100% stock vs 95% stock
100% stock vs 95% stock
Which allocation has a higher return over the long run? 100% stock or 95% stock with 5% bonds and rebalancing?
Without any rebalancing, the 100% stock has a higher expected return, but with rebalancing, it seems like you would be able to take advantage of times when people buy high and sell low, and thus the 95% stock might actually perform better.
Without any rebalancing, the 100% stock has a higher expected return, but with rebalancing, it seems like you would be able to take advantage of times when people buy high and sell low, and thus the 95% stock might actually perform better.
Re: 100% stock vs 95% stock
I think it would depend on how many buy high sell low times came up in a certain period and how often one rebalanced. There's no way to answer for certain.
My thinking is it would make very little difference, as 5% fixed income doesn't leave much to rebalance with before you're back at 5% again. Just my quick take on it.
My thinking is it would make very little difference, as 5% fixed income doesn't leave much to rebalance with before you're back at 5% again. Just my quick take on it.
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Re: 100% stock vs 95% stock
You will benefit more from searching past threads on 100 stock questions than a new discussion. The summary is that you have a higher expected return with a higher equity exposure. You also have a higher return if you don't rebalance, ie there's no rebalancing bonus. Notice I didn't mention risk in either of those conclusions.
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Re: 100% stock vs 95% stock
Historically, 100/0 has the maximum return. Rebalancing bonus is a real phenomena, however, the returns for the two assets you are rebalancing need to be similar in magnitudes for the combined return to be greater than either of the two assets themselves.
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Re: 100% stock vs 95% stock
Here is the short and simple answer. The only way is if a diversified stock/ bond portfolio rebalancing bonus is greater then the realized ERP.
In theory the ERP should be large enough that any advantage of rebalancing is not enough to overcome the deficit. Now in 2000's this happened A LOT as the realized ERP was small or even nonexistent which of course is less then the any amount of rebalancing bonus.
Good luck.
In theory the ERP should be large enough that any advantage of rebalancing is not enough to overcome the deficit. Now in 2000's this happened A LOT as the realized ERP was small or even nonexistent which of course is less then the any amount of rebalancing bonus.
Good luck.
"The stock market [fluctuation], therefore, is noise. A giant distraction from the business of investing.” |
-Jack Bogle
Re: 100% stock vs 95% stock
95% stock would have an ever-so-slightly higher risk-adjusted return. 100% stock would have an ever-so-slightly higher expected return.
Retirement investing is a marathon.
Re: 100% stock vs 95% stock
I don't always invest 95/5, but when I do, the bonds are LT Treasuries.
Re: 100% stock vs 95% stock
We don't know since we can't predict the future. You asked which has a higher return over the long run, not which as a higher expected return. I assume you're talking about future returns, not past returns.
Kevin
Kevin
If I make a calculation error, #Cruncher probably will let me know.
Re: 100% stock vs 95% stock
Stay invested, my friends.linuxizer wrote:I don't always invest 95/5, but when I do, the bonds are LT Treasuries.
Don't assume I know what I'm talking about.
Re: 100% stock vs 95% stock
"Rebalancing Bonuses" are achieved when markets are mean-reverting.boggler wrote:Which allocation has a higher return over the long run? 100% stock or 95% stock with 5% bonds and rebalancing?
Without any rebalancing, the 100% stock has a higher expected return, but with rebalancing, it seems like you would be able to take advantage of times when people buy high and sell low, and thus the 95% stock might actually perform better.
"Rebalancing" underperforms (but more importantly maintains risk profile) in trending markets.
Your question suggests predicting a future "long-run", and we can't do that... When it comes to the future, "Nobody knows nuth'n". Sometimes the market trends for a long time in one direction.. sometimes it has lots of mean-reverting dips. Even looking at past results can give very different results depending on the time frame you pick, it's "period dependent".
Vanguard wrote: https://institutional.vanguard.com/iwe/pdf/FAIPRTP.pdf
...If equity prices rise every period, regular rebalancing implies continually selling the strongly performing asset and investing in the weaker performer. The result is a lower return compared with a less frequently rebalanced portfolio. The U.S. stock market’s steady upward surge during the mid- to late-1990s was an example of a trending market. Rebalancing produced lower returns than a portfolio that was never rebalanced.
The two-and-a-half years following the U.S. stock market’s March 2000 peak were an example of a downward-trending market, again an environment that made rebalancing unattractive. If stock prices fall every period, then the portfolio is continually buying equities as their prices decline, experiencing returns below those of a portfolio that is never rebalanced...
