This is continuation of part II on my series on Retirement Portfolio’s. In this article, we will look at the 7Twelve Portfolio.
In my last blog article (see here), we looked at the Permanent Portfolio (PP). While PP provides broader diversification into asset types that are uncorrelated at the macro-level, the diversification is not quite as broad. For example, both the stock and the bond portion of the portfolio is solely made up of US assets with minimal diversification into the broader ex-US world.
As such, I was not quite satisfied with PP and I kept looking for portfolio ideas that are as appealing as PP but also more broadly diversified. And then, I happenstanced onto the 7Twelve Portfolio. I was hooked.
7Twelve Portfolio was first proposed by Dr Craig Israelsen, Ph.D. in 2008 with a follow up book on the topic titled, 7Twelve:A Diversified Portfolio with a Plan in 2010.
In his book, Dr Israelsen uses the analogy of “great salsa recipe” to explain his approach to designing 7Twelve portfolio as a well-diversified multi-asset portfolio. The book offers a comprehensive review of the 7Twelve portfolio and also offers a detailed recipe for construction the portfolio.
In addition to having written a book on the topic, Israelsen also maintains a website, http://7twelveportfolio.com/ , a rich resource for everything 7Twelve.
For the uninitiated, I will offer a brief summary of the portfolio and in the spirit of this blog, offer my analysis of portfolio returns.
For an in-depth look at this portfolio, check out Dr Israrelsen’s book. I would also like to recommend the blog article by WhiteCoatInvestor on this topic, which I found to be quite useful as I was preparing to write on this topic.
7Twelve Portfolio
7Twelve portfolio is comprised of 12 fund types covering 7 different asset classes. The chart below (from 7twelveportfolio.com) shows the break down of various asset classes in the portfolio.
In the spirit of “keep it simple”, each fund gets equal allocation of 1/12th of the portfolio money and is re-balanced annually. To quote Dr Israelsen, “If I were trying to juice the returns, I wouldn’t equally weight”, and I like it.
Given the above distribution of investments across the portfolio assets, 66.6 % of portfolio dollars are assigned to equity and alternative investment funds and the remainder to 33.3% are assigned to bond funds. This asset-distribution strategy mimics vanilla version of balanced portfolio with 60/40 split between stocks and bonds, but with more diversification.
There is a healthy mix of ex-US funds in both the equity and the bond component of the portfolio, something that was amiss with both the Buffet Portfolio and the Permanent Portfolio that we discussed in this series. Furthermore, 8.33 % of assets are also invested into real-estate fund, again something that is not name of the game in designing traditional retirement-portfolio’s.
Portfolio Construction
Chapter 14 of Dr Israelsen’s book presents a detailed list of funds options (from both mutual fund category and ETFs) to fill in each of the 12 slots within the 7Twelve Portfolio. However, the book was written in 2011 and since then the fund options to choose from has increased quite a bit.
A distilled version of Dr Israelsen’s list as well as additional funds now available, comprising of all ETF options for 7Twelve Portfolio is summarized in Table below:
| Fund Type | Source | Ticker | Expense Ratio | Inception Year |
|---|---|---|---|---|
| Large Cap US | From Book | IVV, SPY, IWB | 0.04, 0.09, 0.15 | 2000, 1993, 2000 |
| Additional | ITOT, VOO | 0.03, 0.04 | 2004, 2010 | |
| Mid Cap US | From Book | VO, IJH, IWR, MDY | 0.06, 0.07, 0.2, 0.25 | 2004, 2000, 2001, 1995 |
| Additional | SCHM | 0.05 | 2011 | |
| Small Cap US | From Book | VBR, IJS, JKL, IWN | 0.15, 0.25, 0.3, 0.33 | 2004, 2000, 2004, 2000 |
| Additional | SLYV, SLY, VIOV | 0.15, 0.15, 0.2 | 2000, 2005, 2010 | |
| Developed non-US Stocks | From Book | VEU, EFA | 0.25, 0.35 | 2007, 2001 |
| Additional | IEFA | 0.08 | 2012 | |
| Emerging non-US Stocks | From Book | VWO, GMM, EEM | 0.27, 0.59, 0.72 | 2005, 2007, 2003 |
| Additional | IEMG, SCHE | 0.14, 0.13 | 2012, 2010 | |
| Real Estate Fund | From Book | VNQ, RWR, ICF | 0.15, 0.25, 0.35 | 2004, 2001, 2001 |
| Additional | USRT, MORT | 0.08, 0.41 | 2007, 2011 | |
| Natural Resources | From Book | XLB, VAW, IGE | 0.14, 0.1, 0.48 | 1998, 2004, 2001 |
| Additional | FMAT | 0.08 | 2013 | |
| Commodity | From Book | GSG, DBC | 0.75, 0.83 | 2006, 2006 |
| Additional | ||||
| US Bond | From Book | BIV, BND, AGG | 0.07, 0.05, 0.05 | 2007, 2007, 2003 |
| Additional | ||||
| Treasury Inflation Protected | From Book | IPE, TIP, | 0.15, 0.2 | 2007, 2003 |
| Additional | SCHP | 0.05 | 2010 | |
| International Bond | From Book | IGOV, BWX, | 0.35, 0.5 | 2009, 2007 |
| Additional | BNDX, RIGS | 0.12, 0.17 | 2013, 2013 | |
| Cash Fund | From Book | No ETF suggestion | ||
| Additional | ICSH, ULST, SHV, NEAR | 0.08, 0.2, 0.15, 0.25 | 2013, 2013, 2007, 2013 | |
Given the sheer number of available options within each fund-category, the table can seem some-what overwhelming.
