Give me the long-term predictability of shares, at any age

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Redstorm
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Give me the long-term predictability of shares, at any age

Post by Redstorm » Wed Mar 07, 2018 10:22 pm

What are your thoughts on the below article and Warrens thoughts (ties in with his pro stock bias and 90% Stock Market Index 10% Bond allocation for his estate)

Give me the long-term predictability of shares, at any age

As an investor’s investment horizon lengthens, however, a diversified portfolio of U.S. equities becomes progressively less risky than bonds, assuming that the stocks are purchased at a sensible multiple of earnings relative to then-prevailing interest rates.

It is a terrible mistake for investors with long-term horizons – among them, pension funds, college endowments and savings-minded individuals – to measure their investment “risk” by their portfolio’s ratio of bonds to stocks. Often, high-grade bonds in an investment portfolio increase its risk.”


Warren Buffett, 2017 letter to Berkshire Hathaway shareholders, published 24 February 2018.

longinvest
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Re: Give me the long-term predictability of shares, at any age

Post by longinvest » Wed Mar 07, 2018 10:57 pm

I would watch the linked video, below, found in our Wiki's Video: Why bother with bonds? page.

Why bonds: #1 because stocks are risky
transcript wrote: Now it’s time for some fun. It’s simple. I’ll give you two facts. You choose the fact that is true.
  • Here’s the first one: The longer you own stocks, the safer they become.
  • The second one is: The longer you own bonds, the safer they become.
It’s your turn now. Click on the one that is true.
The answer is:





















transcript wrote: (first fact) If we use volatility to measure safety, then this one is false. Stocks remain volatile every day of every year, including the day before you sell them 40 years from now. But this is an easy mistake to make because we often hear that “stocks held for decades rarely lose money”. That’s true too, but not losing the amount you originally invested becomes less important than not losing the value it grows to become—and that you come to rely on.
(second fact) This is correct. These two choices get at a major difference. While buying stocks are buying ownership in companies—something you can keep forever; buying a bond is really just loaning your money for a specific period of time. The longer you own the bond, the closer you get to the maturity date, at which time you’ll get back the full value that you invested. The highest quality bonds are very safe with no surprises.
Actually, if one buys a 30-year TIPS at par and holds it for 30 years, one is guaranteed get back the initial invested amount at maturity indexed to inflation, in addition to all the inflation-indexed coupons that were paid during the holding period.
Bogleheads investment philosophy | Lifelong Portfolio: 25% each of (domestic/international)stocks/(nominal/inflation-indexed)bonds | VCN/VXC/VLB/ZRR

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nisiprius
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Re: Give me the long-term predictability of shares, at any age

Post by nisiprius » Wed Mar 07, 2018 11:09 pm

The article title is silly on the face of it. What good does the "long-term predictability of shares" do you, once your remaining life expectancy is no more than intermediate-term?

Second, who says that there is "long-term predictability of shares?" This is simply stated in the title as if it were an established fact. It is nothing of the sort:

Pastor, Lubos and Stambaugh, Robert F., Are Stocks Really Less Volatile in the Long Run? (March 22, 2011). EFA 2009 Bergen Meetings Paper; AFA 2010 Atlanta Meetings Paper.
According to conventional wisdom, annualized volatility of stock returns is lower over long horizons than over short horizons, due to mean reversion induced by return predictability. In contrast, we find that stocks are substantially more volatile over long horizons from an investor's perspective. This perspective recognizes that parameters are uncertain, even with two centuries of data, and that observable predictors imperfectly deliver the conditional expected return. Mean reversion contributes strongly to reducing long-horizon variance, but it is more than offset by various uncertainties faced by the investor, especially uncertainty about the expected return. The same uncertainties reduce desired stock allocations of long-horizon investors contemplating target-date funds.
Annual income twenty pounds, annual expenditure nineteen nineteen and six, result happiness; Annual income twenty pounds, annual expenditure twenty pounds ought and six, result misery.

CurlyDave
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Re: Give me the long-term predictability of shares, at any age

Post by CurlyDave » Wed Mar 07, 2018 11:25 pm

longinvest wrote:
Wed Mar 07, 2018 10:57 pm

...Actually, if one buys a 30-year TIPS at par and holds it for 30 years, one is guaranteed get back the initial invested amount at maturity indexed to inflation, in addition to all the inflation-indexed coupons that were paid during the holding period.
The really truthful statement would be modified thus: " ...one is guaranteed get back the initial invested amount at maturity indexed to inflation, as defined by the bond issuer,...and subject to income tax on the inflated money. "

When inflation and taxes are considered, there is no risk of loss with bonds, there is almost a guarantee of loss.

longinvest
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Re: Give me the long-term predictability of shares, at any age