...The opposite of a trending market is a mean-reverting market. Price increases are followed by price declines, and vice versa. In a mean-reverting market, a portfolio’s returns can be enhanced by rebalancing, buying an asset after it has decreased in value and selling it after it has appreciated. In 1987 and 1988, the stock market followed a pattern of mean reversion. Stock prices rallied through much of 1987, collapsed on October 19, then recovered in a back-and-forth pattern during 1988...
...managers who can predict return patterns can rebalance tactically to increase a portfolio’s return and reduce the portfolio’s risk. Although there is weak evidence for short-term trending and long-term mean-reverting in equity markets, both practical and academic evidence show that this predictability is very hard to exploit (Campbell, Lo, and MacKinlay, 1996)...
"To achieve satisfactory investment results is easier than most people realize; to achieve superior results is harder than it looks." - Benjamin Graham
Re: 100% stock vs 95% stock
This would be much more interesting if you had pulled the data and answered your own question.boggler wrote:Which allocation has a higher return over the long run? 100% stock or 95% stock with 5% bonds and rebalancing?
Without any rebalancing, the 100% stock has a higher expected return, but with rebalancing, it seems like you would be able to take advantage of times when people buy high and sell low, and thus the 95% stock might actually perform better.
L.
You can get what you want, or you can just get old. (Billy Joel, "Vienna")
Re: 100% stock vs 95% stock
Boggler, are you asking about the past or the future? You framed questions in present tense, so hard to tell. You can easily look up date for the past, but not for the future. If looking at the past, be sure to look at real returns, which of course will be lower than nominal returns for both stocks and bonds except in periods of deflation.
Kevin
Kevin
If I make a calculation error, #Cruncher probably will let me know.
Re: 100% stock vs 95% stock
Some data: see graphs at the end of this thread:
http://www.bogleheads.org/forum/viewtop ... ond+length
Only Treasuries, no corporates unfortunately as at the time I was interested in isolating the effect of maturities. But while you see a definite benefit to at least including some stocks to a bond heavy portfolio, a the higher allocations to stocks returns in the very long term, at least in this dataset, simply track with risk. Which is to say that from a return perspective 100% stocks returns more than 95% stocks.
http://www.bogleheads.org/forum/viewtop ... ond+length
Only Treasuries, no corporates unfortunately as at the time I was interested in isolating the effect of maturities. But while you see a definite benefit to at least including some stocks to a bond heavy portfolio, a the higher allocations to stocks returns in the very long term, at least in this dataset, simply track with risk. Which is to say that from a return perspective 100% stocks returns more than 95% stocks.
We live a world with knowledge of the future markets has less than one significant figure. And people will still and always demand answers to three significant digits.
Re: 100% stock vs 95% stock
When I've done this, I've found it not to be the learning experience it is said to be. Also I have only a mediocre math/science/data background for this kind of analysis. Others here may avoid my mistakes.umfundi wrote:This would be much more interesting if you had pulled the data and answered your own question.
I do think it's important to be able to critically analyse the work of others. Not always easy, and running the data may not help much without extensive experience and skills. Google and books help. So does posting questions.
in short: Why reinvent the wheel?
Re: 100% stock vs 95% stock
I think the best chance for a 95/5 portfolio to outperform a 100% equities portfolio would be using zero coupon 30 year Treasuries for the bond portion. If the rebalancing bonus is to make up for the lower expected return, then you want the bonds to 1) have a fairly high interest rate; 2) do well during financial panics; 3) have a lot of volatility, so you actually have something to rebalance with.
edit: It doesn't matter whether you use nominal or real returns, by the way, because you are comparing which of two portfolios does better, and both experience the same inflation rate.
So I think setting up a spreadsheet with returns for stocks and zeroes for the last 50 years, assuming annual rebalancing for the 95/5, should establish whether it's plausible. Even if it is, of course it might not happen going forward.
I'm not going to set up the spreadsheet right now, though.
Brad
edit: It doesn't matter whether you use nominal or real returns, by the way, because you are comparing which of two portfolios does better, and both experience the same inflation rate.
So I think setting up a spreadsheet with returns for stocks and zeroes for the last 50 years, assuming annual rebalancing for the 95/5, should establish whether it's plausible. Even if it is, of course it might not happen going forward.
I'm not going to set up the spreadsheet right now, though.
Brad
Last edited by baw703916 on Sun Feb 02, 2014 10:59 am, edited 1 time in total.
Most of my posts assume no behavioral errors.
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Re: 100% stock vs 95% stock
Is there any difference over the long term.
John C. Bogle: “Simplicity is the master key to financial success."
Re: 100% stock vs 95% stock
Depending how & how often you rebalance, it might make a real difference in a 1929 sized depression.abuss368 wrote:Is there any difference over the long term.
Especially if you use long treasuries or zeros, like linuxizer and Brad mentioned. I'm a high equity % person, and might do this someday. Am a market timer, especially in fixed income, so don't own Treasuries today at historcially low rates.
