buy/hold vs. buy/hold/rebalance

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cowboyj65
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buy/hold vs. buy/hold/rebalance

Post by cowboyj65 »

It is not intuitively evident to me how changing the percentage of my portfolio in a sector that is currently doing well (or not doing well), in order to get back to my AA, is better in the “long term” than just “holding”.

I assume there are analyses of historical data that suggest an advantage to periodic re-balancing. My review of our wiki finds discussions of “what” and “how”, but not “why”. Did I miss it?
pastafarian
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Re: buy/hold vs. buy/hold/rebalance

Post by pastafarian »

Edit-- uh, never mind.
Last edited by pastafarian on Mon Feb 24, 2014 9:04 pm, edited 1 time in total.
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bottlecap
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Re: buy/hold vs. buy/hold/rebalance

Post by bottlecap »

It is not better return-wise over the long term, but it controls your risk. It you start out 50% stocks and 50% bonds, 20 years later, your risk is much greater when your unrebalanced portfolio is 75/25.

JT
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JoMoney
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Re: buy/hold vs. buy/hold/rebalance

Post by JoMoney »

Here's a Vanguard study on rebalancing that discusses some potential outcomes:
Vanguard wrote: http://www.vanguard.com/pdf/icrpr.pdf
It is important to recognize that the goal of portfolio rebalancing is to minimize risk (tracking error) relative to a target asset allocation, rather than to maximize returns. If an investor’s portfolio can potentially hold either stocks or bonds, and the sole objective is to maximize return regardless of risk, then the investor should select a 100% equity portfolio. This is not the case for most investors, however. Typically, an investor is more concerned with downside risk (or the risk that the portfolio will drop in value) than with the potential to earn an additional 0.50 percentage point to 0.75 percentage point for each 10% increase in equity allocation..
"To achieve satisfactory investment results is easier than most people realize; to achieve superior results is harder than it looks." - Benjamin Graham
seamonkey
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Re: buy/hold vs. buy/hold/rebalance

Post by seamonkey »

The main point is controlling the overall risk of the portfolio so you can sleep at night.

The second reason is that remarkably good periods of some investments are generally followed by reversion to the mean at some unpredictable point in time. If you don't lock in your gains when rebalancing (selling high and buying low), then you may find yourself feeling as though you lost investment value if prices bottom out. For some, rebalancing prevents a lot of second-guessing and market-timing.
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gmtret
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Re: buy/hold vs. buy/hold/rebalance

Post by gmtret »

While I can understand the risk aspect, and I'm sure that it has been discussed extensively in the past, would someone be kind enough to provide John C. Bogle's take on rebalanciing?
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JoMoney
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Re: buy/hold vs. buy/hold/rebalance

Post by JoMoney »

gmtret wrote:While I can understand the risk aspect, and I'm sure that it has been discussed extensively in the past, would someone be kind enough to provide John C. Bogle's take on rebalanciing?
John Bogle wrote: http://www.morningstar.com/cover/videoc ... ?id=615379
I am in a small minority on the idea of rebalancing. I don't think you need to do it. The data bear me out, because the higher-yielding asset is going to be stocks over the long term. That's the way the capital markets work. Not in every 10-year period, or even for that matter every 25-year period. But the higher-returning asset you're getting rid of to go into a lower-returning asset, so it dampens your returns, and the differences turn out to be, if you look at 25-year periods, very, very small. And sometimes rebalancing improves your returns. Sometimes it makes them worse.
"To achieve satisfactory investment results is easier than most people realize; to achieve superior results is harder than it looks." - Benjamin Graham
Desert
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Re: buy/hold vs. buy/hold/rebalance

Post by Desert »

Another philosophy is to never rebalance into equities. If the equity allocation gets too high, rebalance into fixed income. But if equity tanks, don't sell bonds and buy equities. This protects against a long term, crushing equity decline, as was experienced in Japan. Japanese investors who repeatedly rebalanced into equities as they waited for reversion to the mean no doubt regretted ever hearing the term "rebalance."
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Re: buy/hold vs. buy/hold/rebalance

Post by larryswedroe »

Very simple way to think about it
When you set your AA it is based, or should be, on your ability, willingness and need to take risk. So unless an assumption about those things has changed why would you allow the market to change your AA for you?
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Kalo
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Re: buy/hold vs. buy/hold/rebalance

Post by Kalo »

JoMoney wrote:
gmtret wrote:While I can understand the risk aspect, and I'm sure that it has been discussed extensively in the past, would someone be kind enough to provide John C. Bogle's take on rebalanciing?
John Bogle wrote: http://www.morningstar.com/cover/videoc ... ?id=615379
I am in a small minority on the idea of rebalancing. I don't think you need to do it. The data bear me out, because the higher-yielding asset is going to be stocks over the long term. That's the way the capital markets work. Not in every 10-year period, or even for that matter every 25-year period. But the higher-returning asset you're getting rid of to go into a lower-returning asset, so it dampens your returns, and the differences turn out to be, if you look at 25-year periods, very, very small. And sometimes rebalancing improves your returns. Sometimes it makes them worse.
Is Bogle saying you don't need to rebalance, but keep making your current and future contributions at your target AA? If so, I find that not very intuitive. Maybe if I made an example in a spreadsheet I would find that the AA wouldn't drift that much, but it seems to me intuitively that it would. Also, if a person started out young and aggressive on a glide path, wouldn't that also contribute to a very equity heavy portfolio (provided stocks outperformed bonds as they have in the past) if they never rebalanced their holdings?

Kalo
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robertalpert
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Re: buy/hold vs. buy/hold/rebalance

Post by robertalpert »

This article from Altruist site advocates that rebalancing too frequently or with too small of bands is sub-optimal. But rebalancing only once or twice per year with larger bands (eg the larger of 25% relative band, or 10% absolute band) might improve both risk and return.

http://www.tdainstitutional.com/pdf/Opp ... yanani.pdf
indian86
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Re: buy/hold vs. buy/hold/rebalance

Post by indian86 »

Before you adhere to some strict annual rebalancing plan, please understand that "risk" is a very complicated concept in the investment world.

