Why is Tilting and Slice&Dice so popular in this forum?

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longinvest
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Why is Tilting and Slice&Dice so popular in this forum?

Post by longinvest »

One would think that the mathematical proof in favor of low-cost passive market-weighted index funds would convince most Bogleheads, as they seem very bright, rational people.

Yet, not a day goes by on this forum without new threads about tilting portfolios towards something: small, value, reits, momentum, profitability, gold, silver, commodities, short-term bonds, treasuries, CDs, etc. (I'm sorry if I forgot your preferred asset type).

I am unable to reconcile the promises of better performance for these assets types with the fundamental mathematical proof that among non-"total-market" investors, only a subset of investors can outperform the total market (and probably a fairly small subset, after costs and taxes). Why would you believe anybody that claimed having discovered a superior asset, and think that the market wouldn't have already arbitraged its future advantage away, already? If you had discovered the magic formula, would you give it away for free and lose your secret advantage?

So, are these threads just a trick to keep the forum alive (as nothing is more boring than a passive portfolio)? Are they started by a small vocal minority? Or am I in the minority trusting mathematics?
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Re: Why is Tilting and Slice&Dice so popular in this forum?

Post by baw703916 »

No one holds the total market portfolio.

The mathematical proof that the market portfolio must be on the efficient frontier holds only if one restricts the portfolio to U.S. equities--no international equities or bonds. Few would consider this a reasonable portfolio for most investors, as it consists of 100% equity with no international diversification.

The vast majority of U.S. based investors overweight U.S. equities relative to their proportion of the worldwide market cap. To be sure, there are reasons for doing so (additional tax costs due to foreign tax withholding even in a retirement account, additional volatility due to currency factors, generally a somewhat higher E/R for international funds). But you no longer hold the market portfolio. It's altogether possible, given that an investor is underweighting international equities in general, that having a greater than market weight proportion of the international equities be small caps and emerging markets might be advantageous, given that those portions of international equities have historically had lower correlations to the U.S. equities that are overrepresented in the investor's portfolio.

Bonds are an even bigger complication. Unlike equities, where the market votes on how much every publicly held company is worth, the relative market weights of different bonds is determined by each issuer's willingness to take on debt. "Total bond market" isn't--it doesn't include any international bonds, TIPS, tax-exempt bonds, high yield bonds, bonds that are not publically traded (e.g. the TSP G Fund, EE and I saving bonds). So, what does it even mean to hold a market portfolio of bonds? Furthermore, the proportion of equities to bonds in an individual's portfolio is generally recommended to follow the investor's risk tolerance and life situation, not by the relative capitalizations of the equities and bond markets.

So given that everybody is already deviating from the market portfolio in some way, the question of how you deviate while still trying to stay near the efficient frontier is relevant.

It's also worth noting that pretty much all of the forum members who use/recommend tilted portfolios do so exclusively with passively constructed funds, which usually have market weighting within their asset class. There are also some strange anomalies, such as the only Vanguard fund which covers the broad TIPS market being an "active" fund.
Most of my posts assume no behavioral errors.
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Re: Why is Tilting and Slice&Dice so popular in this forum?

Post by matjen »

longinvest wrote: So, are these threads just a trick to keep the forum alive (as nothing is more boring than a passive portfolio)? Are they started by a small vocal minority? Or am I in the minority trusting mathematics?
None of the above. Aside from Fama/French/Asness, the current financial literature, etc. There is also Bill Bernstein, Larry, Swedroe, and Rick Ferri.

There is esteemed member Robert T. for those who make the insulting allegation that the "pros" are preaching tilting to make $ for themselves and disadvantaging their clients as part of the DFA secret society that runs Wall Street.
Read: http://www.bogleheads.org/forum/viewtop ... f=1&t=7353

Having said that, a 3-fund or LifeStrategy is a fantastic strategy as well.
Last edited by matjen on Sun Jun 08, 2014 12:46 pm, edited 1 time in total.
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Re: Why is Tilting and Slice&Dice so popular in this forum?

Post by Alex Frakt »

Because we have both historical data and a reasonable theoretical framework (see behavioral economics) that suggests that 1) certain asset classes do outperform large cap blend stocks, which is the mean stock held in TSM and 2) that asset classes do occasionally get over and under valued (bubble and crash), so holding multiple asset classes and rebalancing should provide better returns with less volatility.

Note that these effects are not large and they do increase the danger of falling into the some of the behavioral traps that (we suspect) make tilting profitable over the long run. This is why we do not recommend S&D as the general answer as to how to construct a portfolio, but it is a rational answer for some people and situations.
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Re: Why is Tilting and Slice&Dice so popular in this forum?

Post by stlutz »

I think the driving focus here is more on low-cost and staying the course.

Market-weighted index funds were a practical solution to a practical problem. The first index fund was equal-weighted, but the transaction costs were too high and so the "solution" was to switch to cap-weighted.

Nowadays, you can get a small/value tilted fund for 9 basis points. You can get a momentum fund for 15 basis points, and these ETFs do a good job of tracking their indexes.

There is a lot of disagreement about whether one should expect the strategies that worked in the past to work in the future, but one does know that certain segments of the market (domestic, international, smallcap, REITs) etc. will end up in different places. Having a variety of assets and sub-assets increases the chances that you'll get the returns that the level of risk you are taking on is offering.

Just because the market as a whole is taking certain risks or has certain opinions doesn't mean I have to do the same thing.
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Re: Why is Tilting and Slice&Dice so popular in this forum?

Post by LongerPrimer »

It keeps forums, math graduates, and marketers in the money. :D
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Re: Why is Tilting and Slice&Dice so popular in this forum?

Post by KyleAAA »

longinvest wrote: So, are these threads just a trick to keep the forum alive (as nothing is more boring than a passive portfolio)? Are they started by a small vocal minority? Or am I in the minority trusting mathematics?
Are you implying slicers & dicers don't trust mathematics?
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Re: Why is Tilting and Slice&Dice so popular in this forum?

Post by steve_14 »

Keep in mind there isn't as much to discuss regarding a total market portfolio, so your seeing a large amount of debate over minor points. Most folks do in fact hold market weighted or quasi market weighted portfolios, see http://www.marketwatch.com/tools/mutual ... p25largest .

Also note it's human nature to latch on to hopes of easy money. Imagine you're a newbie investor who hears that you can juice returns by overweighting X ,or spicing up your portfolio with Y. Maybe it's described as a free lunch, or a "free stop at the dessert tray". Historical data is sure to back it up (where else would it have come from?). You'll drink to that! :sharebeer

Now Debbie Downer comes along and tells you the market knows about your free lunch, it was probably random variation to begin with, if there ever was one it's long been traded away, all you should expect is the market return, and you're going to have to work for a living. Which narrative has more appeal?
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Re: Why is Tilting and Slice&Dice so popular in this forum?

Post by Call_Me_Op »

longinvest wrote:One would think that the mathematical proof in favor of low-cost passive market-weighted index funds would convince most Bogleheads, as they seem very bright, rational people.
I think you have misinterpreted what has been written about cap-weighted indexing.
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Re: Why is Tilting and Slice&Dice so popular in this forum?

Post by longinvest »

Thanks for the thoughtful answers. Keep them coming!
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Re: Why is Tilting and Slice&Dice so popular in this forum?

Post by longinvest »

Call_Me_Op wrote:
longinvest wrote:One would think that the mathematical proof in favor of low-cost passive market-weighted index funds would convince most Bogleheads, as they seem very bright, rational people.
I think you have misinterpreted what has been written about cap-weighted indexing.
Call_Me_Op,

Can you explain what I have misinterpreted?

Thanks,

longinvest
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Re: Why is Tilting and Slice&Dice so popular in this forum?

Post by steve_14 »

longinvest wrote:Can you explain what I have misinterpreted?
Note that your post mixed a few metaphors, metaphorically speaking. Slice and dice (overweighting), adding exotic classes to your portfolio, and one's bond/CD allocation (which need not be diversified) are all separate concepts.
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Re: Why is Tilting and Slice&Dice so popular in this forum?

Post by Call_Me_Op »

longinvest wrote:
Call_Me_Op wrote:
longinvest wrote:One would think that the mathematical proof in favor of low-cost passive market-weighted index funds would convince most Bogleheads, as they seem very bright, rational people.
I think you have misinterpreted what has been written about cap-weighted indexing.
Call_Me_Op,

Can you explain what I have misinterpreted?

Thanks,

longinvest
Hi Longinvest,

The only "mathematical proof" is that professional managers are the market and thus in aggregate they must under-perform by costs. This does not mean that investing with tilts to certain factors (such as small and value) is not expected to increase return. In fact, the superiority [in terms of increased return] of concentrating investments in accordance with the FF factors is historical fact. This also has increased risk as measured by standard deviation.

One thing we argue about a lot here is the degree to which the higher returns of the tilted portfolios will persist in the future. Nobody knows the answer to that question.
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Re: Why is Tilting and Slice&Dice so popular in this forum?

Post by longinvest »

Baw,
baw703916 wrote:No one holds the total market portfolio.
OK, I agree. Let say that the total market consists of: cash, investment-grade domestic bonds, investment-grade international bonds, domestic equities, international equities, and "all the rest". ("all the rest" includes junk bonds, commodities, lottery tickets, loans to your brother-in-law, etc.)
The mathematical proof that the market portfolio must be on the efficient frontier holds only if one restricts the portfolio to U.S. equities--no international equities or bonds. Few would consider this a reasonable portfolio for most investors, as it consists of 100% equity with no international diversification.
Here, I disagree. If I was to pick another asset class, let say: domestic bonds. I think that the mathematical proof stands: the total return of domestic bonds is shared by domestic bond holders in the aggregate. So, if we divide these investors in 2 sets: the total-bond-market indexers and the rest, then it holds true that they both get the same return (minus fees). So, the rest are further divided in two sets: the outperformers and the underperformers. Personal opinion (not math): after costs, the underperformer set is likely to be bigger.

So, the rational argument still stands: unless you have a good reason to believe you know something special about the future, the total bond market index is probably your best bet against underperformance.
The vast majority of U.S. based investors overweight U.S. equities relative to their proportion of the worldwide market cap. To be sure, there are reasons for doing so (additional tax costs due to foreign tax withholding even in a retirement account, additional volatility due to currency factors, generally a somewhat higher E/R for international funds). But you no longer hold the market portfolio. It's altogether possible, given that an investor is underweighting international equities in general, that having a greater than market weight proportion of the international equities be small caps and emerging markets might be advantageous, given that those portions of international equities have historically had lower correlations to the U.S. equities that are overrepresented in the investor's portfolio.
There are effectively various arguments in favor of overweighting domestic equities (I do so in my portfolio). Some important arguments for me: lower transaction costs for domestic equity funds versus international, better tax treatment of dividends, and no currency risk.

But, still, this does not disproof the mathematics: I am aware that I am unlikely to get the same as the world market returns. I know that there is a good chance that I might get lower returns because of it.
Bonds are an even bigger complication. Unlike equities, where the market votes on how much every publicly held company is worth, the relative market weights of different bonds is determined by each issuer's willingness to take on debt.
I disagree. Bonds and equities are emitted by companies (and governments, in the case of bonds). Not all companies go public. The price of both equities and bonds is set by the market. If a company (or a government) tries to borrow money at below-market rates, it won't fetch buyers for its bonds.
"Total bond market" isn't--it doesn't include any international bonds, TIPS, tax-exempt bonds, high yield bonds, bonds that are not publically traded (e.g. the TSP G Fund, EE and I saving bonds). So, what does it even mean to hold a market portfolio of bonds?
This is identical to the argument that the Total US Stock Market doesn't constitute the whole world's market. Yet, we can apply the mathematical proof to the aggregate investment-grade bond market.
Furthermore, the proportion of equities to bonds in an individual's portfolio is generally recommended to follow the investor's risk tolerance and life situation, not by the relative capitalizations of the equities and bond markets.

So given that everybody is already deviating from the market portfolio in some way, the question of how you deviate while still trying to stay near the efficient frontier is relevant.
OK, so let me try another take at a more subtle mathematical argument.

I'll divide the World's total market (includes everything: all bonds, stocks, lottery tickets, cash, etc.) in two:
  • Three-Fund Portfolio (TFP) investments: total world investment-grade stock market (US & International including emerging markets, but excluding penny stocks, frontier markets, etc.), and total investment-grade nominal US-denominated bond market (doesn't include TIPS, international-denominated bonds, municipals, CDs, junk bonds, etc.)
  • The rest.
I am aware that at any point in time, an investor can take some of his money out of TFP investments and put it in cash or anything else. I am aware that the mathematical argument does not prove that all investors (in the aggregate) must get the same return as the "market weighted" TFP. But, getting further in that direction would start a discussion about market timing. So, I'll skip this.

The mathematical argument says: the market-weighted TFP return is shared by TFP investors in the aggregate. If some investor deviates from the market-weighted TFP (while staying fully invested), he's in a zero-sum competition with all other market-weighted TPF deviators. After costs, he has good chances to underperform.

I know that I do not hold the market-weithed TFP: I see no reason to let the market decide the level of risk of my portfolio. Yet, I do not do it in the hope of overperforming; I am fully aware that I am likely to underperform after costs because of it. The same argument goes for rebalancing: after costs, I know that I could get lower returns, but it's the price I'm ready to pay for controlling the risk of my portfolio.
It's also worth noting that pretty much all of the forum members who use/recommend tilted portfolios do so exclusively with passively constructed funds, which usually have market weighting within their asset class. There are also some strange anomalies, such as the only Vanguard fund which covers the broad TIPS market being an "active" fund.
I remember reading a very thoughtful blog post of Rick Ferri about why he adds TIPS (was it in their pretty low market weight?). Actually, I see any such market-weighted addition as consistent with the mathematical argument.

But most prevalent arguments I see for tilting in this forum remain in contradiction to the mathematical argument (at first sight, maybe I'm wrong): I see many references to the "overperformance" (or more exactly: higher expected returns) of small/value etc.

I am all for discussing tilts in order to seek various goals: more bonds for lower vollatility, etc.

But, as soon as I see promises of higher expected returns, or of identical expected returns for lower risk, I am unable to reconcile the arguments with mathematics.

Is my reasoning flawed?
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Re: Why is Tilting and Slice&Dice so popular in this forum?

Post by KyleAAA »

longinvest wrote: But most prevalent arguments I see for tilting in this forum remain in contradiction to the mathematical argument (at first sight, maybe I'm wrong): I see many references to the "overperformance" (or more exactly: higher expected returns) of small/value etc.

I am all for discussing tilts in order to seek various goals: more bonds for lower vollatility, etc.

But, as soon as I see promises of higher expected returns, or of identical expected returns for lower risk, I am unable to reconcile the arguments with mathematics.

Is my reasoning flawed?
Yes, your reasoning is flawed. In an efficient market, risk and return are related. Why is it difficult to believe that increasing risk exposure (tiling to small/value) would also increase expected returns? This, of course, is the entire basis for the Beta metric to begin with. This in no way contradicts any mathematical proofs.
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Re: Why is Tilting and Slice&Dice so popular in this forum?

Post by afan »

Well, I would follow the argument more closely and say that all deviations from the market portfolio, collectively, are the market. It is not just professional managers who must, collectively, achieve the same results as the unmanaged market. The statement holds for everyone who deviates, in whatever way. One way of deviating from the market is to tilt and overweight some parts of the market, underweighting others.

The universe of such portfolios cannot outperform the market. Of course, one could say that "my weights are better than the market and much better than those of the poor fools who do not follow my tilts." This is disturbingly like declaring that "of course active managers as a class underperform. The secret is to do as I do and only invest with the good managers."

The evidence is not so clear that tilting works. There are a lot of retrospective data with hypothetical portfolios that show higher returns with higher risk. It is unclear whether these hypothetical portfolios produced higher risk adjusted returns, even if one limits the risk analysis to mean/variance. There is excellent evidence that much, perhaps all, of the apparent superior performance of small value is compensation for accepting the negative skewness of such portfolios. Since the long term results are all with hypothetical portfolios there is always the question of how well the results track what would have been the case with real world investing. There is evidence that the entire small stock effect in NASDAQ stocks may have been artifact due to limitations in the data. There may have been no small factor bonus at all.

It does seem that people are extraordinarily resistant to the implications of market efficiency. They may be convinced that they cannot hire a manager to pick specific stocks and beat the market. However, that does not mean giving up hope to hire a manager to pick specific factors and beat the market. The logic is identical "my manager understands the market better than do the competitors, and will pick stocks (factors) that will outperform". The hope is human. As long as one keeps total expenses in the single digits of basis points, avoids leverage and limits turnover, the harmful effects are mitigated.

I get worried when people propose to spend 50-100 basis points per year for an advisor who will put them in funds charging 50-200 basis points, then tell them to keep it all in tax advantaged accounts to control the tax liabilities of the strategy. There is essentially no hope of this working long term.

I would love someone to explain why these strategies can be assumed to work, but hedge funds, which can invest in whatever they like, systematically underperform the market? The managers are smart, well informed, and deeply knowledgeable about the markets. If these tilts worked they could make a fortune by reliably beating the market, and using leverage to juice up the returns. Some explicitly base their strategies on well documented effects. Some do the same without advertising it. Some are run by people who spend all their time trying to identify exploitable anomalies. But you put this altogether and it does not work. It cannot work, because the market is too efficient.

But there are people who make their living selling investment expertise, and they are good at it. The selling part that is. If they were great at the investing part they would be too rich to waste their time on BH. They would be too busy telling Bill Gates to stop pestering them for help with his portfolio. They could not be bothered with such piddling small change.

I wonder whether some of this shares motivation with casino gambling. Surely some, perhaps most, of the people betting at the casinos realize that this is a losing proposition. They do not gamble because they expect to turn a profit. They gamble because they like to gamble. Some people get their entertainment gambling. Others buy expensive boats, take ski vacations or invest with factor tilts. As long as they enjoy themselves and do not spend too much money on the hobby it is harmless.

My biggest disappointment with BH is that there are fewer people who simply find the finance literature interesting and want to discuss it. There are far too many who read part of one paper and want to then beat the market with the latest research result. They forget that there are likely to be subsequent papers saying that this great idea was wrong, based on faulty data, failed to account for omitted variables, was a statistical artifact....

longinvest- I agree

Kyle- but no one is seriously talking about increasing expected returns simply by increasing risk. This would be a foolish thing to do. It would make far more sense to increase allocation to the asset mix with the highest risk adjusted return. One could then get a higher return with the same risk as a mix that simply has higher risk, but lower risk adjusted return. If high return, regardless of risk, is the goal, then borrow some money and leverage up on longinvest's three fund portfolio.
Last edited by afan on Sun Jun 08, 2014 2:27 pm, edited 1 time in total.
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Re: Why is Tilting and Slice&Dice so popular in this forum?

Post by jidina80 »

Tilting and dicing are done in attempts to squeeze a little more juice out of the stock markets. Some people can't leave well enough alone. It's hard to sit on one's hands instead of tinkering with a portfolio. It probably does little harm if they have the stomach to watch their tilted funds under-perform the overall market for a decade or more.

Often there are historical stock returns that support such tilts, but history does not always repeat itself. As inefficiencies in markets become known, prices become adjusted causing the benefit of a tilt to disappear.

It's often professional money managers and writers that suggest complicating one's portfolio with a 'tilt' towards small-cap, value, emerging markets or whatever.

Full disclosure: I can't always sit on my hands, either. I don't tilt stocks sectors or markets on an ongoing basis, but do decrease my allocation little towards stocks when prices are very high and increase it a little when prices are very low, as measured by price to sustainable earnings. I also tilt towards corporate bonds within my bond allocation for higher yield as Jack Bogle suggests. It's hard to do nothing sometimes.
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Re: Why is Tilting and Slice&Dice so popular in this forum?

Post by Aptenodytes »

I think you are mischaracterizing what people here believe in.

Many believe in a form of the pure Bogle view -- total market, full stop. Maybe an intuitive fudge factor for the domestic/international split, but basically own the market.

Another sizable group believes in what I'd call a slightly modified Bogle view. The principles are Bogle's but the application is a bit different. In this category I'd include people who tilt to small value, and people who favor REITs, which I believe are the most popular tilts. Such moves are in line with Bogle's principles because they are backed up by facts and theory, and have been endorsed by a range of qualified experts. It shouldn't be puzzling to you that a large number of people here advocate such tilts, because they are consistent with Bogle's principles even if he himself doesn't swing this way.

I think once you get beyond those two camps you have a highly fragmented set of minority views. These positions advocate what seem to me a major departure from the Bogle principles. Gold, commodities, etc. Some of these minority positions, such as momentum, have some of the Bogle-consistent elements, but some have none and none have all. Reading posts along these lines might be a bit surprising to you because they seem to go off the reservation, but the forum isn't a cult and people come to it with a variety of perspectives. But I wouldn't lump these things with the people tilting to small-value

If you are trying to make sense of what people talk about, I would recommend filtering what you read into different baskets. Some is rock solid, some is very firm, and some is speculative. Don't treat it all as equal. And don't mistake frequencies of topics for size of consensus. Some things come up a lot but that doesn't mean lots of people believe them.
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Re: Why is Tilting and Slice&Dice so popular in this forum?

Post by longinvest »

KyleAAA wrote:
longinvest wrote: But most prevalent arguments I see for tilting in this forum remain in contradiction to the mathematical argument (at first sight, maybe I'm wrong): I see many references to the "overperformance" (or more exactly: higher expected returns) of small/value etc.

I am all for discussing tilts in order to seek various goals: more bonds for lower vollatility, etc.

But, as soon as I see promises of higher expected returns, or of identical expected returns for lower risk, I am unable to reconcile the arguments with mathematics.

Is my reasoning flawed?
Yes, your reasoning is flawed. In an efficient market, risk and return are related. Why is it difficult to believe that increasing risk exposure (tiling to small/value) would also increase expected returns? This, of course, is the entire basis for the Beta metric to begin with. This in no way contradicts any mathematical proofs.
I'll compare two portfolios:
  1. The market-weighted Three Fund Portfolio (TFP): Total US Stock Market + Total International Stock Market + Total US-Denominates Nominal Bond Market
  2. The Slice and Dice Portfolio (SDP): US Small Value Stock Market + International Small Value Stock Market + Intermediate Treasuries Market
We can easily see that the aggregate SDP is a subset of the aggregate TFP.

The math argument says that all TFP investors (in the aggregate) share the same return.

Among them, Non-TFP indexers are divided in two sets: overperformers and underperformers.

Why do you believe that SDP investors are necessarily members of the overperformers subset?

I have no trouble with any affirmation (as long as data is provided to support it) which says that SDP investors were overperformers in the past.

But, when talking about future returns... The mathematics tell me that TPF investing is the best bet against underperformance.
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Re: Why is Tilting and Slice&Dice so popular in this forum?

Post by midareff »

Well... you have been participating here for almost two years so you have been exposed to many conversations on S&D in that period but I'll give it a shot. Over an extended time period we expect small to outperform large, and small value outperform small. Same with international, and this extends further to emerging markets. The first thing to understand is that you get paid to take risk and this is not a free lunch. You are taking more risk with small than large, so investors expect to be compensated for this risk.

Next consideration is that emerging markets are a different class of equity than .... as an example, a large cap US blend. By mixing small, large cap, international, Reits, emerging, etc., investors are spreading their equities among different classes of equities with the expectation this will result, over time, with a more balanced return through diversification and the possibility of rebalancing bonuses. I even slice and dice bonds... ST, IT, HY, Tax-Ex, etc.

As to a guess of popularity.. well, diversification, risk management and returns expectations.
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Re: Why is Tilting and Slice&Dice so popular in this forum?

Post by steve_14 »

longinvest wrote:I'll compare two portfolios:
  1. The market-weighted Three Fund Portfolio (TFP): Total US Stock Market + Total International Stock Market + Total US-Denominates Nominal Bond Market
  2. The Slice and Dice Portfolio (SDP): US Small Value Stock Market + International Small Value Stock Market + Intermediate Treasuries Market
I recommend narrowing your argument (whcih is a valid one) to US stocks, as bringing in international introduces currency, cost and tax issues, and bonds are a-whole-nother ball game, as one need not diversify here and can "win" purely based on personal spending needs.
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Re: Why is Tilting and Slice&Dice so popular in this forum?

Post by stlutz »

These discussions are in part annoying because of the way that definitions become twisted to mean the opposite of what they normally mean. "Diversification" comes to mean concentrating all of your equity investments in 2% of the market. "Risky" becomes the way of saying that a particular investment is all but guaranteed to outperform. "Passive management" comes to mean using a computer to select the best stocks.

On the other hand, I think there is also silliness among the more dogmatic TSM folks, particularly when the market price means the "correct" price, and if one's opinion of what the price should be differs from the market, your view is necessarily "wrong".

Just because the market is willing to pay $5 for a cup of coffee at Starbucks shouldn't mean that I'm irrational for not wanting to do so. With fixed income, if I don't think I'm being properly compensated for credit and/or liquidity risks, I don't take them. Call it "tilting" if you wish--I'm just paying a price that seems appropriate to me.

The market price will always represent the collective opinions of investors. If investors collectively decide that REITs should be 40% of the market, they will be. These opinions can feed on themselves. In the 1990s, investors decided technology stocks should be a much higher percentage of the market. They began bidding up prices. That created price momentum which brings in a whole other set of investors who say that stocks that have recently gone up should be a higher percentage of the market. These feed on themselves until you have a bubble.

Is someone "wrong" if they want to tilt away from the largest sectors of the market? I don't think so. At the same time, simply holding the market weight is perfectly reasonable thing to do.

With value/small, it gets a little more interesting. It simply isn't possible for investors to collectively decide that they want to hold 20% of their portfolios in the smallest 10% of the market. How that resolves itself in a market when more people believe in momentum than value is particularly problematic. All of the interest in tilts, smart beta etc. is and will continue to change how these small corners of the market perform going forward. I think those who are in the camp that small/value is all but guaranteed to outperform are underestimating the actual risks.

And a final word on risk. As Larry S. repeats all of the time small/value has been shown to outperform pretty much all of the time (as long the horizon is long-term) and in all markets. If this is the case, it means that these stocks exhibited *less* realized risk in the past. If that type of performance is to be expected in the future, these stocks are therefore less risky, not more risky than the overall market. If they are more risky, then one's expectations of future returns should be much lower than past returns were.

This issue is not just limited to "tilting" however. It also applies to stocks vs. bonds in general. Are stocks less risky if your investing horizon is 30+ years? The socially acceptable answer is "no", but whenever you see a target retirement fund with 80,90%+ equities, the allocation is based on the governing assumption that stocks are all but guaranteed to beat bonds over the next 30 years, and if they lose, it will be by just a tiny little bit. Either stocks should be expected to perform bonds over 30 years, or they are more risky, but they can't be both.
Last edited by stlutz on Sun Jun 08, 2014 3:26 pm, edited 2 times in total.
Deep Thoughts
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Re: Why is Tilting and Slice&Dice so popular in this forum?

Post by Deep Thoughts »

longinvest wrote:One would think that the mathematical proof in favor of low-cost passive market-weighted index funds would convince most Bogleheads, as they seem very bright, rational people.

Yet, not a day goes by on this forum without new threads about tilting portfolios towards something: small, value, reits, momentum, profitability, gold, silver, commodities, short-term bonds, treasuries, CDs, etc. (I'm sorry if I forgot your preferred asset type).

I am unable to reconcile the promises of better performance for these assets types with the fundamental mathematical proof that among non-"total-market" investors, only a subset of investors can outperform the total market (and probably a fairly small subset, after costs and taxes). Why would you believe anybody that claimed having discovered a superior asset, and think that the market wouldn't have already arbitraged its future advantage away, already? If you had discovered the magic formula, would you give it away for free and lose your secret advantage?

So, are these threads just a trick to keep the forum alive (as nothing is more boring than a passive portfolio)? Are they started by a small vocal minority? Or am I in the minority trusting mathematics?
Exactly. So well put. I would posit that us S&D'ers are just not particularly ... um let's see what your chain of adjectives are: not bright, nor rational, are members of a small vocal minority, and of course completely distrusting of mathematics. I know that sums me up! :)
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Re: Why is Tilting and Slice&Dice so popular in this forum?

Post by longinvest »

midareff wrote:Well... you have been participating here for almost two years so you have been exposed to many conversations on S&D in that period but I'll give it a shot. Over an extended time period we expect small to outperform large, and small value outperform small. Same with international, and this extends further to emerging markets. The first thing to understand is that you get paid to take risk and this is not a free lunch. You are taking more risk with small than large, so investors expect to be compensated for this risk.

Next consideration is that emerging markets are a different class of equity than .... as an example, a large cap US blend. By mixing small, large cap, international, Reits, emerging, etc., investors are spreading their equities among different classes of equities with the expectation this will result, over time, with a more balanced return through diversification and the possibility of rebalancing bonuses. I even slice and dice bonds... ST, IT, HY, Tax-Ex, etc.

As to a guess of popularity.. well, diversification, risk management and returns expectations.
midareff,

Yes, after a couple of years reading the forums, I had to spring up the question. I see so many threads about it, yet the basic math argument (that Mr. Bogle often repeats) keeps me skeptical about S&D.

Up to a point, I think that I understand the relation between risk and return. Yet, betting on small and value seems to me like betting on lottery (not as bad; stocks have a positive expectation, and who knows, maybe one will get lucky and get a big rebalancing bonus): You probably win more money if you win, and lose more if you lose. On a "risk-adjusted" basis, I am not sure that S&D gains anything above the market portfolio, though.

Also, my (very) small knowledge of some basic probabilities and statistics tell me that "expected returns" are computed. In the case of a 6-face dice, it's pretty simple to compute based on probabilities alone. With stocks, where the future is unknown, it starts involving statistics (so, that means: past returns). So, I am starting to view (more and more) "expected returns" numbers not as predictors of the future, but as a synthesized number summarizing the past.

So, as "past performance is not indicative of future returns" I have trouble not staying skeptical, and I do question the popularity of the subject and the higher expected return promises I read about here daily.

In other words, I get the impression that the Bogleheads forum can sometimes represent an obstacle for simple Three-Fund Portfolio Boglehead investors that come here to learn more, but also wish to stay the course... :twisted:
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Re: Why is Tilting and Slice&Dice so popular in this forum?

Post by longinvest »

Deep Thoughts wrote:
longinvest wrote:One would think that the mathematical proof in favor of low-cost passive market-weighted index funds would convince most Bogleheads, as they seem very bright, rational people.

Yet, not a day goes by on this forum without new threads about tilting portfolios towards something: small, value, reits, momentum, profitability, gold, silver, commodities, short-term bonds, treasuries, CDs, etc. (I'm sorry if I forgot your preferred asset type).

I am unable to reconcile the promises of better performance for these assets types with the fundamental mathematical proof that among non-"total-market" investors, only a subset of investors can outperform the total market (and probably a fairly small subset, after costs and taxes). Why would you believe anybody that claimed having discovered a superior asset, and think that the market wouldn't have already arbitraged its future advantage away, already? If you had discovered the magic formula, would you give it away for free and lose your secret advantage?

So, are these threads just a trick to keep the forum alive (as nothing is more boring than a passive portfolio)? Are they started by a small vocal minority? Or am I in the minority trusting mathematics?
Exactly. So well put. I would posit that us S&D'ers are just not particularly ... um let's see what your chain of adjectives are: not bright, nor rational, are members of a small vocal minority, and of course completely distrusting of mathematics. I know that sums me up! :)
Deep Toughts,

I apologize if I offended you or anybody. That was definitely not my intention. I simply wanted to start a discussion about reconciling the Bogle mathematics with the popularity of S&D/Tilting discussion threads.

I invited people to submit their arguments. I am also putting my own the arguments in the open. I am simply seeking a discussion on the subject.

I am aware that many experts disagree on this subject, so, as Taylor puts it: When experts disagree it is often because it doesn't matter.

Yet, I do enjoy learning more about investment. In the past, when I asked questions on the Bogleheads forum, the resulting discussion lead me to an improved understanding of many principles.

longinvest
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Re: Why is Tilting and Slice&Dice so popular in this forum?

Post by HornedToad »

longinvest wrote:
KyleAAA wrote:
longinvest wrote: But most prevalent arguments I see for tilting in this forum remain in contradiction to the mathematical argument (at first sight, maybe I'm wrong): I see many references to the "overperformance" (or more exactly: higher expected returns) of small/value etc.

I am all for discussing tilts in order to seek various goals: more bonds for lower vollatility, etc.

But, as soon as I see promises of higher expected returns, or of identical expected returns for lower risk, I am unable to reconcile the arguments with mathematics.

Is my reasoning flawed?
Yes, your reasoning is flawed. In an efficient market, risk and return are related. Why is it difficult to believe that increasing risk exposure (tiling to small/value) would also increase expected returns? This, of course, is the entire basis for the Beta metric to begin with. This in no way contradicts any mathematical proofs.
I'll compare two portfolios:
  1. The market-weighted Three Fund Portfolio (TFP): Total US Stock Market + Total International Stock Market + Total US-Denominates Nominal Bond Market
  2. The Slice and Dice Portfolio (SDP): US Small Value Stock Market + International Small Value Stock Market + Intermediate Treasuries Market
We can easily see that the aggregate SDP is a subset of the aggregate TFP.

The math argument says that all TFP investors (in the aggregate) share the same return.

Among them, Non-TFP indexers are divided in two sets: overperformers and underperformers.

Why do you believe that SDP investors are necessarily members of the overperformers subset?

I have no trouble with any affirmation (as long as data is provided to support it) which says that SDP investors were overperformers in the past.

But, when talking about future returns... The mathematics tell me that TPF investing is the best bet against underperformance.
You seem to be of the opinion that it's a 50/50 bet whether small will outperform large stocks and value will outperform growth. Most people who tilt do not think it's a 50/50 gamble and instead rely on the academic research that small stocks and value stocks are inherently more risky than large stocks or growth stocks and therefore the expected return of them would be higher. In isolation, it's not higher on a risk adjusted basis, but the absolute return is higher. Now, with portfolio construction, if the sectors are somewhat negatively correlated, then added a sector with higher risk can decrease overall portfolio risk due to how they correlate.

Lastly, I'm not looking for the best risk-adjusted returns. I'm looking for the best returns within my risk tolerance. Those are two very different things and I am more than willing to tilt to SV or REIT or Emerging markets and take the higher level of risk for the higher level of expected returns as long as it falls within my risk tolerance.

Maybe in 30 years with TSM my range of returns is 850k-1.25M and with S&D my range of returns is 700k-1.6M. For some people that is a preferred range of outcomes.
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Re: Why is Tilting and Slice&Dice so popular in this forum?

Post by midareff »

longinvest wrote:[quote="midareff"\\

Longinvest: ]Well... you have been participating here for almost two years so you have been exposed to many conversations on S&D in that period but I'll give it a shot. Over an extended time period we expect small to outperform large, and small value outperform small. Same with international, and this extends further to emerging markets. The first thing to understand is that you get paid to take risk and this is not a free lunch. You are taking more risk with small than large, so investors expect to be compensated for this risk.

Next consideration is that emerging markets are a different class of equity than .... as an example, a large cap US blend. By mixing small, large cap, international, Reits, emerging, etc., investors are spreading their equities among different classes of equities with the expectation this will result, over time, with a more balanced return through diversification and the possibility of rebalancing bonuses. I even slice and dice bonds... ST, IT, HY, Tax-Ex, etc.

As to a guess of popularity.. well, diversification, risk management and returns expectations.[/quotemidareff,

longinvest replied: Yes, after a couple of years reading the forums, I had to spring up the question. I see so many threads about it, yet the basic math argument (that Mr. Bogle often repeats) keeps me skeptical about S&D.

]

midareff replied: You do make a good case longinvest BUT: going back to O'Shaughnessy's 1998 work entitled; "What Works on Wall Street" and a multitude of studies thereafter by many others, there is A SMALL CAP AND A VALUE PREMIUM. I will willingly accept it comes at additional risk, but it is there for the taking, discussions of volatility (also known as opportunity) aside.

While I have the utmost respect in Mr. Bogle, Mr. Bernstein, Mr. Ferri, Mr. Swedroe, Mr. Otar, Mr. Easterling and others. All of this is what it is and there are not necessarily right and wrong answers. Keep in mind a .5% portfolio outperformance premium is $10K annually on a $2M portfolio. That's a two and half week trip touring Europe for two, ANNUALLY.

Personally, I've won the game (Dr. Bernstein) and my expenses and a bit of fun money are secured for the next 30 if the market does zero, while there are other luxuries in life I do expect the additional risk I expose in my S&D to provide.

You do your thing I'll do mine. [/quote][/quote][/quote]
Last edited by midareff on Mon Jun 09, 2014 7:09 am, edited 2 times in total.
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Re: Why is Tilting and Slice&Dice so popular in this forum?

Post by letsgobobby »

slicing and tilting are so popular because doing nothing is boring.
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Re: Why is Tilting and Slice&Dice so popular in this forum?

Post by longinvest »

stlutz wrote:These discussions are in part annoying because of the way that definitions become twisted to mean the opposite of what they normally mean. "Diversification" comes to mean concentrating all of your equity investments in 2% of the market. "Risky" becomes the way of saying that a particular investment is all but guaranteed to outperform. "Passive management" comes to mean using a computer to select the best stocks.

On the other hand, I think there is also silliness among the more dogmatic TSM folks, particularly when the market price means the "correct" price, and if one's opinion of what the price should be differs from the market, your view is necessarily "wrong".

Just because the market is willing to pay $5 for a cup of coffee at Starbucks shouldn't mean that I'm irrational for not wanting to do so. With fixed income, if I don't think I'm being properly compensated for credit and/or liquidity risks, I don't take them. Call it "tilting" if you wish--I'm just paying a price that seems appropriate to me.

The market price will always represent the collective opinions of investors. If investors collectively decide that REITs should be 40% of the market, they will be. These opinions can feed on themselves. In the 1990s, investors decided technology stocks should be a much higher percentage of the market. They began bidding up prices. That created price momentum which brings in a whole other set of investors who say that stocks that have recently gone up should be a higher percentage of the market. These feed on themselves until you have a bubble.

Is someone "wrong" if they want to tilt away from the largest sectors of the market? I don't think so. At the same time, simply holding the market weight is perfectly reasonable thing to do.

With value/small, it gets a little more interesting. It simply isn't possible for investors to collectively decide that they want to hold 20% of their portfolios in the smallest 10% of the market. How that resolves itself in a market when more people believe in momentum than value is particularly problematic. All of the interest in tilts, smart beta etc. is and will continue to change how these small corners of the market perform going forward. I think those who are in the camp that small/value is all but guaranteed to outperform are underestimating the actual risks.

And a final word on risk. As Larry S. repeats all of the time small/value has been shown to outperform pretty much all of the time (as long the horizon is long-term) and in all markets. If this is the case, it means that these stocks exhibited *less* realized risk in the past. If that type of performance is to be expected in the future, these stocks are therefore less risky, not more risky than the overall market. If they are more risky, then one's expectations of future returns should be much lower than past returns were.

This issue is not just limited to "tilting" however. It also applies to stocks vs. bonds in general. Are stocks less risky if your investing horizon is 30+ years? The socially acceptable answer is "no", but whenever you see a target retirement fund with 80,90%+ equities, the allocation is based on the governing assumption that stocks are all but guaranteed to beat bonds over the next 30 years, and if they lose, it will be by just a tiny little bit. Either stocks should be expected to perform bonds over 30 years, or they are more risky, but they can't be both.
Thank you for reminding me that the whole picture is more complex than my mind wants it to be. This was a very interesting post.
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Re: Why is Tilting and Slice&Dice so popular in this forum?

Post by steve_14 »

HornedToad wrote:You seem to be of the opinion that it's a 50/50 bet whether small will outperform large stocks and value will outperform growth. Most people who tilt do not think it's a 50/50 gamble and instead rely on the academic research that small stocks and value stocks are inherently more risky than large stocks or growth stocks and therefore the expected return of them would be higher.
Yes, while I'd say we total market folks rely more on real fund results and common sense. For example, do real fund results indicate that growth funds are lower risk than value funds? And does common sense tell us that Twitter and Facebook are low risk, while energy stocks are high risk?

Also, what to a slice and dicer is "academic research" is to a TSM'er "a historical backtest". Total market folks also tend to be a bit more skeptical of investment industry marketing of this research as well.
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Re: Why is Tilting and Slice&Dice so popular in this forum?

Post by Longtimelurker »

The "math" you are fond of quoting is wrong. Small and Value, and now Momentum, have all been proven historically to increase RISK ADJUSTED returns. So the premise of your post is not based in facts.
Stay the course. If you can't resist greed, and fear is proven to be 2x as strong, you are doomed as an investor.
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Re: Why is Tilting and Slice&Dice so popular in this forum?

Post by longinvest »

HornedToad wrote: You seem to be of the opinion that it's a 50/50 bet whether small will outperform large stocks and value will outperform growth. Most people who tilt do not think it's a 50/50 gamble and instead rely on the academic research that small stocks and value stocks are inherently more risky than large stocks or growth stocks and therefore the expected return of them would be higher. In isolation, it's not higher on a risk adjusted basis, but the absolute return is higher. Now, with portfolio construction, if the sectors are somewhat negatively correlated, then added a sector with higher risk can decrease overall portfolio risk due to how they correlate.
We do know (up to a point) about past correlation, but do we really know about future ones?

As for future classes returns, there might be some arguments to be made about it. For example, we know that, theoretically, stocks should return more than bonds, because stocks holders should ask for higher return in order to endure the absence of guarantees about future dividends. Yet, maybe nominal bond holders also ask for higher returns in order to endure higher inflation risks? It is really difficult, for me, to make sense of and synthesize all possible future predictions.

There's a real possibility that some tilters (and market timers) will get higher returns. I just have trouble blindly believing higher than market return predictions, regardless of who makes the claim.

As I said in another post, I do believe that there are very good reasons for tilting, but I don't see why I shouldn't remain skeptical about "almost guaranteed" higher returns or same returns with less risk predictions.
Lastly, I'm not looking for the best risk-adjusted returns. I'm looking for the best returns within my risk tolerance. Those are two very different things and I am more than willing to tilt to SV or REIT or Emerging markets and take the higher level of risk for the higher level of expected returns as long as it falls within my risk tolerance.

Maybe in 30 years with TSM my range of returns is 850k-1.25M and with S&D my range of returns is 700k-1.6M. For some people that is a preferred range of outcomes.
If most tilting message were like yours, I wouldn't have made my post. You are simply saying that you are increasing your portfolio volatility, and this could deliver higher (or lower) returns. That does make sense. But, most s&d/tilting posts claim, instead, to deliver higher returns or lower risk for the same returns. That's where I get skeptical.
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Re: Why is Tilting and Slice&Dice so popular in this forum?

Post by longinvest »

Longtimelurker wrote:The "math" you are fond of quoting is wrong. Small and Value, and now Momentum, have all been proven historically to increase RISK ADJUSTED returns. So the premise of your post is not based in facts.
Are you telling me that US Total Stock Market indexers (using Vanguard's fund) haven't earned (almost exactly) the same return as the aggregate US Total Stock Market investors?

The math says that among the non-TSM indexers, there are 2 subsests: the overperformers and the underperformers. You claim that Small and Value, and Momentum investors were among the overperformers. That does not disproof the math.

In other words: TSM investing more-less guarantees (as long as your fund provider has low costs and good execution, like Vanguard) that you won't underperform much (there's still some possible small underperformance due to costs).

My question to you is: why do you believe that this overperformance will necessarily persist? What is your proof that more-less guarantees that Small and Value, and Momentum (and Quality?) will not underperform in the future?
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Re: Why is Tilting and Slice&Dice so popular in this forum?

Post by Longtimelurker »

longinvest wrote:
Longtimelurker wrote:The "math" you are fond of quoting is wrong. Small and Value, and now Momentum, have all been proven historically to increase RISK ADJUSTED returns. So the premise of your post is not based in facts.
Are you telling me that US Total Stock Market indexers (using Vanguard's fund) haven't earned (almost exactly) the same return as the aggregate US Total Stock Market investors?
No. I never said that.
longinvest wrote: The math says that among the non-TSM indexers, there are 2 subsests: the overperformers and the underperformers. You claim that Small and Value, and Momentum investors were among the overperformers. That does not disproof the math.
No. The claim is that value, size, and momentum factors, when implemented in a portfolio provide an increased risk adjusted return. You are arguing that TSM tracks TSM - an obvious point, and that non-TSM does not track TSM - another obvious point. However, both of your points are irrelevant.
longinvest wrote: In other words: TSM investing more-less guarantees (as long as your fund provider has low costs and good execution, like Vanguard) that you won't underperform much (there's still some possible small underperformance due to costs).
Correct. So what?
longinvest wrote: My question to you is: why do you believe that this overperformance will necessarily persist? What is your proof that more-less guarantees that Small and Value, and Momentum (and Quality?) will not underperform in the future?
There is no guarantee of future performance. However, the premiums have persisted, even after being widely documented. There are numerous behavioral and structural reasons why these premiums exist, as outlined by Sweedrow, Bernstein and others.

Your argument is a non-sequitur. Eventually you will realized this, or not. Either way, the math you love quoting... proves your points wrong, not right.
Stay the course. If you can't resist greed, and fear is proven to be 2x as strong, you are doomed as an investor.
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Re: Why is Tilting and Slice&Dice so popular in this forum?

Post by HornedToad »

steve_14 wrote:
HornedToad wrote:You seem to be of the opinion that it's a 50/50 bet whether small will outperform large stocks and value will outperform growth. Most people who tilt do not think it's a 50/50 gamble and instead rely on the academic research that small stocks and value stocks are inherently more risky than large stocks or growth stocks and therefore the expected return of them would be higher.
Yes, while I'd say we total market folks rely more on real fund results and common sense. For example, do real fund results indicate that growth funds are lower risk than value funds? And does common sense tell us that Twitter and Facebook are low risk, while energy stocks are high risk?

Also, what to a slice and dicer is "academic research" is to a TSM'er "a historical backtest". Total market folks also tend to be a bit more skeptical of investment industry marketing of this research as well.
I'm assuming you don't believe the "Cost of Capital" explanation for small stocks? And your common sense is different than my common sense argument for small vs. large and value vs. growth so everyone will have different "explanation" based on their own opinions.

Regardless, it doesn't really matter. Every person believes their investment methodology is superior or they'd change it. If they are honest about it, then hopefully they believe it is just superior for themselves....
Last edited by HornedToad on Sun Jun 08, 2014 5:21 pm, edited 1 time in total.
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Re: Why is Tilting and Slice&Dice so popular in this forum?

Post by cowboysFan »

I think the equity slice and dice crowd can be explained by four factors:

1) Financial advisers have an interest in making the simple complicated. If investing can be reduced to a few simple rules (three fund portfolio + age in bonds), people don't need to hire financial advisers to manage their money.
2) Many bogleheads are incredibly successful in real life, which leads some of them to think they're always the smartest guy in the room about everything.
3) If there's no way to increase your stock returns and you can't increase your income, then your only alternative to reduce your spending, which a lot of people don't want to hear. A lot of people want a pain free plan for retirement.
4) Last, but not least, is boredom. If everyone agreed with the EMH and moderators deleted all threads asking questions already answered, this forum would die very quickly.
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Re: Why is Tilting and Slice&Dice so popular in this forum?

Post by matjen »

What about this is so confusing to TSM people? This was the fund DFA created I think within a year of the factors being popularized by Fama/French and years after they were first discovered. Does it mean SCV will absolutely continue to crush TSM...of course not. IT is likely that it will continue to do better but at perhaps not the same rate. There also will likely be periods of under performance. It is more volatile. But contrary to statements in this thread, this wasn't just back testing. It was put into effect and succeeded over 20+ years or something. Bogle admits the returns have been better going all the way back to the depression (much harder to invest in of course). It is a fact.

