Consuelo Mack is a long time fan of Professor Burton Malkiel and Dr. Charles Ellis. In fact, she had both of them on her show several times. So naturally, she was intrigued when Burt and Charley joined the Rebalance team and took a central role leading the firm’s Investment Committee and helping to design and monitor the firm’s retirement portfolios. These two legendary financial thought leaders are very sought after by financial services companies, university endowments, and pension plans.
What is so special about Rebalance? Ms. Mack decided to dedicate a 30-minute episode to how the firm is part of a new generation of investment advisory companies that leverage technology and innovative business models to provide consumers with fundamentally more attractive and lower-cost retirement investing options.
Full Television Show Transcript:
Consuelo Mack: This week on Wealthtrack, putting your retirement portfolio on autopilot. Financial thought leader Burton Malkiel has teamed up with online investment pioneer Mitch Tuchman to offer retirement portfolios of low-cost index funds that automatically rebalance. Why they believe the combination will lead to smooth retirement landings is next on Consuelo Mack Wealthtrack.
Hello and welcome to this edition of Wealthtrack. I’m Consuelo Mack. One recurring theme on Wealthtrack over the years has been how individuals and institutional investors sabotage themselves over time. One way they do that is by chasing hot performance and buy high and abandoning investments during market declines and sell low. The other major way investors hurt themselves over the long term is by not paying sufficient attention to investment costs. Expenses matter.
As one of this week’s guests famed financial thought leader Burton Malkiel tells us, “One thing I’m absolutely sure about is the lower the fee, the more there is going to be for me as the investor.” Luckily, there are products available to help us avoid both mistakes and more are being created every day. One of them, index funds, are already a huge hit with investors and their popularity is growing by leaps and bounds. According to Morningstar, low cost indexed based mutual funds and ETFs now have 31% of all fund assets, up from just 14% a decade ago. The other development to counteract destructive investor behavior is in its early stages; it’s automatic investing. It’s being used in target date funds. Some advisors use software that does it in portfolios and we are now seeing the next generation with so-called “robo-advisors”. Barron’s recently did a cover story on it called The New Face of Financial Advice and highlighted 4 robo portfolio services including, Betterment, who launched in 2010, Wealthfront, who launched in 2011, and two recent entries Charles Schwab Intelligent Portfolios, and a hybrid Vanguard Personal Advisor Services, which requires the involvement of a human financial advisor to provide what Vanguard calls “behavioral coaching” to prevent clients from making those bad market timing decisions.
Well, this week on Wealthtrack we are highlighting another service that also combines low-cost investing, automatic rebalancing and the human touch. It’s called Rebalance and there are two personal reasons I am focusing on it: it is two legendary financial though leaders on its investment committee with impeccable credentials, whom I have had the privilege of interviewing on Wealth Track over the years. They both helped develop, oversee and help set policies for the portfolios offered to Rebalance clients. One of them, Charles Ellis, has been a highly respected investment consultant to pensions, endowments and governments for decades. He is the author of numerous investment books, including the classic Winning the Losers Game and The Elements of Investing co-authored with his good friend and fellow financial legend Burton Malkiel. Professor Malkiel is also on the Investment Committee and is one of today’s guests. Malkiel is an Emeritus Princeton University Economics Professor and author of the classic A Random Walk Down Wall Street, now in its 11th edition. Our other guest is no slouch himself. He is Mitch Tuchman, Managing Director and Co-Founder of Rebalance, which he launched in 2013. Rebalance is a low-cost investment advisory service for accounts of $100,000 on up. As its name indicates, it is specifically for retirement accounts and it automatically rebalances their portfolios. It currently has nearly $300,000,000 under management. Now, before that, Tuchman founded Market Riders, the first online investment advisory service for do-it-yourselfers. It now oversees about $4,000,000,000 in accounts and, for many years, Tuchman has been a technology entrepreneur and consultant to numerous Silicon Valley companies. I began the interview by asking him why he created Rebalance.
Mitch Tuchman: I didn’t start off in this business. I moved to Silicon Valley to work at Atari many, many years ago and after a successful career as a software entrepreneur I sold a company and I had money to invest, but also a year earlier I had a very interesting experience in life. We had a child who was severely disabled and I realized I needed to invest this money for 100 years and not just my own retirement, and the gravity of that task was weighing heavy on me as I went to look for options in the financial services industry. I looked at all of the fees and the structures and just never found anything that was satisfying to me. So, it lead to a 7-year career in the investment business and what I discovered was a completely different method of investing, a whole different language, a whole different approach to investing and it was startling to me. As I got more into it, and I’m sure this has happened to you Consuelo and definitely I know it has happened to you Burt, people begin to ask you what do I do because they know you are someone in the business, and as I was asked I would start saying well let me see what you’ve got, show me your portfolio and I was, again, shocked. I would see terribly overpriced mutual funds, horrible allocations, loads, lots of trading and it began to get very upsetting to me.
