Personal Lessons and Takeaways from Re-Reading JL Collins Stock Series

I’m going to re-read JL Collins Stock Series from start to finish. At the time of writing, it’s 31 parts. I’m going to read 3 parts per day over the next 10 days. My goal is to finish before baby #3 arrives as expected on February 19, 2018.

I’m going to re-read because…

  • JL Collins is a smart dude who knows a lot more about money management than me.
  • I don’t recall if I’ve ever read it front-to-back like a book, and I can’t recall everything he talks about.
  • A friend of mine recommended The Intelligent Asset Allocator by William Berstein (which I noticed Jim Collins references in a comment in Part XXIII in response to a reader), and I’m interested to see how Collins’ and Berstein’s investment philosophies differ or mirror.
    • BTW, check out the conversation in the comment section between JLCollins and Mr. Money Mustache from 2012 regarding this exact thing. People who know MMM will get a good kick out of it. I also think this commentary-conversation predates the public publishing of JLCollins Stock Series.
  • Once I finish re-reading the series and finishing The Intelligent Asset Allocator, I’m going to decide on some changes to our own asset allocation across all of our portfolios.
  • I’m going to jot down some personal notes from reading and post them on the blog – keyword “personal”, as in how it applies to us. If you’re interested to follow along, join me in reading the series or just check back to this post for my own thoughts.

My Personal Musings on JL Collins Stock Series

“Part I. There’s a major market crash coming!!!! and Dr. Lo can’t save you.”

  • Don’t be the typical investor – the kind that is “prone to panic and poor decision-making, especially when all the cable news gurus are lining up on window ledges.”
  • Will there be another financial crisis? Yes, so know how to deal with it before it comes.
  • When will it come? No one knows, so know how to deal with it before it comes, because the market will recover, with or without you.
  • At my current age, there will be many more market collapses and recessions in the remainder of my life (assuming typical life expectancy) than there have been in my life to date. How many? Probably 3-4 times more.
  • For the most part, ignore what the media has to say. The media is paid to make noise. I don’t need noise, I just need to be tough and stick to a long-term strategy.
  • The market always goes up, with or without you.

“Part II: The Market Always Goes Up”

  • “The market always, and I mean always, goes up.  Not each year.  Not each month.  Not each week and certainly not each day. But relentlessly up.”
  • As an investor, the key is don’t panic.
  • Index funds, like VTSAX, allow you to own a small piece of the entire market.
  • When looking at the market in its entirety, it will self-cleanse itself. Some companies will be eliminated, while new companies grow at rapid pace. Meanwhile, the people who own and work for these companies, which you own, will compete like hell to ensure they’re not the ones eliminated.

“Part III: Most people lose money in the market.”

  • If the market is so relentless in its upward climb, why do people struggle so much and lose so much in the stock market? Because…
  • We panic – when the market crashes, or even when it looks too good to be true.
  • We try to time the market.
    • I’m guilty as charged. Instead of funneling cash into the market in 2018 as fast as we did in 2017, we’re diverting cash to pay off a rental house mortgage. Why? Because I think the market is currently overvalued… Damn it, Jim…
  • We think we can pick winning stocks
    • I did get lucky with a few back in the day (TSLA, AMZN, GOOG), but I also lost enough, too (SODA, ZNGA, TWTR). For 2 years, I picked individual stocks based on research insights from Motley Fool. The results? I got to say cool things like, “I picked up TSLA at $14,” while intentionally leaving out, “but overall underperformed the market.”
  • The experts aren’t actually that. “There’s lots of money to be made with actively managed funds. Just not by the investors.” “There are actually more mutual funds out there than there are stocks.”

“Part IV: The Big Ugly Event, Deflation and a bit on Inflation”

  • In case of a major economic disaster a la 1929, it will hurt, a lot. 90% of wealth wiped out over 3 years will do that. But the philosophy still stands true. Continue to invest. The market will go up.
  • When this happens again (yes, I actually think we will experience our own version of it), remember two things – 1) there will likely be significant deflation as everyone will have significantly less purchasing power, 2) preparing for the worst while things are still good will help you keep a level head throughout, and ultimately come out on top.
  • Practice stoicism, just like every building in the US practices fire drills.
  • A little inflation is a good thing for a healthy economy. Hyperinflation is not.
  • Inflation is good because it drives economic value exchange to occur instead of everyone waiting for prices to drop.
  • If you’re worried about the crash, lower your risk. Always match your investment strategy to the level of risk you’re willing to accept.

