The One-Fund Portfolio as a default suggestion

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longinvest
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The One-Fund Portfolio as a default suggestion

Post by longinvest » Mon Aug 12, 2019 8:10 am

I think that the following could be a good default portfolio suggested in answer to many queries about portfolio construction:
  • Portfolio 1: Vanguard LifeStrategy Moderate Growth Fund (VSMGX) -- a globally-diversified balanced index portfolio with a moderate home bias, appropriate for investors of all ages and all wealth levels, or
  • Portfolio 2: A carefully-chosen all-in-one index fund or ETF with a gliding or fixed asset allocation based on the investor's circumstances -- low-cost Target Retirement / Target Date index fund (various providers), LifeStrategy fund (Vanguard), or Core Allocation ETF (iShares)
In theory, the "ideal" default portfolio would be William Sharpe's Market Portfolio but it has various problems: (a) calculating asset weights is challenging, (b) the actual weightings are approximate because float-adjusted market capitalisations corresponding to Vanguard's total world stocks (VT) and bonds (BNDW) aren't all available*, and (c) there are good reasons for most investors (around the world) to keep a reasonable amount of home bias in their portfolios, as explained in Vanguard's paper "The role of home bias in global asset allocation decisions".

* They aren't available for free, if they're available.

As a consequence, I think that portfolio 1 is a very good default portfolio for investors of all ages and all wealth levels. This includes experienced investors who have finally realized the importance simplicity as well as the futility of trying to engineer a better portfolio, accumulating investors who want to spend their life doing other things than worrying about their portfolio, and even new investors who don't know how to choose an asset allocation. It has a fixed 60/40 stocks/bonds allocation. It's very broadly-diversified, currently holding over 25,000 securities. It's actually a very good practical proxy for Bill Sharpe's ideal Market Portfolio adapted for a U.S. investor with a moderate home bias.

Investors who desire a specific gliding or fixed asset allocation can go with portfolio 2 and choose among the various available all-in-one index funds and ETFs. This is somewhat more complex than portfolio 1 as it requires making more assumptions about assets and about the investor's preferences.

I think that these funds and ETFs are good enough to be used as a single identical investment across all of the investor's accounts (Traditional, Roth, ..., and even taxable).

I think that most tax-efficient fund placement arguments against using such funds in a taxable account are flawed because they usually ignore tax-adjusted asset allocation which is justified by mathematics:
Bogleheads wiki wrote:Your ability to take risk is determined by the consequences of losses; losing $100K in your Roth IRA will reduce your standard of living (or require more additional savings to keep the same standard) by more than losing $100K in your traditional IRA or taxable account does.
In particular:
  • Most analyses ignore the long-term impact of asset location. For example, while bonds get most of their growth from coupons which attract immediate taxes, unlike stock capital gains which are only taxed when realized often decades later (leading simple analyses to conclude that one should prioritize bonds over stocks in tax-advantaged accounts), a long-term view can reveal that the generally faster growth of stocks might lead to more taxes when stock dividends in taxable grow to more than bond interest in tax-advantaged. Also, prioritizing the placement of a slower growing asset in tax-advantaged leads to a slower growth of tax-advantaged space relative to the size of the entire portfolio.
  • Most analyses ignore that rebalancing reduces the impact (good or bad) of prioritizing the location of specific assets into specific accounts.
  • Most analyses ignore the tax advantage of rebalancing with the cash flows of other investors when using a balanced fund or ETF in a taxable account.
  • Most analyses ignore that future tax laws could change, that future investor circumstances could change, and that the best asset location strategy can only be known after the fact.
I think that using a mirrored asset allocation in all accounts with a single identical all-in-one fund or ETF is good enough and elegantly sidesteps the need to tax-adjust the asset allocation.**

** A mirrored asset allocation is inherently tax-adjusted.

The use of a single identical all-in-one index fund or ETF in all accounts greatly simplifies a portfolio, eliminates the need to rebalance, and sidesteps a long list of potential behavioral pitfalls. Many investors are likely to lose more to behavioral pitfalls with separate funds or ETFs than to save in taxes even when they're lucky enough to select an asset location strategy that beats the mirrored one (unforeseeable) in their specific long-term investing time frame.

My personal preference is for portfolio 1, representing a globally-diversified lifelong 60/40 stocks/bonds allocation because I consider that all investment assets are risky, but in different ways. I think that it's best to broadly diversify across them all lifelong***.

*** In retirement, combining variable portfolio withdrawals with Social Security (possibly delayed to age 70) and a pension (if any) often results into mild total income fluctuations. When necessary, Total Retirement Income fluctuations can be further dampened by using a small part of the portfolio to buy an inflation-indexed Single Premium Immediate Annuity (SPIA) instead of increasing the bond allocation above 40%.
Last edited by longinvest on Mon Aug 12, 2019 12:09 pm, edited 1 time in total.
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BillWalters
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Re: The One-Fund Portfolio as a default suggestion

Post by BillWalters » Mon Aug 12, 2019 8:27 am

As someone with my entire portfolio in life strategy moderate growth, I like this post.