I do think people can over-manage the re-balancing concept and all it does is generate broker fees. If you have learned that your risk profile is 50% stocks and 50% bonds, and over the course of the last year it has morphed to 54% stocks and 46% bonds, are you really losing sleep at night? "Oh my goodness, I just can't sleep with 54 percent stocks?" Doubtful - especially since your portfolio is likely higher overall anyway. I don't rebalance until it gets to 65/35 range, which will rarely happen if you are adding new monies periodically anyway. When I start pushing the upper 60s or 70 percent in stocks, then I start felling antsy. 20 percent differential moves me into a different "risk-range" where I am less comfortable.

But Risk profiles are only concepts, meant to have some wiggle room. Low risk could be anywhere from 10-30 percent in stocks, medium risk 30-70 percent in stocks, high risk 70-100 percent in stocks. There is nothing magical about the numbers 50/50. The same person who is 50/50 can typically sleep at night at 60/40 as well.

Which makes me think rebalancing is really mostly about goals. If you have x dollars and 20 years until retirement, and you calculation that a 5% average return will get you to your goal, then 50/50 is probably right for you. One could have trouble sleeping at night with a "less" risky portfolio if they are concerned it won't get them to their goal (not enough gains), the same way one could have trouble sleeping at night if they think a "more" risky AA might not get them to their goal (risk of a major loss). I have too much money in cash right now, and I don't like it.

I use history/knowledge to set my risk. History and understanding returns from various asset classes helps define what risk profile is right for me. "Risk" is not just something you are born with, it is not a gene - at its heart it is emotion, which can be controlled. Educate yourself and you may find they you are comfortable with more risk. Nobody likes to lose money, but those who are comfortable with more risk I find have done more studying and understand historical market returns and have goals, etc..Figure out what your goal is and work backward to develop a sensible AA that history shows will give you a return that will achieve your goals.
Code Commit
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Re: buy/hold vs. buy/hold/rebalance

Post by Code Commit »

JoMoney wrote:
Vanguard wrote: http://www.vanguard.com/pdf/icrpr.pdf
It is important to recognize that the goal of portfolio rebalancing is to minimize risk (tracking error) relative to a target asset allocation, rather than to maximize returns. If an investor’s portfolio can potentially hold either stocks or bonds, and the sole objective is to maximize return regardless of risk, then the investor should select a 100% equity portfolio. This is not the case for most investors, however. Typically, an investor is more concerned with downside risk (or the risk that the portfolio will drop in value) than with the potential to earn an additional 0.50 percentage point to 0.75 percentage point for each 10% increase in equity allocation..
John Bogle wrote: http://www.morningstar.com/cover/videoc ... ?id=615379
I am in a small minority on the idea of rebalancing. I don't think you need to do it. The data bear me out, because the higher-yielding asset is going to be stocks over the long term. That's the way the capital markets work. Not in every 10-year period, or even for that matter every 25-year period. But the higher-returning asset you're getting rid of to go into a lower-returning asset, so it dampens your returns, and the differences turn out to be, if you look at 25-year periods, very, very small. And sometimes rebalancing improves your returns. Sometimes it makes them worse.
For some reason, those two quotes appear to contradict each other about the value of rebalancing. It seems like Bogle is not in favor of rebalancing because it dampens the returns in his opinion, whereas the Vanguard paper says the purpose of rebalancing is not really to maximize returns, but to minimize risk.
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JoMoney
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Re: buy/hold vs. buy/hold/rebalance

Post by JoMoney »

I think you need to watch the video and hear Bogle's full comment. He doesn't say to never rebalance. My take is that he's just saying don't overdo it. A few percentage points change in the market is not a reason to suddenly start shifting money around.

Keep in mind if the strategy you've adopted is one that calls for keeping a fixed percentage of bonds, you can make adjustments through your contributions or withdrawals as well.
"To achieve satisfactory investment results is easier than most people realize; to achieve superior results is harder than it looks." - Benjamin Graham
Code Commit
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Re: buy/hold vs. buy/hold/rebalance

Post by Code Commit »

JoMoney wrote: My take is that he's just saying don't overdo it. A few percentage points change in the market is not a reason to suddenly start shifting money around.
I agree that is certainly a sensible approach (i.e. not to overdo it).

And, yes. For folks like me who are still accumulating, new contributions are the easiest route to maintain allocation as per risk profile. We need a 2008 like event to actually sell and buy something else.
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Re: buy/hold vs. buy/hold/rebalance

Post by gmtret »

Good replies all around. I suppose the bottom line is different strokes for different folks: we all have our personal economic realities. But I am convinced beyond a shadow of a doubt that "Stay the course" is the most advantageous path due to tax considerations. YMMV, but, again- we all have our individual realities...
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JustinR
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Re: buy/hold vs. buy/hold/rebalance

Post by JustinR »

cowboyj65 wrote:It is not intuitively evident to me how changing the percentage of my portfolio in a sector that is currently doing well (or not doing well), in order to get back to my AA, is better in the “long term” than just “holding”.
Define "better."
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Aptenodytes
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Re: buy/hold vs. buy/hold/rebalance

Post by Aptenodytes »

JoMoney wrote:
gmtret wrote:While I can understand the risk aspect, and I'm sure that it has been discussed extensively in the past, would someone be kind enough to provide John C. Bogle's take on rebalanciing?
John Bogle wrote: http://www.morningstar.com/cover/videoc ... ?id=615379
I am in a small minority on the idea of rebalancing. I don't think you need to do it. The data bear me out, because the higher-yielding asset is going to be stocks over the long term. That's the way the capital markets work. Not in every 10-year period, or even for that matter every 25-year period. But the higher-returning asset you're getting rid of to go into a lower-returning asset, so it dampens your returns, and the differences turn out to be, if you look at 25-year periods, very, very small. And sometimes rebalancing improves your returns. Sometimes it makes them worse.
With all due respect to Mr. Bogle, this just makes no sense for the average investor. It is the equivalent of saying to pick your AA at random, but Bogle doesn't advise people to pick an AA randomly but rather to start from age in bonds and tweak from there. Moreover, it is over the medium to long time periods, such as the 25 years Bogle refers to, that effects will be very large, not small. A portfolio that starts out 50% equities could fairly easy end up 85% over 25 years. To say that the person who chose 50% equities as the right level of risk can just as easily live with the risk inherent in 85% equities is just wrong, especially when they are 25 years older. Someone people will be OK with such changes given the entirety of their circumstances, and Bogle is evidently among them. But to call that a general principle for sound investing does not compute.

