Episode 93, Why Retirees Should Own More Stocks from Blackrock's Head of ETFs

0:00Before the episode, a quick announcement. Registration for the 2026 Bogleheads Conference is now open. As with every year, we have a phenomenal lineup of speakers this year, including tax planning expert Jeff Levine, financial columnist Gene Chatsky, retirement researcher Bill Bengen, and financial blogger Ben Carlson. To register, go to bogelcenter.net slash 2026 conference. Coming up on the 93rd Bogleheads On Investing podcast. Many people might retire at 70 and live to be 100 and need 30 years out of their portfolio. On an individual year, inflation of 3 % maybe doesn't seem like a big deal, but compound that over 30 years, that's a very big deal for your portfolio.

0:42If you don't have exposure to something that can keep up with inflation, you could really start to see an erosion of your portfolio value in real terms. It could be a bet that plays out horribly if you see a major sell-off and you have to start taking drawdowns of your savings at a very inopportune time in retirement. it's much more useful for investors to be thinking about.

1:03BlackRock's U.S. Head of Equity ETFs, Jay Jacobs, answers questions from the Bogles community on how to invest simply, how to design the right stock bond glide path for retirement, tax and trading considerations, international stock exposure, and more. Hello, everyone. I'm John Luskin, board member for the John C. Bogles Center for Financial Literacy and host for this episode. After the interview, I'll share my key takeaways and some helpful context, so be sure to stick around. And if you're usually listening on audio, know that you'll get more out of the version on YouTube, where we're showing helpful visuals throughout, including charts from BlackRock to help clarify the concepts.

1:43As always, if you find this helpful, be sure to like, comment, and subscribe on your platform of choice. It really helps us reach more investors. And now onto the episode. Jay Jacobs, welcome to the Bogleheads on Investing podcast. Tell us about yourself. It's a pleasure to be here. I am the U.S. Head of Equity ETFs at BlackRock. So I oversee over 300 iShares ETFs that focus on everything from U.S. equity exposures, international outcome strategies, even digital asset strategies as well. So I am thrilled to be here. Well, let's jump into some of the questions we got from our audience, let's talk about some of the tax deferral benefits of ETS.

2:23If someone were to make a simple three-fund portfolio like a Bogal Ed's portfolio, they're going to have some capital gains with rebalancing. Alternatively, if they've got an all-in-one fund that has similar asset class exposure, maybe less so. How come? How does that work? That's exactly right. So I think the benefit of these all-in-one funds is one, it's sort of the easy button for allocating in a globally diversified portfolio, it can change that allocation over time with different inputs, whether you're aging and your risk tolerance is changing or capital markets expectations are changing or even the research behind these funds is changing.

2:57But the third piece that you hit on, I think, is a critical piece as well, which is the tax efficiency of rebalancing. So in a short period of time, someone might just want to rebalance quarterly or annually to get back to their intended weights between stocks and bonds. That means often selling winners, buying losers, and that can incur capital gains because you're selling a position that went up to fund your buying of the position that went down. Or if you're really over longer periods of time shifting your asset allocation to align with a changing risk tolerance, going from 30 years old to 60 years old, you're going to have a different allocation.

3:30That can also trigger capital gains. So when you do this within an ETF, the ETF can try to avoid some of those capital gains or mitigate some of those capital gains. And this really comes down to fundamentally how ETFs are managed. So if we take a little bit of a step back, ETFs have a mechanism that is a in-kind creation or redemption, meaning that when new people want to come into a fund, an authorized participant can deliver shares of the underlyings that the ETF is intending to receive and in exchange give new shares of the ETF to that authorized participant to deliver to the end investors.

4:04Similarly, if someone wants to take money out of the fund, the process works in reverse, that AP is going to receive the underlyings in exchange for delivering shares of the ETF back to the ETF issuer. That mechanism can be used to also help mitigate capital gains. If a fund is looking to reduce its equity exposure because equities have rallied while bonds have, say, stayed flat, it can deliver some of those underlying equities to an authorized participant and receive shares of the underlying bonds or bond ETFs in exchange. This is not a taxable transaction because you're not selling a security for cash.

