The risks of equities when saving for retirement

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CULater
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The risks of equities when saving for retirement

Post by CULater » Wed Dec 05, 2018 10:49 am

There's a strong bias toward equities in retirement portfolios; particularly with many years of accumulation left. But is that always justified?
Heres a nice article that challenges that assumption by Joe Tomlinson that might be worth a read:

https://www.advisorperspectives.com/art ... tirement
Should those further from retirement safely allocate more to stocks? I’ll use an example to challenge the popular notion that those with many years left until retirement can safely allocate heavily to stocks.
Is time on your side?
Conventional wisdom might decree that the client with 20 years remaining should not be worried because stock market ups and downs will balance out over time, and additional stability will be provided by 20 years of future savings contributions

But that’s not what the results of this analysis indicate. There’s roughly a one-in-20 chance that savings at retirement will be less than half what is hoped for, and a one-in-four chance savings will be less than three-quarters of the desired amount.

When we compare the client with 20 years remaining to the one with five years, we see that time and future fixed savings have not reduced risk, but instead increased it. So time is not the great diversifier.
What about target date funds?
For the target-date glide paths, the disappointing news is that the range of outcomes are not that dissimilar from the level 60/40 allocation. The distributions tighten somewhat, but mostly because the median results decline.

Switching to a target-date glide path is not the answer. We need to look for another approach.
It may not be as simple as we think.
The pre-retirement challenge of hitting a target number at retirement have not been adequately understood or researched. To some extent this is because of an unjustified faith in self-correcting properties of the stock market. This is a subset of the much more general problem of attempting to use volatile investments to meet fixed obligations, for example, in public pension funding. The pre-retirement phase provides its own unique and daunting challenges.
May you have the hindsight to know where you've been, The foresight to know where you're going, And the insight to know when you've gone too far. ~ Irish Blessing

megabad
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Re: The risks of equities when saving for retirement

Post by megabad » Wed Dec 05, 2018 11:48 am

A couple of clarifying points--the data presented is not based on true Monte Carlo simulation, but rather an advisors prediction of future returns. Also, an equity heavy portfolio is presented as a 60/40 stock/bond split.
CULater wrote:
Wed Dec 05, 2018 10:49 am
There's a strong bias toward equities in retirement portfolios; particularly with many years of accumulation left. But is that always justified?
Heres a nice article that challenges that assumption by Joe Tomlinson that might be worth a read:

https://www.advisorperspectives.com/art ... tirement
Should those further from retirement safely allocate more to stocks? I’ll use an example to challenge the popular notion that those with many years left until retirement can safely allocate heavily to stocks.
Is time on your side?
Yes. At least historically it has been.
Conventional wisdom might decree that the client with 20 years remaining should not be worried because stock market ups and downs will balance out over time, and additional stability will be provided by 20 years of future savings contributions

But that’s not what the results of this analysis indicate. There’s roughly a one-in-20 chance that savings at retirement will be less than half what is hoped for, and a one-in-four chance savings will be less than three-quarters of the desired amount.

When we compare the client with 20 years remaining to the one with five years, we see that time and future fixed savings have not reduced risk, but instead increased it. So time is not the great diversifier.
I do not understand how this conclusion is drawn? The only conclusion I can draw is that the author's arbitrary model shows that predicting exact returns is hard. "a 1 in 20 chance that retirement savings...is less...than what is hoped for." Ok so I predicted the future poorly, what does that have to do with relative risk?


What about target date funds?
For the target-date glide paths, the disappointing news is that the range of outcomes are not that dissimilar from the level 60/40 allocation. The distributions tighten somewhat, but mostly because the median results decline.

Switching to a target-date glide path is not the answer. We need to look for another approach.
I don't understand the point? Isn't it intuitive that the glide path would historical equivalent to the average fixed allocation portfolio over the long term? The idea is that it reduces the risk at the end of glide path when you are likely to need the money.


It may not be as simple as we think.
The pre-retirement challenge of hitting a target number at retirement have not been adequately understood or researched. To some extent this is because of an unjustified faith in self-correcting properties of the stock market. This is a subset of the much more general problem of attempting to use volatile investments to meet fixed obligations, for example, in public pension funding. The pre-retirement phase provides its own unique and daunting challenges.
Some of this I actually strongly agree with. Volatile investments (equities) should never be used to meet truly fixed and certain obligations. I do not believe that retirement savings plan or a pension fund is necessarily is a good example though (a pension fund can increase or decrease participant payments, use tax revenues, etc). I agree that there is no real magic to the reaching the "number" either. No one really knows what the number should be (or should have been) until they die.

gmaynardkrebs
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Re: The risks of equities when saving for retirement

Post by gmaynardkrebs » Wed Dec 05, 2018 11:49 am

I've run a lot of Monte Carlo simulations over the years. In order to get results like those in the article, I have to punch in numbers for stocks that are way worse than past history, including the Great Depression. I just don't see that happening.

MathWizard
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Re: The risks of equities when saving for retirement

Post by MathWizard » Wed Dec 05, 2018 2:23 pm

If the article shows anything, it is that the range of possible outcomes increases with time.
These seems obvious.

It also shows that 5th percentile is less than the 25th percentile which is less than the 50th percentile.
Again, pretty obvious.

What is not obvious is why the author uses
client five years from retirement with $770,000 in savings
This appears to be that the author is using median earnings for the first 15 years in all of the 5 years cases.

Certainly median performance for 15 years + 5th percentile performance for the last 5 years is going to be better
than 5th percentile performance over all 20 years.

That is like saying performance is better
if I go 15 miles in a car then the last 5 miles on a bicycle
than if go all 20 miles on a bicycle.
Last edited by MathWizard on Wed Dec 05, 2018 2:25 pm, edited 1 time in total.

ThrustVectoring
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Re: The risks of equities when saving for retirement

Post by ThrustVectoring » Wed Dec 05, 2018 2:23 pm

There's a limit on how pessimistic your future predictions can be before your plans should stop relying on market mechanisms altogether. If the 30-year real return on global cap-weighted equities is negative, that basically implies widespread societal collapse. If you think this is a real possibility, your best bet is to buy guns, not bonds.
Current portfolio: 60% VTI / 40% VXUS

gmaynardkrebs
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Re: The risks of equities when saving for retirement

Post by gmaynardkrebs » Wed Dec 05, 2018 2:35 pm

ThrustVectoring wrote:
Wed Dec 05, 2018 2:23 pm
...If the 30-year real return on global cap-weighted equities is negative, that basically implies widespread societal collapse...
Far more likely, excessive valuations at the start of the 30 year period. The stock market is not the economy, nor the society.

JBTX
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Re: The risks of equities when saving for retirement

Post by JBTX » Wed Dec 05, 2018 2:40 pm

ThrustVectoring wrote:
Wed Dec 05, 2018 2:23 pm
There's a limit on how pessimistic your future predictions can be before your plans should stop relying on market mechanisms altogether. If the 30-year real return on global cap-weighted equities is negative, that basically implies widespread societal collapse. If you think this is a real possibility, your best bet is to buy guns, not bonds.
While I get your point, I think you are being hyperbolic. Best I can tell Japan has had 30 year negative real returns, or darn close to it, and they have not experienced societal collapse.

I will agree it is seemingly unlikely, but it is a non zero possibility.

Also, I don't really understand the logic in the basic premise. It basically says that there may be tail risk, but the outcome is small and the outcome is so catastrophic it should be ignored. I am not sure why any particular outcome probabilities are discarded. That doesn't seem rational.

Walkure
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Re: The risks of equities when saving for retirement

Post by Walkure » Wed Dec 05, 2018 2:56 pm

JBTX wrote:
Wed Dec 05, 2018 2:40 pm
ThrustVectoring wrote:
Wed Dec 05, 2018 2:23 pm
There's a limit on how pessimistic your future predictions can be before your plans should stop relying on market mechanisms altogether. If the 30-year real return on global cap-weighted equities is negative, that basically implies widespread societal collapse. If you think this is a real possibility, your best bet is to buy guns, not bonds.
While I get your point, I think you are being hyperbolic. Best I can tell Japan has had 30 year negative real returns, or darn close to it, and they have not experienced societal collapse.

I will agree it is seemingly unlikely, but it is a non zero possibility.

Also, I don't really understand the logic in the basic premise. It basically says that there may be tail risk, but the outcome is small and the outcome is so catastrophic it should be ignored. I am not sure why any particular outcome probabilities are discarded. That doesn't seem rational.
I think the logic is not that it should be ignored but that, under these catastrophic, tail risk situations, assumptions about the noncorrelation of asset classes break down, and therefore the idea of allocating less to equity as a means of mitigating risk is infeasible. Put simply, if a dollar of earnings in 30 years costs less in real terms than a dollar of earnings today (i.e. the "high starting valuations" proposed above), that entails long term global asset deflation, in which case nominal returns would be worse than real returns, not better. In that scenario, credit-risk-free nominal bonds are guaranteed losers, albeit by a smaller amount.

Walkure
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Re: The risks of equities when saving for retirement

Post by Walkure » Wed Dec 05, 2018 3:10 pm

To put this point another way, it's essentially like saying that stock risk is comprised of [at least] two parts: 1) the equity risk premium, and 2) macroeconomic risk. Variation in the equity risk premium by itself can explain normal volatility in the risky asset, but by itself it cannot explain tail outcomes. Those outcomes necessarily involve risks which cannot be diversified away merely by increasing allocation to less-volatile asset classes.

JBTX
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Re: The risks of equities when saving for retirement

Post by JBTX » Wed Dec 05, 2018 3:16 pm

Walkure wrote:
Wed Dec 05, 2018 2:56 pm
JBTX wrote:
Wed Dec 05, 2018 2:40 pm
ThrustVectoring wrote:
Wed Dec 05, 2018 2:23 pm
There's a limit on how pessimistic your future predictions can be before your plans should stop relying on market mechanisms altogether. If the 30-year real return on global cap-weighted equities is negative, that basically implies widespread societal collapse. If you think this is a real possibility, your best bet is to buy guns, not bonds.
While I get your point, I think you are being hyperbolic. Best I can tell Japan has had 30 year negative real returns, or darn close to it, and they have not experienced societal collapse.

I will agree it is seemingly unlikely, but it is a non zero possibility.

Also, I don't really understand the logic in the basic premise. It basically says that there may be tail risk, but the outcome is small and the outcome is so catastrophic it should be ignored. I am not sure why any particular outcome probabilities are discarded. That doesn't seem rational.
I think the logic is not that it should be ignored but that, under these catastrophic, tail risk situations, assumptions about the noncorrelation of asset classes break down, and therefore the idea of allocating less to equity as a means of mitigating risk is infeasible. Put simply, if a dollar of earnings in 30 years costs less in real terms than a dollar of earnings today (i.e. the "high starting valuations" proposed above), that entails long term global asset deflation, in which case nominal returns would be worse than real returns, not better. In that scenario, credit-risk-free nominal bonds are guaranteed losers, albeit by a smaller amount.
I guess I disagree, in that if you look at Japan scenario, and Japan was your home country, diversifying into other country equity markets and bond markets would have made a huge difference. There are lots of different tail risk scenarios. It could be economic collapse, it could be long term depression, it could be stagflation, or one followed by another. It could be war, or other geopolitical event. They will all have different impacts on different asset classes. The assumption that if 30 year real returns are 0 then throw up your hands and run for a cave in the mountains is a pretty limited view.

Walkure wrote:
Wed Dec 05, 2018 3:10 pm
To put this point another way, it's essentially like saying that stock risk is comprised of [at least] two parts: 1) the equity risk premium, and 2) macroeconomic risk. Variation in the equity risk premium by itself can explain normal volatility in the risky asset, but by itself it cannot explain tail outcomes. Those outcomes necessarily involve risks which cannot be diversified away merely by increasing allocation to less-volatile asset classes.
These tail risks may or may not be able to be diversified, depending on the scenario. Unless you have a crystal ball, you just don't know.

Walkure
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Re: The risks of equities when saving for retirement

Post by Walkure » Wed Dec 05, 2018 3:30 pm

JBTX wrote:
Wed Dec 05, 2018 3:16 pm
Walkure wrote:
Wed Dec 05, 2018 2:56 pm
JBTX wrote:
Wed Dec 05, 2018 2:40 pm
ThrustVectoring wrote:
Wed Dec 05, 2018 2:23 pm
There's a limit on how pessimistic your future predictions can be before your plans should stop relying on market mechanisms altogether. If the 30-year real return on global cap-weighted equities is negative, that basically implies widespread societal collapse. If you think this is a real possibility, your best bet is to buy guns, not bonds.
While I get your point, I think you are being hyperbolic. Best I can tell Japan has had 30 year negative real returns, or darn close to it, and they have not experienced societal collapse.

I will agree it is seemingly unlikely, but it is a non zero possibility.

Also, I don't really understand the logic in the basic premise. It basically says that there may be tail risk, but the outcome is small and the outcome is so catastrophic it should be ignored. I am not sure why any particular outcome probabilities are discarded. That doesn't seem rational.
I think the logic is not that it should be ignored but that, under these catastrophic, tail risk situations, assumptions about the noncorrelation of asset classes break down, and therefore the idea of allocating less to equity as a means of mitigating risk is infeasible. Put simply, if a dollar of earnings in 30 years costs less in real terms than a dollar of earnings today (i.e. the "high starting valuations" proposed above), that entails long term global asset deflation, in which case nominal returns would be worse than real returns, not better. In that scenario, credit-risk-free nominal bonds are guaranteed losers, albeit by a smaller amount.
I guess I disagree, in that if you look at Japan scenario, and Japan was your home country, diversifying into other country equity markets and bond markets would have made a huge difference. There are lots of different tail risk scenarios. It could be economic collapse, it could be long term depression, it could be stagflation, or one followed by another. It could be war, or other geopolitical event. They will all have different impacts on different asset classes. The assumption that if 30 year real returns are 0 then throw up your hands and run for a cave in the mountains is a pretty limited view.
Hence the distinction between Japan having a bad 30 yrs and "global cap-weighted equities" having a bad 30 yrs. Any 30 yr period will have winners and losers as transnational investment ebbs and flows, but if the pie as a whole shrinks, the problem is of an entirely different kind. Unless of course we experience global outflows of capital as investors race to grab a piece of Elon Musk's Mars Composite Index, conveniently headquartered outside the jurisdiction of the SEC, in which case all bets are off.

abc132
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Re: The risks of equities when saving for retirement

Post by abc132 » Wed Dec 05, 2018 3:43 pm

I recommend reading Bogle's little book on investing.

It does a good job talking about where stock performance comes from over time.

I would guess it's written simple (well) enough for nearly anyone to understand.

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HomerJ
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Re: The risks of equities when saving for retirement

Post by HomerJ » Wed Dec 05, 2018 3:48 pm

The analysis is flawed.
However, I believe that historical returns paint too rosy a picture going forward, so I will scale down the historical returns to produce an average annual arithmetic real return for stocks of 5% and 1% for bonds.
Garbage in, garbage out.

You can't use historical 20-year blocks, AND change the numbers. Because then the following year returns probably would have played out differently.

And all the numbers for the imaginary investor are arbitrary. Someone with $340,000, saving $15,000 a year for 20 years may indeed not make it to $1.5 million (assuming 2% inflation for 20 years). The universe guarantees you nothing. That's how life works. They may have to work longer, save more per year, retire with "only" $1,200,000.

The fact that they have a decent chance of getting $1.5 million starting from $340,000 and saving $15,000 a year (even with made up lower returns) is pretty GOOD case for stocks.

But this "analysis" doesn't prove anything. I could easily make up a imaginary investor who started with $400,000, saved $20,000 a year, use the same imaginary returns, and then state they they made it to $1.5 million 98% of the time. Would that prove anything? What if I increased the imaginary returns slightly, and could now state they made it to $1.5 million 100% of the time?

Would you have posted THAT study here?

CULater, you seem determined to find anyone on the Internet who will agree with your premise that no one should invest in stocks.

Analysis like this is not helping you prove your case.
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Thesaints
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Re: The risks of equities when saving for retirement

Post by Thesaints » Wed Dec 05, 2018 5:07 pm

If one can accumulate all the money needed for the desired retirement by stashing funds in a checking account, why invest in anything but, provided he/she has no higher aspirations ?

UpperNwGuy
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Re: The risks of equities when saving for retirement

Post by UpperNwGuy » Wed Dec 05, 2018 5:13 pm

HomerJ wrote:
Wed Dec 05, 2018 3:48 pm
CULater, you seem determined to find anyone on the Internet who will agree with your premise that no one should invest in stocks.
^^^ THIS. CULater, why are you so determined to convince the rest of us that equities are evil? I really think you should examine your own thought processes and ask yourself why your views on this topic are so out of step with the rest of the forum.

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Re: The risks of equities when saving for retirement

Post by ThrustVectoring » Wed Dec 05, 2018 5:27 pm

JBTX wrote:
Wed Dec 05, 2018 2:40 pm
ThrustVectoring wrote:
Wed Dec 05, 2018 2:23 pm
There's a limit on how pessimistic your future predictions can be before your plans should stop relying on market mechanisms altogether. If the 30-year real return on global cap-weighted equities is negative, that basically implies widespread societal collapse. If you think this is a real possibility, your best bet is to buy guns, not bonds.
While I get your point, I think you are being hyperbolic. Best I can tell Japan has had 30 year negative real returns, or darn close to it, and they have not experienced societal collapse.

I will agree it is seemingly unlikely, but it is a non zero possibility.

Also, I don't really understand the logic in the basic premise. It basically says that there may be tail risk, but the outcome is small and the outcome is so catastrophic it should be ignored. I am not sure why any particular outcome probabilities are discarded. That doesn't seem rational.
The probabilities are discarded for investment planning purposes. This is because how your asset allocation basically doesn't matter in outcomes this catastrophic: if dollars can't be used to buy goods and services, why do you care how well your investments did in this scenario?
Current portfolio: 60% VTI / 40% VXUS

gmaynardkrebs
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Re: The risks of equities when saving for retirement

Post by gmaynardkrebs » Wed Dec 05, 2018 5:43 pm

ThrustVectoring wrote:
Wed Dec 05, 2018 5:27 pm
JBTX wrote:
Wed Dec 05, 2018 2:40 pm
ThrustVectoring wrote:
Wed Dec 05, 2018 2:23 pm
There's a limit on how pessimistic your future predictions can be before your plans should stop relying on market mechanisms altogether. If the 30-year real return on global cap-weighted equities is negative, that basically implies widespread societal collapse. If you think this is a real possibility, your best bet is to buy guns, not bonds.
While I get your point, I think you are being hyperbolic. Best I can tell Japan has had 30 year negative real returns, or darn close to it, and they have not experienced societal collapse.

I will agree it is seemingly unlikely, but it is a non zero possibility.

Also, I don't really understand the logic in the basic premise. It basically says that there may be tail risk, but the outcome is small and the outcome is so catastrophic it should be ignored. I am not sure why any particular outcome probabilities are discarded. That doesn't seem rational.
The probabilities are discarded for investment planning purposes. This is because how your asset allocation basically doesn't matter in outcomes this catastrophic: if dollars can't be used to buy goods and services, why do you care how well your investments did in this scenario?
Discarding the end of the world is one thing; I discarding the possibility that stocks could be lower 30 years from now is quite another.

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Re: The risks of equities when saving for retirement

Post by dogagility » Wed Dec 05, 2018 5:58 pm

Conventional wisdom might decree that the client with 20 years remaining should not be worried because stock market ups and downs will balance out over time, and additional stability will be provided by 20 years of future savings contributions

But that’s not what the results of this analysis indicate. There’s roughly a one-in-20 chance that savings at retirement will be less than half what is hoped for, and a one-in-four chance savings will be less than three-quarters of the desired amount.
Nothing is absolute, CULater, and trying to expect a specific return is pointless. All investing is based upon probabilities. I suggest you try adjusting your expectation of absoluteness to one in which probability is taken into account.
Taking "risk" since 1995.

CULater
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Re: The risks of equities when saving for retirement

Post by CULater » Wed Dec 05, 2018 6:33 pm

Several comments seem to be missing the point. An investor doesn't get to enjoy the long term return from stocks because he/she doesn't have the long term to invest. The actual returns will depend on the absolute returns from stocks during the investor's specific saving/investment horizon, and the sequence of returns during that horizon.

It means very little to say that if someone had started investing in the 1970s and made regular investments, he/she would have ended up wealthy many years later. That's only saying that if someone had been investing (1) over a period of time during which the absolute return from stocks was very high and (2) those high returns were skewed toward the end of his investment horizon when he had the most investment capital, then he did well. But, what if absolute returns weren't very good during your savings and investment period; or if the sequence of returns was reversed with the best returns skewed toward the first part of the period and the worst toward the last part of the period?

To illustrate, let's take two 20-year periods in which an investor made annual $10,000 (inflation-adjusted) contributions to a portfolio of 60% stocks / 40% intermediate treasuries, for a total of $200,000 invested (inflation adjusted).

The first period is 1972-1991, which was characterized by poor returns in the first 10 years and strong returns in the last 10 years. The second period is 1991-2010, which was characterized by strong returns during the first 10 years and poor returns during the last 10 years.

Total portfolio value at the end of the first period would have been $428,788 in 1972 dollars on a total investment of $200,000 in annual (inflation-adjusted) $10K increments. This is a gain of $228,778 in real dollars over the 20-year period or 114%.

Total portfolio value at the end of the second period would have been $316,995 in 1972 dollars on a total investment of $200,000 real in annual $10K (inflation-adjusted) increments. This is a gain of $116,995 in real dollars over the 20-year period or 58%.

Obviously, the range of total returns in real dollars was quite large over these two 20-year investment periods selected to illustrate the range of different returns that have occurred during the last almost 50 years; the first period resulted in an outcome that was twice as great as the second period. I think this is the primary point that Tomlinson is making.

It might be a good idea to keep this range of outcomes in mind when investing in equities for retirement and perhaps assume that there's a possibility you could end up in the lower end of the range and plan accordingly. "You only get one whack at the cat."
May you have the hindsight to know where you've been, The foresight to know where you're going, And the insight to know when you've gone too far. ~ Irish Blessing

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HomerJ
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Re: The risks of equities when saving for retirement

Post by HomerJ » Wed Dec 05, 2018 9:01 pm

CULater wrote:
Wed Dec 05, 2018 6:33 pm
It might be a good idea to keep this range of outcomes in mind when investing in equities for retirement and perhaps assume that there's a possibility you could end up in the lower end of the range and plan accordingly. "You only get one whack at the cat."
You get what you get. Of course, it's a range. Some 20 year and 30-year periods are better than others. It's best to plan for the lower end of the range. That's where the 4% "rule" for withdrawals come from. No one here plans around getting the highest part of the range.

You get what you get. You may have to work longer. Your example of someone working only 20 years starting with $0 savings (and then retiring?) seems contrived. I can't check your numbers because I don't know where you got them (doing everything in 1972 dollars makes things complicated... You using actual inflation data from the 70s?)