To the OP: Sometimes it is best just to go ahead and drink the Kool Aid. In this case, buy/hold/rebalance is a pretty good flavor of Kool Aid.
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Re: buy/hold vs. buy/hold/rebalance

Post by Buddtholomew »

Aptenodytes wrote:
JoMoney wrote:
gmtret wrote:While I can understand the risk aspect, and I'm sure that it has been discussed extensively in the past, would someone be kind enough to provide John C. Bogle's take on rebalanciing?
John Bogle wrote: http://www.morningstar.com/cover/videoc ... ?id=615379
I am in a small minority on the idea of rebalancing. I don't think you need to do it. The data bear me out, because the higher-yielding asset is going to be stocks over the long term. That's the way the capital markets work. Not in every 10-year period, or even for that matter every 25-year period. But the higher-returning asset you're getting rid of to go into a lower-returning asset, so it dampens your returns, and the differences turn out to be, if you look at 25-year periods, very, very small. And sometimes rebalancing improves your returns. Sometimes it makes them worse.
With all due respect to Mr. Bogle, this just makes no sense for the average investor. It is the equivalent of saying to pick your AA at random, but Bogle doesn't advise people to pick an AA randomly but rather to start from age in bonds and tweak from there. Moreover, it is over the medium to long time periods, such as the 25 years Bogle refers to, that effects will be very large, not small. A portfolio that starts out 50% equities could fairly easy end up 85% over 25 years. To say that the person who chose 50% equities as the right level of risk can just as easily live with the risk inherent in 85% equities is just wrong, especially when they are 25 years older. Someone people will be OK with such changes given the entirety of their circumstances, and Bogle is evidently among them. But to call that a general principle for sound investing does not compute.

To the OP: Sometimes it is best just to go ahead and drink the Kool Aid. In this case, buy/hold/rebalance is a pretty good flavor of Kool Aid.
I agree. If selecting the appropriate AA for an individual is among the most important decisions an investor can make, how can we ignore the concept of re-balancing back to that target? Also, if age-x in bonds is a guiding principle, then failing to re-balance would certainly make this much more difficult to accomplish as you deviate further away from this number. Lastly, if we allow the markets to dictate our allocation, then why select one in the first place?
"The first principle is that you must not fool yourself and you are the easiest person to fool" --Feynman.
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Re: buy/hold vs. buy/hold/rebalance

Post by dbr »

It just flabbergasts me that it is possible to come up with Bogle quotes that are absolutely contradictory. It is simply not possible to target an AA of age in bonds, with or without SS, and at the same time say that one should not rebalance. Staying on target is what rebalancing IS. That includes the option that one rebalances implicitly by direction of ongoing contributions or withdrawals.

Now, I am also pretty sure Mr. Bogle did/does not say to not rebalance. I think what he says is that eventually when/if stocks rise beyond a selected tolerance by a lot, that one has to restore the allocation to an acceptable risk. He does discourage people from thinking that rebalancing is for the purpose of somehow engineering greater return, whatever the facts about how that turns out are. On the other hand, the comments about losing return by balancing out of stocks would seem to imply that one invests at a certain ratio of stocks to bonds and then the long term plan is for stocks to grow and the investor to end up, on expectation, with a large portfolio that is almost entirely equities. That is indeed true on expectation, and raises the a question why one should not just invest everything in stocks forever. Well, someone else can explain if that is really the strategy. I can't account for it.
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Re: buy/hold vs. buy/hold/rebalance

Post by JW-Retired »

Desert wrote:Another philosophy is to never rebalance into equities. If the equity allocation gets too high, rebalance into fixed income. But if equity tanks, don't sell bonds and buy equities. This protects against a long term, crushing equity decline, as was experienced in Japan. Japanese investors who repeatedly rebalanced into equities as they waited for reversion to the mean no doubt regretted ever hearing the term "rebalance."
+1
Most rebalancing defenders here are railing against letting risk grow by not rebalancing on the high stock end. Nobody can argue with that, but this is only half of the standard (IMO reckless) rebalancing advice given here. The other half is to not let your stock AA drop in a bear market.... i.e., keep the risk up.

Many people like me only rebalance when equities exceed our maximum target. That is risk limiting. We usually just ride out any bear markets with the lower risk strategy of holding only. This protects you against a 1990 Japan type fiasco. If you keep pouring your bond money into a bear market you are flirting with disaster.
Moreover, I think high end only equity limiting also gives a true rebalancing bonus because you very soon get to a point where you sell stocks only when they are at a historic high (like I did last week). Always selling high can't lose can it? Rebalancers who rebalance going both ways sell stocks low and buy high half the time.:oops:
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Swivelguy
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Re: buy/hold vs. buy/hold/rebalance

Post by Swivelguy »

larryswedroe wrote:Very simple way to think about it
When you set your AA it is based, or should be, on your ability, willingness and need to take risk. So unless an assumption about those things has changed why would you allow the market to change your AA for you?
Larry
Maybe this is an ignorant question, but one's need and ability to take risk both depend on the relationship between the current value of one's retirement savings and the amount needed for the desired retirement, do they not?
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nedsaid
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Re: buy/hold vs. buy/hold/rebalance

Post by nedsaid »

My best educated guess is that buy and hold would give you better returns over time than buy/hold/rebalance. Over long periods of time, stocks should outperform bonds and cash. Thus a portfolio would get more and more stock heavy over time and return more than a buy/hold/rebalance portfolio. The problem is that as time goes on, the risk and volatility of the portfolio would also increase.