“Part V: Keeping it simple, considerations and tools”

  • Making money in the market is not hard. It is simple. Dead simple. How dead simple? Some of the best performing portfolios are those of dead people that others forgot. That dead simple.
  • I used to be overwhelmed and unsure of how to invest, which was an intentional outcome of those that design financial products. If you find something complex, but you want in on the action because it sounds good, you will pay to get in on it.
  • Answer these three questions:
    • “What stage of your investing life are you?” Wealth building or wealth preservation. Or somewhere in between.
    • “What level of risk do you find acceptable?”
    • “Is your investment horizon long term or short term?”
  • Your investment tools can simply consist of:
    • Wealth Building and Inflation Hedge: Stocks are a core wealth building tool. VTSAX has a built-in hedge against inflation and global exposure. Stocks are very volatile.
    • Deflation Hedge: Bonds smooth out the ride and hedge against deflation. VBTLX is the VTSAX of bonds.
    • Living and Emergencies: Have some cash to cover the cost of living and emergencies. Find a good bank account or consider a money market fund like VMMXX.

“Part VI: Portfolio ideas to build and keep your wealth”

  • Wealth Building Stage
    • Investing during the wealth building stage with a long-time horizon = 100% VTSAX.
    • Market ups and don’t will not matter so long as you DON’T PANIC!
    • But won’t I get hit when the market crashes? Yup. But be mentally tough, ignore it, and keep on going. You will win and be rich as a result.
    • Why stocks? Because they provide the best of all asset classes over time.
    • $15k in Down stocks in 1974 = $1M by the end of 2011. Simple. Rich.
    • How much or how little money you have to invest doesn’t matter. “Put all your eggs in one basket, add more whenever you can and forget about it. The more you add the faster you’ll get there.”
  • Wealth Preservation and Building Portfolio
    • Nearing retirement? Want to lower your risk exposure to increase the likelihood you hold onto your money in the short term? How about a smoother growth curve? Time for asset allocation.
    • Sounds hards. It’s not.
    • 50% stocks. VTSAX.
    • 25% Real Estate. VGSLX and equity in real estate. Part XXII discusses why REITs are no longer in Collins’ portfolio.
    • 20% Bonds. VBTLX
    • 5% Cash.

“Part VII: Can everyone really retire a millionaire?”

  • “Compound interest is the most powerful force in the universe.” Albert Einstein
  • But it takes time
  • Whether or not someone is wealthy is relative. If someone limits their needs, they can be wealthy and financially independent for much less than someone that cannot.
  • Wealthy isn’t about how much you earn. It’s how much you spend.
  • Keeping with the trend of simplicity, to become financially independent, or in Layman’s terms to become rich:
    • Spend less than you earn
    • Invest the surplus
    • Avoid debt
  • The biggest thing preventing the typical person from becoming wealthy is excessive consumerism.
  • In the wealth-building years, focus on driving up your savings rate.
    • Savings rate of 10% = 38.3 years to retire.
    • Savings rate of 25% = 25.3 years to retire.
    • Savings rate of 50% = 14.3 years to retire.
    • Savings rate of 75% = 6.7 years to retire.

“Part VIII: The 401(k), 403(b), TSP, IRA & Roth Buckets”

  • Investments are owned within one of two buckets – ordinary and tax-advantaged buckets.
  • Investments in ordinary buckets are exposed to taxable events.
  • Investments in tax-advantaged buckets benefit from deferred taxes.
  • Investments that increase in value through tax-inefficient means, like paying interest, non-qualified dividends and taxable capital gains distributions should ideally be held in tax-advantaged accounts. This includes bonds
  • Investments that increase in value through tax-efficient means, like qualified dividends and avoid capital gains distributions, can be held in either ordinary or tax-advantaged accounts. This includes stocks like VTSAX.
  • Cash is about quick access, so it should be in ordinary.
  • Investment time horizon and tax bracket can alter this general guidance.
  • 401k
    • Taxed on exit.
    • Penalty on withdrawals before 59.5
    • Required minimum withdrawal after 70.5
  • Roth 401k
    • Taxed on entry, tax-free withdrawals after 59.5
    • Required minimum withdrawal after 70.5
  • Trad IRA
    • Taxed on exit (and entry if income is too high)
    • Penalty on withdrawals before 59.5
    • Required minimum withdrawal after 70.5
  • Roth IRA
    • Taxed on entry, can only contribute below certain income level
    • Tax-free withdrawals after 59.5
    • No penalty for early withdrawals
    • Withdraw as much as you like any time to fund first-time home purchase or pay for college expenses for you or children
    • NO required minimum withdrawal
  • Roth IRAs kick ass!
  • Especially if you fund a Roth IRA with tax-free money which came from a Traditional 401k->Traditional IRA rollover, or qualified contributions to a Traditional IRA
  • JL Collins’ hierarchy for investment money
    • “Fund 401(k)-type plans to the full employer match, if any.
    • Fully fund a Roth if your income is low enough that you are paying little or no income tax.
    • Once your income tax rate rises, fully fund a deductible IRA rather than the Roth.
    • Keep the Roth you started and just let it grow.
    • Finish funding the 401(k)-type plan to the max.
    • Consider funding a non-deductible IRA if your income is such that you cannot contribute to a deductible IRA or Roth IRA.
    • Fund your taxable account with any money left.”
  • General rule of thumb, when you leave an employer, leave their 401k plan by rolling over to an IRA that you can control
  • I didn’t think I would take many notes from this part… I was wrong.

“Part VIII-b: Should you avoid your company’s 401k?”

  • Beware fees in the funds offered through your employer’s 401k. It is possible in one’s unique situation that it is actually advisable to avoid a company’s 401k all together.
  • Lots of good stuff here. Just doesn’t apply to me.

“Part IX: Why I don’t like investment advisors”

  • JL Collins’ thoughts on money managers (and investment advisor, financial planners, brokers, and the like – “any and all who make their money managing yours.”)
    • Avoid them. “They are expensive and will rob you at worst.” HAHA
    • Instead, “seek advice cautiously and never give up control.”
    • “It’s your money and no one will care for it better than you.” If you know how…
    • “But many will try hard to make it theirs.”
  • I  agree, but…
    • If you have money problems, meaning you spend too damn much, this advice is the wrong advice. It’s like telling an alcoholic to not trust someone trying to help wean him off the bottle because no one will care for your well being better than you. Some people simply need help, and that help is valuable to some people.
    • Even people who don’t have money problems, people who are instead good with money, see value paying someone to manage their money. Grant it, these people likely haven’t read and comprehend the lessons in this stock series, but they’ve read a lot of financial books and have been successful in life. Rather, they want the red carpet treatment knowing someone else is taking care of everything for them, and they simply get to enjoy their earnings. Of course, low and behold, they are expensive and are likely robbing them, but the people I’m thinking of think of it as a fair shake.
  • Why his polarizing view? Simply because “what’s best for the client requires the advisor to do what is not best for themselves.”
  • If you don’t understand investments, your two choices are to learn to pick an advisor or learn to pick investments. Either way, it’s going to take time. One will net you hundreds of thousands of dollars over the long haul. One will cost you hundreds of thousands of dollars.
  • I should think long and hard about the benefits of using Wealthfront versus the long-term costs associated.

“Part X: What if Vanguard gets Nuked?”

  • Why Vanguard? It’s client-owned (it and you have your best interests in mind) and it operates at-cost.

“Part XI: International Funds”

  • Do you need to include international funds in your asset allocation if you’re investing in VTSAX and VBTLX? No.
  • Public companies give you international market exposure through their means of doing business internationally.
  • If you want additional exposure, Vanguard funds to consider: VFWAX (expense ratio of 0.14 compared to VTSAX 0.06) invests worldwide minus the USA. VTWSX (expense ratio of 0.27) worldwide + 50% in USA. Could replace VTSAX, but why… with 4x higher expense ratio.

“Part XII: Bonds”