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Re: The One-Fund Portfolio as a default suggestion

Post by JoMoney » Mon Aug 12, 2019 8:34 am

There are lots of fine portfolios out there that are reasonable suggestions.
Some people have differing preferences on the risk profile, expenses, tax considerations, and funds available to them in a retirement account.
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Re: The One-Fund Portfolio as a default suggestion

Post by Ben Mathew » Mon Aug 12, 2019 8:48 am

longinvest wrote:
Mon Aug 12, 2019 8:10 am
Portfolio 1: Vanguard LifeStrategy Moderate Growth Fund (VSMGX) -- a globally-diversified balanced index portfolio with a moderate home bias, appropriate for investors of all ages and all wealth levels
Maintaining a constant asset allocation throughout life is giving up too much, IMO. The gain to being stock heavy early and switching to bonds later is high.

Target retirement funds address this, but I still feel that customizing the asset allocation to one's risk preference is a fairly big win for a little bit of hassle. This, however, comes down to the fact that I don't like the glidepaths offered by the funds. If they offered glidepaths I like at low fees, then sure, one fund should be fine, especially if everything is held in tax advantaged.

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Re: The One-Fund Portfolio as a default suggestion

Post by mhc » Mon Aug 12, 2019 8:52 am

Sounds good but a lot of 401Ks don't have the Life Strategy funds. A lot don't have quality TR funds.

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Re: The One-Fund Portfolio as a default suggestion

Post by longinvest » Mon Aug 12, 2019 8:56 am

Ben Mathew wrote:
Mon Aug 12, 2019 8:48 am
The gain to being stock heavy early and switching to bonds later is high.
That's incorrect. The outcome of a gliding allocation is similar (not identical) to the outcome of a fixed allocation at the average of the glide, except that the fixed allocation will have a more coherent outcome.

An investor using a gliding allocation might get unlucky with low stock returns early during accumulation and high stock returns once the allocation to stocks gets low, or the investor could get lucky. The fixed allocation will remain consistently exposed to risks and returns over time.

(Note that I've also suggested portfolio 2 for people who prefer a gliding asset allocation).

Do you feel lucky? :wink:
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Re: The One-Fund Portfolio as a default suggestion

Post by longinvest » Mon Aug 12, 2019 9:01 am

mhc wrote:
Mon Aug 12, 2019 8:52 am
Sounds good but a lot of 401Ks don't have the Life Strategy funds. A lot don't have quality TR funds.
Yes, I know. That's why I wrote: "... suggested in answer to many queries about portfolio construction". I didn't write "all queries".
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Re: The One-Fund Portfolio as a default suggestion

Post by PhilosophyAndrew » Mon Aug 12, 2019 9:02 am

longinvest wrote:
Mon Aug 12, 2019 8:56 am
Ben Mathew wrote:
Mon Aug 12, 2019 8:48 am
The gain to being stock heavy early and switching to bonds later is high.
That's incorrect. The outcome of a gliding allocation is similar (not identical) to the outcome of a fixed allocation at the average of the glide, except that the fixed allocation will have a more coherent outcome.
What does ‘coherent’ mean in this context? I’m confused by your wording.

Andy.

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Re: The One-Fund Portfolio as a default suggestion

Post by SimpleGift » Mon Aug 12, 2019 9:03 am

As a couple who in the early 1990s (after selling our business) invested a lump sum in a balanced, all-taxable portfolio of Vanguard stock and bond funds — then added tilts to small caps, REITs and emerging markets over the years — I sometimes wish now that we had just gone the one-fund portfolio route.

It's not that managing a collection of diverse mutual funds in retirement is particularly onerous, but with all the embedded capital gains from several decades of investing, we don't now have the option of simplifying our portfolio (without massive tax consequences). Looking back, I believe investing everything in Vanguard's LifeStrategy Moderate Growth Fund at its inception in 1994 would have been a fine move.

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Re: The One-Fund Portfolio as a default suggestion

Post by longinvest » Mon Aug 12, 2019 9:06 am

PhilosophyAndrew wrote:
Mon Aug 12, 2019 9:02 am
longinvest wrote:
Mon Aug 12, 2019 8:56 am
Ben Mathew wrote:
Mon Aug 12, 2019 8:48 am
The gain to being stock heavy early and switching to bonds later is high.
That's incorrect. The outcome of a gliding allocation is similar (not identical) to the outcome of a fixed allocation at the average of the glide, except that the fixed allocation will have a more coherent outcome.