As another poster pointed out, buy/hold/rebalance is a form of buy low, sell high. You are forced to sell asset classes that recently have performed well in order to buy asset classes that have not performed as well. I have recently been rebalancing from stocks (which are doing fantastically well) to bonds (which have been down in 2013).

Risk control is the biggest reason for rebalancing. I think that sometimes you might get a rebalancing bonus and sometimes you won't. The concept of risk control is not as easy as one might think since a good argument can be made that bonds are much riskier now than perceived. However, with all the talk of alternatives it seems that bonds are still the best bet to dampen risk in a portfolio.
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Aptenodytes
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Re: buy/hold vs. buy/hold/rebalance

Post by Aptenodytes »

JW Nearly Retired wrote:
Desert wrote:Another philosophy is to never rebalance into equities. If the equity allocation gets too high, rebalance into fixed income. But if equity tanks, don't sell bonds and buy equities. This protects against a long term, crushing equity decline, as was experienced in Japan. Japanese investors who repeatedly rebalanced into equities as they waited for reversion to the mean no doubt regretted ever hearing the term "rebalance."
+1
Most rebalancing defenders here are railing against letting risk grow by not rebalancing on the high stock end. Nobody can argue with that, but this is only half of the standard (IMO reckless) rebalancing advice given here. The other half is to not let your stock AA drop in a bear market.... i.e., keep the risk up.

Many people like me only rebalance when equities exceed our maximum target. That is risk limiting. We usually just ride out any bear markets with the lower risk strategy of holding only. This protects you against a 1990 Japan type fiasco. If you keep pouring your bond money into a bear market you are flirting with disaster.
Moreover, I think high end only equity limiting also gives a true rebalancing bonus because you very soon get to a point where you sell stocks only when they are at a historic high (like I did last week). Always selling high can't lose can it? Rebalancers who rebalance going both ways sell stocks low and buy high half the time.:oops:
JW
I can't quite tell if this is meant as sarcasm or sincere advice. The facts don't bear out your claim. The relevant mathematical properties here possess symmetry, so if you believe in the gains from rebalancing when stocks rise you have to believe in them when stocks fall. The only escape for believing in one but not the other is if you believe you can accurately time the swings below the trend line but not the swings above the trend line. But what's the basis for that? And if you believe you can time things accurately, why even bother to play the indexing game at all -- aim for the fences and get rich selling short.

I can see the merits of your case in one very narrow sense -- if you fear the risk of a period of permanently falling stock prices, in which equities simply never recover. In such a circumstance, you'd be better off letting your equity percentage fall as prices fall. But you can't even know if you are in such a slide, and the odds against it are pretty high. The price you will pay for engaging in this form of risk management is pretty high. E.g. you would have missed out on a lot of post-2008 recovery by mistakenly shifting your AA toward bonds as equities got cheaper. Or better yet, from this peculiar perspective, just stay out of equities altogether -- if you want to protect against a a permanent decline in prices that's a better approach than adjusting the AA as they slide down.

Diversifying globally is a better hedge against the risk of a long-term stock market implosion than shifting the AA to bonds as equity prices fall. People can point to ad hoc examples of individual countries going into generation-long collapses in equity markets, as in Japan, but there's never been a period when global markets as a whole behaved like that.
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Re: buy/hold vs. buy/hold/rebalance

Post by nedsaid »

I think JWNearlyretired is making an argument similar to one that I would make.

During the 2008-2009 bear market, I should have rebalanced from bonds to stocks. I did not because I was scared. But I did not sell my stocks because I realized that if I did that I would never be able to meet my retirement objectives. Selling at the bottom of the market is not a good strategy. I did the next best thing and bought stocks with 100% of my new monies for about a year. Otherwise, I just stayed put. So there was a big emotional element in doing what I did and I worked out a compromise between my emotional self and my rational self.

The other reason I have not rebalanced from bonds to stocks is that I am getting older. In 2000, I was 41 years old. in early 2009 when it looked like there was no bottom to the market, I was 50 years old. As the number of working years declines, there are fewer and fewer years to add new money and to reinvest dividends. I was in no mood to increase my risk again.

I am now 54 and my portfolio is 69% stocks and 31% fixed income. I am only mildly rebalancing from stocks to bonds because I cannot get excited about two and three percent yields on bonds. I perceive bonds as being riskier than they were in the past. So I am in a bit of a dilemma.
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rixer
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Re: buy/hold vs. buy/hold/rebalance

Post by rixer »

What happens when you're in retirement and withdrawing from your portfolio? When you make an annual withdrawal, I thought it is best to re-balance at that time. Not so?
dbr
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Re: buy/hold vs. buy/hold/rebalance

Post by dbr »

rixer wrote:What happens when you're in retirement and withdrawing from your portfolio? When you make an annual withdrawal, I thought it is best to re-balance at that time. Not so?
Yes, of course. That is normally assumed just as it is assumed that people making contributions direct those toward target AA.

It might happen that some tax consideration or transaction costs changes that a little bit.

Now, if what you mean is that the investor has decided to not rebalance, then withdrawals would presumably be taken in such a way as to keep the allocation where it is, whatever that may be. In this case you have to figure out and execute a definite plan to "not rebalance."
Rodc
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Re: buy/hold vs. buy/hold/rebalance

Post by Rodc »

nedsaid wrote:I think JWNearlyretired is making an argument similar to one that I would make.

During the 2008-2009 bear market, I should have rebalanced from bonds to stocks. I did not because I was scared. But I did not sell my stocks because I realized that if I did that I would never be able to meet my retirement objectives. Selling at the bottom of the market is not a good strategy. I did the next best thing and bought stocks with 100% of my new monies for about a year. Otherwise, I just stayed put. So there was a big emotional element in doing what I did and I worked out a compromise between my emotional self and my rational self.