Image
Last edited by matjen on Sun Jun 08, 2014 5:17 pm, edited 2 times in total.
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Re: Why is Tilting and Slice&Dice so popular in this forum?

Post by Longtimelurker »

cowboysFan wrote:I think the equity slice and dice crowd can be explained by four factors:

1) Financial advisers have an interest in making the simple complicated. If investing can be reduced to a few simple rules (three fund portfolio + age in bonds), people don't need to hire financial advisers to manage their money.
2) Many bogleheads are incredibly successful in real life, which leads some of them to think they're always the smartest guy in the room about everything.
3) If there's no way to increase your stock returns and you can't increase your income, then your only alternative to reduce your spending, which a lot of people don't want to hear. A lot of people want a pain free plan for retirement.
4) Last, but not least, is boredom. If everyone agreed with the EMH and moderators deleted all threads asking questions already answered, this forum would die very quickly.
Or, because Bogleheads demand proof for EVERYTHING, is could be because:

1: At least the 3 factors (still haven't found time to read up on 4&5) have proven to have risk adjusted returns superior to that of Market Cap weighted portfolios in every stock market researched.
2: These premiums have persisted after being widely advertised
3: There are rational behavioral and structural reasons for the persistence of these premiums
4: Not only are the premiums a benefit, but by S&D'ing a portfolio one increases both Tax Loss Harvesting and Rebalancing Opportunities - presumably furthering their advantage over market cap weighting.

Then again, you can claim boredom and ignorance... but with this group... that may be a BIG stretch..... :beer
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Re: Why is Tilting and Slice&Dice so popular in this forum?

Post by longinvest »

Longtimelurker wrote:
longinvest wrote:
Longtimelurker wrote:The "math" you are fond of quoting is wrong. Small and Value, and now Momentum, have all been proven historically to increase RISK ADJUSTED returns. So the premise of your post is not based in facts.
[...]
[...]
longinvest wrote: The math says that among the non-TSM indexers, there are 2 subsests: the overperformers and the underperformers. You claim that Small and Value, and Momentum investors were among the overperformers. That does not disproof the math.
No. The claim is that value, size, and momentum factors, when implemented in a portfolio provide an increased risk adjusted return. You are arguing that TSM tracks TSM - an obvious point, and that non-TSM does not track TSM - another obvious point. However, both of your points are irrelevant.
longinvest wrote: [...]
[...]
longinvest wrote: My question to you is: why do you believe that this overperformance will necessarily persist? What is your proof that more-less guarantees that Small and Value, and Momentum (and Quality?) will not underperform in the future?
There is no guarantee of future performance. However, the premiums have persisted, even after being widely documented. There are numerous behavioral and structural reasons why these premiums exist, as outlined by Sweedrow, Bernstein and others.

Your argument is a non-sequitur. Eventually you will realized this, or not. Either way, the math you love quoting... proves your points wrong, not right.
Dear Longtimelurker,

I have trouble following you. First, you said the math was wrong. Now, you say that the same math proves my points wrong, and that my reasoning is not logical.

I would really appreciate if you could help me understand:
  • What is wrong in the math?
  • Which of my points (please identify them clearly, so that I know which points you think are wrong) are wrong and why?
Thanks,

longinvest
Variable Percentage Withdrawal (bogleheads.org/wiki/VPW) | One-Fund Portfolio (bogleheads.org/forum/viewtopic.php?t=287967)
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matjen
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Re: Why is Tilting and Slice&Dice so popular in this forum?

Post by matjen »

cowboysFan wrote:I think the equity slice and dice crowd can be explained by four factors:

1) Financial advisers have an interest in making the simple complicated. If investing can be reduced to a few simple rules (three fund portfolio + age in bonds), people don't need to hire financial advisers to manage their money.
What, because a three fund portfolio (with 2 different funds) + age in bonds is ANY harder. Or, if you don't have DFA access a 5 or 6 fund portfolio is much harder for people? Absurd.

You: VTI, VXUS & BND
Me: DFSVX, DWUSX & BND (For a Larry Portfolio), DFQTX, DFWIX & BND (For a moderate tilt)
Last edited by matjen on Sun Jun 08, 2014 5:14 pm, edited 1 time in total.
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Re: Why is Tilting and Slice&Dice so popular in this forum?

Post by White Coat Investor »

Longtimelurker wrote:
cowboysFan wrote:I think the equity slice and dice crowd can be explained by four factors:

1) Financial advisers have an interest in making the simple complicated. If investing can be reduced to a few simple rules (three fund portfolio + age in bonds), people don't need to hire financial advisers to manage their money.
2) Many bogleheads are incredibly successful in real life, which leads some of them to think they're always the smartest guy in the room about everything.
3) If there's no way to increase your stock returns and you can't increase your income, then your only alternative to reduce your spending, which a lot of people don't want to hear. A lot of people want a pain free plan for retirement.
4) Last, but not least, is boredom. If everyone agreed with the EMH and moderators deleted all threads asking questions already answered, this forum would die very quickly.
Or, because Bogleheads demand proof for EVERYTHING, is could be because:

1: At least the 3 factors (still haven't found time to read up on 4&5) have proven to have risk adjusted returns superior to that of Market Cap weighted portfolios in every stock market researched.
2: These premiums have persisted after being widely advertised
3: There are rational behavioral and structural reasons for the persistence of these premiums
4: Not only are the premiums a benefit, but by S&D'ing a portfolio one increases both Tax Loss Harvesting and Rebalancing Opportunities - presumably furthering their advantage over market cap weighting.

Then again, you can claim boredom and ignorance... but with this group... that may be a BIG stretch..... :beer
We were having this same argument 10 or 15 years ago. Guess what? The S&Ders are ahead since we began having the argument.
1) Invest you must 2) Time is your friend 3) Impulse is your enemy | 4) Basic arithmetic works 5) Stick to simplicity 6) Stay the course
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matjen
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Re: Why is Tilting and Slice&Dice so popular in this forum?

Post by matjen »

EmergDoc wrote:
Longtimelurker wrote:
cowboysFan wrote:I think the equity slice and dice crowd can be explained by four factors:

1) Financial advisers have an interest in making the simple complicated. If investing can be reduced to a few simple rules (three fund portfolio + age in bonds), people don't need to hire financial advisers to manage their money.
2) Many bogleheads are incredibly successful in real life, which leads some of them to think they're always the smartest guy in the room about everything.
3) If there's no way to increase your stock returns and you can't increase your income, then your only alternative to reduce your spending, which a lot of people don't want to hear. A lot of people want a pain free plan for retirement.
4) Last, but not least, is boredom. If everyone agreed with the EMH and moderators deleted all threads asking questions already answered, this forum would die very quickly.
Or, because Bogleheads demand proof for EVERYTHING, is could be because:

1: At least the 3 factors (still haven't found time to read up on 4&5) have proven to have risk adjusted returns superior to that of Market Cap weighted portfolios in every stock market researched.
2: These premiums have persisted after being widely advertised
3: There are rational behavioral and structural reasons for the persistence of these premiums
4: Not only are the premiums a benefit, but by S&D'ing a portfolio one increases both Tax Loss Harvesting and Rebalancing Opportunities - presumably furthering their advantage over market cap weighting.

Then again, you can claim boredom and ignorance... but with this group... that may be a BIG stretch..... :beer
We were having this same argument 10 or 15 years ago. Guess what? The S&Ders are ahead since we began having the argument.
+1
BOOM, Mic Drop :!: :twisted:
Last edited by matjen on Sun Jun 08, 2014 5:27 pm, edited 1 time in total.
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Re: Why is Tilting and Slice&Dice so popular in this forum?

Post by cowboysFan »

Longtimelurker wrote: Or, because Bogleheads demand proof for EVERYTHING, is could be because:

1: At least the 3 factors (still haven't found time to read up on 4&5) have proven to have risk adjusted returns superior to that of Market Cap weighted portfolios in every stock market researched.
2: These premiums have persisted after being widely advertised
3: There are rational behavioral and structural reasons for the persistence of these premiums
I'll just leave it that Eugene Fama would disagree with you on 1 + 3. I think I'll trust the guy with the Nobel prize who basically invented the factor model over you. As for 2, if SCV only offers higher returns and not higher risk adjusted returns, then I can get the same effect by holding more stocks and fewer bonds.
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Re: Why is Tilting and Slice&Dice so popular in this forum?

