TIPS Draw Negative Real Yield for First Time

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Postby Lbill » Fri Oct 29, 2010 8:42 pm

Hi Mike -

It's often said that gold works as an inflation hedge, but Larry S. and others have done a good job IMO of disputing that. That's a "straw man" argument against gold. Maybe over the long, long run gold holds it's real value against depreciating currencies, but it is far too volatile an asset to act as a good inflation "hedge," if by that we mean that it's price reliably tracks inflation year in and year out. You only have to look back at the 21 years from 1981-2001 to see that. Over those 21 years, gold lost ground to inflation in 16, and the real (inflation adjusted) annual return averaged (-6.1)%. It is, however, a unique hedge against the follies of paper assets such as stocks and bonds, currencies, as well as monetary, political and economic crises. It is unique in maintaining a persistent low or negative correlation to paper assets, so it comes in quite handy as a portfolio diversifier. But don't expect it to offset inflation unless that inflation is accompanied or caused by monetary, political, or economic dislocations, or dramatic currency devaluations, as was the case in the 1970s when gold did hedge the spike in inflation. In the nine years 1972-1980, gold beat inflation in 7, with an average annual real return of 28.2%.
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Postby jack1719 » Fri Oct 29, 2010 9:19 pm

Lbill wrote:Hi Mike -

It's often said that gold works as an inflation hedge, but Larry S. and others have done a good job IMO of disputing that. That's a "straw man" argument against gold. Maybe over the long, long run gold holds it's real value against depreciating currencies, but it is far too volatile an asset to act as a good inflation "hedge," if by that we mean that it's price reliably tracks inflation year in and year out. You only have to look back at the 21 years from 1981-2001 to see that. Over those 21 years, gold lost ground to inflation in 16, and the real (inflation adjusted) annual return averaged (-6.1)%. It is, however, a unique hedge against the follies of paper assets such as stocks and bonds, currencies, as well as monetary, political and economic crises. It is unique in maintaining a persistent low or negative correlation to paper assets, so it comes in quite handy as a portfolio diversifier. But don't expect it to offset inflation unless that inflation is accompanied or caused by monetary, political, or economic dislocations, or dramatic currency devaluations, as was the case in the 1970s when gold did hedge the spike in inflation. In the nine years 1972-1980, gold beat inflation in 7, with an average annual real return of 28.2%.


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In the nine years 1972-1980, gold beat inflation in 7, with an average annual real return of 28.2%
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same case as this decade,when you look at the returns of gold this decade vs inflation it had to beat it every year(maybe 2000 it didnt?

I was looking at the returns of gold every year this decade .and its mind boggling how Gold has just destroyed equities..

A $10,000 investment: your returns with gold and stocks

Had you invested $10,000 in gold bullion in 1999, your initial investment would have grown to $38,300 by 12/31/09 – an amazing 283% percent increase.

That same $10,000 investment in stocks of the S&P index would have lost $1,400. That’s a 14% loss.
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Jack

Postby larryswedroe » Sat Oct 30, 2010 3:28 pm

try the period from 1980 through 2003. See how Gold destroyed equities and bonds during that period, even clobbering inflation (:-))

Now imagine a 65 retiree in 1980 buying gold as his inflation hedge and watch it collapse from about 850 to under 300 if memory serves while inflation roared at 4% per annum, and he dies at age 88 in 2003.

Gold is a horrible inflation hedge as the example shows. It is a hedge against some geopolitical risks, some but not all. And even there it doesn't work against some of the risks people think it does---just ask the Jews of Nazi Germany who stored their wealth in gold, or many other people who found out that their gold was to be confiscated by dictators who take over.
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Re: Jack

Postby Paladin » Sat Oct 30, 2010 4:48 pm

larryswedroe wrote:try the period from 1980 through 2003. See how Gold destroyed equities and bonds during that period, even clobbering inflation (:-))

Now imagine a 65 retiree in 1980 buying gold as his inflation hedge and watch it collapse from about 850 to under 300 if memory serves while inflation roared at 4% per annum, and he dies at age 88 in 2003.

Gold is a horrible inflation hedge as the example shows. It is a hedge against some geopolitical risks, some but not all. And even there it doesn't work against some of the risks people think it does---just ask the Jews of Nazi Germany who stored their wealth in gold, or many other people who found out that their gold was to be confiscated by dictators who take over.


If you want to avoid confiscation you would keep your gold and Swiss Francs in Switzerland as many have done. That was true in WWII and it's true today.
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Re: Jack

Postby Harold » Sat Oct 30, 2010 5:01 pm

Paladin wrote:
larryswedroe wrote:try the period from 1980 through 2003. See how Gold destroyed equities and bonds during that period, even clobbering inflation (:-))

Now imagine a 65 retiree in 1980 buying gold as his inflation hedge and watch it collapse from about 850 to under 300 if memory serves while inflation roared at 4% per annum, and he dies at age 88 in 2003.

Gold is a horrible inflation hedge as the example shows. It is a hedge against some geopolitical risks, some but not all. And even there it doesn't work against some of the risks people think it does---just ask the Jews of Nazi Germany who stored their wealth in gold, or many other people who found out that their gold was to be confiscated by dictators who take over.


If you want to avoid confiscation you would keep your gold and Swiss Francs in Switzerland as many have done. That was true in WWII and it's true today.