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Re: 100% stock vs 95% stock
My answer would be yes.abuss368 wrote:Is there any difference over the long term.
If the advantage is even 10 basis points (for example) compounded over 20+ years would make a big difference in the end $$ numbers. The situation of a shorter time may not be as much of a difference, however, and are probably more influenced by sequence of returns.
Now the argument should the other side of the coin... Does allocating 5% to bonds make much of a difference in volatility to justify the EXPECTED lower return of not being in 100% stocks?? How much of a difference in downside max. loss per year or downside S.D. does 5% bonds give someone??
Good luck.
"The stock market [fluctuation], therefore, is noise. A giant distraction from the business of investing.” |
-Jack Bogle
Re: 100% stock vs 95% stock
abuss468, Guess we could try to define Long Term.
In the long term, both stocks and bonds are almost certain to reach zero economic value.
Or Keynes, In the long run we are all dead.
Also, for most investors there is a nonzero chance of a desire or need to access funds when the market is down. Before the long run is over.
Sorry for preaching the converted.
In the long term, both stocks and bonds are almost certain to reach zero economic value.
Or Keynes, In the long run we are all dead.
Also, for most investors there is a nonzero chance of a desire or need to access funds when the market is down. Before the long run is over.
Sorry for preaching the converted.
Re: 100% stock vs 95% stock
This is an example from the thread I reference above. The traces show from 0% stocks in the lower left to 100% stocks on the upper right.
The other graphs show basically the same thing.
100% stocks having higher return in the long run over 95% stocks. At the high end of stock allocation it is simply a risk vs return story, and and not a rebalancing story.
In contrast, see the behavior for a bond heavy portfolio (lower left end of traces). Note that as you add stocks at least for a while return increases with no increase in standard deviation - this due to the effect of rebalancing at low stock allocations.
We live a world with knowledge of the future markets has less than one significant figure. And people will still and always demand answers to three significant digits.
Re: 100% stock vs 95% stock
95/5 TSM/LTT returned 10.34 (with std. dev of 17.37)
100 TSM 10.35 (18.27)
Data 1972 to 2013
90/10 (for fun) 10.33 (16.48)
85/15 10.29 (15.63)
Steve
100 TSM 10.35 (18.27)
Data 1972 to 2013
90/10 (for fun) 10.33 (16.48)
85/15 10.29 (15.63)
Steve
"Owning the stock market over the long term is a winner's game. Attempting to beat the market is a loser's game. ..Don't look for the needle in the haystack. Just buy the haystack." Jack Bogle
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Re: 100% stock vs 95% stock
This is a classic example of the fallacies of data mining and trying to extrapolate the results into the future. If you look at the sample period it was the greatest bull bond market in U.S. history including the best return of long term treasuries EVER basically starting from the high interest rate period of the mid-late 70's. During that time was also an entire decade of the 2nd worst returning decade of stock returns EVER. I believe it was the first 40 yr. period bonds beat stocks EVER. All of that and you still have TSM doing better (even by a smidge).steve r wrote:95/5 TSM/LTT returned 10.34 (with std. dev of 17.37)
100 TSM 10.35 (18.27)
Data 1972 to 2013
90/10 (for fun) 10.33 (16.48)
85/15 10.29 (15.63)
Steve
In the end as someone explained above why would you expect ANYTHING different then a higher stock allocation doing better then a lower one? It flies in the face of common sense and financial theory. If you could get better returns with less risk (i.e. bonds) why would anyone take on more volatility for no reason??
Stocks should do better in the long run. Thus the title for Mr. Seigel "Stocks for the Long Run". In my opinion, the last 40 yrs. after the greatest bond bull market in U.S. history starting at unprescedent high interest rates has altered folks perception of expected returns going forward.
Good luck.
"The stock market [fluctuation], therefore, is noise. A giant distraction from the business of investing.” |
-Jack Bogle
Re: 100% stock vs 95% stock
FWIW: long treasuries over a longer period. Same story more or less as 10-year.
We live a world with knowledge of the future markets has less than one significant figure. And people will still and always demand answers to three significant digits.
Re: 100% stock vs 95% stock
Agreed. All looks at history is data mining. But not by nearly as much as you claim. The ten year went from under 6 to 3. That drop in interest accounts for roughly on half of one percent returns per year on LTT. About 25 percent spread out over a 42 year period.staythecourse wrote: This is a classic example of the fallacies of data mining and trying to extrapolate the results into the future.