Below are some macro level observations that I want to share about the table:
- Several of the low cost ETF options to construct 7Twelve Portfolio are available from Vanguard.
- Within the last 4-5 years, in general, there is a significant increase in number of fund options with low expense ratio.
- The most expensive fund category to maintain within the 7Tweleve portfolio is the commodities fund category.
As it turns out, over the last several years, the commodities sector has fared significantly worse and is one fund category that has pulled down the performance of 7Tweleve portfolio down. This has raised the question in my mind, what would the 7Twelve Portfolio look like without the commodities fund present.
I would still have quite a diversified portfolio across all 7 asset classes, however, the name 7Twelve would no longer be quite suitable and we would be forced to rename the fund 7Eleven… Alas, the name 7Eleven is already taken..
Portfolio Performance
Dr Israelsen has found that for the decade spanning the period from 2000-2009, 7Twelve portfolio produced an average annualized return of 7.81 % with volatality of 15.11. Compare above numbers to S&P 500 returns for the same duration, -0.6 % with volatality of 19.57 (Source: macrotrends.net). The lost-decade, atleast from the perspective of 7Twelve portfolio was not lost indeed.
More recent performance numbers for 7Tweleve portfolio are available from the 7Tweleveportfolio.com website, reporting an annualized average returns of 7.71 % (portfolio made up of 12 actively managed funds) and 7.51 % (portfolio made up of 12 passively managed funds) for the 15 year period from 2002 through 2016
The exact composition of funds in the 7Twelve portfolio producing the above reported numbers is not freely available either on the website or in the book.
I therefore decided to construct a specific version of low-cost 7Twelve portfolio and track the portfolio’s performance relative to those of the Buffet Portfolio and the Permanent Portfolio for the most recent 5-year period.
For kicks, I also analyzed returns for a modified 7Twelve Portfolio without the commodity fund, which I call TTweleve-Minus One portfolio.
The four portfolio’s are summarized in Table below
| Portfolio-Name | Number of Funds | Portfolio-Composition | Average Expense-Ratio |
|---|---|---|---|
| Buffet Portfolio | 2 | ITOT, SHY | 0.09 |
| Permanent Portfolio | 4 | ITOT, TLT, SHY, IAU | 0.145 |
| 7Twelve-MinusOne Portfolio | 11 | ITOT, SCHM, VBR, VEU, SCHE, VNQ, VAW, AGG, SCHP, IGOV, SHV | 0.11 |
| 7Tweleve Portfolio | 12 | ITOT, SCHM, VBR, VEU, SCHE, VNQ, VAW, DBC, AGG, SCHP, IGOV, SHV | 0.17 |
The chart below shows the portfolio performance over the last 5-years. Each portfolio was re-balanced annually.
Quite unsurprisingly, for the time frame considered, cumulative returns on the Buffet-Portfolio has left all others in the dust. For each of the 5-years analyzed, annualized returns for BP was higher than any of the other portfolios. A clear demonstration of how well the US-stock markets fared during this period of bull-markets, that has continued on since March of 2009.
Both the 7Twelve and the 7Twelve-MinusOne portfolios fared quite a bit better than the Permanent Portfolio. The impact of commodities decline is also quite obvious in the better returns of 7Twelve-MinusOne portfolio relative to that of the 7Twelve portfolio.
To put the returns in perspective, let us look at the risk-return profile for each portfolio..
Quite interesting indeed.. the significantly larger gains in Buffet portfolio has come at the cost of significantly larger volatality.. It seems like for every percent gain in average annual returns, volatality increases by 5 points.
In bull markets, volatality typically occurs on the upside and is investors best friend. However, in bear markets, volatality is on the downside and can be quite fatal to one’s portfolio.
The average annual mortgage rates for 30-year fixed mortgage for the last 5 years has been around 3.86 % (source: FreddieMac). 7Tweleve portfolio’s average annual return for the same period according to my analysis above, has been 3.92 %. Not bad indeed for the degree of portfolio-volatility.
In summary, 7Twelve portfolio (may be 7Tweleve-MinusOne) is quite a strong contender for a retirement-portfolio, and quite worth of a second look as a serious contender as a retirement-portfolio strategy for DIY-investors to build a long-term sustainable nest egg.
Notes:
- ipython notebook (to reproduce charts presented in this blog article)
- Book: 7Twelve:A Diversified Portfolio with a Plan
- Blog: Whitecoatinvestor.com
- Website: 7Twelveportfolio.com