Investing mechanics.

Expense ratios

The annual % a fund takes. The only fee you can control with certainty.

A fee looks trivial because it's quoted as a decimal. It isn't trivial, because it compounds against you for the same thirty years your money compounds for you.

What it costs you is worked out in what investment fees really cost, and you can price your own in the fee drag calculator.

Dollar-cost averaging vs lump sum

Investing gradually vs all at once. One is mathematically better; the other is survivable.

If markets rise more often than they fall, lump sum wins on average, time in the market beats waiting. The evidence generally favors it. But this is a case where the math and the human diverge:

• Lump sum maximizes expected return and maximizes regret if you buy the week before a crash.
• DCA gives up some expected return to buy an insurance policy against your own behavior.

The right answer is whichever one you'll actually stick with. A theoretically optimal plan you abandon in month four returns less than a mediocre plan you keep for thirty years. Note also that most people never face the question, if you're investing from a salary, you're dollar-cost averaging by default.

Related: the price of admission, on what to do when the market falls while you are still buying.

Rebalancing

Selling what won, buying what lost, to hold your target allocation.

It feels wrong every single time, which is the point, it's a rule that forces you to sell high and buy low when your instincts scream the opposite.

Where it fits among competing uses of a dollar: the order of operations.

Asset location

Which account holds which asset. Not to be confused with asset allocation, which is what you own.

The US taxes investment income two different ways. Bond interest, non-qualified dividends and short-term gains are taxed as ordinary income. Long-term gains and qualified dividends get preferential rates. Asset location is the practice of putting the heavily taxed things where tax cannot reach them.

The general ordering: bonds, REITs and high-turnover funds into tax-deferred accounts, because they generate ordinary income every year. Broad stock index funds into taxable accounts, because they are already tax-efficient and need the shelter least. Highest expected return holdings into a Roth, where growth is never taxed at all.

On a $200,000 portfolio split evenly between a taxable and a tax-deferred account over 30 years, getting the ordering right is worth $76,395, or 8.6%. Nothing about the portfolio changes. Only where each holding sits.

Worked through in full, including why it prints no tax brackets: two identical portfolios, different amounts of money.

Tax drag

The return you lose each year to tax on income you did not choose to realize.

A fund that distributes income forces you to pay tax on it whether you wanted the cash or not. That payment leaves the portfolio permanently, so it does not just cost you the tax. It costs you every future return that money would have earned.

The arithmetic is the same shape as a fee. A bond yielding 5% held in a taxable account at a 24% marginal rate gives up 120 basis points a year before anything else happens. That is larger than most expense ratios anyone argues about.

The difference from a fee is that tax drag is avoidable by placement rather than by shopping. The same fund in a sheltered account has no drag at all until withdrawal.

The fee version of the same mechanism: what investment fees really cost, and the fee drag calculator.

Turnover

How much of a fund's portfolio is bought and sold in a year. High turnover manufactures taxable events.

A fund with 100% turnover replaces its entire portfolio annually. Every sale at a gain is a realized gain, and in a taxable account those get distributed to you and taxed, regardless of whether you sold anything yourself.

Worse, gains on positions held a year or less are short-term, which means they are taxed as ordinary income rather than at the preferential long-term rate. A high-turnover fund can convert what would have been favorably taxed appreciation into the most heavily taxed kind of income there is.

Broad index funds typically turn over a few percent a year, which is most of why they are tax-efficient. Turnover is disclosed in every fund prospectus and almost nobody looks at it.

Why the tax-efficient fund belongs in the taxable account: asset location.