The other reason I have not rebalanced from bonds to stocks is that I am getting older. In 2000, I was 41 years old. in early 2009 when it looked like there was no bottom to the market, I was 50 years old. As the number of working years declines, there are fewer and fewer years to add new money and to reinvest dividends. I was in no mood to increase my risk again.

I am now 54 and my portfolio is 69% stocks and 31% fixed income. I am only mildly rebalancing from stocks to bonds because I cannot get excited about two and three percent yields on bonds. I perceive bonds as being riskier than they were in the past. So I am in a bit of a dilemma.
Interestingly enough, for some years my 401K only allowed rebalancing from stocks to bonds, not the other way around (though you could shift new money to stocks).

While with a very well diversified portfolio this has not historically been optimal, it keeps you from a death spiral should stocks drop to near zero and stay there a long time.
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.
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Re: buy/hold vs. buy/hold/rebalance

Post by columbia »

JW Nearly Retired wrote: Moreover, I think high end only equity limiting also gives a true rebalancing bonus because you very soon get to a point where you sell stocks only when they are at a historic high (like I did last week). Always selling high can't lose can it? Rebalancers who rebalance going both ways sell stocks low and buy high half the time.:oops:
JW
Do the auto-balancing (LifeStrategy) funds prevent or promote this effect?
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Re: buy/hold vs. buy/hold/rebalance

Post by IlliniDave »

Aptenodytes wrote:
JoMoney wrote:
gmtret wrote:While I can understand the risk aspect, and I'm sure that it has been discussed extensively in the past, would someone be kind enough to provide John C. Bogle's take on rebalanciing?
John Bogle wrote: http://www.morningstar.com/cover/videoc ... ?id=615379
I am in a small minority on the idea of rebalancing. I don't think you need to do it. The data bear me out, because the higher-yielding asset is going to be stocks over the long term. That's the way the capital markets work. Not in every 10-year period, or even for that matter every 25-year period. But the higher-returning asset you're getting rid of to go into a lower-returning asset, so it dampens your returns, and the differences turn out to be, if you look at 25-year periods, very, very small. And sometimes rebalancing improves your returns. Sometimes it makes them worse.
With all due respect to Mr. Bogle, this just makes no sense for the average investor. It is the equivalent of saying to pick your AA at random, but Bogle doesn't advise people to pick an AA randomly but rather to start from age in bonds and tweak from there. Moreover, it is over the medium to long time periods, such as the 25 years Bogle refers to, that effects will be very large, not small. A portfolio that starts out 50% equities could fairly easy end up 85% over 25 years. To say that the person who chose 50% equities as the right level of risk can just as easily live with the risk inherent in 85% equities is just wrong, especially when they are 25 years older. Someone people will be OK with such changes given the entirety of their circumstances, and Bogle is evidently among them. But to call that a general principle for sound investing does not compute.

To the OP: Sometimes it is best just to go ahead and drink the Kool Aid. In this case, buy/hold/rebalance is a pretty good flavor of Kool Aid.
There's a difference between saying you don't "need" to do it and saying you shouldn't do it. In Common Sense on Mutual Funds he presents three approaches: the traditional fixed AA, setting an initial AA and letting it drift with the markets ("benign neglect"), and "tactical" asset allocation; and he acknowledges the first approach will provide many investors greater peace of mind.

I couldn't really say my AA is chosen at random, but it is somewhat arbitrary. I do practice rebalancing in my tax advantaged accounts, and honestly at times I think the biggest benefit of it is it allows me to fiddle with things periodically. In my taxable accounts I let things ride beyond what partial rebalancing new contributions and redirection of distributions allow.
Don't do something. Just stand there!
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Re: buy/hold vs. buy/hold/rebalance

Post by JW-Retired »

nedsaid wrote:I think JWNearlyretired is making an argument similar to one that I would make.

During the 2008-2009 bear market, I should have rebalanced from bonds to stocks. I did not because I was scared. But I did not sell my stocks because I realized that if I did that I would never be able to meet my retirement objectives. Selling at the bottom of the market is not a good strategy. I did the next best thing and bought stocks with 100% of my new monies for about a year. Otherwise, I just stayed put. So there was a big emotional element in doing what I did and I worked out a compromise between my emotional self and my rational self.
Yes, we did similar things. I did buy stocks with new money as well but that was not much compared to the nest egg, the main thing is we never sold any of the bonds we owned following our "stay put" plan. This preserves a minimum bond nest egg. I was optimistic the market would recover but when that happens my original 60/40 AA comes back anyway. There is just no point to rebalancing all the way down and then all the way back up again. Continuing to rebalance in the bear by selling bonds/buying stocks really does nothing since, when the market starts back up, you just sell back those same stocks at the same prices as you bought them on the way down. There is no rebalancing "bonus". I get to the same end point doing no bond trading. If my optimism is wrong and there is no recovery and it's a Japan 1990 rerun or worse, then I have preserved my minimum nest egg. Plus I'm thinking I will be quite glad to be sitting there with a lower stock allocation.

This strategy will probably get your attention when your age and your portfolio grows to the point where you would really dislike losing a large part of it.
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Re: buy/hold vs. buy/hold/rebalance

Post by deci02 »

cowboyj65 wrote:It is not intuitively evident to me how changing the percentage of my portfolio in a sector that is currently doing well (or not doing well), in order to get back to my AA, is better in the “long term” than just “holding”.

I assume there are analyses of historical data that suggest an advantage to periodic re-balancing. My review of our wiki finds discussions of “what” and “how”, but not “why”. Did I miss it?
William Sharpe's views on rebalancing vs straightforward buy and hold are available at these links. You might find it interesting reading if you have the time.

http://www.indiceperu.com/lecturas/paper09.pdf

http://www.stanford.edu/~wfsharpe/retecon/wfsaaap.pdf

http://www.stanford.edu/~wfsharpe/art/apinterview.pdf
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Re: buy/hold vs. buy/hold/rebalance

Post by Buddtholomew »

JW Nearly Retired wrote:
nedsaid wrote:I think JWNearlyretired is making an argument similar to one that I would make.