An investor using a gliding allocation might get unlucky with low stock returns early during accumulation and high stock returns once the allocation to stocks gets low, or the investor could get lucky. The fixed allocation will remain consistently exposed to risks and returns over time.
What does ‘coherent’ mean in this context? I’m confused by your wording.
I wrote the next paragraph (in blue above) to explain it.
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Re: The One-Fund Portfolio as a default suggestion

Post by lazyday » Mon Aug 12, 2019 9:38 am

It makes sense that a single fund portfolio would save many investors from behavioral errors that almost everyone makes. Fewer retirements would be delayed by the kinds of mistakes we see Bogleheads making on this forum every day.

I wonder though if Target Retirement might be a better portfolio 1 default than LifeStrategy. Both offer diversified portfolios that aren’t so far from Sharpe’s market portfolio. I would trust Vanguard’s finance PhDs to choose a glidepath that’s more appropriate than a fixed 60/40.

Also if portfolio 1 is simply the TR fund that matches your birth year, then there isn’t as much need to mention a portfolio 2.
longinvest wrote:
Mon Aug 12, 2019 8:10 am
An investor using a gliding allocation might get unlucky with low stock returns early during accumulation and high stock returns once the allocation to stocks gets low, or the investor could get lucky. The fixed allocation will remain consistently exposed to risks and returns over time.
But can't a young investor handle risk more easily than an older investor? The young investor has a smaller portfolio and more human capital.
Many investors are likely to lose more to behavioral pitfalls with separate funds or ETFs than to save in taxes even when….
I’ll bet that’s true, but I imagine that for some wealthy investors with large taxable accounts, there can be large tax savings from strategies like donating highly appreciated shares while alive, step up basis after death, or muni bonds. A good fee only advisor might reduce behavioral errors.

Still I think a one fund portfolio could make a good default recommendation for most investors.

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Re: The One-Fund Portfolio as a default suggestion

Post by longinvest » Mon Aug 12, 2019 9:56 am

lazyday wrote:
Mon Aug 12, 2019 9:38 am
longinvest wrote:
Mon Aug 12, 2019 8:10 am
An investor using a gliding allocation might get unlucky with low stock returns early during accumulation and high stock returns once the allocation to stocks gets low, or the investor could get lucky. The fixed allocation will remain consistently exposed to risks and returns over time.
But can't a young investor handle risk more easily than an older investor? The young investor has a smaller portfolio and more human capital.
I insist: the outcomes of a gliding allocation and a fixed allocation at the average of the glide are similar. In other words, on average, adopting an allocation gliding from 90% stocks to 30% stocks during accumulation and retirement will get the same cumulative growth as a fixed ((90% + 30%) / 2) = 60% stocks allocation all lifelong. Luck plays a role in deciding whether the outcome will be better or worse in a specific lifetime.

Gliding allocations are based on many assumptions. I think that a fixed 60/40 stocks/bonds allocation depends on fewer assumptions. Let me explain.

A gliding allocation is based on a model where the portfolio is considered in isolation from other retirement income, like Social Security, and ignores the possibility of using part of the portfolio to buy an inflation-indexed SPIA* when additional non-portfolio income is needed. It also ignores the possibility that an investor's plan might change (early need for a 401k loan to buy a house, early retirement, etc.).

* Single Premium Immediate Annuity.

A gliding allocation is also based on the assumption that "stocks are risky" and "bonds are safe". Not everybody considers that nominal bonds were particularly safe in the 1940s and early 1950s, that TIPS were particularly safe in September and October 2008, and that short-term TIPS were particularly safe lately, losing -1% per year in inflation-adjusted term since 2013.

A globally-diversified 60/40 stocks/bonds portfolio isn't concentrated into either of the two major investment-grade assets (stocks and bonds). I think that it rests on fewer assumptions and is thus a better portfolio 1.
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Re: The One-Fund Portfolio as a default suggestion

Post by Ben Mathew » Mon Aug 12, 2019 10:13 am

longinvest wrote:
Mon Aug 12, 2019 8:56 am
Ben Mathew wrote:
Mon Aug 12, 2019 8:48 am
The gain to being stock heavy early and switching to bonds later is high.
That's incorrect. The outcome of a gliding allocation is similar (not identical) to the outcome of a fixed allocation at the average of the glide, except that the fixed allocation will have a more coherent outcome.

An investor using a gliding allocation might get unlucky with low stock returns early during accumulation and high stock returns once the allocation to stocks gets low, or the investor could get lucky. The fixed allocation will remain consistently exposed to risks and returns over time.
That's not correct. A constant percentage allocation to stocks over a lifetime will leave the investor underexposed to stocks when they are young (because only a small percentage of their lifetime savings will have been invested), and overexposed to stocks when they are close to retirement (when most of the contributions will be in). This increases the total lifetime risk of the portfolio. It's like betting $50 on stocks when young and betting $100 (discounted) when old. It would be better to bet $75 (discounted) each time. Increasing stock exposure when young (beyond even traditional glidepath recommendations) and reducing it closer to retirement, will reduce total risk over a lifetime for given return. This is the principle behind lifecycle investing.