So, I was also experiencing new financial instruments like exchange-traded funds, which are innovations, low-cost, almost zero trading commissions and I started to see over time, what the methods of the large endowments and foundations and successful retirement pools, the institutions that Burt has spent his life consulting with those can now be brought down to every day investors and that’s why I got the entrepreneurial bug again and got back into the game of running a company that, this time, was a convergence of software and financial technology.
Consuelo Mack: So, explain what is Rebalance.
Mitch Tuchman: Rebalance is an investment management firm and we focus on every day investors who have between $100,000 and $1,000,000. Generally they are over 45, and we manage their retirement assets for them and we help them. Our mission is to help people retire with more. They are not do-it-yourself investors and we manage their money in a very low-cost way under a fiduciary standard, and we offer a credentialed, very highly trained advisor and a support person as their team to work with, and we execute an investment methodology that I’m sure we’ll talk a lot about because this man sitting next to me is responsible for having invented quite a bit of it.
Consuelo Mack: Right. So, Burt Malkiel here you are. You are an investment icon and I’m sure that you get approached many times a day, a week, whatever to get your name on a committee and to get involved in a company because anyone would love to have your reputation behind them. So why did you get involved in Rebalance?
Burt Malkiel: Well, because I wanted to put my name behind something I really believed in, and I think, as Mitch just said, that most people just get terrible investment advice. They get it from people who are conflicted, who are not necessarily interested in the investor’s best interests, but are interested in their own and, therefore, they are very high priced and they put investors into the kind of funds where they get an extra commission, so the funds themselves are very high priced and so I would only put my name behind something that I absolutely believe in. We use nothing but index funds, low-cost index funds at Rebalance. I’ve believed in indexing from before the time that index funds even existed.
Consuelo Mack: Right.
Burt Malkiel: I believe that there are extra returns available from rebalancing the portfolio periodically and so my answer is very simple, this was something that operates on principles that I have believed in all of my life and I’m delighted to do that, particularly, if it is likely to help individual investors saving for retirement because if we’ve got a crisis in this country, the crisis is that so many Americans have inadequately saved and inadequately invested for their retirement and are likely to have a much less good retirement than they should have.
Consuelo Mack: So, there are other services out there, and you were on the Board of Vanguard for many years. So, there are other index companies that offer retirement services, so what is different about Rebalance?
Burt Malkiel: Well, one of the things that Rebalance can do that Vanguard and Schwab, which are two other companies that are in the game can’t do, is that we can be completely unconflicted in terms of the ETFs that we put into the portfolio.
Consuelo Mack: So, open architecture. You can use whatever.
Burt Malkiel: So, it is an open architecture. When you go to Schwab, who is one of the competitors doing this, you will notice that in the Schwab composite portfolio there is nothing but Schwab funds. Vanguard is a wonderful company, but in the Vanguard portfolio there’s nothing but Vanguard funds. So, I think what is really important about Rebalance is that we are simply looking for the best kind of fund at the lowest cost.
Consuelo Mack: How many portfolios are you offering? How do you make the decisions? I know Burt that that is part of your job, to make the decisions of what goes into the portfolios, but Mitch do you want to tell me more about what the model is?
Mitch Tuchman: Sure. Well, there are basically 6 model portfolios. They are bookended by an income portfolio and a growth portfolio and then four in the middle, and basically what we have done is we have created a growth portfolio of index funds that includes U.S., foreign developed, emerging markets, we believe in a small cap tilt as they say in the business and some REITs.
Consuelo Mack: Right. So, you’ve got stocks, you’ve got bonds, you’ve got dividends?
Mitch Tuchman: Sure, and then on the income side we have, now this is where Burt and Charlie Ellis, who is also on our Investment Committee, have actually said, you know certain markets are not efficient.
Burt Malkiel: I’m an index investor. I believe in indexing.
Consuelo Mack: Yes.
Burt Malkiel: I would start off saying buy a total bond market fund, but if you look at what is in a total bond market fund it’s about two-thirds either direct treasury securities or government agency securities, which are in affect government securities and the yield is, in my judgment, quite inadequate. So, what we have done is we have tried to look at parts of the bond market that are not too risky, but give the investor at least some chance of a decent return and we’ve also used in income a dividend paying stock substitution for at least a part of the bond portfolio. So, there are some interesting things that we have done. We generally have a little more of a portfolio composition in foreign and emerging markets than other investors because we start off from the view that a lot of these markets are basically cheaper than the U.S. market. We don’t take big bets on things, but there are people behind this who are putting the numbers into portfolio theory and we have a little different investment mix than I think that many other people would have.
Consuelo Mack: So, Burt take me through an Investment Committee meeting. For instance, I’m looking at some of the things and what Mitch just mentioned so, you are dealing with a portfolio of high yield corporate bonds, U.S. dollar and emerging market bonds, intermediate corporate, small cap, as you said, an all-world x small cap, develop market stocks, emerging market stocks, high dividend yield stocks, REITs, Vanguard, Total Stock Market Indexes in there as well.
Burt Malkiel: Yep.
Consuelo Mack: So you have tried to keep it relatively simple right?
Burt Malkiel: We’re trying to keep it relatively simple, but these are exactly the kinds of things that the Investment Committee decided upon.
Consuelo Mack: Right.
Burt Malkiel: In other words, when we first put the portfolio together the first thought was okay bonds are going to be a total bond market fund and for the reasons we’ve just discussed, we’re uncomfortable as an Investment Committee with that, and so what the Investment Committee then talked about was okay, what can we do and how far should we deviate from what’s a total bond market fund? So, that would be one of them. The other would be how much should we have in emerging markets. Are emerging markets really very much more risky than developed markets? Are emerging markets really very much more risky than Europe? In bond defaults, we have some emerging market bonds.
Consuelo Mack: Right.
Burt Malkiel: Well, where are the defaults likely? They are going to be in places like Greece that are in developed markets, so when you ask what the Investment Committee talks about, these are precisely the kinds of things the Investment Committee talks about. You can call it active if you want, but all of the individual instruments are passive, are index and are low-cost because let me tell you, all of us need to be very modest about what we know and what don’t know about financial markets. The one thing I am absolutely sure about, thought is the lower the fee that I pay to the purveyor of the investment service, the more there is going to be me as the investor.
Mitch Tuchman: Yeah, let me make one final point about what Burt said.
Consuelo Mack: Yes.
Mitch Tuchman: We’ve only made one modestly significant change to the portfolios in several years. So, it’s not like we sit around and change percentages. We made a decision to boot out the aggregate bond index for an intermediate high-grade corporate bond index. We’re not making changes, but we do rebalance, so that is to your question.
Consuelo Mack: And how often does that happen, it depends on the markets?
Mitch Tuchman: Well, it’s both actually.
Consuelo Mack: Right, right.
Mitch Tuchman: So we do a calendar rebalancing every year for all of the clients.
Consuelo Mack: At the end of the year or …
Mitch Tuchman: Well, if you are not taking distributions, we have clients that are over 70 who are taking distributions, that happens in November like clockwork. If you are not taking distributions, that happens about right now like clockwork because people are contributing to their IRAs. So, we do a calendar rebalancing for everybody depending upon whether you are distributing.
Consuelo Mack: Right.
Mitch Tuchman: And then second there is usually a volatility rebalancing and that happens because the markets begin to ebb and flow and things get dicey and sometimes the allocations move past a threshold and when they do that, alarm bells are triggered and it’s time to do a rebalancing for most all of the clients and that’s what we do. The important thing about rebalancing is that it always answers the question for the client – well, what are you guys going to do when you think the markets are going down, what are you going to do when you think the markets are going up, what are you going to do, what are you going to do… and that helps clients understand that we’re not sitting around with a crystal ball predicting the future going which way is the wind blowing and trying to make a guess, but that we have a process and the process is the process and it is why large endowments and foundations get great returns. They run under a process and knowing there is a process helps our clients feel that these guys are not going to make wild guesses, there are no cowboys and it really gets down to peace of mind for the clients and that’s really our business.
Burt Malkiel: So, let me just, if I could …
Consuelo Mack: Please.
Burt Malkiel: As I think it is less well understood than it should be, what kind of advantages you get from rebalancing. Let me give you a little simulation that I did with simply two investments, a bond market, index fund and a stock fund. Starting in 1996 just when Alan Greenspan made his famous irrational exuberance speech. So what we do in this simulation is once a year, we do it at the beginning of January or you could do it anytime, you simply said let’s say you have a 60/40 portfolio with 60% stocks and 40% bonds and every year what rebalancing means is you just bring the proportions back down, and that rebalancing once a year added between 1 and 1.5 percentage points to the return.
Consuelo Mack: A year?
Burt Malkiel: A year, per year.
Consuelo Mack: What’s a realistic expectation now for a diversified portfolio as far as annualized returns or, it has come down a lot, right?
Burt Malkiel: My sense is that a diversified portfolio of common stocks, one ought to think of certainly no more than a 6% rate of return. I don’t think it will be the 9-10% that we have enjoyed over the last 100 years. I think that by getting into some of these other markets, like emerging markets, we can do a little better than that. I think real estate is still a relatively good investment outlet for people, which we access through REIT Index Funds. So, I think we might be able to do a bit better than that, but we are clearly in a single digit world today and we don’t want to give anybody the impression that it’s 10% from now until kingdom come, it just isn’t. What’s important for people to realize is if they are saving on the basis of thinking that they are going to get 10% rates of return I don’t think it is going to happen.