During the 2008-2009 bear market, I should have rebalanced from bonds to stocks. I did not because I was scared. But I did not sell my stocks because I realized that if I did that I would never be able to meet my retirement objectives. Selling at the bottom of the market is not a good strategy. I did the next best thing and bought stocks with 100% of my new monies for about a year. Otherwise, I just stayed put. So there was a big emotional element in doing what I did and I worked out a compromise between my emotional self and my rational self.
Continuing to rebalance in the bear by selling bonds/buying stocks really does nothing since, when the market starts back up, you just sell back those same stocks at the same prices as you bought them on the way down.
JW
This is an interesting perspective on re-balancing that I would like to explore further. Is the inverse true as well? Don't re-balance from stocks to bonds as one would end up selling bonds to purchase stocks when equities decline.
"The first principle is that you must not fool yourself and you are the easiest person to fool" --Feynman.
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Re: buy/hold vs. buy/hold/rebalance

Post by longinvest »

From http://www.forbes.com/sites/phildemuth/ ... th-author/
Then you will love the following excerpt from Deep Risk by William Bernstein. Let me set the stage. It’s June 30, 1929. You have a $100,000 portfolio (that’s $1.3MM today) invested 75/25 in stocks/bonds.
Here’s how this scenario plays out: By June 30, 1930, stocks have fallen by 26%, so you have to sell $6,528 of your Treasuries to buy more stocks to bring the portfolio back to 75/25. Over the next year, stocks fall another 26%, and on June 30, 1931, you’ve got to sell $4,616 more of those precious Treasuries.

The next 12 months are even more of a disaster, with stocks losing more than 64%. On June 30, 1932, your Treasury stash is worth $16,959, and you calculate that to get back to 75/25 you’ll have to sell $8,357 of them—nearly half of the notes—to toss into what now clearly looks like a deep-risk rat hole. (p.49)
Be afraid.

Be very afraid.

Who among us, staring at the demise of capitalism itself, with no idea how this weenie-roast will end, would have the courage to pull the trigger on that particular trade in 1932? Not me. If this one doesn't make your skin crawl, it’s on too tight.
I AM AFRAID! While I have no trouble buying into depressed assets using new money, I have trouble selling winning assets to buy into deeply losing assets (25% of my AA is in emerging markets which give quite a ride). I know that this is irrational; putting new or old money into the losing asset should be the same, but it's not for my brain/emotions.

My accumulation rebalancing strategy: I never sell. Instead, I take distributions as cash. I then invest new money and cash distributions into lagging assets. (This is simpler using an "equal location" strategy for taxable and tax-advantaged accounts).

My problem: I still have not to figured out how to rebalance when I'll get to decumulation. Simply spending the distributions and covering additional needs by selling leading assets might not suffice to keep the AA in check (if distributions are ~3%, it leaves a tiny 1% cut on winning assets for a 4% withdrawal). Any suggestion?
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Re: buy/hold vs. buy/hold/rebalance

Post by Aptenodytes »

@longinvest, it is kind of weird to refer to the great depression as prelude to explaining your plan not to rebalance when equities fall. The great depression provides a textbook example of how disciplined buy/hold/rebalance pays off handsomely.
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Re: buy/hold vs. buy/hold/rebalance

Post by Buddtholomew »

Also, with respect to the article referenced in the post. It's difficult to respect an author's writing when he incorrectly uses the last name of the Permanent Portfolio founder. It's Mr. Harry Browne, not Brown.
"The first principle is that you must not fool yourself and you are the easiest person to fool" --Feynman.
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Re: buy/hold vs. buy/hold/rebalance

Post by longinvest »

Aptenodytes wrote:@longinvest, it is kind of weird to refer to the great depression as prelude to explaining your plan not to rebalance when equities fall. The great depression provides a textbook example of how disciplined buy/hold/rebalance pays off handsomely.
My brains knows that. But...

When reading W. Bernstein's text, I have to ask myself: if I had this 75/25 AA, what would I have done in 1932, not knowing the future? Wouldn't I have questioned the rationality of selling half my treasuries? Quite possibly, as I do not know as a fact that everything always mean reverts. Sometimes, things don't (or not fast enough).
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Re: buy/hold vs. buy/hold/rebalance

Post by Methedras »

JW Nearly Retired wrote: Rebalancers who rebalance going both ways sell stocks low and buy high half the time.:oops:
JW
This statement is false. Those who rebalance only one direction (as per the strategy you adhere to) will only sell stocks when they have grown too high in value, and move some of the money to bonds. Thus, selling stocks when they are high, and moving money to bonds, thus buying low.

When someone rebalances the other direction they are not selling stocks low and buying high. In fact, they are selling bonds when they are high to buy stocks when they are low. Bi-directional rebalancing always has you sell high to buy low, and it is only which asset you move money to/from which changes.
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Re: buy/hold vs. buy/hold/rebalance

Post by longinvest »

Only using distributions and new cash might work during accumulation (that's ~3% + 10%+ cash, currently). It's not as efficient as normal rebalancing, but it should be good enough to get back to the desired allocation. At least, it has worked for me, so far.

The real problem is that a great depression usually causes loss of employment income. So, my "(re)invest distributions and new cash" strategy would not work. That's why I need a working decumulation strategy (that doesn't leave me feeling like I'm selling good assets to dump the money into a black hole).

The best I can think up right now, is:
  1. Reinvest distributions into lagging assets (instead of spending them).
  2. Sell winning assets for withdrawals.
I know, it's a mental game (money is money, where it came from doesn't matter). But, maybe it's the putting a speed limit on rebalancing that helps my emotions? Does this make sense?

Weird, isn't it, that I have no trouble with a high allocation to equities, but I do with selling assets? Go figure!
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Re: buy/hold vs. buy/hold/rebalance

Post by Swivelguy »

Methedras wrote:
JW Nearly Retired wrote: Rebalancers who rebalance going both ways sell stocks low and buy high half the time.:oops:
JW
This statement is false. Those who rebalance only one direction (as per the strategy you adhere to) will only sell stocks when they have grown too high in value, and move some of the money to bonds. Thus, selling stocks when they are high, and moving money to bonds, thus buying low.