4:40You're doing an in-kind transaction, which is not taxable. And so therefore, the ETF has this mechanism built into it that can help change the portfolio without necessarily incurring a capital gain. This is very different from mutual funds and very different from an end investor who might be trying to do the same transaction on their own. Going back to that tax deferral mechanism, so certainly with iShares, we've got the allocation ETFs, a fixed static stock bond mix, And we've got target date ETFs that changes over time. And certainly with that target date ETF or target date fund, you're likely looking at selling more stocks over time, buying bonds that can incur capital gains.

5:17It sounds like we're not necessarily going to see this when that target date fund is inside an ETF wrapper. Now, I know Vanguard, they had a problem with their target date funds making a capital gain distribution quite some time ago. That made a lot of investors upset. So generally now the guidance is, hey, hold these in a tax advantaged account. Thoughts on a target date ETF in a tax advantaged or taxable account? So you certainly could own it in a tax advantaged account. You're still going to get some benefits from that, right? So set capital gains aside, these funds are still going to be distributing dividends.

5:52They're going to be distributing income from the fixed income positions they own. So if you own that within a tax advantaged account, you would still get the benefit of not having to pay current taxes on the income received. However, the ETF structure does have these mechanisms to be more tax efficient. So all else equal, if you are looking to own a target date fund in a brokerage account that does not have tax advantages to it, and you're looking at a mutual fund strategy or an ETF strategy, the ETF strategy will just have more tools available to it to try to reduce capital gains. So I just think it's important for investors to understand that because, frankly, we see a lot of people who want to have kind of like a 401k type of retirement exposure, but live outside of a 401k.

6:35Maybe they're in the gig economy. Maybe they're an entrepreneur, own a small business. Maybe they just work for a company that doesn't offer a 401k option. Maybe they've already maxed out their 401k, but they just want to keep investing in target date funds through their taxable brokerage because they like them so much. So if this is the case, and you want to own this through a taxable brokerage account, I think the ETFs are more likely to have a more favorable tax position over the long term than a mutual fund. So with something like a Vanguard target date fund, we're going to see normal capital gain distributions, less so with something inside an ETF wrapper.

7:09But there was one time where there was a distribution, a capital gain distribution, both short and long, from one of these ETF share classes. What causes that to happen? Trying to mitigate taxes is never perfect. There are certain events that can drive capital gains even within an ETF. So like I said, ETFs have a lot of tools available to them to try to mitigate capital gains, but it's not going to be perfect. Specifically, if you have a higher turnover event or if it's a much smaller fund, it can be challenging to use some of those mechanisms I was talking about, like a custom-in-kind basket.

7:39So overall, the trajectory of ETFs is much more tax-efficient than other structures. For example, one capital gain distribution over more than 10 years in asset allocation funds is still very efficient. Compare that to target date mutual funds. In 2023, we saw 85 % of target date mutual funds pay a capital gain distribution. So perfection might be an overpromised result here, but certainly an enhancement in tax efficiency is something people could expect from ETFs. Here's a question from a username Tarantula13 from Boglehead's Reddit. They ask about the tax efficiency of IXUS with a higher ratio of qualified dividends compared to a comparable total international stock fund.

8:26What makes the iShares IXUS, or moreover, if that's held inside of that allocation ETF, have that higher percentage of qualified dividends? So I think you need to look at the difference between how the U.S. market operates and how international markets operate. So in the US, as I was mentioning, you can do these custom in-kind baskets. Partly that's because shares of US companies are in-kindable. You can deliver them to an authorized participant in exchange for other shares. That's not something that's necessarily available in every international market. One of the outlets that ETFs can use for US securities doesn't necessarily apply to every other country.

9:02The other piece of it is most US-based ETFs or mutual funds or other structures can benefit from qualified dividends, where if you hold a company for enough time and its dividends meet certain requirements, that can be taxed at a long-term capital gains rate instead of an ordinary income tax rate. So that's a benefit to many U.S. dividend payers. Again, that might not necessarily apply to all international stocks. And the final piece is that there can be withholding taxes between when a company in a certain country pays a dividend and that dividend ultimately makes its way back to a U.S.-based shareholder.

9:36This has to do with tax treaties between the United States and other countries. Sometimes those withholding taxes can be significant. Sometimes they can be relatively immaterial or can even be refunded. But what often happens is if you do pay a withholding tax on a dividend that you received from another country, that can often be applied as a foreign tax credit against your other income that you've received. Looking at two different total international low-cost Raleigh diversified funds, what could account for one having a higher amount of qualified dividend income and a higher foreign tax credit than the other?

10:10It could be the underlying exposures themselves, which countries is the fund investing in. It could also be how long it's been investing in those securities. So if something is a higher turnover strategy or maybe even a newer strategy where it's accumulating a lot of newer shares, that could tip the balance towards a lower amount of qualified dividends versus a different strategy. This question is from Kevin Dawson from Boghut's Facebook. And he asks about what is the decision process that goes into designing a glide path, moving from stocks to bonds as you approach that retirement date? So a huge part of what goes into that research is simply just what stage of life is someone in and what's an appropriate amount of risk that they can take at that age.

10:54Of course, if you look at a further dated target date fund, it's going to have a higher equity exposure, someone who's closer to retirement, it's going to be more heavy in fixed income. So that's probably the biggest component as you think about asset allocation. The rationale behind that is if you think about someone who's young, they have a lot of human capital, a lot of potential earnings they can make over the next several decades. You could think about that almost as sort of like bond income over the source of someone's life, that they're going to receive these regular paychecks, hopefully spend less than they receive, get to save, get to invest.

11:25But that's a relatively steady piece of their total portfolio, whereas the financial capital is going to be smaller in that younger person's total portfolio, so they can take more risk on it. So think about kind of like steadier longer term income versus more risk in their financial capital bucket. Over time, as you get closer to retirement, the net present value of the future earnings you're going to have is going to shrink. You only have so many more years to work, but you've built up your financial capital. And so what you want to do is actually change that mix. You want to take less risk on your financial capital as you approach retirement.

11:59So maybe that's a little nuanced, but the way that we think about it at BlackRock, particularly our LifePath team that develops these ClivePath strategies, is you can think about the stage of someone's life in three different stages. You have your grow stage where you really are thinking about accumulating more assets and you want to take on more risk in your financial capital and grow it. The next stage is really about protection when you're getting nearer to retirement. This is where investors don't want to get the timing wrong here, where you just happen to retire in 2008 as the bottom fell out of the market and be caught with a significantly lower amount of financial capital, just as you need it most.

12:35So it's much more about protecting against drawdowns and frankly, protecting against inflation. And then finally, the third stage is the spending stage. That's where you enjoy the fruits of your savings over the course of your career, and you get to spend that in retirement. and that's going to look a little bit different as well. So the asset allocation over your lifetime is probably the biggest component. However, we take a bit more of an active approach within LifePath at BlackRock, which is there's other components that do influence the asset allocation over time. One component is just capital markets expectations.

13:07So if yield on bonds goes to zero, that's a good indication that capital market expectations for bonds is probably not gonna look great over the longterm. if you have really frothy valuations that might change how we think about capital markets expectations and equities but that's certainly an input inflation is certainly an input so one of the changes that's happened recently within life path is taking a further consideration for inflation in that protect stage so as you're trying to protect assets it's not just about a sell-off it's what happens if inflation surges right as you're reaching retirement obviously we've seen inflation be a bit structurally higher over the last couple of years That means the asset allocation might favor something like tips or commodities or real estate or infrastructure, things that have built-in inflation protection into it.