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Re: The One-Fund Portfolio as a default suggestion

Post by willthrill81 » Mon Aug 12, 2019 10:20 am

The best investment strategy for a given investor is very likely the one that they can stick with no matter what.
“It's a dangerous business, Frodo, going out your door. You step onto the road, and if you don't keep your feet, there's no knowing where you might be swept off to.” J.R.R. Tolkien,The Lord of the Rings

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Re: The One-Fund Portfolio as a default suggestion

Post by columbia » Mon Aug 12, 2019 10:25 am

willthrill81 wrote:
Mon Aug 12, 2019 10:20 am
The best investment strategy for a given investor is very likely the one that they can stick with no matter what.
“Ding ding ding. We have a winner.”

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Re: The One-Fund Portfolio as a default suggestion

Post by longinvest » Mon Aug 12, 2019 10:27 am

willthrill81 wrote:
Mon Aug 12, 2019 10:20 am
The best investment strategy for a given investor is very likely the one that they can stick with no matter what.
Some investment strategies, such as using an all-in-one fund, are simpler to stick with than others.
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Re: The One-Fund Portfolio as a default suggestion

Post by longinvest » Mon Aug 12, 2019 10:37 am

Dear Ben Mathew,
Ben Mathew wrote:
Mon Aug 12, 2019 10:13 am
longinvest wrote:
Mon Aug 12, 2019 8:56 am
Ben Mathew wrote:
Mon Aug 12, 2019 8:48 am
The gain to being stock heavy early and switching to bonds later is high.
That's incorrect. The outcome of a gliding allocation is similar (not identical) to the outcome of a fixed allocation at the average of the glide, except that the fixed allocation will have a more coherent outcome.

An investor using a gliding allocation might get unlucky with low stock returns early during accumulation and high stock returns once the allocation to stocks gets low, or the investor could get lucky. The fixed allocation will remain consistently exposed to risks and returns over time.
That's not correct. A constant percentage allocation to stocks over a lifetime will leave the investor underexposed to stocks when they are young (because only a small percentage of their lifetime savings will have been invested), and overexposed to stocks when they are close to retirement (when most of the contributions will be in). This increases the total lifetime risk of the portfolio. It's like betting $50 on stocks when young and betting $100 (discounted) when old. It would be better to bet $75 (discounted) each time. Increasing stock exposure when young (beyond even traditional glidepath recommendations) and reducing it closer to retirement, will reduce total risk over a lifetime for given return. This is the principle behind lifecycle investing.
If you prefer a gliding allocation, you can use a Target Retirement fund (portfolio 2).

What I have stated is mathematically sound and can be observed through backtesting. It's forum member Rodc* who informed me of this unintuitive fact a few years ago. A personal investigation of the mathematics and running backtests convinced me. I'll let you make your own investigation; it's best that you reach the same conclusion by yourself instead of relying on the opinion of a forum member.

* He has a Ph.D. in mathematics.

Added: I found a relatively recent (2016) post of Rodc about it.
Last edited by longinvest on Mon Aug 12, 2019 10:45 am, edited 1 time in total.
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Re: The One-Fund Portfolio as a default suggestion

Post by Cyclesafe » Mon Aug 12, 2019 10:45 am

The Wiki advocates non-muni bonds in tax deferred and index equity in taxable, when actually, for reasons stated by the OP, investors subject to the NIIT and state full income taxes on all investment income should instead place muni's in taxable and equity in tax deferred. (Particularly at present low interest rates, non-muni bonds should be in tax deferred only if there is room.) The reason this is so, is that the tax drag for such an investor of even index equity in taxable is in reality quite substantial. Tax-free compounding from equity placement instead in tax deferred trumps placement in taxable - under a broad range of assumptions about the future.

In my view, using one fund over all time, precludes a younger investor from benefiting from a more aggressive portfolio and subjects a newly retiring investor to sequence-of-returns risk from forced liquidations only from taxable. (Of course, SOR risk can be addressed from within a tax advantaged account.) Then add to this the behavioral tendencies / human capital vs financial capital situations at each of these two stages.....