When someone rebalances the other direction they are not selling stocks low and buying high. In fact, they are selling bonds when they are high to buy stocks when they are low. Bi-directional rebalancing always has you sell high to buy low, and it is only which asset you move money to/from which changes.
Selling high or low relative to what? To yesterday's prices? To the all-time high? To the 1-year trailing low? It's true that rebalancing will always have you selling high relative to when you last rebalanced, but does that actually produce a gain? If I rebalance every time the S&P crosses a multiple of 1000, then as it goes up 3000 points I will have 3 rebalancing transactions, and as it goes down 3000 points I will have 2 more. Interestingly, the 3rd transactions can be said to actually produce profit, because the 3rd transaction sells stocks at a higher price than any other transaction occurs. The 2nd and 4th transaction take place at the exact same price, as do the 1st and 5th, so these transactions effectively just reverse one another. It would seem that rebalancing produces a profit, but only in the last rebalancing transaction of an upswing or downswing. All we have to do is know where the top and bottom are and only rebalance there! :sharebeer
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Re: buy/hold vs. buy/hold/rebalance

Post by longinvest »

Buddtholomew wrote:Also, with respect to the article referenced in the post. It's difficult to respect an author's writing when he incorrectly uses the last name of the Permanent Portfolio founder. It's Mr. Harry Browne, not Brown.
You might be right, but I was more interested in the quote from Dr. Bernstein's Deep Risk book contained in the article. I do admire Dr. Bernstein's writings! His The Four Pillars of Investing book was my most educating investment read.
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Re: buy/hold vs. buy/hold/rebalance

Post by Methedras »

Swivelguy wrote: All we have to do is know where the top and bottom are and only rebalance there! :sharebeer
If I knew the answer, I certainly wouldn't be here on Bogleheads. There'd be too many beaches to relax on! :sharebeer

But seriously, if you think of rebalancing as profiting, it will be a disappointment for sure. You really must think of it as a risk-management tool. For those proposing to sell stocks as they climb in order to manage risk, I completely concur. I was simply making a correction that rebalancing on the other side is not sell low/buy high. It is an attempt to sell high/buy low back into equities.

Now, you are right when you question what represents high and low. We all have to guess, and so I get the impression from this board that any guess is a fool's errand, and that one should pick a risk target, and rebalance to that point. What is the best strategy to rebalance, who knows? But, I have found this study to be very interesting to read:


http://www.tdainstitutional.com/pdf/Opp ... yanani.pdf

Best of luck!
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Re: buy/hold vs. buy/hold/rebalance

Post by longinvest »

longinvest wrote: [...]
Weird, isn't it, that I have no trouble with a high allocation to equities, but I do with selling assets? Go figure!
Maybe I'm overthinking things and I should simply follow Mr. Bogle's advice (my interpretation, not his exact words):
  1. Invest regularly according a sliding AA. (Implied: only new money).
  2. Never peek at the balance. (In other words: automatic reinvestment of distributions and no rebalancing... nor worries.)
  3. Have a good doctor, the day I retire. :-) (See the quote, below).
  4. In retirement, spend the distributions.
That's what I gathered from his answer:
http://www.fool.com/investing/general/2 ... tions.aspx
(I underlined the relevant text)
Neal wants to know when it is appropriate, in your opinion, for an individual to buy stocks. Is there a level of expertise or interest? An amount of time you should have or capital? Or should it be a side frivolity in a base portfolio of index funds?

JOHN "JACK" BOGLE:

That last sentence captured it best and that is you should have a serious money account — I might even call it a boring money account — where you put money in a stock market index fund and balance that a little bit with some bonds, depending on age and so on — and don't look at it. Don't look at it for 50 years. Don't peek. But when you retire, open the envelope. Be sure a doctor is nearby to revive you. You'll go into a dead faint. You can't believe there's that much money in the world. That's where we fool ourselves. That's a serious money, boring money account.
Actually, the bit about spending distributions comes from Mr. Bogle's The Clash of the Cultures book:
Rule 3: Buy Right and Hold Tight
[...]
As you age, lower your stock allocation accordingly. You have fewer years remaining to build your retirement; you likely have much more wealth; you’ll soon need to spend your investment income rather than reinvest it; and (if you’re like me) you’re not quite so relaxed about violent market volatility.[...]
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Re: buy/hold vs. buy/hold/rebalance

Post by longinvest »

longinvest wrote: When reading W. Bernstein's text, I have to ask myself: if I had this 75/25 AA, what would I have done in 1932, not knowing the future? Wouldn't I have questioned the rationality of selling half my treasuries? Quite possibly, as I do not know as a fact that everything always mean reverts. Sometimes, things don't (or not fast enough).
I guess I should have more confidence in our mentor. In The Clash of the Cultures Mr Bogle writes:
Rule 1: Remember Reversion to the Mean
After what I’ve focused on earlier in this chapter, it will not surprise you that “Remember RTM” is the first of these 10 rules. [...]
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Re: buy/hold vs. buy/hold/rebalance

Post by Desert »

JW Nearly Retired wrote: Yes, we did similar things. I did buy stocks with new money as well but that was not much compared to the nest egg, the main thing is we never sold any of the bonds we owned following our "stay put" plan. This preserves a minimum bond nest egg. I was optimistic the market would recover but when that happens my original 60/40 AA comes back anyway. There is just no point to rebalancing all the way down and then all the way back up again. Continuing to rebalance in the bear by selling bonds/buying stocks really does nothing since, when the market starts back up, you just sell back those same stocks at the same prices as you bought them on the way down. There is no rebalancing "bonus". I get to the same end point doing no bond trading. If my optimism is wrong and there is no recovery and it's a Japan 1990 rerun or worse, then I have preserved my minimum nest egg. Plus I'm thinking I will be quite glad to be sitting there with a lower stock allocation.