For fun, and out of curiosity, I added that in as an expense ratio of .50 on Simbia Data for LTT.. The 95/5 CAGR falls to 10.30 -- 4 basis points. (Indeed, it would be surprising to see it have a larger impact with 5 percent)
The point is to hold some diverse assets. Moreover, the U.S. has seen deflation in our history 75 (ish) times ... We have not seen serious deflation in most of our lifetime. Are we to assume no deflation ever again because we have not seen it as of late? In fact, a compelling case can be made for LTT based on the fact the Fed will be buying LTT next recession. They can not lower the rates on short term bonds below zero. They have no choice. Let's all hope we have no recession for years.
I think we agree that all looks at history need to be put into context. Even Mr. Seigel clearly data mined when looking at stock returns. He failed to look at countries that suffered (Japan, Germany, Argentina, Russia, and Great Britian to name 5 countries that had once been among the worlds bests). Interest rates in Japan never returned to what had been the prior normal. This does not mean the never will in the U.S., but it does suggest the foolishness to claim with certainty rates will only go up. Trillions of dollars of LTT are not owned by the Fed. If you believe in economic theory and the efficient market hypothesis, bonds are efficiently priced. At a minimum. it is doubtful they are way off the mark.
The decade in the U.S. is NOT the worlds worst decade ever. Not even close. I started with 1972 because of my data. But stock nearly doubled in the first ten years of that data. The gap during that ten year period between 100 percent and 95/5 was greater as both bonds and stocks performed below historic norms and the negative correlation we see long term did not exist then due to inflation. It was the only time I can recall in our nations history we saw double digit inflation.
"Owning the stock market over the long term is a winner's game. Attempting to beat the market is a loser's game. ..Don't look for the needle in the haystack. Just buy the haystack." Jack Bogle
Re: 100% stock vs 95% stock
The weighted average nominal interest rate from '72 until today was higher than it is now. Maybe not real rate though.steve r wrote:The ten year went from under 6 to 3. That drop in interest accounts for roughly on half of one percent returns per year on LTT.
Adding .5 ER probably doesn't cover this, likely too low or too high.
While I expect disinflation and very mild deflation from time to time, I don't think a comparison to a time before end of Bretton Woods / Gold Standard would be valid for deflation. Fine for your study, but not when looking at earlier deflation, IMO.U.S. has seen deflation in our history 75 (ish) times
....
Are we to assume no deflation ever again because we have not seen it as of late?
Yeah, not everyone holds Seigel in high esteem. For example, look up Charlie Munger's quote, and Buffett's reply something like "well at least he's a nice guy".Even Mr. Seigel clearly data mined when
If you believe in economic theory and the efficient market hypothesis, bonds are efficiently priced.
Is it an efficient bond market, given quantitative easing?
This must be a nominal return; mid 60s to early 80s was horrible for US equity real return.stock nearly doubled in the first ten years of that data [from '72]
Sorry if I seem highly critical. I don't claim to know how to do and analyse a good backtest. One of those things that I think looks easier than it is.
Re: 100% stock vs 95% stock
Agreed. Ballparklazyday wrote:The weighted average nominal interest rate from '72 until today was higher than it is now. Maybe not real rate though.steve r wrote:The ten year went from under 6 to 3. That drop in interest accounts for roughly on half of one percent returns per year on LTT.
Adding .5 ER probably doesn't cover this, likely too low or too high.
Agreed. Some of the above analysis goes back to the 1920s ... the Fed tightened in the Great Depression. OTOH Japan had a decade of deflation. Japan was once the worlds #2 economy.lazyday wrote:steve r wrote:While I expect disinflation and very mild deflation from time to time, I don't think a comparison to a time before end of Bretton Woods / Gold Standard would be valid for deflation. Fine for your study, but not when looking at earlier deflation, IMO.U.S. has seen deflation in our history 75 (ish) times
....
Are we to assume no deflation ever again because we have not seen it as of late?
Yeah, I believe it is. I suppose some will disagree ... But investors are not buying perhaps $10 trillion in government bonds blindly and without knowledge of the Fed's actions. There actions are priced in.lazyday wrote:steve r wrote:If you believe in economic theory and the efficient market hypothesis, bonds are efficiently priced.
Is it an efficient bond market, given quantitative easing?
Don't be sorry .. these types of challenges are exactly what I need to do to learn and I thank you. I do only look at nominal returns. I find real returns of some use and clearly more important ... but in the end nominal returns is what you see. My point on this topic is it was the bond market that did horrible in the rising rate environment of the late 1970s. Stocks did comparatively better. Factoring in inflation does not change this.lazyday wrote:This must be a nominal return; mid 60s to early 80s was horrible for US equity real return.steve r wrote:stock nearly doubled in the first ten years of that data [from '72]
Sorry if I seem highly critical. I don't claim to know how to do and analyse a good backtest. One of those things that I think looks easier than it is.
That said, your post Breton Woods comment makes me wonder what happens if we go back to 1946.
Lastly, I think the Fed's dual manadate -- which in my view is driving the negative relationship between stocks and treasuries ... was passed into law in the 1970s (to fight inflation).
"Owning the stock market over the long term is a winner's game. Attempting to beat the market is a loser's game. ..Don't look for the needle in the haystack. Just buy the haystack." Jack Bogle
Re: 100% stock vs 95% stock
I wouldn't count on it even for real rates. I've seen 3% estimate for real historical rates, not sure what starting time period. The years since I saw it would also lower the estimate.steve r wrote:Agreed. Ballpark
You said you use nominal, and surely .5 is much too low an adjustment then.
Yes, this seems to be a problem with pre ~1975 data.Some of the above analysis goes back to the 1920s
I've seen some analysis that breaks down by time period, but not sure if any for this kind of allocation question.
Your point about dual mandate and changing fed behavior is interesting and also could apply. I think I've read comments on this when considering time periods but don't recall author(s).
Another consideration is declining data quality looking backwards.
This may have been well debated before... or maybe not if threads locked by politics.investors are not buying perhaps $10 trillion in government bonds blindly and without knowledge of the Fed's actions. There actions are priced in.
Here's part of my thinking:
A bond is not a gallon of milk, but there are some similarities.
A gallon of milk costs $2. Some people would gladly pay $10, some would only pay $1. The first buy at market price very happily. The second don't buy at all.
If the fed purchases $75B of milk a month at market price, and new milk isn't sufficiantly produced, then there would be less milk for others to buy.
Those who value milk at $10 a gallon will find a way to buy the more scarce milk. Those who are willing to pay exactly $2 a gallon will have to give up their milk purchases.
Similarly, there are different purchasers of bonds, some of who really need them. Think pension funds and insurance. Others are opportunistic buyers.
As you say, buyers are not buying blindly. But that doesn't mean they aren't unhappily buying at a higher price than they would get without fed actions.
One huge buyer not acting on market fundamentals can impact a market IMO.
(There also can be secondary effects. Those who sold bonds to the fed have cash now. They may buy assets with some of that cash. Sellers of those assets now may deploy their cash into bonds and stocks. If stocks and assets in general are more expensive, bonds might be more desirable.)
Thanks.Don't be sorry
We spend in real terms, but nominal has advantages. I think Bogle uses nominal when estimating returns. Poster wab on another forum has posted about benefit of estimating equity risk premium, which doesn't need to be real. Nominal avoids inflation predictions.I do only look at nominal returns. I find real returns of some use and clearly more important
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Re: 100% stock vs 95% stock
I suggest anyone even considering a 95/5 portfolio to put on their big boy pants and go 100/0.
Although I really don't see much of a reason for people to go outside 20/80 to 80/20. One is just too risk adverse (and doesn't make sense with respect to the efficient frontier) while really high equity positions are risky in terms of behavioral aspects (staying the course).
RM
Although I really don't see much of a reason for people to go outside 20/80 to 80/20. One is just too risk adverse (and doesn't make sense with respect to the efficient frontier) while really high equity positions are risky in terms of behavioral aspects (staying the course).
RM
I figure the odds be fifty-fifty I just might have something to say. FZ
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Re: 100% stock vs 95% stock
Disagree with your first sentence. If you have some bonds in your portfolio, two things happen.Random Musings wrote:I suggest anyone even considering a 95/5 portfolio to put on their big boy pants and go 100/0.
Although I really don't see much of a reason for people to go outside 20/80 to 80/20. One is just too risk adverse (and doesn't make sense with respect to the efficient frontier) while really high equity positions are risky in terms of behavioral aspects (staying the course).
RM
First, since it is your own money, you really really pay attention to it, and start to feel its not-zero-but-low volatility at a gut level.
Second, once the position is established, it is psychologically easier to add to it. And it gives you a few years, when it doesn't matter, to think through things like whether Total Bond is your cup of tea or whether you want something more sophisticated, etc.
We've seen a fair number of posts from people who had 0% bonds, reached their early sixties still at 0% bonds, and suddenly realize that retirement is looming, they do not have the risk tolerance for 100% stocks, they sort of think they should have been derisking their portfolio gradually over time, but they haven't done it and are scared to start because of the uncertain consequences of making a big commitment over a short period of time. They get stuck waiting endlessly asking themselves the question "is right now the right time to buy bonds?"
Get the camel's nose into the tent, I say.