Post by Longtimelurker »

longinvest wrote: Dear Longtimelurker,

I have trouble following you. First, you said the math was wrong. Now, you say that the same math proves my points wrong, and that my reasoning is not logical.

I would really appreciate if you could help me understand:
  • What is wrong in the math?
  • Which of my points (please identify them clearly, so that I know which points you think are wrong) are wrong and why?
Thanks,

longinvest
Sure. My understanding of your premise is that there is some sort of mathematical proof that any outperformance of TSM is either luck or temporary - and you claim to have mathematical proof of this. This premise is wrong to the point of foolish from a historical perspective. It is similar to global warming or evolution denial. There is an overwhelming body of scientific evidence that has proven a historical premium for size and value factors. That is fact. Accept it, or place ones head in ones sand pit...

That said, the future is unknowable. While those factors have proven to persist after being widely advertised, and there are strong structural and behavioral reasons for this, there are no guarantees.

Your perspective that somehow the many very bright people on this forum are being duped, and you have some magical insight, is not likely to be right.

Does that clear it up for you?
Stay the course. If you can't resist greed, and fear is proven to be 2x as strong, you are doomed as an investor.
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Re: Why is Tilting and Slice&Dice so popular in this forum?

Post by Longtimelurker »

cowboysFan wrote:I'll just leave it that Eugene Fama would disagree with you on 1 + 3. I think I'll trust the guy with the Nobel prize who basically invented the factor model over you. As for 2, if SCV only offers higher returns and not higher risk adjusted returns, then I can get the same effect by holding more stocks and fewer bonds.
Awesome. Just link proof of this - a paper, and interview, something - and I will declare total defeat in this debate.

Good luck.
Stay the course. If you can't resist greed, and fear is proven to be 2x as strong, you are doomed as an investor.
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Re: Why is Tilting and Slice&Dice so popular in this forum?

Post by matjen »

Longinvest,

Serious question. You are obviously aware of Bill Sharpe's Arithmetic of Active Management, but have you ever actually read any of Larry Swedroe's articles or books or Bill Bernstein's books. All of these make the case for tilted portfolios if you are the type of investor who can stay the course. They provide all the data you would ever need. I'm in the middle of Bernstein's latest for instance. I'm sure they think a typical TSM 3-fund portfolio is also quite fine. Here is my bed stand.

Do you think they don't understand what Sharpe wrote. What do you think their motivation is for writing these books and investing in a tilted fashion? (I don't know that Bernstein tilts for a fact but I would bet a ton on it)

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The missing book ?

Post by Taylor Larimore »

matjen:

Where is a Bogle book?

Best wishes.
Taylor
"Simplicity is the master key to financial success." -- Jack Bogle
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Re: Why is Tilting and Slice&Dice so popular in this forum?

Post by cowboysFan »

Longtimelurker wrote:
cowboysFan wrote:I'll just leave it that Eugene Fama would disagree with you on 1 + 3. I think I'll trust the guy with the Nobel prize who basically invented the factor model over you. As for 2, if SCV only offers higher returns and not higher risk adjusted returns, then I can get the same effect by holding more stocks and fewer bonds.
Awesome. Just link proof of this - a paper, and interview, something - and I will declare total defeat in this debate.

Good luck.
Unfortunately, the original link for this interview is dead, but here's a Fama quote: Fama: Um, no. (Laughs) Basically this a risk story the way we tell it, so there is no optimal portfolio. The way I like to talk about it when I give presentations for DFA or other people is, in every asset pricing model, the market portfolio is always an efficient portfolio. It's always a relevant portfolio for an investor to hold. And investors can decide to tilt away from that based on their personal tastes. But that's what it amounts to. You can decide to tilt toward more value or smaller size based on your tastes for these dimensions of risk. But you needn't do it. You could also decide to go the other way. You could look at the premiums and say, no, I think I like the growth stocks better. Then, as long as you get a diversified portfolio of them, I can't argue with that either. So there's a whole multi-dimensional continuum here of efficient portfolios that anybody can decide to buy that I can't quarrel with. And I have no recommendations about because I think it's totally a matter of taste. If you eat oranges and I eat apples I can't really quarrel very much with that.

In a different interview, http://www.minneapolisfed.org/publicati ... fm?id=1134, he's not as a explicit about the total market being optimal, but argues the small and value premiums are risk premiums, not behavioral inefficiencies that can be exploited.
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longinvest
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Re: Why is Tilting and Slice&Dice so popular in this forum?

Post by longinvest »

Longtimelurker wrote:
longinvest wrote: Dear Longtimelurker,

I have trouble following you. First, you said the math was wrong. Now, you say that the same math proves my points wrong, and that my reasoning is not logical.

I would really appreciate if you could help me understand:
  • What is wrong in the math?
  • Which of my points (please identify them clearly, so that I know which points you think are wrong) are wrong and why?
Thanks,

longinvest
Sure. My understanding of your premise is that there is some sort of mathematical proof that any outperformance of TSM is either luck or temporary - and you claim to have mathematical proof of this. This premise is wrong to the point of foolish from a historical perspective. It is similar to global warming or evolution denial. There is an overwhelming body of scientific evidence that has proven a historical premium for size and value factors. That is fact. Accept it, or place ones head in ones sand pit...

That said, the future is unknowable. While those factors have proven to persist after being widely advertised, and there are strong structural and behavioral reasons for this, there are no guarantees.

Your perspective that somehow the many very bright people on this forum are being duped, and you have some magical insight, is not likely to be right.

Does that clear it up for you?
Dear Longtimelurker,

Thank you for your answer.

Let me clear up some ambiguities. I was referring to Bogle math, what he calls The Relentless Rules of Humble Arithmetic:
(from http://www.vanguard.com/bogle_site/sp20060101.htm, underline: mine)
[...]
The Cost Matters Hypothesis
The overarching reality is simple: Gross returns in the financial markets minus the costs of financial intermediation equal the net returns actually delivered to investors.
[...]
The idea that investors as a group must be average goes back more than a century, expressed by Louis Bachelier in his PhD thesis at the Sorbonne in 1900: "Past, present, and even discounted future events are [all] reflected in market price." That's essentially what the EMH says. Nearly half a century later, when Nobel Laureate Paul Samuelson discovered Bachelier's long-forgotten thesis, he confessed that he oscillated between regarding it as trivially obvious and regarding it as remarkably sweeping. Of course, Bachelier was right. However, when he went on to conclude that "the mathematical expectation of the speculator is zero," Bachelier was wrong. He didn't go far enough. For the fact is that the mathematical expectation of the speculator and the long-term investor alike is not zero. It is zero minus the cost of playing the game, a shortfall to the stock market's return that is precisely equal to the sum total of all those advisory fees, marketing expenditures, sales loads, brokerage commissions, legal and transaction costs, custody fees, and security-processing expenses. And that is the essential message of the CMH.
What I am saying is that tilting moves you out of getting the average market returns (so you could earn more or less), and that I have trouble believing the promises of superior returns for same risk or same returns for less risk.

You talk of risk-adjusted returns. As far as I know, such a number is the ratio of past returns divided by past standard deviation (or something like that). Great for computing things about the past. But, I get skeptical about promises of higher future risk-adjusted returns on a whole-portfolio basis.

It is possible that the mathematics of Slice and Dice are just way above my knowledge and that I am missing some very important points, so maybe I should simply admit that this stuff is above me and just ignore future S&D threads.

Best regards,

longinvest
Variable Percentage Withdrawal (bogleheads.org/wiki/VPW) | One-Fund Portfolio (bogleheads.org/forum/viewtopic.php?t=287967)
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matjen
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Re: The missing book ?

Post by matjen »

Taylor Larimore wrote:matjen:

Where is a Bogle book?

Best wishes.
Taylor
Touche Taylor! Just for you I grabbed a bunch of others and placed Jack on top where he belongs! Put them on the wife's side. :wink:

I can't take pics of my Kindle with many more. Not that having books makes me any smarter of course.

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