This strategy will probably get your attention when your age and your portfolio grows to the point where you would really dislike losing a large part of it.
JW
That's a good explanation, and I think the sentence I highlighted above is the key point that took me a while to grasp. Selling bonds to buy stocks as prices fall in a bear market requires that you sell them again on the way up, unless you're lucky enough to know exactly where the bottom is. Therefore, avoiding buying into a prolonged bear market in equities doesn't cost you a rebalancing bonus, since no such bonus exists (or at least can't be consistently captured).
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Re: buy/hold vs. buy/hold/rebalance

Post by JW-Retired »

Methedras wrote:
JW Nearly Retired wrote: Rebalancers who rebalance going both ways sell stocks low and buy (stocks) high half the time.:oops:
JW
This statement is false. Those who rebalance only one direction (as per the strategy you adhere to) will only sell stocks when they have grown too high in value, and move some of the money to bonds. Thus, selling stocks when they are high, and moving money to bonds, thus buying low.
I don't follow your explanation why you say my statement is false? It's true. High means at a high stock price relative to an average price, low means at a low stock price relative to an average price. Using a 10yr time average as representative of an average over a couple of market cycles, here is a picture of SP500 prices over the last cycle compared with this average. Frequent rebalancing would require someone to mostly be buying stocks at high prices in the early 2/3rds of 2008 and then be selling stocks at low prices starting in March 2009 through most of 2011. In the yellow areas (about half the market cycle) you are buying stocks high or selling them low. No wonder there is no rebalancing bonus.
JW

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Re: buy/hold vs. buy/hold/rebalance

Post by JW-Retired »

Desert wrote:
JW Nearly Retired wrote: Yes, we did similar things. I did buy stocks with new money as well but that was not much compared to the nest egg, the main thing is we never sold any of the bonds we owned following our "stay put" plan. This preserves a minimum bond nest egg. I was optimistic the market would recover but when that happens my original 60/40 AA comes back anyway. There is just no point to rebalancing all the way down and then all the way back up again. Continuing to rebalance in the bear by selling bonds/buying stocks really does nothing since, when the market starts back up, you just sell back those same stocks at the same prices as you bought them on the way down. There is no rebalancing "bonus". I get to the same end point doing no bond trading. If my optimism is wrong and there is no recovery and it's a Japan 1990 rerun or worse, then I have preserved my minimum nest egg. Plus I'm thinking I will be quite glad to be sitting there with a lower stock allocation.

This strategy will probably get your attention when your age and your portfolio grows to the point where you would really dislike losing a large part of it.
JW
That's a good explanation, and I think the sentence I highlighted above is the key point that took me a while to grasp. Selling bonds to buy stocks as prices fall in a bear market requires that you sell them again on the way up, unless you're lucky enough to know exactly where the bottom is. Therefore, avoiding buying into a prolonged bear market in equities doesn't cost you a rebalancing bonus, since no such bonus exists (or at least can't be consistently captured).
Thanks Desert, I didn't see your post until after I had labored posting the above graph trying to explain this. Hopefully it will still add to the discussion.
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Re: buy/hold vs. buy/hold/rebalance

Post by JW-Retired »

longinvest wrote:
Aptenodytes wrote:@longinvest, it is kind of weird to refer to the great depression as prelude to explaining your plan not to rebalance when equities fall. The great depression provides a textbook example of how disciplined buy/hold/rebalance pays off handsomely.
My brains knows that. But...

When reading W. Bernstein's text, I have to ask myself: if I had this 75/25 AA, what would I have done in 1932, not knowing the future? Wouldn't I have questioned the rationality of selling half my treasuries? Quite possibly, as I do not know as a fact that everything always mean reverts. Sometimes, things don't (or not fast enough).
Have you read Benjamin Roth's "The Great Depression - A Diary". Investors were not wiped out because they lost their nerve and capitulated. External events forced ruin on them. They lost their jobs and business owners found the businesses just stopped bringing in any money. They couldn't pay the mortgage or the office lease out of what meager income they could scape up. If they had business or residential rental property the tenants couldn't pay rent. No use evicting them because nobody else could either. If you had some money in the bank they would only let you withdraw 10% of it. If you owned stock it stopped paying dividends. Roth was a lawyer and one month he brought in a grand total of only $15 in fees. Disciplined buy/hold/rebalance just wasn't an option. However, treasury bonds did keep paying interest.

IMO, selling half your treasuries to buy more stocks wouldn't have been a survivable course of action unless you were a 1932 equivalent of a billioniare today.
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Re: buy/hold vs. buy/hold/rebalance

Post by longinvest »

JW Nearly Retired wrote:[...]
IMO, selling half your treasuries to buy more stocks wouldn't have been a survivable course of action unless you were a 1932 equivalent of a billioniare today.
JW
JW, that's insightful. Thanks!
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Re: buy/hold vs. buy/hold/rebalance

Post by in_reality »

Methedras wrote:
Now, you are right when you question what represents high and low. We all have to guess, and so I get the impression from this board that any guess is a fool's errand, and that one should pick a risk target, and rebalance to that point. What is the best strategy to rebalance, who knows? But, I have found this study to be very interesting to read:


http://www.tdainstitutional.com/pdf/Opp ... yanani.pdf

Best of luck!
Um that pdf said "If you buy when it is low and it reverts, you profit. If you sell when it is high and it reverts you profit". Sounds like a timing technique to me.

The way I look at it rebalancing into a riskier asset when that asset is down basically increases your risk. Think about it. How can it not. You are increasing your risk by increasing your proportion of riskier assets. Maybe that is a risk that you want to take. Maybe you want to take more risk in a dropping market, expecting it will pop back up. And maybe it will.

When I set my asset allocation, I am saying to myself -- this much risk and no more. I am not saying I will always keep this exact allocation of riskier and less riskier assets. If I were at risk of not achieving my target, maybe I would think about rebalance on the way down. I don't personally need to take that extra risk and will rather limit myself to new contributions. Yeah I've been told this is unboglehead but so be it.
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