Oh, and a third point. There's is a dangerous mystique to the idea of 100.00000% stocks. I don't quite get it, but I sometimes think people see it as a sort of purist's commitment to a stock ideology or something. There's nothing magic in that number. You could be 105% stocks--who's going to say that if you can hack 100% stocks you can't hack 105% stocks, and 105% has an expected return of more, more moolah, more bread, more spondulix etc. etc. You have to pick a number. It can be a number over 100%. It can be a number under 100%. It's not like monogamy, it's not stocks are going to punish you if they discover you've been fooling around with bonds. Insert joke about "Fidelity" here.
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Re: 100% stock vs 95% stock
I was being tongue-in-cheek; hence the smile.nisiprius wrote:Disagree with your first sentence. If you have some bonds in your portfolio, two things happen.Random Musings wrote:I suggest anyone even considering a 95/5 portfolio to put on their big boy pants and go 100/0.
Although I really don't see much of a reason for people to go outside 20/80 to 80/20. One is just too risk adverse (and doesn't make sense with respect to the efficient frontier) while really high equity positions are risky in terms of behavioral aspects (staying the course).
RM
First, since it is your own money, you really really pay attention to it, and start to feel its not-zero-but-low volatility at a gut level.
Second, once the position is established, it is psychologically easier to add to it. And it gives you a few years, when it doesn't matter, to think through things like whether Total Bond is your cup of tea or whether you want something more sophisticated, etc.
We've seen a fair number of posts from people who had 0% bonds, reached their early sixties still at 0% bonds, and suddenly realize that retirement is looming, they do not have the risk tolerance for 100% stocks, they sort of think they should have been derisking their portfolio gradually over time, but they haven't done it and are scared to start because of the uncertain consequences of making a big commitment over a short period of time. They get stuck waiting endlessly asking themselves the question "is right now the right time to buy bonds?"
Get the camel's nose into the tent, I say.
Oh, and a third point. There's is a dangerous mystique to the idea of 100.00000% stocks. I don't quite get it, but I sometimes think people see it as a sort of purist's commitment to a stock ideology or something. There's nothing magic in that number. You could be 105% stocks--who's going to say that if you can hack 100% stocks you can't hack 105% stocks, and 105% has an expected return of more, more moolah, more bread, more spondulix etc. etc. You have to pick a number. It can be a number over 100%. It can be a number under 100%. It's not like monogamy, it's not stocks are going to punish you if they discover you've been fooling around with bonds. Insert joke about "Fidelity" here.
But if you take it a step further, and consider a mortgage as a negative bond holding, there are more people out there with net 100% + equity holdings.
RM
I figure the odds be fifty-fifty I just might have something to say. FZ
Re: 100% stock vs 95% stock
While my mortgage may be a negative bond, my SS is a positive bond, allowing me to ignore both of them!Random Musings wrote: I was being tongue-in-cheek; hence the smile.
But if you take it a step further, and consider a mortgage as a negative bond holding, there are more people out there with net 100% + equity holdings.
RM
Retirement investing is a marathon.
Re: 100% stock vs 95% stock
Honestly, if I had the option to be more than 100% stocks, I would. Unfortunately, I have no low-cost, simple, and passive way to get leverage, as I don't have a mortgage.nisiprius wrote:Disagree with your first sentence. If you have some bonds in your portfolio, two things happen.Random Musings wrote:I suggest anyone even considering a 95/5 portfolio to put on their big boy pants and go 100/0.
Although I really don't see much of a reason for people to go outside 20/80 to 80/20. One is just too risk adverse (and doesn't make sense with respect to the efficient frontier) while really high equity positions are risky in terms of behavioral aspects (staying the course).
RM
First, since it is your own money, you really really pay attention to it, and start to feel its not-zero-but-low volatility at a gut level.
Second, once the position is established, it is psychologically easier to add to it. And it gives you a few years, when it doesn't matter, to think through things like whether Total Bond is your cup of tea or whether you want something more sophisticated, etc.
We've seen a fair number of posts from people who had 0% bonds, reached their early sixties still at 0% bonds, and suddenly realize that retirement is looming, they do not have the risk tolerance for 100% stocks, they sort of think they should have been derisking their portfolio gradually over time, but they haven't done it and are scared to start because of the uncertain consequences of making a big commitment over a short period of time. They get stuck waiting endlessly asking themselves the question "is right now the right time to buy bonds?"
Get the camel's nose into the tent, I say.
Oh, and a third point. There's is a dangerous mystique to the idea of 100.00000% stocks. I don't quite get it, but I sometimes think people see it as a sort of purist's commitment to a stock ideology or something. There's nothing magic in that number. You could be 105% stocks--who's going to say that if you can hack 100% stocks you can't hack 105% stocks, and 105% has an expected return of more, more moolah, more bread, more spondulix etc. etc. You have to pick a number. It can be a number over 100%. It can be a number under 100%. It's not like monogamy, it's not stocks are going to punish you if they discover you've been fooling around with bonds. Insert joke about "Fidelity" here.
