Dear Dr. Don,
We are 65 and 60 respectively. I retired three years ago and have a portfolio valued at about $1.3 million. My 401(k) is worth about $650,000 and it’s all invested with one broker in funds that cost us an average of 0.93 percent in annual fees. I am thinking of moving it all over to index funds at another broker and rebalancing, which will cost us only 0.31 percent yearly. Is this a prudent move?
I have international, large, mid- and small-cap funds in the mix. There seems to be little talk about midcaps. Should I nix it and add the amount to the other three fund areas?
— Bill Begone
Annual fees aren’t unimportant. The 0.62 percent difference in annual fees on a $650,000 retirement portfolio is an additional $4,030 per year paid in fees. That said, fees aren’t the only thing to consider when deciding how to invest your portfolio. Odds are you have some actively managed funds in your retirement portfolio. Active funds tend to have higher annual expense ratios than index funds. Active managers try to beat the market, in contrast to index funds that try to match the market. Rebalancing your portfolio to broad-based, index funds should reduce your annual expense ratios, but you’ll also likely be changing your approach to investing.
Ignoring midcaps when investing because you haven’t heard much about them lately is a pretty poor justification for taking them out of the lineup. Investing in a domestic total market index fund gets you exposure to all three sizes of companies in equal measure to their market capitalization.
This type of broad-based index fund may have very low annual expense ratios.
Market capitalization, for the uninitiated, is the stock price times the number of shares outstanding. Not everyone agrees that market capitalization-weighted stock indexes are the best approach to indexing. Fundamental indexing has been proposed as an alternative to cap-weighted indexing. To frame the distinction, with fundamental indexing you seek to overweigh undervalued securities — not overweigh potentially overvalued securities.
You need to take a big-picture view of how all $1.3 million is invested, not just the retirement funds. You could use Bankrate’s asset allocation calculator as a starting point in rebalancing your portfolio, but realize that a do-it-yourself approach to rebalancing your portfolio can be a false economy, or an apparent short-term saving that eventually results in extra expense that could have been avoided. I’d suggest spending some of the expected savings on a fee-only financial planner.
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