  • Simplistically:
    • Bonds provide a hedge against deflation. Stocks=inflation hedge.
    • Bonds are less volatile and smooth out performance of stock-heavy portfolios.
    • Bonds are tax-inefficient investments as they earn interest.
    • Bonds are loans. Stocks are ownership.
  • Why VBTLX? Over 5,000 bonds, high investment grades to lower default risk, wide diversity of maturity dates to mitigate investment rate risk, broad range of terms to reduce inflation risk.
  • Lower graded bonds have a higher risk of default, inability to pay you back, and as a result will have higher interest rates associated with them.
  • Bonds you hold become more valuable when interest rates drop, the opposite if interest rates rise.
  • “When interest rates rise, bond prices fall.  When interest rates fall, bond prices rise.  In either case, if you hold a bond to the end of its term you will, barring default, get exactly what you paid for it.”
  • Bond term groupings:
    • Bills = short-term, 1-5 years, less risk to interest rate changes-less interest
    • Notes = mid-term, 6-12 years
    • Bonds = long-term, 12+ years
  • When inflation is expected to be low or deflationary, the opposite can be true. Short-term bonds can have higher interest rates than long-term.
  • JL COLLINS DROPPING SECRET KNOWLEDGE DEEP IN THE POST… whoa – he switched his personal bond allocation from VBTLX to VFIDX – Vanguard’s Intermediate-Term Investment Grade Bond fund.
  • … Check that, he’s now in VICSX – Vanguard’s Intermediate-Term Corporate Bond Index Fund Admiral Shares
  • … Nevermind, as of December 2017 back to VBTLX. I need to read about this in his Bond Experiment post.
  • Basically, based on what is going on with inflation and interest rates, optimize the bond fund to balance risk and returns.

“Part XIII: The 4% rule, withdrawal rates and how much can I spend anyway?”

  • An academic study by Trinity University looking at safe withdrawal rate success and failure from which the 4% rule was identified.
  • Collins provided his version of the Cliff Notes, which are good:
    • 3% is essentially a guarantee, 7% will lead to eating dog food
    • Stocks are critical to a portfolio’s survival rate.
    • If you absolutely, positively want a sure thing, and your yearly inflation raises, keep it under 4%.  Oh, and hold 75% stocks/25% bonds.
    • In fact, the authors of the study suggest you can withdraw up to 7% as long as you remain alert and flexible. That is, if the market takes a huge dive, cut back on your percent and spending until it recovers.
      • As I mentioned in Part IV’s summary, practice Stoicism.
  • 4% by itself isn’t a rule. It’s a guide, that needs to be combined with sensible flexibility to achieve security.

“Part XIV: Deflation, the ugly escort of Depressions.”

  • Good deflation is caused by technological advances that lower costs and increase productivity. What SpaceX is doing in space travel right now is an example. Moore’s Law is the ultimate example.
  • We’re not talking about that kind of deflation.

“Part XV: Target Retirement Funds, the simplest path to wealth of all”

  • Remember what the Trinity study taught: a healthy dose of stocks is important to a portfolio’s survival rate, especially once you start drawing out money.
  • Target retirement funds are funds of funds. They adjust the portfolio asset allocation as one approaches the intended retirement date.
  • Upside is simplicity.
  • Downside is higher fees, less control, potentially too conservative too early.
  • By using separate funds, you can keep VBTLX in tax-advantaged accounts to keep the interest from creating taxable events now.

“Part XVI: Index Funds are really just for lazy people, right?”

  • Index funds aren’t for lazy investors. They’re for smart investors who want the best possible result.
  • When deciding whether to buy index funds versus picking individual stocks, ask yourself this question, “Are you Warren Buffett?” No, then stick to index funds.
  • Caught this pro tip on a link JL Collins included to Richmond Savers:
    • “The wonderful thing about Vanguard is that once you’ve built your VTSMX fund balance up to $10,000 they automatically transfer your entire balance to the “Admiral” share VTSAX with the 0.05% expense ratio, so that’s a significant positive factor.”
    • Didn’t know that! Awesome!
    • Was pretty cool seeing JL Collins reference Brad at Richmond Savers in this way-back-when post. Brad is now co-host of the best FI podcast around, ChooseFI.
  • Warren Buffett’s advice to investors wanting to win at investing, “Consistently buy an S&P 500 low-cost index fund,” Warren Buffett.

“Part XVII: What if you can’t buy VTSAX? Or even Vanguard?”

  • If you can’t get VTSAX, any of these work
  • Vanguard Total Stock Market Index Portfolio hierarchy – expense ratio – minimum
    • VTSAX admiral shares – 0.05% – $10k
    • VTSMX investor shares – 0.17% – $3k
    • VTI ETF – 0.05% – >$0
    • Institutional shares for sponsored retirement plans
      • VITPX – 0.02% – $200M
      • VITNX – 0.04% – $100M
      • VITSX – 0.04% – $5M
  • Same exists for VBTLX
    • BND ETF – 0.05% – >$0
  • If you can’t get Vanguard, most other mutual fund companies now offer low-cost index funds structured similarly
  • If no total stock market index fund, an index fund tracking the S&P 500 is a suitable alternative

“Part XVIII: Investing in a raging bull”