Re: 100% stock vs 95% stock
There are option contracts and index futures. You can create leveraged like positions by buying (or selling) option contracts on stock, etf, or index futures. I think there's potential for problems as you go to roll contracts forward when they get near expiring, but if you're careful about what you're doing you can potentially create leveraged like positions using options.boggler wrote:Honestly, if I had the option to be more than 100% stocks, I would. Unfortunately, I have no low-cost, simple, and passive way to get leverage, as I don't have a mortgage.
Leverage does add risk though. How much risk is optimal for growth is another problem. The Kelly Criterion proves that when given a risky proposition bet (but with positive expected value), the optimal growth rate is achieved by taking something less than the maximum risk position.
I think a lot of us are tempted with the idea of taking on a little more risk, hoping to garner a little more gain, but figuring out what that optimal amount is going forward is trickier than it seems. There's been plenty of periods where the optimal amount of stock market exposure has been zero (or less, -to be shorting the market). It's trickier than it might seem, and when you account for the costs associated with the trading and acquiring the leveraged position it makes it even harder to determine how much is an optimal amount.
"To achieve satisfactory investment results is easier than most people realize; to achieve superior results is harder than it looks." - Benjamin Graham
Re: 100% stock vs 95% stock
Sure there are ways to get leverage without it being too expensive. Perhaps you should PM our forum member "market timer" for his advice on how to get cheap leverage. From one of his posts long ago:
http://www.bogleheads.org/forum/viewtopic.php?t=5934
If you want, you could also read the whole thread on how to do this, though it's a very long one:market timer wrote: From September 16, 2007:
It is possible to improve on the traditional approach to asset allocation. By improve, I mean keep the same expected return with less risk.
I've read several pages of Q&A on this forum and it surprised me that nobody directly considers future savings in their asset allocation decision. Most analysis on this forum takes historical returns to asset classes as a reasonable estimate of the future, and then determines an asset allocation that has desirable risk-return characteristics for a single year. This is reasonable if your nest egg is very large relative to the size of future savings. It leads to inefficient risk taking, however, for those still in the accumulation phase.
For simplicity, suppose there is a risky asset (e.g., stocks) and a riskless asset (e.g., cash). The question is, how much to allocate to each asset class? Applying the logic of this forum, we would identify the efficient frontier, and somewhat arbitrarily determine an 80/20 or 60/40 allocation based on an acceptability of risk for a given year. Little thought is directly given to future savings. This would only minimize risk over time if exposure to the risky asset were constant in real dollars. I could prove this for you if it isn't obvious.
How many of us try to maintain constant equity exposure? Note that this naturally leads to a decreasing fraction of wealth in equities if we have positive savings. This conclusion provides a simple solution to the retirement investment decision: one should borrow as a lump sum enough money to fund retirement in expectation as early as possible, then spend the working years servicing this debt and eventually saving the remainder in cash/bonds once the debt is paid. This is my retirement plan. Clearly, the size of one's eventual estimated nest egg is ever changing (responding to promotions, job loss, etc.), so equity exposure will likewise vary. The key point is that risk bearing is dramatically smoothed over time under my plan.
FAQ
1. How much additional risk do I need to take today to benefit from this strategy?
If you have less stock market exposure today than you reasonably expect to have over the course of your investment career, you will benefit from any incremental increase in your market exposure that you transfer from the future to today. This is because there is an idiosyncratic risk to time just as there is an idiosyncratic risk to stocks. As a Boglehead, you don't hold a concentrated portfolio of individual stocks, so why do you intend to hold a concentrated portfolio in time, specifically the years 2025-2035? This is when most 20-somethings can expect to have their greatest equity exposure. Any transfer of risk from that time back to today is risk reducing in the long run. This is particularly true if the stock market returns are mean reverting, so that periods of strong performance are likely followed by underperformance. Our biggest risk could be a strong bull market over the next few years that inflates asset prices to a point where real returns are depressed during the 2015-2035 range.
2. Who is crazy enough to lend me money to invest in the stock market?
Consider any of the following: credit card promotional offers, student loans, HELOCs, and family. These lines of credit can further be levered via LEAPS at near risk-free tax-deductible interest. A good discussion of credit card promotions is at the FatWallet Forum (http://www.fatwallet.com/t/52/632935), where at least several dozen people have documented their experience borrowing up to several hundred thousand dollars at near 0% interest. A word of caution on using credit card debt: this cannot be considered a reliable source of borrowing over the long run, unless indicated in the Terms & Conditions as a "for life" offer. So you should only invest in the market with CC debt up to what you can expect to save in cash during the course of the promotion. Deep in the money LEAPS behave just like a margin loan at a favorable interest rate, without the risk of margin call.