13:53But then finally, demographic shifts happen as well. Demographics can move slowly, but they do move. And over the course of someone's lifetime, this does matter. So one of the things that the LifePath team has been observing is people are working longer. 65 used to be this magical age. I think as people get healthier, have longer careers, 75 might be the new 65. But then on top of that, people are also living longer. So how do you think about retirement where maybe it's starting later but extending further than we've ever seen? That results in something like maybe more equities make sense because if you're going to live further in retirement, you need to have a growth component that can both participate in economic growth of the country, but also help combat some of the inflation that just strictly owning fixed income wouldn't be enough to mitigate.

14:41But let's talk more about the shape of that glide path as we move from stocks to bonds, as we approach that retirement date. Kevin wants to know what sort of research or historical data drives the design of how aggressively or conservatively you change from stocks to bonds in the iShares line of ETFs. The demographic shifts that we're observing, constantly reevaluating, are people retiring at the same age? Are they living to the same amount? How does the shape of retirement look different? It comes to capital markets expectations. What do we think is going to happen with asset classes over the long run?

15:18Are asset classes changing or different features like inflation protection going to be more important? as well as kind of the more traditional shift from human capital into financial capital. So that's the kind of research that we're constantly re-underwriting to make sure that the glide path that someone said in 2026 for retirement in 2055 still makes sense. I'm curious, in making those assumptions about, hey, here are these demographic changes or, hey, here comes inflation, let's make this change to the portfolio. How do you assess whether that's the right decision to make in hindsight? Do you go back and say, hey, we made this change, we're right here, we made this other change, we're right here?

15:56What does that process look like? I mean, I think one of the benefits of looking at this through the life path lens is it's really, this is the definition of long-term investing. You're looking over the course of someone's entire career. And I think it can be very challenging to try to look at these things in the short term and try to be really tactical about some of these moves. But when you look at structural shifts, like are people living longer, you tend to have a fairly high amount of confidence in those changes. It's just it takes a while for those shifts to have an impact on a portfolio.

16:27Inflation expectations. This isn't something that necessarily is being looked at quarter by quarter. This is really, are there structural changes to inflation expectations? Like, are we seeing higher government debt and higher government spending? Are we seeing productivity or GDP growth changing. These are all important long-term inputs. So we have a lot of confidence that looking at this over the long term is an important factor in determining how this glide path should evolve over time. It's not going to be the most tactical machine, but it's going to be one that we have high confidence in over the course of someone's career.

17:02I'm curious, what are some of the changes? And this is a fall question, so shout out to Sikmore from the forums for asking this one. What are some changes that you have made to the glide path over time? And what are some changes that you might be anticipating making in the future? So two of them I mentioned. One of them I think is really important, which is around the importance of inflation protection in a portfolio, particularly during that protection stage. So protection is really about mitigating risks right ahead of retirement. Those risks could be a significant drawdown. That risk could be a significant spike in inflation, both of which would reduce the real amount of savings that you have heading into retirement.

17:40So obviously, one, to protect against a drawdown, you change your asset allocation mix, you risk inequities, tilt more towards fixed income. But the inflation piece, that's not going to necessarily be solved by tilting more towards fixed income. So it's really about what does that inflation protection sleeve look like? Some of the recent research from our LifePath team was really looking at the role that tips can play, the role of real estate, the role of commodities, and the role of infrastructure. It's all really serving as inflation protection type of strategies in that protection stage of one's career.

18:14Another piece that we've been looking at is really about the demographic shifts. So it is very real that people are working longer, living longer in retirement as well. And maybe some of the assumptions that made sense 20 or 30 years ago around what a retirement portfolio should look like is shifting. And so I think that's where we might consider looking further at equities playing a role in a retirement portfolio than what would have been conventional wisdom just a couple of decades ago. Let's talk about the terminal mix of your line of ETFs. It settles on a 40 percent stock, 60 percent bond portfolio.

18:47Why that mix for retiree spending? It's important to realize that these two different asset classes are playing different roles in a portfolio. So the 60 percent can really be, one, playing the role of a stabilizer. mobilizer. So in retirement, you want to reduce some of the volatility of your portfolio, try to protect assets. Number one rule usually is protect your savings. The second piece is that it can generate income. These are fixed income allocations that are going to be paying regular coupons to fund your lifestyle in retirement. But I think the nature of your question is probably a little more interested in the 40 % that's allocated to equities.