Post by longinvest » Wed Mar 07, 2018 11:30 pm

CurlyDave,
CurlyDave wrote:
Wed Mar 07, 2018 11:25 pm
The really truthful statement would be modified thus: " ...one is guaranteed get back the initial invested amount at maturity indexed to inflation, as defined by the bond issuer,...and subject to income tax on the inflated money. "
It's the same CPI-U which is used to gauge the real value of stocks, in the long term.
CurlyDave wrote:
Wed Mar 07, 2018 11:25 pm
When inflation and taxes are considered, there is no risk of loss with bonds, there is almost a guarantee of loss.
TIPS, like stocks, can be bought in a tax-advantaged account.
Bogleheads investment philosophy | Lifelong Portfolio: 25% each of (domestic/international)stocks/(nominal/inflation-indexed)bonds | VCN/VXC/VLB/ZRR

CurlyDave
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Re: Give me the long-term predictability of shares, at any age

Post by CurlyDave » Thu Mar 08, 2018 12:51 am

longinvest wrote:
Wed Mar 07, 2018 11:30 pm

It's the same CPI-U which is used to gauge the real value of stocks, in the long term.
The difference is that the CAGR for stocks is several times the CPI-U. If the CPI-U does not reflect my personal inflation rate it is not a big deal.
CurlyDave wrote:
Wed Mar 07, 2018 11:25 pm
When inflation and taxes are considered, there is no risk of loss with bonds, there is almost a guarantee of loss.
longinvest wrote:
Wed Mar 07, 2018 11:30 pm

TIPS, like stocks, can be bought in a tax-advantaged account.
1. I prefer to put my higher return assets in a tax-advantaged account in order to maximize the advantage.

2. In order to spend any of this money it has to be taken out of the tax-advantaged account. Unless it is in a Roth the inflation adjustment will be taxed then.

MrPotatoHead
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Re: Give me the long-term predictability of shares, at any age

Post by MrPotatoHead » Thu Mar 08, 2018 3:01 am

CurlyDave wrote:
Wed Mar 07, 2018 11:25 pm
longinvest wrote:
Wed Mar 07, 2018 10:57 pm

...Actually, if one buys a 30-year TIPS at par and holds it for 30 years, one is guaranteed get back the initial invested amount at maturity indexed to inflation, in addition to all the inflation-indexed coupons that were paid during the holding period.
The really truthful statement would be modified thus: " ...one is guaranteed get back the initial invested amount at maturity indexed to inflation, as defined by the bond issuer,...and subject to income tax on the inflated money. "

When inflation and taxes are considered, there is no risk of loss with bonds, there is almost a guarantee of loss.
Plus a thousand.

longinvest
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Re: Give me the long-term predictability of shares, at any age

Post by longinvest » Thu Mar 08, 2018 7:28 am

Redstorm wrote:
Wed Mar 07, 2018 10:22 pm
As an investor’s investment horizon lengthens, however, a diversified portfolio of U.S. equities becomes progressively less risky than bonds, assuming that the stocks are purchased at a sensible multiple of earnings relative to then-prevailing interest rates.
...
Warren Buffett, 2017 letter to Berkshire Hathaway shareholders, published 24 February 2018.
longinvest wrote:
Wed Mar 07, 2018 10:57 pm
Actually, if one buys a 30-year TIPS at par and holds it for 30 years, one is guaranteed get back the initial invested amount at maturity indexed to inflation, in addition to all the inflation-indexed coupons that were paid during the holding period.
CurlyDave wrote:
Wed Mar 07, 2018 11:25 pm
The really truthful statement would be modified thus: " ...one is guaranteed get back the initial invested amount at maturity indexed to inflation, as defined by the bond issuer,...
longinvest wrote:
Wed Mar 07, 2018 11:30 pm
It's the same CPI-U which is used to gauge the real value of stocks, in the long term.
CurlyDave wrote:
Thu Mar 08, 2018 12:51 am
The difference is that the CAGR for stocks is several times the CPI-U. If the CPI-U does not reflect my personal inflation rate it is not a big deal.
The original citation was about risk, not about potential higher returns.

The correct statement would be: "The difference is that the CAGR for stocks is likely to be higher, but could also be lower than the CAGR for TIPS. Stocks are thus riskier than bonds as they carry the possibility of lower returns and losses over the 30-year period."

The TIPS is a contract to pay specific inflation-indexed amounts on specific dates. A stock certificate is only a title of partial ownership, with no promise to pay specific amounts of money on specific dates; it is thus riskier. Japan investors have experienced stock risk in the last almost 30 years.
Bogleheads investment philosophy | Lifelong Portfolio: 25% each of (domestic/international)stocks/(nominal/inflation-indexed)bonds | VCN/VXC/VLB/ZRR

longinvest
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Re: Give me the long-term predictability of shares, at any age

Post by longinvest » Thu Mar 08, 2018 7:41 am

Rick Van Ness has it right in the underlined parts:
longinvest wrote:
Wed Mar 07, 2018 10:57 pm
Why bonds: #1 because stocks are risky
transcript wrote: Stocks remain volatile every day of every year, including the day before you sell them 40 years from now. But this is an easy mistake to make because we often hear that “stocks held for decades rarely lose money”. That’s true too, but not losing the amount you originally invested becomes less important than not losing the value it grows to become—and that you come to rely on.
Bogleheads investment philosophy | Lifelong Portfolio: 25% each of (domestic/international)stocks/(nominal/inflation-indexed)bonds | VCN/VXC/VLB/ZRR

