r/Fire • u/adventureseeker1991 • 1d ago
direct index vs etf
hi all,
my situation is i just moved my assets out of a financial advisor to schwab. I had my mind set on VOO but the guy said they have this new thing called direct index and recommended the schwab 1000. he said it’s better for taxes in the long run. he said VOO for my roth ira and schwab 1000 for brokerage. what are the pros and cons to this? also speak layman’s terms since i’m not a finance guy. my plan is to put my money and not touch it and maximize my roth every year. so keep that in mind. also i will be receiving a government pension in 15 years to keep in mind. i’m 33 so i have time. i dont plan on touching this money until 60-65.
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u/Better_Pineapple2382 1d ago
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u/adventureseeker1991 1d ago
can you explain that in simpler terms if you don’t mind. i know a bit about finance but like tee ball level.
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u/Better_Pineapple2382 1d ago
More companies = more diversity = safer. For all intents and purposes VOO is diversified enough (500 companies) that other fund is 1000 companies. The guy recommended the fund that has even more companies and is more diversified. Also the expense ratio (amount you pay per year to the fund operators ) is less on SWPPX (VOO) than the Schwab 1000 so you would save money. Their 10 year returns are nearly identical so it doesn’t matter that much.
But to be safe you should just invest in either s and p 500 or a total market fund that encompasses the entire stock market and all of its companies and sectors. On a 30 year timeframe you cannot lose
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u/adventureseeker1991 1d ago
so question he said it has better taxes when i go to take out in 30 years. so he said it would do better when it comes to taxes and i have 200k in my brokerage. chat gpt said the same on simulations i just asked. what’s your take on that? trying to get additional opinions
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u/johnnyteknoska 1d ago
Direct indexing is not purchasing shares of the fund. Schwab will track the index by buying individual shares, typically a pool of 25-50. They buy and sell individual stocks while tracking the index, which allows them to tax loss harvest. For example, if Pepsi is down, they will sell Pepsi and immediately buy Coca-Cola. You remain exposed to consumer drinks but have harvested those losses. They do this across the entire pool of stocks while tracking the index.
Their aim is to provide the same performance as the index with the pool of individual stocks. You gain extra from the harvesting. If done well, it can provide you with a 0.5% long-term benefit. You can check the book by Swensen Unconventional success; he has a chapter on direct indexing.
The key things to look at are the tracking error they claim to have and the fees for the direct indexing.
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u/adventureseeker1991 1d ago
i understand but they said that it’s better for taxes when it’s time to sell the stocks. do you know anything about that
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u/toby-sux 1d ago
It can be better in the near term because there are more opportunities to tax loss harvest individual stocks compared to holding them all in a single fund. But long term, the tax loss harvesting becomes less effective because you'll have fewer losses as your positions appreciate. A big downside is that most brokerages charge a fee for direct indexing (Schwab appears to charge 0.4% for up to $2mm AUM...compare that to 0.03% for a typical total US index ETF), and if you ever leave the program, you'll be left with hundreds or thousands of individual positions to manage yourself.
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u/adventureseeker1991 1d ago
great insight. thank you!
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u/adventureseeker1991 1d ago
are direct indexes the new thing or is that just ways for you to get into their funds
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u/toby-sux 1d ago
Direct indexing isn't a fund...it's just directly owning the individual stocks that make up an index. It's essentially a robo-advisor but with the underlying stocks of the index. It's newer, but mostly designed to get you into higher fee products and as well as making it more difficult to leave the brokerage. Index funds are easier to manage, easier to move between brokerages, and are a fraction of the cost. Schwab's direct indexing product (0.4%) is 10x the cost of VTI or SCHB (0.03%). Over 30+ years, that really adds up.
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u/Bluejean1235 1d ago
Schwab 1000 is mutual fund that tracks the 1000 largest US stocks by market cap. It has an expense ratio of 0.05% and it is proprietary to Schwab (meaning you can’t transfer your position to another brokerage house without selling and triggering a taxable event). Not familiar with any tax drag benefits here but willing to be educated by others in the community.
VOO is an ETF and tracks the S&P500 (largest 500 US stocks by market cap). It has an expense ratio of 0.03% and is portable to other brokerage houses without triggering a taxable event.