If a dictator with a desire for confiscating gold were to take over Switzerland, he'd be pretty well set!
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Postby Lbill » Sun Oct 31, 2010 10:04 am

Larry Swedroe wrote:
Now imagine a 65 retiree in 1980 buying gold as his inflation hedge and watch it collapse from about 850 to under 300 if memory serves while inflation roared at 4% per annum, and he dies at age 88 in 2003.

It is equally fair to point out that stocks are a lousy hedge against inflation too, as are nominal bonds. Anyone who believed the broker hype that stock prices are able to adjust to inflation and protect purchasing power would have ended up equally broke by 1981 if they'd been 100% in stocks in 1968. This argument sounds too much like most of the negative fear-tactic political commercials I'm being inundated with these days. Nobody would invest their entire fortune in gold, or any other asset, unless he were a mentally-challenged fool.

I believe Larry is committing the error of considering assets in isolation, rather than within the context of the total portfolio (hmmm - where did I hear that before?). For some reason, when it comes to gold, many people seem quite willing to commit this error. In fact, if I'd been invested in a portfolio of 25% stocks, 25% gold, and 50% intermediate treasury bonds in 1980, I would have experienced a nominal compound annual return of 8.2% and a real annual return of 4.3% through 2003 - thank you very much. That would have afforded a 4% annual inflation-adjusted spending rate, while leaving the real value of my initial capital intact to be passed on to my heirs, favorite charities, and the U.S. Treasury.
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Postby larryswedroe » Sun Oct 31, 2010 11:12 am

first, absolutely right on stocks, they are not a good inflation hedge---what they do is provide a risk premium which is EXPECTED to allow for outpacing inflation. But they are awful hedge of inflation, way too volatile.

Second, I did not make mistake on gold. The issue was it a good inflation hedge, which it clearly is not. It does provide some diversification benefits for a portfolio but FWIW I just that I don't think it is as good a vehicle as a broader commodity index for a variety of reasons, including gold doesn't reflect the cost of living changes we experience as is more likely the case with a broader index.

Finally, I doubt that there are many "real world" investors that could have stayed disciplined for 24 years before starting to see the benefits. Some yes, but very very few.CCF are bad enough with long periods of underperformance followed by typically short bursts of high octane performance

Best wishes
Larry
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Postby neverknow » Sun Oct 31, 2010 11:51 am

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Last edited by neverknow on Mon Jan 17, 2011 5:33 pm, edited 1 time in total.
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never know

Postby larryswedroe » Sun Oct 31, 2010 2:20 pm

Yes it certainly can happen that an asset class can do poorly for long time, but it is particularly true of commodities and especially true of commodities--remembering there is no risk premium associated with them.

bottom line to own any investment that is volatile requires discipline

Best wishes
Larry
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Re: never know

Postby dbr » Sun Oct 31, 2010 2:29 pm

larryswedroe wrote:Yes it certainly can happen that an asset class can do poorly for long time, but it is particularly true of commodities and especially true of commodities--remembering there is no risk premium associated with them.

bottom line to own any investment that is volatile requires discipline

Best wishes
Larry


Of course one can always bury the volatile investment where one cannot see it. Right now I own some shares of Oracle Corporation, probably a fairly risky stock. But then I own them because they are part of the holdings of the Vanguard Total Stock Market Index Fund. There are also some volatile asset classes in there, small cap value at about 3%, and maybe a percent or two of REIT stocks. I don't see those either, but they are there. They have excluded commodities because commodities as an asset class are not to be confused with stocks in companies that do business in commodities. Possibly that is wise.

I suppose one could argue that investing by owning VTSMX is a good tool for enforcing discipline.
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Postby Lbill » Sun Oct 31, 2010 2:39 pm

Finally, I doubt that there are many "real world" investors that could have stayed disciplined for 24 years before starting to see the benefits. Some yes, but very very few.CCF are bad enough with long periods of underperformance followed by typically short bursts of high octane performance

I concur, and have often tried to underline the point (which is also made by Bill Bernstein) that those who choose to invest in gold in particular, such as Permanent Portfolio newbies, need to be honest about their loss tolerance. Stocks and gold have the equal distinction of having sudden, sharp drawdowns that have been larger than 50%. And both have shown they can go nowhere for periods longer than a decade. Gold did that for the two decades 1980-2000. Stocks have done that for the last 12 years and counting. Even though we should be thinking in terms of the total portfolio, and not its individual components, can you do that when one of the components is a complete basket case that is scaring the krap out of you and robbing you of returns year-in-and-year out? You should never have any more in any asset class than that which can cause more pain than you can stand, over time periods longer than you can bear. Life is just too short.
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Postby Beagler » Sun Oct 31, 2010 2:58 pm

I'm recalling Larry's chart where any fixed TIPS rate <1.5% makes such bonds uninteresting. Couldn't agree more.
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Postby Noobvestor » Sun Oct 31, 2010 6:55 pm

neverknow wrote:The squabbling had reached the point of confusing of new investor, a young person. Is there something for a Boglehead to be concerned about, who is following the recommended allocation into TIPs (even TR Retirement Income has a 30% or so, allocation to VIPSX)? -- and I would suggest the answer is "no". What is happening is very knowledgeable people, with very capable data mining skills - are splitting hairs. So pretty much "noise" - except "noise" being generated right here, on the forum.


Here here. I am not sure there is any way to avoid this sort of thing, but it does strike me as being a bit counter-productive to get really really loud about something like this ... likely to make those of us who are on the newish side question our AAs. Of course, no one is under any obligation to tread lightly around us clueless folk, but it might be something to keep in mind since Bogleheads are about being noise-free :D
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