3. Do I have to understand options to benefit from this strategy?
Options are an underutilized tool for most investors. There is the perception that they are especially risky or "not productive assets" (as one poster mentioned). In fact, many people with equity holdings could borrow at cheaper terms in the options market than is available through mortgages, but they are not aware of this option. You should learn the basics of options, even as a Boglehead. That said, using options is not a requirement to this strategy, but it helps.
4. What if I lose all my money? Won't I have to file for bankruptcy?
Let's consider an example. Suppose you've just started working, have a net worth of $20K, decide to invest $100K through lines of credit you've obtained, and the market falls 20%. You will have lost your entire net worth, and this is certainly unfortunate. But the proper way to view this situation is that you have really lost $20K, which is not such a large amount of money in relation to your future retirement portfolio. Assuming you were not counting on tapping into your retirement funds for 30-40 years, does it really matter that your net worth is $0 instead of $20K? Remember that these are investments that you plan to hold for a long time, so you have not realized any loss.
5. A Nobel Laureate says that it is best to use a [insert investment strategy here] strategy, and this has been proven using Monte Carlo analysis and/or utility theory. Why should I trust you?
You should carefully evaluate any investment recommendation. What are the assumptions? How representative are the data? Be aware that utility theory tends to prefer assumptions based on mathematical tractability over realism, and even the architects of modern finance theory have severe reservations about its applicability.
6. This all sounds rather vague. How can I actually implement this strategy?
Each person's financial conditions involve unique risks and opportunity. This is one reason why you should question a one-size-fits-all investment strategy like gradual contributions to an 80/20 or 100/0 asset allocation plan. I suggest starting with your expectations for future market exposure, current assets, and availability of credit. As a young investor on the Boglehead site, your conservative estimates for your average market exposure over your investment career likely exceed your current assets and availability of credit. If you want to be extremely conservative, how much do you expect to have invested in the stock market in 2-3 years under your current asset allocation plan? You should make it a goal to achieve that level of exposure in the near future using various credit lines and options. For some, this is as simple as reducing cash/bonds and increasing equities.
7. You suggest 100% equities. Is this on the Efficient Frontier?
I believe the Efficient Frontier can only be known in hindsight. If you have a strong belief that an allocation such as 80/20 is on the Efficient Frontier, you can construct a leveraged version of this by varying your leverage. Consider the equity exposure of a hypothetical 80/20 portfolio and base your equity exposure on some multiple of the equity exposure in this portfolio. A critical difference between my analysis and what's often described as being on the Efficient Frontier is that I incorporate future cash flows.
http://www.bogleheads.org/forum/viewtopic.php?t=5934
Retirement investing is a marathon.
Re: 100% stock vs 95% stock
how about transferring balance on credit cards?boggler wrote:Honestly, if I had the option to be more than 100% stocks, I would. Unfortunately, I have no low-cost, simple, and passive way to get leverage, as I don't have a mortgage.nisiprius wrote:Disagree with your first sentence. If you have some bonds in your portfolio, two things happen.Random Musings wrote:I suggest anyone even considering a 95/5 portfolio to put on their big boy pants and go 100/0.
Although I really don't see much of a reason for people to go outside 20/80 to 80/20. One is just too risk adverse (and doesn't make sense with respect to the efficient frontier) while really high equity positions are risky in terms of behavioral aspects (staying the course).
RM
First, since it is your own money, you really really pay attention to it, and start to feel its not-zero-but-low volatility at a gut level.
Second, once the position is established, it is psychologically easier to add to it. And it gives you a few years, when it doesn't matter, to think through things like whether Total Bond is your cup of tea or whether you want something more sophisticated, etc.
We've seen a fair number of posts from people who had 0% bonds, reached their early sixties still at 0% bonds, and suddenly realize that retirement is looming, they do not have the risk tolerance for 100% stocks, they sort of think they should have been derisking their portfolio gradually over time, but they haven't done it and are scared to start because of the uncertain consequences of making a big commitment over a short period of time. They get stuck waiting endlessly asking themselves the question "is right now the right time to buy bonds?"
Get the camel's nose into the tent, I say.
Oh, and a third point. There's is a dangerous mystique to the idea of 100.00000% stocks. I don't quite get it, but I sometimes think people see it as a sort of purist's commitment to a stock ideology or something. There's nothing magic in that number. You could be 105% stocks--who's going to say that if you can hack 100% stocks you can't hack 105% stocks, and 105% has an expected return of more, more moolah, more bread, more spondulix etc. etc. You have to pick a number. It can be a number over 100%. It can be a number under 100%. It's not like monogamy, it's not stocks are going to punish you if they discover you've been fooling around with bonds. Insert joke about "Fidelity" here.