Creating a Virtual All-EFT Portfolio

I like ETFs.

I bought my first ETF, PowerShares Golden Dragon USX China (PGJ), in December 2004 and since then, I have gradually added a few more exchange-traded funds to my investment portfolio, such as PGJ, PHO, and VBR. In the past, I have thought about creating an all-ETF portfolio and attempted to build model ETF portfolios, but have never put my thoughts into action because

1. I already have a sizable portfolio built with mutual funds from the day I started investing and I have no plan to give it up and switch to ETFs only;
2. It won’t be cost efficient dollar-cost averaging ETFs because of the trading costs (unless a commission-free broker such as Zecco is used), though DCA isn’t necessarily the best investment method.

But I still love the idea of setting up my own all-ETF portfolio. Last year, when I discussed the idea of building model portfolios with ETFs, there weren’t a lot of choices in some asset classes, especially in the fixed income area. Things changed quite a bit since then with the introductions of a few bond ETFs, so there are more choices available, making the task of building my portfolio a little easier.

Asset Allocation

The asset allocation I want to have for this all-ETF portfolio is like this:

• Domestic stocks: 40%
• Foreign stocks: 30%
• REIT: 10%
  • Domestic REIT: 5%
  • Foreign REIT: 5%
• Precious metal: 10%
• Bond: 10%
  • Domestic bonds: 5%
  • Foreign bonds: 5%

Here, as you can see, I have 30% allocated for foreign stocks, not including those in the REIT and precious metal categories. I always feel that stocks from companies outside the U.S. offer greater growth opportunity (and, of course, the risks that come along with the opportunity), therefore a bigger exposure to foreign stocks will provide long term benefits for my investments. On the other hand, the bond allocation is relatively low. Well, given my time frame, I don’t want to go too conservative.

ETF Selections

So, I have the allocation. Now to implement my investments, I go to Morningstar’s ETF list, as well as my previous coverage on ETFs, and pick my selections for this all-ETF portfolio:

• Domestic stocks: SPDRs (SPY)
• Foreign stocks: iShares MSCI EAFE Index (EFA)
• Domestic REIT: Vanguard REIT Index ETF (VNQ)
• Foreign REIT: iShares S&P World ex-U.S. Property Index Fund (WPS)
• Precious metal: SPDR Gold Shares (GLD)
• Domestic bonds: Vanguard Intermediate-Term Bond ETF (BIV)
• Foreign bonds: SPDR Lehman International Treasury Bond (BWX)

I want to have the funds that 1) provide broader coverage of the markets; 2) cost less to own. Among my selections, some are popular (SPY and EFA) that have been established a long time and some are new (BIV and BWX) which don’t have tracking records. At this point, however, performance isn’t my top concern. Rather I want a low-cost, diversified portfolio with reasonable returns.

How to Invest

Since this is a virtual portfolio, I am not going to actually buy any of these ETFs. Other than that, I will treat it as a real investment and do what I am doing for my real investments: make regular purchases and rebalance the asset allocation periodically. As I mentioned early, buying ETFs, like buying individual stocks, involves trading costs. Thus, it’s not realistic to buy a few shares of ETF every month and pay anywhere from $4.95 (TradeKing) to $7.00 (Scottrade) per trade. The only exception is Zecco, which doesn’t charge any commission for the first 10 trades every month. Therefore, I will build this portfolio using Zecco (there are 7 funds in the portfolio, below the 10 trades per month limit) to purchase all 7 ETFs of my choices every month following the asset allocation.

I wonder how this portfolio will perform in 1 year, 2 years, 5 years ……

Any suggestions?

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