ThrustVectoring
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Re: Give me the long-term predictability of shares, at any age

Post by ThrustVectoring » Thu Mar 08, 2018 2:02 pm

longinvest wrote:
Thu Mar 08, 2018 7:41 am
Rick Van Ness has it right in the underlined parts:
longinvest wrote:
Wed Mar 07, 2018 10:57 pm
Why bonds: #1 because stocks are risky
transcript wrote: Stocks remain volatile every day of every year, including the day before you sell them 40 years from now. But this is an easy mistake to make because we often hear that “stocks held for decades rarely lose money”. That’s true too, but not losing the amount you originally invested becomes less important than not losing the value it grows to become—and that you come to rely on.
The stocks remain as risky in 40 years, true. But the superior returns of stocks also increase your ability to tolerate risk. Yes, a $1MM stock portfolio has more risk than a $100k bond portfolio, but the former has much less trouble sustaining a $20k/yr withdrawal.

Over a 40 year timeframe, I'd be 100% stocks for at least the first 20 years. Only once I have something to protect will I dial down the risk through purchasing bonds.

Ari
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Re: Give me the long-term predictability of shares, at any age

Post by Ari » Fri Mar 09, 2018 2:09 am

Yeah, it seems strange to me to say that the problem is that suddenly you have a lot of money that you risk losing. It seems like a nice problem to have.
All in, all the time.

tibbitts
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Re: Give me the long-term predictability of shares, at any age

Post by tibbitts » Fri Mar 09, 2018 8:24 am

As I've said in other posts you either believe equities worldwide could underperform debt for as long as they would have to to negatively impact your life, or you don't. Seems simple.

dbr
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Re: Give me the long-term predictability of shares, at any age

Post by dbr » Fri Mar 09, 2018 8:59 am

I don't think anyone is confused about the behavior of stocks and bonds and about the idea that one should invest in a way consistent with what one wants from the world. However, as soon as that understanding is confused by reducing it to utterances of undefined words such as "risk" the discussion becomes useless. Warren Buffett knows exactly what he is talking about and so do we, but it has nothing to do with risk, or it has everything to do with risk, which people understand once it is made clear what the point really is.

However, I charge Buffett with being a poor communicator and a lousy teacher unless, as is more likely, the fault is ours for not paying attention to the details.

longinvest
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Re: Give me the long-term predictability of shares, at any age

Post by longinvest » Fri Mar 09, 2018 9:10 am

Ari wrote:
Fri Mar 09, 2018 2:09 am
Yeah, it seems strange to me to say that the problem is that suddenly you have a lot of money that you risk losing. It seems like a nice problem to have.
It might seem strange, at first sight, but most people with a $1 million portfolio wouldn't project ahead assuming they only possess a $500 thousands portfolio. So, if a crisis happens and the portfolio drops to $500 thousands, they'll feel that they've sustained a significant loss, probably equating to many years of salary.

Some people might claim that they'll simply switch their portfolio to include a significant amount of bonds 15 years before retirement, or as soon as the portfolio reaches $1 million. But, the thing is that the portfolio might drop 50% 16 years before retirement or at the point it reaches $950 thousands.

Another investor who invested into a balanced portfolio all of his life won't sustain as big a loss in the market crisis. As he'll have used more modest assumptions in his planning, the impact of the crisis on his plans will be milder, and the feeling of loss probably smaller.

By spending just a little less, an investor can easily afford to use a balanced portfolio all lifelong. This is not intuitive, because it contradicts what most of us have been taught using simple calculations. But, retirement investing isn't a simple calculation. This is explained in details in this post: The Mathematics of Retirement Investing.
Bogleheads investment philosophy | Lifelong Portfolio: 25% each of (domestic/international)stocks/(nominal/inflation-indexed)bonds | VCN/VXC/VLB/ZRR

Ari
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Re: Give me the long-term predictability of shares, at any age

Post by Ari » Sat Mar 10, 2018 12:16 pm

longinvest wrote:
Fri Mar 09, 2018 9:10 am
It might seem strange, at first sight, but most people with a $1 million portfolio wouldn't project ahead assuming they only possess a $500 thousands portfolio. So, if a crisis happens and the portfolio drops to $500 thousands, they'll feel that they've sustained a significant loss, probably equating to many years of salary.
Yes, there is surely a psychological benefit for a lot of people in holding a more stable portfolio. But it depends on one's phychology. To "know thyself" is probably one of the most important things in investing. Many people would probably feel better with a smaller, less volatile portfolio. Others, like me, can't sleep at night with bonds in the portfolio. But my people's lives and mentalities differ. Others have a different risk tolerance than me, and many probably lack a lot of the flexibility I have when it comes to my portfolio.

Each one needs to take a decision for themselves, taking into account both the volatility of stocks and the long-term meager expected returns of bonds.
All in, all the time.

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