But in answer to a casual query from a non-financially minded acquaintance, the suggestion to start with VSMGX is a good one, especially if he/she is to be weened from a financial advisor. For many of us, the investment of time to educate an often resistant acquaintance is simply not worth the candle.
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Re: The One-Fund Portfolio as a default suggestion

Post by longinvest » Mon Aug 12, 2019 10:57 am

Cyclesafe wrote:
Mon Aug 12, 2019 10:45 am
In my view, using one fund over all time, precludes a younger investor from benefiting from a more aggressive portfolio and subjects a newly retiring investor to sequence-of-returns risk from forced liquidations only from taxable. (Of course, SOR risk can be addressed from within a tax advantaged account.) Then add to this the behavioral tendencies / human capital vs financial capital situations at each of these two stages.....
In the third footnote of the first post, I have explicitly suggested the use of our wiki's variable percentage withdrawal (VPW) method which isn't exposed to sequence-of-returns risk. But, it's exposed to market risk (e.g. fluctuating withdrawals), that's why it's best combined with stable lifelong income. See the footnote for details.
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Re: The One-Fund Portfolio as a default suggestion

Post by willthrill81 » Mon Aug 12, 2019 11:12 am

longinvest wrote:
Mon Aug 12, 2019 8:56 am
Ben Mathew wrote:
Mon Aug 12, 2019 8:48 am
The gain to being stock heavy early and switching to bonds later is high.
That's incorrect. The outcome of a gliding allocation is similar (not identical) to the outcome of a fixed allocation at the average of the glide, except that the fixed allocation will have a more coherent outcome.

An investor using a gliding allocation might get unlucky with low stock returns early during accumulation and high stock returns once the allocation to stocks gets low, or the investor could get lucky. The fixed allocation will remain consistently exposed to risks and returns over time.

(Note that I've also suggested portfolio 2 for people who prefer a gliding asset allocation).

Do you feel lucky? :wink:
If what you say is true, then why do target date funds exist at all, and why are they the default choice for most (all?) 401k plans?
“It's a dangerous business, Frodo, going out your door. You step onto the road, and if you don't keep your feet, there's no knowing where you might be swept off to.” J.R.R. Tolkien,The Lord of the Rings

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Re: The One-Fund Portfolio as a default suggestion

Post by longinvest » Mon Aug 12, 2019 11:16 am

willthrill81 wrote:
Mon Aug 12, 2019 11:12 am
If what you say is true, ...
Please read my answer to Ben Mathew.
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Re: The One-Fund Portfolio as a default suggestion

Post by willthrill81 » Mon Aug 12, 2019 11:38 am

longinvest wrote:
Mon Aug 12, 2019 11:16 am
willthrill81 wrote:
Mon Aug 12, 2019 11:12 am
If what you say is true, ...
Dear Willthrill81,

Please read my answer to Ben Mathew.

Best regards,

longinvest
From Rodc's post:
Rodc wrote:
Wed Nov 23, 2016 6:58 pm
Broadly speaking the only thing that matters, on average, is the mean stock-bond allocation.

50-50 is very close to the same as 70-30 gliding to 30-70 or 30-70 gliding to 70-30.
I completely agree with Rodc, but that's not what Ben Mathew is saying, and that's not what's generally happening with target date funds. Investors who start with a 90/10 or 95/5 AA that glides to 50/50 will have a higher mean stock-bond allocation over their lifetime than investors with a static 50/50 or even 60/40 AA.
“It's a dangerous business, Frodo, going out your door. You step onto the road, and if you don't keep your feet, there's no knowing where you might be swept off to.” J.R.R. Tolkien,The Lord of the Rings

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Re: The One-Fund Portfolio as a default suggestion

Post by longinvest » Mon Aug 12, 2019 11:48 am

willthrill81 wrote:
Mon Aug 12, 2019 11:38 am
Rodc wrote:
Wed Nov 23, 2016 6:58 pm
Broadly speaking the only thing that matters, on average, is the mean stock-bond allocation.

50-50 is very close to the same as 70-30 gliding to 30-70 or 30-70 gliding to 70-30.
I completely agree with Rodc, but that's not what Ben Mathew is saying. Investors who start with a 90/10 or 95/5 AA that glides to 50/50 will have a higher mean stock-bond allocation over their lifetime than investors with a static 50/50 or even 60/40 AA over their entire investing tenure.
I've included a choice of two portfolios, in the first post, because different investors have different beliefs and preferences. Portfolio 1 relies on fewer assumptions. Some investors might pick the LifeStrategy Growth fund (80/20 stocks/bonds), for example, if they prefer a higher lifelong stock allocation. Others might pick a low-cost target date / target retirement index fund with a glide they like, if they prefer. It's all possible with portfolio 2.
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Re: The One-Fund Portfolio as a default suggestion

Post by Ben Mathew » Mon Aug 12, 2019 11:51 am

longinvest wrote:
Mon Aug 12, 2019 10:37 am
Dear Ben Mathew,
Ben Mathew wrote:
Mon Aug 12, 2019 10:13 am
longinvest wrote:
Mon Aug 12, 2019 8:56 am
Ben Mathew wrote:
Mon Aug 12, 2019 8:48 am
The gain to being stock heavy early and switching to bonds later is high.
That's incorrect. The outcome of a gliding allocation is similar (not identical) to the outcome of a fixed allocation at the average of the glide, except that the fixed allocation will have a more coherent outcome.

