In October 2014, I took my first plunge into automated stock investing, choosing Betterment out of a large and growing field of companies (affectionately referred to as Robo Advisers) that offer similar services.
See Article: Why I Put My Last $100,000 into Betterment
On this page, I’ll keep you up to date with quarterly results, and we’ll also learn more about how Betterment works, and investing in general.
Show Me The Money!
(results as of December 31, 2016)
The blue line in this handy graph shows the results of my real investment at Betterment. I started with $100,000*, and am allowing them to suck in and auto-invest another $1000 from my bank account every month as well as reinvest all dividends, to simulate a pretty typical scenario. As of New Year’s Eve 2016, I had put in $126,000, and the account balance including appreciation and dividends (and subtracting the fees charged by Betterment) is $137,646.
The red line is what would have happened if I had followed the same investment pattern with entirely US stocks through Vanguard’s excellent VTI Exchange-traded fund, and the yellow line is the same scenario if I had bought Vanguard’s “Everything Except the US” fund, which goes by the ticker symbol VXUS.
Why do I recommend this?
In one word: Simplicity. OK, maybe we could add a second word to that: Efficiency.
After almost four years of writing this blog and hearing from readers of all types, I find that the same question keeps coming up: “What is the single step I can do to get started in investing?”
With no knowledge at all, most people default to keeping their money in a savings account where it will earn them nothing. Others resort to a Wild West financial adviser whose claims and fees exceed his actual financial knowledge. Or speculate in individual stocks and try to time the market. None of these approaches are winners over the long run.
To combat this, I’ve always said “Just buy the Vanguard Total Market Index fund (ticker symbol VTI).” That gives you a near-optimal ownership of hundreds of companies, in single giant, stable, low-fee fund run by an honest company. Over time, this single investment will outperform over 90% of financial advisers and other funds, while letting you sleep well at night. To improve on VTI, you need to soak up a few more books about investing, general world finance, and asset allocation. And while this has always been my idea of a good time, I have learned that many people have other ideas for their weekends. And even those of us who read these investing books (myself included) often fail to execute the principles properly and consistently.
Betterment combines the (slight) advantages of more advanced investing, with an even simpler experience than you would get with just buying shares of VTI. In exchange, they charge a fee that is quite a bit lower than the advantage they deliver (and at least 85% less than most financial advisers), so in my view it is a win/win way to invest.
Hey, my Betterment account [underperformed or overperformed] the US stock market! Why?
Welcome to your first two lessons on investing:
- Short-term fluctuations (under 10 years) mean almost nothing.
When investing for lifetime wealth, you need to think about longer time periods than you’re used to. It doesn’t matter what your stock does right after you buy it. What matters is the average price as you sell it off in increments much later in life – which could be 20-80 years from now.For example: Imagine that I went back in time to October 14th, but instead of getting started with Betterment, I bought $100,000 of stock in the video game company Electronic Arts (EA). As luck would have it, those shares would have closed out 2014 worth about $143,000. Does that mean EA is a better investment than VTI? No, it’s just more volatile. In fact, if you had bought EA in 2003 and walked away until December 2015, you would have earned zero returns for the entire twelve year period. The company has never even paid a dividend. Individual stocks are a sucker’s bet.
- Your fancy new Betterment account contains more than just US stocks – this is a good thing!
The Vanguard fund VTI tracks the majority of US stocks. A Betterment porfolio tracks the majority of the developed world’s stocks. During late 2014 and 2015, US stocks happened to be on a rampage, while Europe and other countries hit a rocky patch. So my Betterment portfolio didn’t rise as quickly as the US market. At other times, the reverse happens: US stocks will fall dramatically, while other markets will fall less or even rise. On top of this, international stocks currently pay a much higher dividend yield. For every $100,000 of VTI you own, you’ll get $1780 in annual dividends. For an equal amount of VXUS, you will get $3370, or almost twice as much. In other words, international stocks are priced at a much more attractive level than US stocks, which in my book is a time to buy.
How about that Tax Loss Harvesting?
One of the features of Betterment is that their computers spend all day looking at the stock market while you are off doing other things. Occasionally, this leads to an opportunity to profit from volatility in the market. Selling some of your stuff to lock in a tax-deductible loss, while buying the same stuff through other funds so you remain fully invested.
As of early 2016, I am coming to realize that this feature works much better than I had expected. Take a look at this recent snapshot from my account :
Betterment has harvested $23,300 in deductible “losses” on an account with about $275k of taxable money in it (I have some of my other personal savings in Betterment besides the $116k I have put into the official betterment account, and I can’t separate the reporting).
The value of this is significant: a $23k deduction saves me over $7,000 in income taxes right now, which I can use to buy still more investments. If this $7,000 goes on to earn a conservative 7% ($490/year), it is already out-earning fees Betterment charges me (0.15% of $275,000 is only $412 per year). Forever. And that’s just the passive income from the first 16 months of tax loss harvesting!
In other words, in my opinion Betterment costs less than nothing to use due to TLH alone, even before you factor in the benefits of the automatic reallocation, better interface, or other features.
The bottom line is that you save on taxes today but end up with investments which have a lower cost basis. This means you’ll have more taxable gains when you eventually sell them But for many of us, this is years down the road in retirement when we have ditched the full-time salary and thus are in a lower tax bracket.
How this works in practice: So when I file taxes for 2015, I can subtract the $14,682 in short-term capital losses from other gains (such as the rental house I sold this year), or ordinary income. Betterment sends you a tax statement that you simply plug into your IRS tax forms, Turbo Tax, or hand to your accountant.
But this is not useful for everyone. For example:
- If you are using Betterment for an IRA rather than a taxable account, there is no such thing as Tax Loss Harvesting.
- If you are in a low income tax bracket right now, you might not have enough potential tax savings to make it worthwhile
- If your income ends up rising even after retirement (as has happened to me and many other early retirees), TLH might be counterproductive if you end up selling these shares into an even higher income stream in the future.
- If you have other investments outside of Betterment with similar or identical funds, you might find the IRS disallows Betterment’s harvested losses. I am in this boat, so I need to manually watch for “wash sales” and slightly decrease the deduction I take.
Even with the caveats above, it is a cool enough feature (and profitable for many) that I have enabled it so I’ll be able to report the results on this page.
This experiment is just getting started, so I look forward to years of profits and analysis to come!
Note: To be clear on the background, I did not get paid to write this or any other post, but Betterment does advertise on this site. See the affiliates policy if you’re curious how I handle blog income.
* I chose an allocation of 90% stocks, 10% bonds, which you do by moving a simple slider control on the Betterment website as you set up your account.
The price and dividend payment history of VXUS and VTI, which I used to generate the spreadsheet to make the graph above:
IndexView, a stock market analysis tool developed by an MMM reader just for your enjoyment and education: