Investment Moats

About 3 weeks ago, I did some number crunching on the longer term, historical returns of a diversified portfolio of high yield bonds.

This week, I decide to look at the emerging market bonds.

After looking at the data, I realize that the emerging market bonds are not too different from the high yield bonds.

They are more volatile but the difference is that… for some reason, as a basket, their lowest intermediate term returns tend to be positive, whearas on a 5-year basis, you have some 5-year period where high yield bonds will still be negative.

So let us get down to it.

Index to Look Into – JP Morgan EMBI Global Total Return Index

I was wondering which emerging market bond index to use so I thought what the heck, let me see what do some of the popular emerging market bond funds use:

1. JP Morgan EMBI Global Diversified Index
2. JP Morgan EMBI Global
3. JP Morgan CEMBI Diversified Total Return
4. JP Morgan EMBI Global Core

#1 tends to be the most popular. The iShares Emerging Market Bond ETF JPEA and EMB use #4.

I decided to go for the JP Morgan EMBI Global Total Return because I cannot be sure if the rest of the index I gotten factors in the interest coupon.

In any case, if you look at the difference between the JP Morgan Core, Diversified and the one I used since 1998, the difference is not too dissimilar.

If the iShares Emerging Market Bond ETF is benchmarked to the JP Morgan EMBI Core, then your performance might be better than what I am going to show you today.

What You are Investing In

Majority of the active funds invests in sovereign or government bonds issued by governments or government affiliated entities from the emerging markets.

The basket of bonds in the index are US dollar denominated but for active funds, some have ventured into non-US denominated bonds.

Thus, there is not much currency risk there. However, if the USD weakens or strengthen against your home currency (e.g. SGD), you might be hurt or benefit from it.

You can enlarge this illustration to get a better picture of the origination of the bonds. These are mainly emerging markets.

The top-left table comes from the emerging market bond ETF, which should be close to the market weight. The rest comes from various active funds.

If you ask me whether you should invest in a specific Argentina, I would wonder whether you are subjecting yourself to excessive default, inflation risk. You should do enough due diligence there.

As a collection of bonds, your risk might be diversified enough. Some governments will default, and the capital values will take a hit. But your capital should not be 100% impaired just because of that event.

This slide shows the credit quality of the emerging market bonds and the origination of the bonds. Majority tends to be BBB to B rated bonds issued by emerging market governments and quasi-governments.

It is interesting that not a lot of managers invest a sizable portion of their portfolio in non-rated bonds, which tend to be a favorite for Singapore bond investors (that is a story for another day).

The yield to maturity for the funds ranges from 4.1% to 6.3%. The iShares ETF yields close to 4.1% and for the other funds, they probably go down the maturity, geographical risk, credit risk spectrum to gather greater yield.

The weighted average tenure for the portfolios range from 6 to 9 years.

If you would like to contrast this to the high yield bonds:

1. Yield to Worst: 6.51%
2. Time to Maturity: 6.85 years

So the high yield bonds have a higher yield and roughly shorter duration than emerging market bonds.

5-Year Rolling Returns of the JP Morgan EMBI Global Total Return Index

In the short term, whether bonds, equities, the market is a voting machine.

In the long term, the market is a weighing machine.

If we examine the 5-year rolling returns, we would be able to see the possible returns on an intermediate term basis.

We have data from 1994 to 2020. That is about 26.5 calendar years.

One thing I find quite encouraging is that on an intermediate-term basis, the basket of emerging market bonds is positive over the 257 5-year periods.

In some of the 5-year periods such as the 5-year period starting in Sep 1998, the annualized return is 17.5% a year. That means over the 5-year period, the cumulative return is 124%.

But there are also periods such as the 5-year period starting in Nov 2003, where the annualized return is 3.5% a year and the cumulative return is 18.7%.

Your returns will depend on the market conditions.

What this tells us is that your returns matters more if you have $5 million. This $5 million is the majority of your net wealth. And you are thinking whether this is a good time to invest.

The opportunity cost of you putting in $5 million and this end up to be at the peak is much higher than if you are an accumulator.

If you are an accumulator who has a 15-25 year horizon, some of your money will earn 19% a year over the 5 years and some of your money will earn 3.5% a year over 5 years.

Your returns are smoothed out.

The sequence of returns do matter but that is a story for another day.

10-Year Rolling Returns of the JP Morgan EMBI Global Total Return Index

We do not have a lot of 10-year periods. There is only 197 of them as we rolling month-by-month.

Over a 10-year period, the annualized returns is more smoothed out. Instead of the lowest 5-year return being 2.4% a year, the lowest 10-year return is 4.4% a year.

Unfortunately, we also see that the 10-year return starts drifting downwards. The returns used to be very high at 10% a year but it gradually proceed downwards such that its closer to 5% a year.

Comparison against Equities, Aggregate Bond and High Yield

In my last article, I compared the High yield bond index against the MSCI World and a balanced portfolio.

This time I will compare the 5-year annualized rolling returns against the MSCI World, Bloomberg Barclays Aggregate Bond Fund, Bloomberg Barclays High Yield Fund and a 60% MSCI World/40% Aggregate Bond fund.

When we overlay so many lines, it looks like a real mess.

The blue line, representing the BB Global Aggregate Bond fund is so consistent, and it slowly weaken from 8.5% a year to 3.3% a year.

At equity market peaks and thoroughs, the rest of the 4 are pretty closely correlated. All crash in 1997-1998, 2008 and did well in 1994, 2003, 2009.

We might wonder whether diversification helps.

I think diversification has its use

1. The magnitude of the drawdowns are different. A mixture of these asset classes may make your whole experience much more livable.
2. In normal times, we can see that high yield and emerging market bonds are less correlated to the BBGA, MSCI World and a balanced fund. Diversification may result in a very different return profile

Comparing the High Yield, Emerging Market and Aggregate Bonds

Let us get away from that mess and look at just the bonds.

One thing I noticed is that in recent times, whether its high yield, emerging markets or aggregate bonds, they all approach very similar returns profile.

I wonder if that is the new normal.

There don’t seem to be a risk component to returns anymore.

I always had the impression that the high yield and emerging market bonds have very similar profile and in a way you can see that they generally move quite closely in lock-step.

However, high yield bonds do looked riskier than emerging market. The 5-year rolling returns tend to be higher and lower than emerging market bonds. Emerging market bonds did outperform the high yield in the 1994 to 2003 period.

The actual timeline is between 1999 to 2008, which is a period where emerging markets did very well.

If emerging market does return again, we might see this outperformance again.

Creating a Portfolio of Equities, Aggregate Bond, Emerging Market, and High Yield Bonds

I was thinking of an interesting thought experiment of creating a portfolio that is equal weighted between equities, bonds, emerging market bonds and high yield bond.

So I decide to combine the returns and see how the performance like. Now, this is the worst possible way to compute returns. Essentially, it is like I have 4 different funds that I have never rebalanced for 5 years and then I compare the returns.

In any case, I am in a pretty lazy mood so this is the best I came up with.

You would observe that the combined portfolio, represented as “25% Mixture” is engulfed within the MSCI World rolling returns.

Since both the high yield and emerging market bonds have a volatility profile similar to a balanced portfolio and the aggregate bond has lower volatility, the resultant portfolio has a volatility.

But lower volatility also means at times, the MSCI World have greater returns. The equity markets have greater returns in recent years (observe the 12.3% a year return vs 5.9% a year return for the period starting in 2012).

But if your heart cannot take it, a combination of the 4 might be more livable. Just be sure that you do not need a high return to reach your goal. If you need to, then you might need a higher equity allocation.

Volatility

Let us compare the emerging market bond index’s performance volatility versus the equity and high yield bonds:

From the looks of things, emerging market bonds tend to be between high yield bonds and equities.

However if we examine closely, this data might be tainted by the period where emerging market was exceptionally volatile. If we take out that period, emerging market bonds tend to be less volatile then high yield bonds.

That seem to coincide with the Asian financial crisis, Long term capital management debacle and Dot Com bubble.

The chart above shows the magnitude of price fall possible for the index. This might explain partially the higher volatility in the 1990s.

Emerging market bonds have a milder drawdown compared to high yield bonds most of the time. However, this does not mean you are able to avoid periods where the drawdown can get pretty wild.

The greatest draw down is -30%.

Compared to equities, this may be much more mangaeble psychologically (I think).

If we tabulate these drawdowns, you can recover from most within 1.6 years.

This is a pretty fast recovery.

The iShares J.P. Morgan $ EM Bond UCITS ETF – JPEA (USD Accumulating) or IEMB (USD Distributing)

There are a few active unit trusts that allows you to have exposure to emerging market bonds.

But there is also an iShares UCITS ETF that allows you to have exposure to emerging market bonds. There are a few share classes

1. USD Accumulating (reinvest dividend)
2. USD Distributing (pays you dividend)
3. CHF, EUR, MX Hedged Accumulating
4. GBP Hedge Distributing

The Fund seeks to track the performance of an index composed of US Dollar-denominated bonds from Emerging Market countries. The fund seeks to mirror the JP Morgan EMBI Global Core Index.

Like most funds, the accumulating share class tends to be newer but you can reference the performance of the distributing share class which has been around since 2008.

I have this suspicion that there are no withholding taxes on the dividend payments.

Summary

In a world where it is getting tougher to find good yielding bonds, we may be forced to go up the risk spectrum to search for yield.

There is no magic pill to this problem. We have to take on more volatility to get higher yield. The problem with taking on more volatility is that it may expose us to more investing mistakes because living with volatility is uncomfortable.

The magic pill here may be to purchase higher risk bonds as a basket. This reduces the risk when a group of bond default, it does not totally impair your capital.

That diversification may eliminate credit risks, default risks but it does not eliminate other risks such as falling interest rates and volatility.

Notice again that we assess the portfolio based on total return instead of just looking at the prevailing yield. Rid the Habit of only focus on yield but focus on total return.

If you take a more passive approach to invest and think some of these more data-driven articles would benefit your wealth-building, you can check out this VWRA vs IWDA article, the beauty of high yield bonds, and this DFA Global Core rolling returns article on Providend written by yours truly.

Do Like Me on Facebook. I share some tidbits that is not on the blog post there often. You can also choose to subscribe to my content via email below.

I break down my resources according to these topics:

1. Building Your Wealth Foundation – If you know and apply these simple financial concepts, your long term wealth should be pretty well managed. Find out what they are
2. Active Investing – For the active stock investors. My deeper thoughts from my stock investing experience
3. Learning about REITs – My Free “Course” on REIT Investing for Beginners and Seasoned Investors
4. Dividend Stock Tracker – Track all the common 4-10% yielding dividend stocks in SG
5. Free Stock Portfolio Tracking Google Sheets that many love
6. Retirement Planning, Financial Independence and Spending down money – My deep dive into how much you need to achieve these, and the different ways you can be financially free
7. Providend – Where I work doing research. Fee-Only Advisory. No Commissions. Financial Independence Advisers and Retirement Specialists. No charge for the first meeting to understand how it works

To quit right now might seem to be the absolute worst thing to do.

Yet for one reader, this has been something he has been contemplating for a few weeks.

I told a lot of people it will be pure suicidal to come and ask someone who spent most of his time at the lower end of the totem pole than someone close to the top.

Yet, my reader wishes to try his luck to see whether I was plagued with this dilemma in the past and how I got round this. To be fair, his initial idea was to ask me about the money side of things.

Managing People with Aggressive Attitudes

My reader works as a product manager. His work involves managing and coordinating the development of physical products including engineering, procurement all the way to support.

Recently, he just felt very stress at work. It got to a point where he wonders whether it is a good idea to quit.

He felt that there is not a lot of future in this field as he sees that people can easily come in and pickup quite easily what he does if he decides to quit.

He is working most weekends right now writing documents that he thinks he should not be writing, coordinating over the smallest of tasks.

In the past 6 to 8 weeks, the work load has increase for him substantially.

One of the frustrating things for him was that there has been a turnover of team members and let us just say that his new team members are… more aggressive people and difficult to manage.

If he quits now, there is no job lined up. Prior to Covid-19, he was still getting some offers from small, tech startup.

If you read enough of Investment Moats, sometimes you will be poisoned enough to ask what are the possibilities of your wealth and whether it enables to you quit and be financially independent in some ways.

And this is what he consulted me about.

Think About the Levers That You Can Pull At Work

This is how I would model this problem:

It is a little small so you may need to expand it.

While my reader asked me about the money aspect of the decision, I think in many cases, the top determining factors tend to be his situation at work.

In my reader’s case, a lot will rest upon his threshold of tolerance at work. That will determine the course of action he should take.

In his case, I felt that there is a lot of pent up frustration that are collected, and in recent weeks, the amount of frustrations collected short up.

There are times that you could see some light and work through these work frustrations but there are other times that it would be better to have a fresh start.

The interesting situation is that currently, it might not be the best time to quit due to the labor supply and demand dynamics.

The Health of Your Finances May Determines Your Course of Action… To a Certain Extent

Whether he can presevere on or not, having a healthy wealth situation will affect his decision making.

If he is not in a very financially healthy position, the in both cases his response would be to

1. Start looking for jobs, just to get away from this “toxic environment”
2. If he is struggling with certain aspect of the work, look to see if any peers or if he is in a good organisation, whether there are some mentors he could talk to, so as to manage the situation better
3. If not, he would have to struggle to get better and endure.

Options are limited and if he were to quit now, the risks is even higher.

However, if financially he more healthy, it would be prudent for him to continuoe to look for jobs. The difference is that he could make more bold decisions, that may potentially blow up.

He could better afford to do that because if he cannot persevere and he is financially healthy, those bold actions might result in him improving his managerial competency, or change the working environment.

In both cases, it would give him a more livable work environment. He can then wait until the timing is better before moving on.

It also gives him possibly 4 more years to reach a better financial position, where his wealth machine produces a wealth cash flow that covers a larger portion of his survival expenses for 50 to 60 years.

Even if he can endure, some of the bold moves might potentially make his position untenable.

In this case, it is still a livable consequence because his original idea was to quit. In a few of these paths, you would realize at least he gave it a try before quiting.

If his reputation and working relationship is still amicable, it will depend whether he can continue to endure. If he could not, he will go to the right side of the entire decision tree and if he could, he can continue to struggle.

What is Considered Financially Healthy?

My reader initially wanted to explore whether his cash flow from his portfolio is enough for him to call it quits.

I explained to him that instead of thinking whether his portfolio, at X% dividend yield, is able to give him $Y, which is enough for his annual expense, queue up all his wealth and see how long of a runway he has before his situation becomes dire.

For example, he explain that to maintain his current lifestyle, he can work with $1,500 a month.

Perhaps for survival, he can work with $1,000 a month. That is $12,000 a year.

If he adds up all his assets, less his liabilities, he will get his net wealth.

Arrange them in order of liquidity, with cash in front, and the next liquid assets next. Calculate the amount.

I suspect that he has enough that is closer to $120,000.

That gives him a runway of 120 months or 12 years. Sure, this expense is not inflation-adjusted, that that is a quick and dirty way of figuring out how long of a runway he has.

Knowing you have 10 to 12 years of runway to get the next job, or get a career in a new domain kickstarted.

The alternative is to determine the amount of cash flow he can withdraw, yet keep his net wealth from severely depleted.

I have 2 suggestion.

The first suggestion is to determine the cash flow he can take out and he would likely not deplete his net wealth for 50-60 years. That will be to withdraw 3% for the initial year.

Assuming he has $120,000, that means he will withdraw $3,600 to spend a year. That will probably last him for 3 months.

The second suggestion is to be more rational. We know that my reader is too young and will earn income next time. This is just possibly a 1-year stopgap.

We can be bold to allow him to spend 5-8% of his net wealth. He would eventually replenish his net wealth from his work next time. That will bring him about $6,000 to $9,600 a year.

As you can see, framing the utility of my reader’s wealth in terms of a perpetual wealth machine can be rather challenging.

I think for most people, there are

1. a phase where their net wealth is more useful as a long runway for transition and
2. in the next phase, their net wealth has the potential to give them financial independence.

Had my reader said his net wealth is close to $300,000, with his essential expenses at $12,000 a year, I would say he has a relatively high chance he can take a longer sabbatical from work.

But make no mistake, if he has $120,000, he is in a wildly good financial situation to make a more risky, calculated decisions.

The Playbook if He Quits

The way I laid out the decision tree is to buy enough time to start looking for jobs even before he quits.

If it ends up with him deciding the better choice is to quit, then the first thing is to get into siege mode in terms of expenses and course of action.

My article on What You Should Do if You Lost Your Job or Lost Your Income Temporarily is a must-read.

For my reader, he probably has enough run way of 10 months to 1 year to reskill into a new domain or find a job in his current domain.

A Part-time Job May Alleviate the Expenses

The labour demand and supply dynamics makes this suggestion a bit challenging.

But I am trying to be open-minded that my reader have some unique talents that he could do some work in an industry that has not been pulverized by Covid-19.

If he is able to, it will drastically lengthen his runway, while maybe give him enough bandwidth to retool or find the next job.

Is it Normal to Feel His Frustrations?

Sometimes you do not know whether it is unique to feel this form of frustration.

I do not have enough experience to say I know this well, but I do tend to think that work frustrations just translates to one form or another.

If he gets to another job, the work dynamics may mean that stress is felt in a different form. Another aspect of his job may become frustrating.

It seldom goes away.

But of course you could work in a place in a scope that has very little things that frustrate you.

When I join the new firm 1 year ago, I experienced this first hand that what was stress in the past gets alleviated but replaced by stress in other areas.

Another Job Might Not be An Improvement Over the Current Job

There are two kinds of job that awaits.

The first one is a new role created due to the demands of the customers. These jobs tend to be growth based.

The second one is an existing role that is available because someone leaves.

The stresses in both are different.

The second one tends to be a mixed bag. If someone left because she found a better offer then this job might be okay.

However, a lot of times, people leaves a job because it is either hard, too stressful, or the culture is too toxic.

And if you get in, you jump into it. It may make you wonder if you make the right decision.

Based on some of the things shared, I felt that if he goes into another place, he would experienced the same thing.

The Biggest Worry on My Mind

If you ask me, what is tougher: portfolio allocation advise or career advise, in this case I would say the career one.

At this point his human capital potential is much larger and if we jeopardize that, the impact will be far larger.

I felt that the insecurity we have here is whether it is career suicide to quit now, take too long of a break and end up being damaged goods.

On one end, employers might be aware that there will be a lot of people looking for a job or are without a job during this period.

If he emerges from this period without a job, or if he shows on his resume some conscientiousness to upskill and do some jobs to improve his situation, this might not be so bad.

Is the Product Manager or Project Manager Role a Fading Career?

My reader felt that there isn’t a lot of value in a project coordinator, manager or product manager role.

Perhaps his experience learning programming have exposed him to what is considered of value.

I am not sure if the industry have passed so much but I do think there will be some one looking for a competent coordinator or project manager.

Another person could replace you, but could the person do as well as you?

There will always be something that needs to be managed, so I find it interesting he holds the view that this may be a dying trade.

If these are fading careers, then I fear for a lot of my ex-colleagues. My fellow readers could educate me here whether he is right.

I got a feeling it is not.

But to do well in this role, it does need to come with a skillset that is a mixture of

1. A good planner
2. Good EQ and good communicator
3. Be willing to actively work with stakeholders
4. Good critical thinking
5. Adequate knowledge of the domain that you are managing

Conclusion

Whenever we have an ex-colleague leave us, I never could ask him or her whether leaving the company was the best decision.

I would think that to save face, most of us would say that leaving has a lot of pros, outweighing the cons.

I been fortunate that I did not have to fight in that environment before, so my default answer to the reader would be can you endure and make the best out of the situation.

His portfolio has not reached the size where it is able to provide consistent, recurring income that covers his needs. The portfolio could cover part of the essential expenses and that is a pretty good situation.

However, if we frame it as a personal, temporary social security program, then it is very functional.

What goes through my mind is that everyone needs to work on a second possible human capital alternative in their lives. And this is probably something that I will write about in the future.

A second possible human capital alternative is not having a passive stream of income from your wealth machine or something. Building on a wealth machine needs to be a consistent, ongoing process.

That is more like developing a skillset to an extent that if the first one does not work out, you have a second career that you can move into. For example, some of us have the interest in cooking, but we only cook so that the skill fed ourselves. However, there are some that was able to deepen their skills that the quality of food they prepared may be in demand.

Something along that lines.

Anyway, that does not solve the current issue.

If you have some good views about my reader’s situation, or you have an opening in something similar, do let me know.

Do Like Me on Facebook. I share some tidbits that is not on the blog post there often. You can also choose to subscribe to my content via email below.

I break down my resources according to these topics:

1. Building Your Wealth Foundation – If you know and apply these simple financial concepts, your long term wealth should be pretty well managed. Find out what they are
2. Active Investing – For the active stock investors. My deeper thoughts from my stock investing experience
3. Learning about REITs – My Free “Course” on REIT Investing for Beginners and Seasoned Investors
4. Dividend Stock Tracker – Track all the common 4-10% yielding dividend stocks in SG
5. Free Stock Portfolio Tracking Google Sheets that many love
6. Retirement Planning, Financial Independence and Spending down money – My deep dive into how much you need to achieve these, and the different ways you can be financially free
7. Providend – Where I work doing research. Fee-Only Advisory. No Commissions. Financial Independence Advisers and Retirement Specialists. No charge for the first meeting to understand how it works

I got to apologize that I may not have communicated something very well. I have shown everyone how to apply and set up their interactive brokers to trade.

However, I have failed to explain clearly that there is a monthly activity fee charged. This activity fee goes away if your account balance is greater than US$100,000.

It is not that I wish to hide this from readers but that there are many things to explain about. I felt it is better to explain the cost aspect today.

This post explore how competitive Interactive Brokers is when it comes to commissions for trading stocks.

Specifically, my focus will be on the trading cost if you wish to do-it-yourself to create a low-cost, passive portfolio with exchange traded funds.

If you are less interested in exploring Interactive Brokers as a platform for that, but to trade or invest in a portfolio of individual stocks, I am sure there are some useful takeaways as well.

This post will not explore the trading cost for options, futures, forex, spot currencies, fixed income, fixed income (which should be just as competitive)

A Monthly Activity Fee if Account Value is Less than US$100,000

Different brokers have different fee structures.

For traditional brokers, they levied dividend handling fees and custodian fees if you trade oversea stocks through them. Their commission and forex conversion costs could be much higher.

Interactive Brokers do not have dividend handling fees or custodian fees (however, like all brokerages, for atypical requests, they do levy fees).

Their currency conversion costs are among the lowest, if not the lowest.

They do not have an account minimum as well.

However, if you start with a small capital balance (in IB language that will be Net Liquidation Value) that is less than US$100,000, there will be a monthly activity fee levied.

You can go to this page to find out more information.

Let us go through some permutations.

If your net liquidation value is more than USD $100,000, no monthly activity is levied. For the first three full calendar months, the monthly activity fee is also waived.

If your total monthly commission for the month is US$7, then your monthly activity fee is US$10 – US$7 = US$3.

This means that IB does not double charge you. If you trade more, there will be no activity fee.

If your total monthly commission is more than US$10, there will be no activity fee.

If the capital in your account is less than US$2000 the monthly activity fee is US$20 fewer commissions paid.

If you are less than 25 years old, the monthly activity fee is US$3 less commissions paid.

This maintenance fee, is less of a problem for traders with account value less than US$100,000 because their commissions would likely aggregate close to US$10.

However, if your investment strategy requires you to watch your costs, then this activity fee may be a problem.

With that, let’s discuss how competitive is Interactive Brokers’ commission pricing.

Understand the Cost Stack

If you would like to compare the cost between different brokers, it can be very daunting because you do not know about what are the costs to consider.

Just like in my comprehensive guide to investing in Dimensional Fund Advisors, you should look at what you need to pay as a “cost stack”. This is a set of costs that you would have to pay.

In general the cost stack would look like this:

1. Broker commission. What your broker charge you to make the transaction
2. Exchange and Clearing fees. The exchange where the shares are listed would typically charge a clearing fee. Some exchanges such as Hong Kong will have stamp duty fees. Some exchanges will have exchange fees.
3. Forex conversion cost. if you are purchasing shares in a currency different from your home currency, someone would have to help you convert the money in your home currency to that of the foreign currency. This can be done by your bank, a third party agent like Transferwise, or your broker

This do not include a few other costs that you should think about if you are a fund investors such as bid/ask spread, tracking error, dividend withholding charges.

This article is meant to be more general, so let us keep to those three category of fees.

Interactive Brokers is Cheaper If Your Trading Size is Larger.

I find that trying to identify the broker that can give you the cheapest cost is very difficult because every one of us is different:

1. Some of us trade exclusive on Singapore market, some are trying to get exposure to Netherlands. Some brokers have access to some exchanges some do not
2. Due to our circumstances, our trade size is also different. Different brokers are competitive on different levels
3. Our frequency of trading can be different as well

To know whether Interactive Brokers is right for you, think about your needs by considering the following:

1. How much in a year you would like to invest?
2. What is the frequency of your trade? Are you a trader that likely make 5 to 15 trades a month?
3. Which exchange do you wish to trade on and which broker gives you access to it at a better rate

For those of us who would like to form a passive, low-cost portfolio with exchange-traded funds, cflee from HardwarezZone’s ShinyThings Club thread created this awesome Google Spreadsheet that helps you figure out going to which broker is cheaper if you would like to form a three-fund portfolio.

cflee understands that if your total capital balance in Interactive Brokers is less than US$100,000, there is a US$10 monthly activity fee.

So your mileage may vary and that other brokers such as Standard Chartered Online Trading, which enables you access to vibrant ETF markets like London Stock Exchange my be more competitive.

What you can do is go to File > Make a copy in Google Sheets and you can put in your frequency of trade and monthly investment and see what works for you.

I went through some of the numbers and though I share it with you.

The context of this discussion is that you are willing to invest $X a year into some exchange traded funds, at different frequency. You are likely not going to be a frequent trader (if you are you may gain some insights from this data as well)

Total Cost Comparison Between Interactive Brokers and Standard Chartered Online Trading

Why did cflee use Standard Chartered Online Trading (SCB) out of all the brokers?

The reason he chose that is because, other than DBS Vickers and Saxo, SCB is the only one that gives you access to the UCITS ETFs listed on the London Stock Exchange.

There are other brokers now that are cheaper than SCB. Two that you can consider is FSMOne and the new Tiger Broker (which ironically Interactive Brokers have a stake in it)

SCB’s overseas commission rate is 0.25% with a minimum commission of $10.70 with GST. With FSMOne and Tiger Brokers, they can reach 0.08% with a minimum commission of roughly SG$10.

So clearly FSMOne and Tiger Broker can be as competitive as Interactive Brokers. The issue is that both Tiger Brokers and FSMOne currently do not allow you to trade on the London Stock Exchange (where the UCTIS ETF is listed) but if you wish to have low-cost general trading options, those two platforms are worth considering.

cflee factored in a lot of costs so that you can compare the total annual cost between different options. He even goes as far as computing the opportunity cost of sitting on cash an only invest once a year or twice a year. I think that is certainly valid but I would take that out of comparison because I am not sure in reality whether the effect is big or small.

I decided to put in some capital balance at a different frequency to evaluate the difference in cost:

You may have a fixed amount that you wish to invest that range from $6,000 a year to $100,000 a year. You may invest once a year, half yearly or quarterly.

You may have enough to consolidate $100,000 in Interactive Brokers account so that you can bypass the $10 monthly activity fee or you may not.

So in the table above, you can appreciate the annual cost of investing that said amount.

There are two sets of commission structure for Interactive Brokers:

1. Tiered – The commission charged depends on your trade size. If the size is smaller the commission is lower and as it goes up the commission is higher. Clearing and Exchange fees are seperated from the commission. For some who starts off smaller, this one would be more ideal.
2. Fixed – Interactive brokers charged a fixed commission. This commission factors in clearing and exchange fees.

We will discuss on fixed and tiered later. For most of us, tiered commission structure is cheaper.

That said many of us may not have factored in all the fees. Thus, cflee’s spreadsheet did this for us and you will realize actually the difference in a lot of case is not too much (compare the IB Tiered vs IB Fixed).

To allow you to compare against other prospective brokers, I have compiled the annual investment cost as a percentage of the annual amount to invest.

In this way, I think it is clearer.

Some observations:

1. If your capital balances are less than US$100,000, brokers such as SCB and possibly FSMOne, tiger brokers are cheaper.
   1. The cut off is about $2000 a month or $24,000 a year
2. If you reduce the execution frequency your total annual investment cost goes down. But there is a question of whether you missed out on returns and there is an opportunity cost. Kyith’s opinion: In theory yes, but also in theory the difference may be small.
3. In some cases, the tiered is cheaper and in some cases, the fixed cost is cheaper.
4. Generally, the cost difference in the grand scheme of things is very small.

With this annual investment cost, you can compare against other brokers.

But do note, if you wish to compare well, remember to do what he does:

1. factor in cost of currency conversion
2. exchange and clearing fees

Interactive Brokers have a currency advantage in that the conversion cost is about S$2.80 flat plus a rate of 0.2 basis points (this reads 0.00002% vs the 0.30% of SCB and 0.50% of some traditional brokers)

So do bake in the costs and see which one is better.

Consider Your Willingness to Commit to the Interactive Brokers Platform

What may be holding some of you back is the US$10 monthly activity fee if your capital balance is less than US$100,000.

Some of your reasons for being apprehensive about this fee may be valid but in other cases it may not be.

I think your main decision point is whether you see the appeal of IB as a platform to consolidate a lot of your stock holdings.

If you are willing to at least try and build your wealth up and consolidate, and feel that Interactive Brokers is a platform you are willing to invest in, then consider starting with them.

However, if you are unwilling to commit, and prefer other platforms without this hurdle, then you might wish to evaluate other options.

Somewhat, I feel that there should be other factors then just very low cost.

I used to buy into the idea that if you are willing to commit, even if you do not have US$100,000 start with the platform first.

The data tells me maybe you should spend some time building up capital.

I tried to model how cost goes down as you commit longer to the IB platform.

1. I have S$24,000 a year to invest
2. IB Fixed Tier commission rate
3. Invest in a LSE ETF

It would take roughly 5 years to hit US$100,000 in capital balances. Before that your total commission fee for the year is $120 a year (this is less accurate versus cflee’s calculator. His figure will work out to be $166 a year.)

If you look at column 12, the IBKR expense, which is made up of commission and activity fee, it starts at 0.69% but gradually goes down to a very manageable level.

But if we look at column 11, where I compute the total cumulative fees paid up to that year divided by the total cumulative money I put in, the cost does go down.

However, after 20 years, the cost basis is still 0.25%. For some of you, if your total cost paid is still 0.25%, you may be disappointed.

My push back to that is…. for many of us older birds, our average cost of trading have been higher than 0.25% for a long time, and we survive on that.

If you cannot live with this activity fee, then use another platform and select Interactive Brokers when your potential capital balance is higher.

Here are some other considerations:

1. Commission cost is a one time cost unlike a AUM fee
2. Your existing commission structure may be as high as 0.69%, if you factor in the currency conversion. At my traditional broker, the currency conversion could be as high as 0.50%. So the hurdle to move over may not be that big

Interactive Brokers Tiered Commission Structure

In the tier commission structure, you are charged based on your trade size. Different markets have different tiers.

You can review the commission pricing here. You can also find the exchange and clearing fees there.

Let me highlight some common ones:

Most of us should trade with a volume of less than 300k shares. The minimum commission is US$0.35 which is very cheap.

The report above shows the tiered comission. The report typically seprates exchange and clearing fees from comissions. In this case, there isn’t any fees.

US$0.35 is less than the US$1 fixed commission if you choose the tiered pricing.

Based on my trade size the commission rate is 0.01%. If you include a $2 currency conversion charge, this becomes 0.07%.

If you invest in low-cost UCITS ETF listed in the London Stock Exchange, and they are denominated in USD, then your cost would be between US$1.70 to US$39.0. The fee works out to be 0.05%.

In the above transation, the tiered commission works out to be US$4.63. This is lower than the US$5.00 fixed commission but barely.

This works out to be 0.055%. If you include a $2 currency conversion, this becomes 0.08%.

Here is the Australian tiered fees.

Finally here is the tiered fee structure if you trade the Hong Kong markets. In general the fee is 0.08%.

In general, my commission will hit 0.09%. However, with the exchange fees (under the fee), my average cost comes up to 0.19%.

I realize we cannot reduce this.

The bulk of the cost is a 0.10% stamp duty.

However, if we are purchasing ETF listed on the Hong Kong stock exchange, the 0.10% stamp duty goes away. This becomes much cheaper.

Interactive Brokers Fixed Commission Structure

Here are the various commission pricing under the fixed commission structure:

I find that if your account balance is more than US$100,000 and your trade size is more than $1000, the difference between Tiered and Fixed is not a lot.

How to Switch from Fixed Pricing Structure to Tiered Pricing Structure

You are not tied to one standard commission structure. You can switch between the two when your needs change.

The change should take 1 day.

Login to your Interactive Brokers on your Desktop.

Go to Account Settings > IBKR Pricing Plan.

The interface is a bit of a problem. It does not tell you this is where you change the pricing structure.

It just reads IBKR Pro!

If you manage to get in, then you can change accordingly.

Conclusion

In general, I feel that if we considered all the forex, exchange, and clearing, broker commission fees, Interactive Brokers is very compelling.

The cost should be an important part of the consideration but other aspects matter as well. You would want a platform that you know has been around for a long time, more consistent than not, have a breath of markets to trade, and a breath of products available to you.

Interactive brokers is very cost competitive to trade other financial instruments as well (that I have failed to explain here)

At the end of the day, don’t spend all the time saving on commission, focusing on the trees and not see the forest.

Eventually, your asset allocation, stock selection, and execution may outweigh the importance of cost.

Try your best to get an acceptable overall cost, then focus on investing.

To get started, create an Interactive Brokers account today through this Link here today.

My Comprehensive Interactive Brokers How-to Funpack

Here are some of my past articles on wealth building with Interactive Brokers. I hope it makes your life easier and brighter.

1. An Easy Step-By-Step Guide to Setup Interactive Brokers (IBKR)
2. How to Fund & Withdraw Funds from Your Interactive Brokers Account
3. How to Convert Currencies in Interactive Brokers
4. How to Buy and Sell Stocks and Securities on Interactive Brokers
5. How Competitive are Interactive Brokers Commissions Pricing? And Also Explaining the US$10 Monthly Activity Fee

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