Even your worst case scenario where someone stops investing in 2010, finishing up their 20-year investing period with one of the worst decades in recent history, they still made a decent positive return. And that money nearly doubled a mere 4 years later (82% growth from 12/5/2010 to 12/5/2014), and was up 150% in 8 years (12/5/2010 to 12/5/2018) - nominal numbers.

Stock market goes in cycles... Bad years followed by good years followed by bad years followed by good years.

It may not work like that in the future, but you seem to be trying to claim it didn't work like that in the past.
Last edited by HomerJ on Wed Dec 05, 2018 9:16 pm, edited 3 times in total.
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HomerJ
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Re: The risks of equities when saving for retirement

Post by HomerJ » Wed Dec 05, 2018 9:08 pm

CULater wrote:
Wed Dec 05, 2018 6:33 pm
It might be a good idea to keep this range of outcomes in mind when investing in equities for retirement and perhaps assume that there's a possibility you could end up in the lower end of the range and plan accordingly. "You only get one whack at the cat."
Another post, sorry.

Can I ask you a serious question?

Do you really think we don't think this way? What threads or posts have you read here that leads you to believe that Bogleheads are unbridled optimists that think the stock market, going forward, will return the max amount it has in the past?

We're a pretty conservative bunch here... usually TOO conservative.

You lecture us, but we already agree with a good chunk of what you write. How come you don't see that?
The J stands for Jay

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Re: The risks of equities when saving for retirement

Post by AlohaJoe » Wed Dec 05, 2018 9:28 pm

ThrustVectoring wrote:
Wed Dec 05, 2018 2:23 pm
If you think this is a real possibility, your best bet is to buy guns, not bonds.
This tired quote -- only ever said by Americans -- is tiresome and completely lacking in factual basis. There have been many examples of negative equity risk premium and buying guns was never the answer. The answer was having a strong social network of friends, family, and neighbors.

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Re: The risks of equities when saving for retirement

Post by Nate79 » Wed Dec 05, 2018 10:01 pm

One of the dumbest articles I've read in a while. Sound the alarm that equities have return in a range, that you can't predict the future (duh), just because you set a target return doesnt mean it will happen (double duh), and the only solution offered is to vary your contribution rate?
Vary your contribution rate? Who here has extra money in their budget that they aren't already saving? The author needs to get off his computer and enter the real world.

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Re: The risks of equities when saving for retirement

Post by JBTX » Wed Dec 05, 2018 10:29 pm

ThrustVectoring wrote:
Wed Dec 05, 2018 5:27 pm
JBTX wrote:
Wed Dec 05, 2018 2:40 pm
ThrustVectoring wrote:
Wed Dec 05, 2018 2:23 pm
There's a limit on how pessimistic your future predictions can be before your plans should stop relying on market mechanisms altogether. If the 30-year real return on global cap-weighted equities is negative, that basically implies widespread societal collapse. If you think this is a real possibility, your best bet is to buy guns, not bonds.
While I get your point, I think you are being hyperbolic. Best I can tell Japan has had 30 year negative real returns, or darn close to it, and they have not experienced societal collapse.

I will agree it is seemingly unlikely, but it is a non zero possibility.

Also, I don't really understand the logic in the basic premise. It basically says that there may be tail risk, but the outcome is small and the outcome is so catastrophic it should be ignored. I am not sure why any particular outcome probabilities are discarded. That doesn't seem rational.
The probabilities are discarded for investment planning purposes. This is because how your asset allocation basically doesn't matter in outcomes this catastrophic: if dollars can't be used to buy goods and services, why do you care how well your investments did in this scenario?
Again, doubling down on the ridiculous notion that stagnant or negative long term real equity returns are highly correlated with economic collapse or anarchy. Last time I checked the Japanese yen was still a legit currency.

There have been 4 times in US history of negative real returns over 20 years.

https://www.businessinsider.com/chart-n ... rns-2012-7

Somehow we survived. What is the magic of 30 years vs 20? Why does that additional 10 years cause the collapse of civilization?

And look at some of these long term negative results worldwide.

https://finalytiq.co.uk/lessons-118-yea ... turn-data/

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Re: The risks of equities when saving for retirement

Post by willthrill81 » Wed Dec 05, 2018 11:36 pm

Walkure wrote:
Wed Dec 05, 2018 3:30 pm
JBTX wrote:
Wed Dec 05, 2018 3:16 pm
Walkure wrote:
Wed Dec 05, 2018 2:56 pm
JBTX wrote:
Wed Dec 05, 2018 2:40 pm
ThrustVectoring wrote:
Wed Dec 05, 2018 2:23 pm
There's a limit on how pessimistic your future predictions can be before your plans should stop relying on market mechanisms altogether. If the 30-year real return on global cap-weighted equities is negative, that basically implies widespread societal collapse. If you think this is a real possibility, your best bet is to buy guns, not bonds.
While I get your point, I think you are being hyperbolic. Best I can tell Japan has had 30 year negative real returns, or darn close to it, and they have not experienced societal collapse.

I will agree it is seemingly unlikely, but it is a non zero possibility.

Also, I don't really understand the logic in the basic premise. It basically says that there may be tail risk, but the outcome is small and the outcome is so catastrophic it should be ignored. I am not sure why any particular outcome probabilities are discarded. That doesn't seem rational.
I think the logic is not that it should be ignored but that, under these catastrophic, tail risk situations, assumptions about the noncorrelation of asset classes break down, and therefore the idea of allocating less to equity as a means of mitigating risk is infeasible. Put simply, if a dollar of earnings in 30 years costs less in real terms than a dollar of earnings today (i.e. the "high starting valuations" proposed above), that entails long term global asset deflation, in which case nominal returns would be worse than real returns, not better. In that scenario, credit-risk-free nominal bonds are guaranteed losers, albeit by a smaller amount.
I guess I disagree, in that if you look at Japan scenario, and Japan was your home country, diversifying into other country equity markets and bond markets would have made a huge difference. There are lots of different tail risk scenarios. It could be economic collapse, it could be long term depression, it could be stagflation, or one followed by another. It could be war, or other geopolitical event. They will all have different impacts on different asset classes. The assumption that if 30 year real returns are 0 then throw up your hands and run for a cave in the mountains is a pretty limited view.
Hence the distinction between Japan having a bad 30 yrs and "global cap-weighted equities" having a bad 30 yrs. Any 30 yr period will have winners and losers as transnational investment ebbs and flows, but if the pie as a whole shrinks, the problem is of an entirely different kind. Unless of course we experience global outflows of capital as investors race to grab a piece of Elon Musk's Mars Composite Index, conveniently headquartered outside the jurisdiction of the SEC, in which case all bets are off.
And in the case of Japan, Japanese bonds didn't 'save the day'. From 1995-2016, their annual nominal return was under 3%. And yields now are essentially zero (.05% for 10 year bonds).

However, Japan's market may be an outlier for other reasons. Their population is significantly older than the U.S. (oldest of any 'major' nation in the modern era), and they are far more restrictive with regards to immigration, which can be a significant source of long-term growth. As such, I'm not so sure that any other major economic power will become Japan 2.0.
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Re: The risks of equities when saving for retirement

Post by dogagility » Thu Dec 06, 2018 5:14 am

CULater wrote:
Wed Dec 05, 2018 6:33 pm
Total portfolio value at the end of the first period would have been $428,788 in 1972 dollars on a total investment of $200,000 in annual (inflation-adjusted) $10K increments. This is a gain of $228,778 in real dollars over the 20-year period or 114%.

Total portfolio value at the end of the second period would have been $316,995 in 1972 dollars on a total investment of $200,000 real in annual $10K (inflation-adjusted) increments. This is a gain of $116,995 in real dollars over the 20-year period or 58%.

It might be a good idea to keep this range of outcomes in mind when investing in equities for retirement and perhaps assume that there's a possibility you could end up in the lower end of the range and plan accordingly. "You only get one whack at the cat."
So.... where's the "risk"? Both investors had investment gains. Sure, the numbers are different, but that's no reason not to invest in stocks. What's the alternative investment vehicle you suggest a long-term investor use?
Taking "risk" since 1995.

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Re: The risks of equities when saving for retirement

Post by CULater » Thu Dec 06, 2018 9:53 am

HomerJ wrote:
Wed Dec 05, 2018 9:08 pm
CULater wrote:
Wed Dec 05, 2018 6:33 pm
It might be a good idea to keep this range of outcomes in mind when investing in equities for retirement and perhaps assume that there's a possibility you could end up in the lower end of the range and plan accordingly. "You only get one whack at the cat."
Another post, sorry.

Can I ask you a serious question?

Do you really think we don't think this way? What threads or posts have you read here that leads you to believe that Bogleheads are unbridled optimists that think the stock market, going forward, will return the max amount it has in the past?

We're a pretty conservative bunch here... usually TOO conservative.

You lecture us, but we already agree with a good chunk of what you write. How come you don't see that?
Just trying to share viewspoints -- sorry if your feathers are ruffled. Maybe consider that everyone on the board doesn't think like you do either and there is room for some polite discussion minus the ad hominem insults. I like to think I learn something from what I post and the responses that are made and the further thinking that they motivate me to do. Apparently, you have it all figured out already. I envy you. :beer
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Re: The risks of equities when saving for retirement

Post by adamthesmythe » Thu Dec 06, 2018 10:08 am

Can we have another post on the risks of bonds and cash when saving for retirement?

Then we get to a mix between equities and bonds, which is where pretty much everyone is anyway.

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Re: The risks of equities when saving for retirement

Post by willthrill81 » Thu Dec 06, 2018 2:20 pm

adamthesmythe wrote:
Thu Dec 06, 2018 10:08 am
Can we have another post on the risks of bonds and cash when saving for retirement?
Ooooh, yes let's!

Let's talk about intermediate-term Treasuries' real drawdown of -32% from 1977-1981. That period demonstrated that nominal bonds at least were more risky than many thought. The whole 'bonds are for safety' argument doesn't hold up so well under scrutiny.

During that same period, the real drawdown of cash (i.e. 1 month T-bills) was just -7.5%. Apart from TIPS, a relatively new invention, cash has been one of the best inflation hedges out there. But since 2009, it's been rather lackluster, and this has definitely colored people's views of it. More recency bias at work I suppose.
adamthesmythe wrote:
Thu Dec 06, 2018 10:08 am
Then we get to a mix between equities and bonds, which is where pretty much everyone is anyway.
Well, it's not so easy. One could make a convincing argument that as long as one can tolerate stocks' volatility, investors could be 100% stocks until 20 years out from retirement, maybe even 10. This is the conclusion that Paul Merriman came to as well. A 40 year old who isn't planning on retiring prior to age 65 and has the risk tolerance needed for an all stock portfolio arguably doesn't need any bonds at all.
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Re: The risks of equities when saving for retirement

Post by HomerJ » Thu Dec 06, 2018 2:32 pm

CULater wrote:
Thu Dec 06, 2018 9:53 am
HomerJ wrote:
Wed Dec 05, 2018 9:08 pm
CULater wrote:
Wed Dec 05, 2018 6:33 pm
It might be a good idea to keep this range of outcomes in mind when investing in equities for retirement and perhaps assume that there's a possibility you could end up in the lower end of the range and plan accordingly. "You only get one whack at the cat."
Another post, sorry.

Can I ask you a serious question?

Do you really think we don't think this way? What threads or posts have you read here that leads you to believe that Bogleheads are unbridled optimists that think the stock market, going forward, will return the max amount it has in the past?

We're a pretty conservative bunch here... usually TOO conservative.

You lecture us, but we already agree with a good chunk of what you write. How come you don't see that?
Just trying to share viewspoints -- sorry if your feathers are ruffled. Maybe consider that everyone on the board doesn't think like you do either and there is room for some polite discussion minus the ad hominem insults. I like to think I learn something from what I post and the responses that are made and the further thinking that they motivate me to do. Apparently, you have it all figured out already. I envy you. :beer
My point was not to attack you. You're obviously very worried about the risk of investing solely in stocks. I agree with many of your basic points, although I think you take it too far. But the articles you keep posting don't help your case at all.

An "analysis" where the author just makes up max returns over the next 20 years based on how they feel the market will do going forward is no analysis at all.

And the author just throws in a random start numbers, a random annual savings goal, and a random end number, and then they (and you) declare the point valid.

With different made-up variables, the analysis would look completely different. It wouldn't take too much tweaking at all to declare stock market investing 100% safe. But that wouldn't be true either.

I'm not attacking you; I'm attacking the article you posted. There is proof of NOTHING in there.
Last edited by HomerJ on Thu Dec 06, 2018 2:36 pm, edited 2 times in total.
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Re: The risks of equities when saving for retirement

Post by HomerJ » Thu Dec 06, 2018 2:34 pm

willthrill81 wrote:
Thu Dec 06, 2018 2:20 pm
adamthesmythe wrote:
Thu Dec 06, 2018 10:08 am
Can we have another post on the risks of bonds and cash when saving for retirement?
Ooooh, yes let's!

Let's talk about intermediate-term Treasuries' real drawdown of -32% from 1977-1981. That period demonstrated that nominal bonds at least were more risky than many thought. The whole 'bonds are for safety' argument doesn't hold up so well under scrutiny.

During that same period, the real drawdown of cash (i.e. 1 month T-bills) was just -7.5%. Apart from TIPS, a relatively new invention, cash has been one of the best inflation hedges out there. But since 2009, it's been rather lackluster, and this has definitely colored people's views of it. More recency bias at work I suppose.
adamthesmythe wrote:
Thu Dec 06, 2018 10:08 am
Then we get to a mix between equities and bonds, which is where pretty much everyone is anyway.
Well, it's not so easy. One could make a convincing argument that as long as one can tolerate stocks' volatility, investors could be 100% stocks until 20 years out from retirement, maybe even 10. This is the conclusion that Paul Merriman came to as well. A 40 year old who isn't planning on retiring prior to age 65 and has the risk tolerance needed for an all stock portfolio arguably doesn't need any bonds at all.
Except that you don't always get to decide when you're going to retire, so that would be a poor plan.

Very good point that bonds have had bad periods as well. There is risk in all investments. Inflation is always a worry.

I like being 50/50. That way I've never wrong. :)
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Re: The risks of equities when saving for retirement

Post by willthrill81 » Thu Dec 06, 2018 2:44 pm

HomerJ wrote:
Thu Dec 06, 2018 2:34 pm
willthrill81 wrote:
Thu Dec 06, 2018 2:20 pm
adamthesmythe wrote:
Thu Dec 06, 2018 10:08 am
Can we have another post on the risks of bonds and cash when saving for retirement?
Ooooh, yes let's!

Let's talk about intermediate-term Treasuries' real drawdown of -32% from 1977-1981. That period demonstrated that nominal bonds at least were more risky than many thought. The whole 'bonds are for safety' argument doesn't hold up so well under scrutiny.

During that same period, the real drawdown of cash (i.e. 1 month T-bills) was just -7.5%. Apart from TIPS, a relatively new invention, cash has been one of the best inflation hedges out there. But since 2009, it's been rather lackluster, and this has definitely colored people's views of it. More recency bias at work I suppose.
adamthesmythe wrote:
Thu Dec 06, 2018 10:08 am
Then we get to a mix between equities and bonds, which is where pretty much everyone is anyway.
Well, it's not so easy. One could make a convincing argument that as long as one can tolerate stocks' volatility, investors could be 100% stocks until 20 years out from retirement, maybe even 10. This is the conclusion that Paul Merriman came to as well. A 40 year old who isn't planning on retiring prior to age 65 and has the risk tolerance needed for an all stock portfolio arguably doesn't need any bonds at all.
Except that you don't always get to decide when you're going to retire, so that would be a poor plan.
It's certainly true that you may be forced into a long-term unemployment scenario, but that's not what I would call 'retirement'. That's more a question of how big you want your EF to be, IMHO. Even during the last recession, which was certainly a bad one, very few (as a percent) college educated (i.e. most BHs) folks were out of work for longer than a year. It would certainly be a risk of being 100% stocks, but 'nothing ventured, nothing gained'. Personal risk tolerance and other individual factors are very important here as well.

Further, if you encountered such a situation and only had 5x your annual expenses in your portfolio, for instance, you aren't going to stay 'retired' very long unless you have other income sources or can reduce your spending by 80%. It's kind of like being in a lifeboat at sea and being either 800 miles or 400 miles from shore. You're certainly better off in the latter instance, but you're still pretty much hosed.
HomerJ wrote:
Thu Dec 06, 2018 2:34 pm
I like being 50/50. That way I've never wrong. :)
Well, you're always 'half right'. :wink:

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Re: The risks of equities when saving for retirement

Post by HomerJ » Thu Dec 06, 2018 3:00 pm

willthrill81 wrote:
Thu Dec 06, 2018 2:44 pm
Even during the last recession, which was certainly a bad one, very few (as a percent) college educated (i.e. most BHs) folks were out of work for longer than a year.
Health issues can also be a factor. I don't think it's a good idea to ever have a plan that requires one to work until 65.

If you think you need 100% stocks and working until 65 to meet your goals, I suggest one lower their spending goals, now and for retirement... And then hopefully be pleasantly surprised if the option to work until 65 (and raise your goals again) appears.
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Re: The risks of equities when saving for retirement

Post by ThrustVectoring » Thu Dec 06, 2018 3:05 pm

willthrill81 wrote:
Thu Dec 06, 2018 2:20 pm
Well, it's not so easy. One could make a convincing argument that as long as one can tolerate stocks' volatility, investors could be 100% stocks until 20 years out from retirement, maybe even 10. This is the conclusion that Paul Merriman came to as well. A 40 year old who isn't planning on retiring prior to age 65 and has the risk tolerance needed for an all stock portfolio arguably doesn't need any bonds at all.
There's a technical argument that the problem with a young investors buying bonds isn't that the bonds aren't contributing enough value on a risk-adjusted basis, but rather that the portfolio as a whole isn't taking enough risk. There's a straightforward solution for that: apply leverage. The treasury futures market is extraordinarily liquid and very price competitive, so the mechanics of adding levered exposure to bonds is rather favorable.

The big issue with this, of course, is that it adds significant amounts of operational complexity and risk. Getting this right is not as straightforward as "dump your free cash flow into VTSAX". But the positives seem rather attractive to me, given the research I've done so far. Like, the strategy I'm thinking of (60% VTI / 40% VXUS / 2000% two-year treasury notes) backtested into showing significant profits in the 2008 crisis due to the dramatic drop in short-term rates.
Current portfolio: 60% VTI / 40% VXUS

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Re: The risks of equities when saving for retirement

Post by HomerJ » Thu Dec 06, 2018 3:07 pm

ThrustVectoring wrote:
Thu Dec 06, 2018 3:05 pm
Like, the strategy I'm thinking of (60% VTI / 40% VXUS / 2000% two-year treasury notes) backtested into showing significant profits in the 2008 crisis due to the dramatic drop in short-term rates.
What if the next crash isn't anything like 2008?
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Re: The risks of equities when saving for retirement

Post by ThrustVectoring » Thu Dec 06, 2018 3:13 pm

HomerJ wrote:
Thu Dec 06, 2018 3:00 pm

Health issues can also be a factor. I don't think it's a good idea to ever have a plan that requires one to work until 65.
This risk is highly insurable. If your plan requires you to work until age 65, you should have solid own-occupation disability insurance that replaces enough lost income should you run into health issues before then. Similarly, if you have dependents, you should have enough term life insurance to replace the lost income from a premature death.
HomerJ wrote:
Thu Dec 06, 2018 3:07 pm
ThrustVectoring wrote:
Thu Dec 06, 2018 3:05 pm
Like, the strategy I'm thinking of (60% VTI / 40% VXUS / 2000% two-year treasury notes) backtested into showing significant profits in the 2008 crisis due to the dramatic drop in short-term rates.
What if the next crash isn't anything like 2008?
That is definitely a risk that I'm aware of. The portfolio is actually somewhat more sensitive to interest rates than stock prices, and the worst period in the backtesting window was the rising rate environment in the couple of years before the 2008 crisis. On the plus side, though, most people's personal financial situation is much more correlated with the stock market than with interest rates. If you have a 30-year fixed mortgage and own a home, you've got an additional hedge against rising interest rates, which makes this strategy even lower risk: if the bond portion of your portfolio loses significant amounts of money, then you get to pay off your mortgage with inflated dollars, which cancels things out.
Current portfolio: 60% VTI / 40% VXUS

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Re: The risks of equities when saving for retirement

Post by willthrill81 » Thu Dec 06, 2018 4:50 pm

HomerJ wrote:
Thu Dec 06, 2018 3:00 pm
willthrill81 wrote:
Thu Dec 06, 2018 2:44 pm
Even during the last recession, which was certainly a bad one, very few (as a percent) college educated (i.e. most BHs) folks were out of work for longer than a year.
Health issues can also be a factor. I don't think it's a good idea to ever have a plan that requires one to work until 65.

If you think you need 100% stocks and working until 65 to meet your goals, I suggest one lower their spending goals, now and for retirement... And then hopefully be pleasantly surprised if the option to work until 65 (and raise your goals again) appears.
Yes, I completely agree. Despite the heraldry about us regularly living to beyond 100 in the near future, I don't think it's prudent to plan on retiring beyond age 60, and I believe that 55 is even better. If you reach either of these marks and are both willing and able to keep working, knock yourself out. But age discrimination and health issues force a significant number into an early retirement.
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Re: The risks of equities when saving for retirement

Post by EfficientInvestor » Thu Dec 06, 2018 7:56 pm

ThrustVectoring wrote:
Thu Dec 06, 2018 3:05 pm
The big issue with this, of course, is that it adds significant amounts of operational complexity and risk. Getting this right is not as straightforward as "dump your free cash flow into VTSAX". But the positives seem rather attractive to me, given the research I've done so far. Like, the strategy I'm thinking of (60% VTI / 40% VXUS / 2000% two-year treasury notes) backtested into showing significant profits in the 2008 crisis due to the dramatic drop in short-term rates.
A much less complex way to do this is to use leveraged ETFs. Yes, they can have some volatility drag, especially if you are just holding one of the funds. However, if used in a diversified approach, the results can be quite nice. You can pull daily data from the past 30+ years on a lot of these indexes and calculate what these funds would have done. My most recent backtest used all 3x ETFs with the following AA: 25% NASDAQ (TQQQ), 10% Russell 2000 (TNA), 55% Long Term Treasury (TMF), 10% Gold (UGLD). From Oct 1987 - Oct 2018, this would have returned a 28.4% CAGR with a max drawdown of -38.1%.

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Re: The risks of equities when saving for retirement

Post by CULater » Sun Dec 09, 2018 2:46 pm

like being 50/50. That way I've never wrong. :)
Not to pick a nit, but I'm sure you know that the risk of a 50/50 portfolio is still mostly equities. From a risk parity perspective, one might say the 25% stocks and 75% intermediate bonds balances the risk more evenly between stocks and bonds. So, there may be more than one "never wrong" allocation. :beer
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