An investor using a gliding allocation might get unlucky with low stock returns early during accumulation and high stock returns once the allocation to stocks gets low, or the investor could get lucky. The fixed allocation will remain consistently exposed to risks and returns over time.
That's not correct. A constant percentage allocation to stocks over a lifetime will leave the investor underexposed to stocks when they are young (because only a small percentage of their lifetime savings will have been invested), and overexposed to stocks when they are close to retirement (when most of the contributions will be in). This increases the total lifetime risk of the portfolio. It's like betting $50 on stocks when young and betting $100 (discounted) when old. It would be better to bet $75 (discounted) each time. Increasing stock exposure when young (beyond even traditional glidepath recommendations) and reducing it closer to retirement, will reduce total risk over a lifetime for given return. This is the principle behind lifecycle investing.
If you prefer a gliding allocation, you can use a Target Retirement fund.

What I have stated is mathematically sound and can be observed through backtesting. It's forum member Rodc* who informed me of this unintuitive fact a few years ago. A personal investigation of the mathematics and running backtests convinced me. I'll let you make your own investigation; it's best that you reach the same conclusion by yourself instead of relying on the opinion of a forum member.

* He has a Ph.D. in mathematics.
'That statement would be mathematically true if a person can invest a lumpsum early in life and no additional savings flow in. It would not be true in the typical case where a person's savings tricke in over their working years.

In a bid to get you to take the math behind lifecycle investing seriously, I submit the following:

- These ideas are explained in Lifecycle Investing by Ayres and Nalebuff, both of whom have Ph.D.s in economics., and are highly respected economists. I don't always agree with highly respected economists, but they are unlikely to be technically wrong.

- There are a couple of Nobel Prize winners (Samuelson and Merton) associated with the idea. The basic idea goes back to Samuelson (1969). Unfortunately, Samuelson came out against Ayres and Nalebuff's book, due I think to a fundmental misunderstanding about what they meant by "time diversification." (I don't think he actually read the book, and did a huge disservice to the idea by his careless remarks.) Merton recommends a strategy that incorporates a specific version of lifecycle investing that assumes CRRA utility (which leads to a constant proportion of lifetime wealth in stocks.)

- Bogleheads' resident math genius, grabiner, has stated that the idea behind lifecycle investing is mathematically correct:
grabiner wrote:
Sun Sep 16, 2007 9:07 pm
market timer wrote:How many of us try to maintain constant equity exposure? Note that this naturally leads to a decreasing fraction of wealth in equities if we have positive savings. This conclusion provides a simple solution to the retirement investment decision: one should borrow as a lump sum enough money to fund retirement in expectation as early as possible, then spend the working years servicing this debt and eventually saving the remainder in cash/bonds once the debt is paid.
This is mathematically mostly correct. If you are accumulating money starting at age 25, and want to optimize your portfolio at age 65, maintaining constant equity risk over all 40 years is the mathematically optimal way to do this.
Grabiner goes on to express his concerns over the practical and psychological aspects of leverage as well as predictability of future labor income--concerns I agree with. But he did not criticize the math. The math behind how this works is simply rock solid. It boils down to the example I gave earlier: a bet of $50 followed by $100 will be riskier than two bets of $75.
Last edited by Ben Mathew on Mon Aug 12, 2019 12:46 pm, edited 1 time in total.

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Re: The One-Fund Portfolio as a default suggestion

Post by longinvest » Mon Aug 12, 2019 12:05 pm

Dear Ben Mathew,
Ben Mathew wrote:
Mon Aug 12, 2019 11:51 am
In a bid to get you to take the math behind lifecycle investing seriously, ...
Most of the life cycle investing articles that I have read assumed a fixed inflexible life model: constant savings rate during accumulation, constant inflation-adjusted withdrawals in retirement, fixed accumulation period, fixed maximal retirement length, no change of plans, etc.

Real life is messy and often (always?) unpredictable. I think that a globally-diversified balanced index fund held all lifelong is good enough for many people, even if it might not always be optimal (unforeseeable).

May I remind you that, in my first post, I've included a choice of two all-on-one portfolios: (1) LifeStrategy Moderate, and (2) a carefully-chosen all-in-one index fund or ETF with a gliding or fixed allocation based on the investor's circumstances.

I also wrote:
longinvest wrote:
Mon Aug 12, 2019 8:10 am
Investors who desire a specific gliding or fixed asset allocation can go with portfolio 2 and choose among the various available all-in-one index funds and ETFs. This is somewhat more complex than portfolio 1 as it requires making more assumptions about assets and about the investor's preferences.
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Re: The One-Fund Portfolio as a default suggestion

Post by Ben Mathew » Mon Aug 12, 2019 12:37 pm

longinvest wrote:
Mon Aug 12, 2019 12:05 pm
Most of the life cycle investing articles that I have read assumed a fixed inflexible life model: constant savings rate during accumulation, constant inflation-adjusted withdrawals in retirement, fixed accumulation period, fixed maximal retirement length, no change of plans, etc.

Real life is messy and often (always?) unpredictable. I think that a globally-diversified balanced index fund held all lifelong is good enough for many people, even if it might not always be optimal (unforeseeable).
I agree that life is unpredictable, which is why we should continually update our financial plans as new information comes in. But for a young person to assume that he or she will continue to save in the future seems a lot more reasonable than assuming that there will be no more savings, which is what is required to support a fixed asset allocation.
longinvest wrote:
Mon Aug 12, 2019 12:05 pm
May I remind you that, in my first post, I've included a choice of two all-on-one portfolios: (1) LifeStrategy Moderate, and (2) a carefully-chosen all-in-one index fund or ETF with a gliding or fixed allocation based on the investor's circumstances.

I also wrote:
longinvest wrote:
Mon Aug 12, 2019 8:10 am
Investors who desire a specific gliding or fixed asset allocation can go with portfolio 2 and choose among the various available all-in-one index funds and ETFs. This is somewhat more complex than portfolio 1 as it requires making more assumptions about assets and about the investor's preferences.
You did. And I shared my thoughts on that as well.

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Re: The One-Fund Portfolio as a default suggestion

Post by bck63 » Wed Aug 14, 2019 3:48 pm

willthrill81 wrote:
Mon Aug 12, 2019 10:20 am
The best investment strategy for a given investor is very likely the one that they can stick with no matter what.
+1000

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Re: The One-Fund Portfolio as a default suggestion

Post by Dude2 » Thu Aug 15, 2019 6:31 am

A one fund strategy is so good for a hands-off approach. The plan to use LSMG or a TR fund helps a person to set it and forget it and not to tinker.

However, it doesn't address taxable investing. Surely you don't want to hold it in taxable. You say you do, but do you really? Long and short term capital gains? Turnover? So once you start doing something else in taxable, your bond allocation now needs to be mucked with. Munis may or may not make sense.

I'm all for it, but consider that it falls apart at some point in the investing lifespan, i.e. once you get to the point you have extra money to invest in taxable. No worries, though, simply exchange it (in tax-deferred) for the piece-parts, and manage it all from there.

It can be a good vehicle to get you to a certain point, and then you trade up to a more complex approach when you have to.

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Re: The One-Fund Portfolio as a default suggestion

Post by longinvest » Thu Aug 15, 2019 6:37 am

Dude2 wrote:
Thu Aug 15, 2019 6:31 am
A one fund strategy is so good for a hands-off approach. The plan to use LSMG or a TR fund helps a person to set it and forget it and not to tinker.

However, it doesn't address taxable investing.
Yes, it does address taxable investing.

Here's what I wrote in the first post:
longinvest wrote:
Mon Aug 12, 2019 8:10 am
I think that these funds and ETFs are good enough to be used as a single identical investment across all of the investor's accounts (Traditional, Roth, ..., and even taxable).

I think that most tax-efficient fund placement arguments against using such funds in a taxable account are flawed because they usually ignore tax-adjusted asset allocation which is justified by mathematics:
Bogleheads wiki wrote:Your ability to take risk is determined by the consequences of losses; losing $100K in your Roth IRA will reduce your standard of living (or require more additional savings to keep the same standard) by more than losing $100K in your traditional IRA or taxable account does.
In particular:
  • Most analyses ignore the long-term impact of asset location. For example, while bonds get most of their growth from coupons which attract immediate taxes, unlike stock capital gains which are only taxed when realized often decades later (leading simple analyses to conclude that one should prioritize bonds over stocks in tax-advantaged accounts), a long-term view can reveal that the generally faster growth of stocks might lead to more taxes when stock dividends in taxable grow to more than bond interest in tax-advantaged. Also, prioritizing the placement of a slower growing asset in tax-advantaged leads to a slower growth of tax-advantaged space relative to the size of the entire portfolio.
  • Most analyses ignore that rebalancing reduces the impact (good or bad) of prioritizing the location of specific assets into specific accounts.
  • Most analyses ignore the tax advantage of rebalancing with the cash flows of other investors when using a balanced fund or ETF in a taxable account.
  • Most analyses ignore that future tax laws could change, that future investor circumstances could change, and that the best asset location strategy can only be known after the fact.
I think that using a mirrored asset allocation in all accounts with a single identical all-in-one fund or ETF is good enough and elegantly sidesteps the need to tax-adjust the asset allocation.**

