Income as part of the bond position

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sal paradise
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Income as part of the bond position

Post by sal paradise » Mon Mar 12, 2018 12:02 pm

Does anyone view their income as part of their bond position?
As an example:
70/30 (eq/bond) portfolio
500K portfolio size
50K after tax income
Traditionally a 70/30 would be 350K in equities and 150K in bonds, but what if the 50K/year was factored into portfolio. The 50K would actually be more like adding 1.250 million (25 x 50) to the portfolio which would be a total portfolio of 1.750 mil. Based on that, my portfolio is far more conservative, 80% bonds (1.400/1.750).
I don't currently view my portfolio in this light, but maybe I should.

alex_686
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Re: Income as part of the bond position

Post by alex_686 » Mon Mar 12, 2018 12:14 pm

The most correct way is to incorporate your human capital into your asset allocation. How you do this tricky question but you are broadly correct. Follow up questions. Human capital is "bond like" it it is low risk. For example, government and union jobs. If it is high risk, then equity. Self-employed or commissioned.

These are only generalizations. If you are going to capitalize your human capital as an pseudo-asset you also need to capitalize your future expenses as a pseudo-liability. You are going to need to think about your life span, health, disability, etc.

You also need to consider if you are going to 'constrained' your portfolio. One could find that your human capital is 150% of your asset allocation so the correct answer is not to hold any bonds. Or hold negative bonds - that is borrowing money to invest in the stock market. While this might be a rational choice it does involve more risk than many would like to take.

Iliketoridemybike
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Re: Income as part of the bond position

Post by Iliketoridemybike » Mon Mar 12, 2018 12:15 pm

I know some figure future SS payments into their bond portion. The income angle is interesting, but something about it doesn't seem right. I will have to think on this for a bit.

sal paradise
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Re: Income as part of the bond position

Post by sal paradise » Mon Mar 12, 2018 12:27 pm

I would also add, if I'm going to view my mortgage as a "negative bond" shouldn't after tax income be viewed as a "positive bond".

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bottlecap
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Re: Income as part of the bond position

Post by bottlecap » Mon Mar 12, 2018 12:33 pm

Seems goofy to me. Especially since you have to live on at least part of your income.

JT

alex_686
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Re: Income as part of the bond position

Post by alex_686 » Mon Mar 12, 2018 1:04 pm

bottlecap wrote:
Mon Mar 12, 2018 12:33 pm
Seems goofy to me. Especially since you have to live on at least part of your income.
No - very very rational. Maybe too rational. It requires a high level of cognition and modeling.

First, one's human capital does have a impact on one's ability to take risk. A tenured teacher has very low risk human capital so they can take greater risk with their financial capital. A commissioned sales person has the opposite problem.

Second, we are often trying to compare apples to oranges. We try to construct a asset allocation in "stock" units (portfolio = $X on 12/31/2017) to meet a "flow" variable (retirement income of $Y per year). How do we bridge this? Convert everything - human capital and future expenses - into present value numbers, into stock. Now we can compare apples to apples.

Any other way tends to be ad hoc and has internal inconsistencies.

aristotelian
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Re: Income as part of the bond position

Post by aristotelian » Mon Mar 12, 2018 1:07 pm

sal paradise wrote:
Mon Mar 12, 2018 12:27 pm
I would also add, if I'm going to view my mortgage as a "negative bond" shouldn't after tax income be viewed as a "positive bond".
No, because nobody has guaranteed to pay your income for the next 30 years.

wanderer
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Re: Income as part of the bond position

Post by wanderer » Mon Mar 12, 2018 1:12 pm

The 50K/year is a cash flow. To determine the present value (bond-like) all the variables need to be defined/assumed. What is the term (years)? What is the appropriate interest rate (discount rate)? What is the marketability (cost to sell)? What is the inflation rate (COLA'd)?. Risk of default?

I do not agree that a simple 25* factor is appropriate. The Bergen/Trinity study is based on a stock/bond mix with market variability (sequence of risk), inflation adjustments, and other items that do not match a fixed income stream. The source of the income, and the appropriate risks/marketability need to be considered.

Suggest a single premium annuity comparison might be more appropriate (immediate or deferred depending on your situation).

dbr
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Re: Income as part of the bond position

Post by dbr » Mon Mar 12, 2018 5:38 pm

Trying to make things into things they are not is a very tricky undertaking and not to be recommended.

In the present instance the two features of a portfolio that must be known, namely expected return and the confidence (statistical variation) that you will get that return would become so confabulated you would have no idea what you are invested in and why. I think the miss-step here is thinking that stock/bond allocation is an end in itself when in fact that ratio is just a knob for controlling risk and return of investments. Disconnecting that knob by changing it into something it isn't would not be helpful.

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tractorguy
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Re: Income as part of the bond position

Post by tractorguy » Mon Mar 12, 2018 6:03 pm

I wouldn't include future income from stocks and bonds when figuring my net worth and asset allocation because it is not guaranteed and a totally different kind of measure of your situation. Also, the studies of safe withdrawal rate are all based on a traditional measure of your investments value.
Lorne

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tractorguy
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Re: Income as part of the bond position

Post by tractorguy » Mon Mar 12, 2018 6:03 pm

Duplicate
Last edited by tractorguy on Mon Mar 12, 2018 6:38 pm, edited 1 time in total.
Lorne

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Sandtrap
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Re: Income as part of the bond position

Post by Sandtrap » Mon Mar 12, 2018 6:05 pm

Read:
TAYLOR LARIMORE ON “SIMPLICTY”
https://www.bogleheads.org/forum/viewt ... p?t=156505
Income is income and has no "principal" nor does it earn "interest" or any other bond characteristic.
j

sal paradise
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Re: Income as part of the bond position

Post by sal paradise » Mon Mar 12, 2018 6:38 pm

I guess I could argue that my income is the "interest" I receive from my human capital which is my "principal". In some ways it can makes things simpler because I would be 100% equities while I am working with never having to rebalance, and only shift to bonds when I am no longer earning income from human capital.

dbr
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Re: Income as part of the bond position

Post by dbr » Mon Mar 12, 2018 7:05 pm

sal paradise wrote:
Mon Mar 12, 2018 6:38 pm
I guess I could argue that my income is the "interest" I receive from my human capital which is my "principal". In some ways it can makes things simpler because I would be 100% equities while I am working with never having to rebalance, and only shift to bonds when I am no longer earning income from human capital.
If you want to invest your actual assets 100% into stocks for simplicity you can do that on more rational grounds than calling income bonds and then saying your are sort of 20/80. Rational grounds would be to arrive at that stock allocation by recognizing need, ability, and willingness to take that risk. "Personal capital" increases ability to take risk. The effect on need and willingness may be more complicated.

NotWhoYouThink
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Re: Income as part of the bond position

Post by NotWhoYouThink » Mon Mar 12, 2018 7:24 pm

Income streams are income streams and assets are assets. You can adjust your asset allocation as more of your earned income is in the rear view mirror, and more of your pension/SS income is as locked in as such things can be. But calling W-2 income or future SS a bond is just...fantasy, not high level cognition.

We could talk about how many legs a dog has, if you call a tail a leg, but we all know the answer to that one, too.

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