I love to see investors get all hot and passionate about index funds.
When writing about
index funds, I'll invariably mention a fund based on the broader
index as an alternative. I did that very thing in a
column last week about index investing, prompting a spirited dissent from reader
I would think the S&P 500 would be a better bet. You're getting some 85% to 90% of the Wilshire 5000 in the S&P 500, yet you're paying significantly fewer capital-gains taxes and transaction costs by not dealing with so many small companies. Why bother with the 5000?
There's a certain logic to this reader's argument. Unfortunately, it's not quite right.
The S&P 500 makes up 72% of the Wilshire 5000 in terms of market capitalization, according to
. So about three-quarters of the Wilshire 5000 is represented by the S&P 500. Not quite as much as Sean figures.
And yes, it would be expensive and impractical to own all of the stocks in the Wilshire index, particularly the tiny stocks at the bottom. But Vanguard's
Total Stock Market fund, which tracks the Wilshire 5000, only owns about 3,200 stocks. The fund uses a sampling process to replicate the index.
As for taxes, there is really no difference in the tax efficiency of the Total Stock Market index and the
Vanguard 500 Index, asserts Joel Dickson, a principal in the portfolio review group at Vanguard. "Over the last five years, each fund has lost about 1 percentage point a year in taxes for a high-income taxpayer," Dickson says.
Both portfolios use futures contracts to maintain liquidity. The Total Stock Market fund typically carries 3% to 4% of its assets in futures, while the 500 Index fund typically has less than 1% in futures, Dickson says. These futures contracts roll over every three months, which results in the Total Stock Market fund realizing some extra gains. If not for the higher allocation to futures, the Total Stock Market fund would be the more tax-efficient fund. That's because the Total Stock Market fund has lower turnover than the 500 Index fund, Dickson says.
In terms of transaction costs, there's certainly more liquidity in larger-cap stocks. Therefore, the trading costs are slightly higher in the Wilshire 5000 fund because it must trade some smaller names. But Dickson says the cost difference is "negligible."
As for returns, the smaller index has been ahead lately. Vanguard's 500 Index fund is up 7.3% this year, compared with 6.6% for the Total Stock Market fund, according to
. The funds have five-year average annual returns of 25.5% and 23%, respectively.
Tired of reading all those doubletalk-laden shareholder reports, I decided to write my own
fictional shareholder letter on Monday, accompanied by translations for some of the typical euphemisms used by fund managers.
followed up with his own list of euphemisms to watch out for. "Usually a simple keyword will tell you that your mutual fund manager's screwed up again," he writes. "If you find any of these words in your letter, run: 'despite'
'nevertheless,' 'unexpected,' 'surprising' or 'surprisingly,' 'unanticipated,' 'inexplicable' and 'abnormal.'"
Anything that will help investors wade through these badly written documents is surely appreciated.
column a couple of weeks ago on the poor quality of customer service at some fund companies continues to draw comments from readers.
Last week, one reader boldly called no-load fund companies "no-help" companies and sided with load firms.
had the opposite reaction: "I have always received excellent help from Vanguard and have never had problems with any phone representative from any other no-load company with which I have dealt. My worst phone experience was with
, where a phone rep once gave me affirmatively false information regarding the taxability of certain distributions and then argued with me when I pointed out that she was wrong. Last time I checked, the Franklin funds still carried one of the heftier loads of any major fund family."
Load fund companies might argue that you should talk to your adviser or broker rather than rely on customer-service reps when you have a question. You have, after all, paid for professional advice via the sales charge.
But I still think that a giant load company should provide decent customer service from phone reps. Your broker might be out playing golf when you need an answer.
Send your questions and comments, along with your full name, to
Dear Dagen aims to provide general fund information. Under no circumstances does the information in this column represent a recommendation to buy or sell funds or other securities.