Consuelo Mack: One of the things that I’ve talked to Charlie Ellis about, who is also on your Investment Committee, is the fact that we’ve kind of got to really change our attitudes toward retirement, we’ve got to work longer, we’ve got to save more, we’ve got to spend less – all of the things that none of us really want to hear as well. Obviously at Rebalance you’re cognizant of those realities too and so it sounds to me as if a goal is also to avoid the permanent impairment of capital, which is to avoid losses. So, it’s almost more of a value tilt right, if something goes up to much you are going to pair it down?
Burt Malkiel: Right.
Consuelo Mack: So, there is a value tilt to the entire portfolio.
Burt Malkiel: Absolutely and that’s what rebalancing does.
Consuelo Mack: Right and so, that is where you can get the edge over the typical benchmark indexes and it is to prevent us from making stupid mistakes.
Mitch Tuchman: If you ask any investor name the top 5 investment mistakes you have made and then they will sheepishly name them and then you say if you had all of that money back in your account how much would your net worth be and they just shake their heads, it’d be way higher.
Consuelo Mack: Right.
Mitch Tuchman: Charlie wrote a book called Wining the Loser’s Game. The loser’s game is playing to win and investing is about playing not to lose. If you work really hard not to lose money you end up ahead of 90% of the people.
Consuelo Mack: How much attention do you pay to income, because if you look historically over 40% of returns in stocks have come from dividends, how important is that in the Rebalance portfolio?
Burt Malkiel: It is extremely important and, again, probably one of the things where we will differ from some other portfolios is that we even have, almost as a separate asset class, dividend paying stocks, dividend growth stocks because we think that that is extremely important and I think is probably the way today that people ought to concentrate in order to get income because they won’t get it from a total bond market portfolio.
Consuelo Mack: Right.
Mitch Tuchman: And one of the silver linings of have a global portfolio is that coming into this year after the U.S. had run so much and dividends were down below 2% it was the international funds that were, you know over 3%. So, the dividends have been paying off very well in a foreign developed country ETF.
Burt Malkiel: And the other thing the dividends will do is give you the advantage of dollar cost averaging, because what we will do is reinvest those dividends and that is a wonderful way of making your assets grow.
Consuelo Mack: Last question I ask everyone at Wealthtrack is if you had one investment to make in a long-term diversified portfolio, and this is assuming we all have long-term diversified portfolios, what’s the one investment we should all have in it? Mitch, do you want to take it first?
Mitch Tuchman: Well actually, why don’t you start Burt because I liked your answer to that and I had a great hitchhike.
Burt Malkiel: Well, if I had only one thing that I could buy I would buy a world equity stock fund; that is a stock fund that had U.S., that had Europe, that had Japan, that had emerging markets that had the entire world.
Mitch Tuchman: Okay, so I’m going to hitchhike off of that and I’m going to agree and that is VT (Victor Tom), it’s a global index fund put out by Vanguard, but one of the things that we do for our clients is we say let’s open up a Roth IRA for your child and let’s put $500 or $1,000 in it and just buy VT and for a child that’s one of the greatest gifts you can give them, not so much an iPhone and not the next crazy outfit. You put it in a Roth IRA and that kid will watch the power of compounding and start to understand how this works.
Consuelo Mack: Excellent. Thank you both so much Mitch Tuchman for joining us and Burt Malkiel, it’s great to have you back on Wealthtrack.
Mitch Tuchman: Thank you.
Burt Malkiel: Thank you very much. My pleasure.
Consuelo Mack: At the close of every Wealthtrack we try to give you one suggestion to help you build and protect your wealth over the long term. This week’s action point picks up on the one investment recommendation from both Malkiel and Tuchman; it is contribute to a young person’s Roth IRA. As we have discussed numerous times on Wealthtrack, there is no greater investment strategy than the power of compounding and the more time it has to work the higher the returns. What better way to make a long-term difference in a child or young adult’s life than to put shares of a low cost global mutual fund or ETF in a Roth IRA. It will be a gift that keeps on giving. Well, next week as Wealthtrack celebrates its official 10th anniversary, it’s a big one, we are delving into two major investment trends: the move to passive investing, which this week’s guests are passionate proponents of and, specifically, the usually poplar exchange traded funds or ETFs. ETF.com CEO Matt Hougan and Northern Trust Head of Global Equity Matthew Peron will explain why not all ETFs are created equal and how to tell the difference. To see this program again and 10 years’ worth of our other financial thought leaders great investor guests go to our web site wealthtrack.com. Also, please share your thoughts with us on Facebook and Twitter. Thank you for watching, have a great weekend and make the week ahead a profitable and a productive one.