  • Core investment philosophies are tested in a bull market. Know what yours are. Collins’ are good tenants to live by:
    • You cannot time the market
    • The market is the most powerful wealth building tool of all time
    • It always goes up
    • There will be dips, corrections, and chaos. Toughen up and ride them out.
    • Put your money to work as hard and as soon as possible.
  • The two emotions investors need to learn to deal with: fear and greed
  • Should I get into the market during a bull market when all experts are predicting an inevitable crash?
    • Wrong question. Right question: Should you invest in stocks at all?
    • Until you can come to grips with how the market works and sticking to your investment tenants, fear and greed will overcome you and you will lose.
    • Until you are comfortable with the risks associated with the market, do not invest.

“Part XIX: How to think about money”

  • “Stop thinking about what your money can buy. Start thinking about what your money can earn. And what the money it earns can earn.”

“Part XX: Early Retirement Withdrawal Strategies and Roth Conversion Ladders from a Mad Fientist”

  • The best strategy to access tax-advantaged savings before 59.5 years of age: the Roth IRA Conversion Ladder.
  • How to do this?
  • Step 1: Rollover 401k to a Traditional IRA. Note: if funds are in a Roth 401k, obviously roll them straight into a Roth IRA.
  • Convert some amount of the Traditional IRA into a Roth IRA. You pay ordinary income tax on the conversion. There is no income wage threshold preventing contributions when you do a backdoor Roth conversion. You just pay taxes. But take note, the amount you convert will increase your taxable income and potentially put you into a higher tax bracket.
  • 5 years after the conversion, the converted amount is available for withdrawal, tax and penalty free. Earnings on those investments need to remain invested until 59.5.
  • Until you have enough converted into a Roth + 5 years waiting before withdrawal, use taxable accounts to cover cost of living expenses.
  • The Mad Fientist, who wrote this part, added more at his site, including some sweet graphics which he’s really proud of.
  • The lower the tax bracket, the better off you are. If your income is low enough, it’s entirely possible to have the conversions done with NO tax liability.

Part XXI: Investing with Vanguard for Europeans

  • Guest post by EconoWiser for our European friends
  • My takeaway? USA! USA! USA!

Part XXII: Stepping away from REITs

  • REITs are in the portfolio as an inflation hedge, especially in case of hyperinflation
  • But in retrospect, he doesn’t feel he’s getting any better hedge against inflation that he already gets with VTSAX.
  • Stocks are not pieces of paper. They’re part ownership in real, working companies.
  • Land, by itself, is not a productive asset. Any capital gains on real estate is a product of something else.
  • REIT capital gains rely on changes in demand and supply rather than fundamental increase in productivity.
  • A better protection against inflation could be a higher exposure to international stock.

Part XXIII: Selecting your asset allocation

  • Look at investing in two stages – wealth acquisition and wealth preservation.
  • Some studies suggest a small percentage of bonds (10-20%0 actually) outperforms 100% stocks.
  • This is what Bernstein’s book details.
  • Vanguard’s retirement nest egg calculator looks like a fun one to check out
  • Key considerations with asset allocation
    • Rebalance – I prefer band-based rebalancing vs. time-based. Time-based seems arbitrary. I would rather rebalance when the allocation swings out of the set bands. But then again, if time-based is automated and band-based is not…
    • Be aware of where the rebalancing is going on in order to minimize capital gains exposure.
  • When should I increase bond allocation? Depends on risk tolerance.
  • Firm date for retirement in mind? Consider some bonds 5-10 years before.
  • Flexible date? Keep it in stocks for as long as you feel comfortable.
  • How to rebalance when investments are mixed between tax-advantaged and non-advantaged accounts?
    • All of your investments should be treated as a whole when figuring your allocation.
    • It is better to buy and sell in tax-advantaged accounts to avoid creating taxable events.
    • Unless the taxable event is a loss. Those you want to take in taxable accounts.

“Dividend Growth Investing”

  • While not technically part of the Stock Series, I’m interested to read his take on dividend growth investing strategies.
  • #1 reason to not focus on dividend growth investing, “With vanishingly rare exception Index Investing bests all other methods.”
  • #2 reason, dividends received in a taxable account = taxes due
  • With dividend stocks, you likely get a smoother ride and a steady stream of income. But make no mistake, in cases of severe market decline, companies have pulled back dividends. The cost you pay for a dividend growth allocation is lower potential growth.
  • You’re trading growth for income.