Lifecylce investing (investing with leverage while young)

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ploldo
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Lifecylce investing (investing with leverage while young)

Post by ploldo »

Excellent PDF from Yale professors about this:

http://papers.ssrn.com/sol3/papers.cfm? ... id=1139110

Assuming they are correct in that borrowing money to invest while young will reduce risk and increase return, I am wondering the best way to go about this. They recommend buying calls on S&P500 index futures. However, since I would rather invest in small cap stocks, (for example) I am wondering how to obtain this leverage for a less common index.

Instead of buying calls should I borrow money from my broker? I don't have a job yet but when I do should I borrow against my 401k? Basically I'm looking for any ways to borrow large sums of money longer term.

Thanks for your help.
Topic Author
ploldo
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Re: Lifecylce investing (investing with leverage while young

Post by ploldo »

I thought this was fascinating, at least in theory.

No one else? Is this simply too impractical?
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Langkawi
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Re: Lifecylce investing (investing with leverage while young

Post by Langkawi »

ploldo wrote:No one else?
Enter Ayres Nalebuff site:www.bogleheads.org into Google.
You will find many discussions of this topic.
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nisiprius
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Re: Lifecylce investing (investing with leverage while young

Post by nisiprius »

In their book, Lifecycle Investing, one of the vehicles they mention as a sensible way of implementing their strategy is the ProFunds UltraBull mutual fund. They mention this in their paper as well, where they derive an implied interest rate and conclude that it compares favorably with the brokerage margin lending rates. In the paper, they don't actually say how to use the fund, but it is not clear why they would bother to extract an implied interest rate if they didn't think it could be used.

The UltraBull mutual fund, according to the fund company, "seeks daily investment results, before fees and expenses, that correspond to twice (200%) the daily performance of the S&P 500." They also say that
Investors should monitor holdings consistent with their strategies, as frequently as daily.
But in a lifecycle investing strategy, I imagine one would buy and hold this fund, and the professors do not indicate how else you should use it. If you had done that, this is what would have happened:
Image
The "200%" fund managed to "grow" $10,000 into $6,395 while the boring old Vanguard Index 500 grew it to $16,605.

This is not the only strategy they suggest, but it should evoke some skepticism as how sound their advice is.

Also, you should absolutely read the, ahem, long thread entitled A different approach to asset allocation, started in September 2007 by a graduate student in economics who read an earlier Ayres and Nalebuff article, "Mortgage Your Retirement," and thought he was applying their methodology.
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Snowjob
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Re: Lifecylce investing (investing with leverage while young

Post by Snowjob »

I wouldnt worry about this untill you get a job and are already maxing the 401k and IRA.

If you want to borrow to invest, margin is your best bet but you need to keep the borrowing levels low to avoid margin calls. I'm currently maintaining about a 30% margin of safety at these prices and am currently adding more cash every pay period (and through dividends) to bump this up.

3 or 4 years ago you could have gotten low interest loans from credit cards that were good for the life of your balance. I have a capital 1 loan still thats 1.99% and will be active for anther 16 years before its paid off! There really arent offers like this anymore.

Home Equity loans are cheap and you avoid the margin calls but if you dont currently have a job I suspect you dont own a home either.

Bottom line is, you need to be cautious and flexible above all else. Models are great, but financial models are not physics models. Behavior doesnt always occur as we expect and by borrowing you are taking on a lot of additional risk.

A much safer alternative to boost your nest egg would be to save like a mad man early in your career and try to get a better paying job.
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