or high-yield (HY) bonds and they are riskier than investment-grade bonds. As HY bonds are riskier than IG bonds, HY bonds command a higher risk premium than IG bonds and in turn, command a higher yield.
Some of these junk bonds are teetering on the verge of default. That is, the bond issuer does not have the ability to service their coupon payments and more importantly paying back the principal amount. While investing in a bond fund may diversify your exposure to the different bond issuers, save yourself the headache and focus on the investment-grade bond space, both in the government and corporate sector.
Note that not all government bonds are considered IG. For example, Argentina’s sovereign debt rating is in the non-investment-grade space.
For more information on the rating system, see: https://www.investopedia.com/terms/i/investmentgrade.asp
For more information on Argentina’s debt problem, see: https://www.reuters.com/article/argentina-ratings-fitch/fitch-raises-argentinas-sovereign-debt-rating-to-cc-idUSL3N25U3TB
While investing in the non-investment-grade bond space may be compensated with additional yield, investing in the non-investment-grade bond space is not exactly what you would call stabilizing one’s portfolio when the ship hits the fence.
Ultimately, the whole idea of investing in bonds is to provide a stabilizer to your portfolio and not to overreach for yields by investing in the high-yield space.
Rebalancing your 3-Fund Portfolio
Rebalancing your 3-Fund portfolio is relatively easy considering that you are only rebalancing 3 funds. Rebalancing is an act of realigning your asset allocation to the original target.
For example, assume that your original asset allocation target is 60% equity and 40% bonds. As the market moves, your equity and bond allocation would be going up and down depending on how the market moves. Suppose one year later, the market performs well and your equity allocation increases from the original 60% to 80%, this would also mean that your bond allocation is now at 20%.
Rebalancing your portfolio would mean selling your equity such that the allocation would decrease from 80% to 60% (original state), and buying bonds such that the allocation would increase from 20% to 40% (original state).
Why you should rebalance?
Rebalancing your portfolio realign your portfolio’s risk to the original level. Using the above example, a portfolio with 80% equity allocation is riskier than a portfolio with 60% equity allocation. Rebalancing will prevent your portfolio from being overexposed to the market.
Now, how often you should rebalance your portfolio?
If you have frequent (say monthly to quarterly) contribution to your investment portfolio, rebalancing on a semi-annual basis would be fine. Otherwise, an annual rebalancing should be the standard.
An annual or semi-annual rebalancing would also provide you with an opportunity for you to review your risk tolerance. As we transit through different life phases, marriage, newborn, new job and etc, our risk tolerance would change.
Your original asset allocation target of 60/40 equity/bond, may not be the optimal target asset allocation as you progress into a new phase of your life.
The 3-Fund portfolio is a no-nonsense long-term buy and holds, easy to maintain, get the job done portfolio. While it may not be everyone’s cup of tea, for the modern man and women in Singapore busy with work and personal commitments, the 3-Fund portfolio is a very viable solution for their retirement needs.
Disclaimer: This article does not constitute a solicitation to buy/sell any securities that may be mentioned in this article. At the time of writing and publication, the author held positions in 3010.HK. All other securities mentioned by the author in this article are not held by the author. I am writing in my personal capacity and my views do not represent that of any organisations.
Categories: Passive Investing 101