19:19And a lot of this comes down to what do you need your total portfolio to deliver in retirement? If people are living longer than before, if inflation has stickier properties than before, having an allocation to equities can be a really important piece of this puzzle. So many people might retire at 70 and live to be 100 and need 30 years out of their portfolio. On an individual year, inflation of 3 % maybe doesn't seem like a big deal, but compound that over 30 years, that's a very big deal for your portfolio. And if you don't have exposure to something that can keep up with inflation, you could really start to see an erosion of your portfolio value in real terms.

19:56I think inflation is a really big piece of this and really protecting against outliving your assets in retirement. Many people see equities as kind of risky compared to fixed income, but I think the role that they're playing in this portfolio is actually about mitigating certain risks that you might have in retirement, such as outliving your assets due to inflation. Think about how the 60-40 is a pretty common benchmark for retiree investing, why not end the glide path in a 60-40 instead? I think we would see 60-40 more as that moderate portfolio that's heading towards retirement rather than the end state for retirement.

20:30Many people look at retirement as like a 20-80 portfolio. Some are even in a 0-100 portfolio and really leaning into fixed income. So the 40 here is, again, really about protecting against inflation, protecting against outliving one's assets, a 60-40 portfolio we would view as more appropriate for, say, the decade leading up to retirement, where people still want to grow their assets, they're still making contributions to their retirement, but they are starting to de-risk and really lean into having a significant position in fixed income going forward. I would just compare that to a target day 2055 fund like IDTG.

21:06That's a 98 % allocation to equities. So there's certainly a barbell at either side where you could really just focus on equities and the growth component early on in someone's career versus a steady state of retirement being more of that 40-60 balance. All right. Let's geek out on the international exposure of these all-in-one funds. We have a question from Booklets Facebook asks about how much international exposure there are in these funds and why is having international exposure important as someone approaches retirement? So I looked at ITDG as an example. This is one of the funds that's very, very heavy weighted into equities.

21:45I think it's about 98 % equities right now because it's a 2055 target date fund. And it's about 58 % U.S. equity exposure currently versus about 36 % international exposure. And this roughly lines up with market weight. If you look at the MSCI Acquity or some global equity benchmark, I think a lot of investors should use market weight as a starting point, especially if you're focused on index-based investing. This is the lay of the land for the market. If you don't agree with those allocations, that's where maybe you want to get active and get more tactical, where you want to increase your exposure to international or increase your exposure to the United States.

22:21One of the reasons why we tend to see people have a home country bias is, one, they don't want to deal with currency risk, at least in the near term. But if you're investing over decades, currency risk is one of those things that usually kind of nets out over time. So it's maybe less applicable to a retirement portfolio. Also, home country bias is often because this is where people have more familiarity. But again, for retirement, you're thinking about 30 years, you're not trying to stock pick here, this is about getting your market beta about getting equity premium and compounding that over 30 plus years until you march towards retirement.

22:58I see that as a bit less relevant as well. So the starting point for a lot of these life path funds is going to be very similar to market weight, maybe a little bit of adjustments as we think about capital markets expectations and inflation and some other inputs. So certainly if we're investing close to that global capitalization weighting, we're going to have a meaningful amount of international exposure. Why is that important if we're going to be living in the U.S.? At a minimum, it's diversification, but also it increases the opportunity size. it's hard to look through a crystal ball and say exactly what's going to happen 30 years from now.

23:32The U.S. has certainly enjoyed a tremendous amount of performance over the last decade plus versus international stocks. But even just last year, we saw that got flipped on its head as we had a declining dollar, as we saw some geopolitical strife. So, again, over the course of someone's career where you're saving over decades, this is less about trying to very specifically predict a specific region over another. It's about compounding that equity risk premium that can be so beneficial over the long term to build your net worth. Let's talk a little bit more about hedging. Now, I know in certain target date funds, for example, they have an international bond component and that is hedged while the international equity allocation is not.