** A mirrored asset allocation is inherently tax-adjusted.

The use of a single identical all-in-one index fund or ETF in all accounts greatly simplifies a portfolio, eliminates the need to rebalance, and sidesteps a long list of potential behavioral pitfalls. Many investors are likely to lose more to behavioral pitfalls with separate funds or ETFs than to save in taxes even when they're lucky enough to select an asset location strategy that beats the mirrored one (unforeseeable) in their specific long-term investing time frame.
Last edited by longinvest on Thu Aug 15, 2019 6:41 am, edited 1 time in total.
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Re: The One-Fund Portfolio as a default suggestion

Post by Dude2 » Thu Aug 15, 2019 6:40 am

I know. I read it, but I admit I did not follow all of your links. I will do so, and maybe I will be surprised to learn I could have made things easier on myself...
Dude2 wrote:
Thu Aug 15, 2019 6:31 am
Surely you don't want to hold it in taxable. You say you do, but do you really?
I will search for the evidence you used to conclude it isn't so bad...

ETA: Sorry, I think I made a poor choice of words in my post when I said "it doesn't address", meaning to say something like "this is counter to". Certainly you do address it. Thank you for the link to this post

Asset Location Gets REALLY Complex

Amazed that the cost may be on the order of only 0.2% to 0.3%.
Last edited by Dude2 on Thu Aug 15, 2019 8:00 am, edited 1 time in total.

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Re: The One-Fund Portfolio as a default suggestion

Post by longinvest » Thu Aug 15, 2019 7:59 am

Dude2 wrote:
Thu Aug 15, 2019 6:40 am
I know. I read it, but I admit I did not follow all of your links. I will do so, and maybe I will be surprised to learn I could have made things easier on myself...
Dude2 wrote:
Thu Aug 15, 2019 6:31 am
Surely you don't want to hold it in taxable. You say you do, but do you really?
I will search for the evidence you used to conclude it isn't so bad...
The first step is to tax-adjust the asset allocation for logical reasons.

This is quite difficult to do correctly, except when choosing a mirrored asset allocation*, because one has to predict (1) the future sizes of one's traditional 401k/IRA accounts over time during retirement to estimate future Required Minimum Distribution (RMD) amounts, (2) future tax law changes, (3) the future returns of various assets (ultimately affecting the size of withdrawals from all accounts), and (4) future taxes on a fluctuating total retirement income which might include Social Security, a pension (if any), withdrawal from traditional 401k/IRA accounts, withdrawal from Roth 401k/IRA accounts, and withdrawal from taxable accounts (consisting of return of capital, dividends, and capital gains/losses) when using a sensible withdrawal approach such as our wiki's VPW method.

* A mirrored asset allocation is inherently tax-adjusted.

This is all required to estimate the marginal tax rates over time during retirement applicable to future traditional 401k/IRA withdrawals in order to adequately tax-adjust the asset allocation today.

If a mirrored asset allocation is chosen to eliminate the need for such complex predictions:
  • In tax-advantaged accounts, the additional cost of an all-in-one fund over separate funds is the difference in weighted-average expense ratios. In the case of Vanguard's LifeStrategy and Target Retirement funds, this is a few basis points.
  • In taxable accounts, one has to also consider differences in the tax impact of rebalancing. This is very difficult to estimate as all-in-one funds and ETFs can rebalance with the cash flows of other investors and they never distribute capital losses; instead, they use them internally to offset future capital gains.
With a mirrored asset allocation, the additional cost of using Vanguard's LifeStrategy Moderate Growth Fund (VSMGX) with its expense ratio of 0.13% over a four-fund portfolio (VTSAX/VTIAX/VBTLX/VTABX) is (0.13% - 0.07%) = 0.06% plus or minus the difference in tax impact of rebalancing in the taxable account. That's $50/month for a $1,000,000 portfolio (5$/month per $100,000). I think that many investors are likely to lose more than that to various behavioral pitfalls when using four separate funds.

Note that a mirrored asset allocation is quite tedious to maintain with four funds, as it multiplies the number of holdings (total number of holdings = 4 X number of accounts). But, when using a single identical all-in-one fund in all accounts, it results into the simplest portfolio (number of holdings = 1 X number of accounts).
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Re: The One-Fund Portfolio as a default suggestion

Post by HawkeyePierce » Fri Aug 16, 2019 2:47 am

Morningstar just released a new report with data showing the advantage of the one-fund portfolio. This report measures the "gap" between average returns of funds themselves and the average returns realized by investors.

https://www.morningstar.com/articles/94 ... e-gap-2019

The key takeaway is that target allocation/target date fund investors suffered the *least* from bad timing compared to other asset classes. These investors were the least likely to either panic-sell or chase returns in other funds. They just keep on investing.

This data suggests that a one-fund portfolio is in practice a good safeguard against behavioral pitfalls.

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Re: The One-Fund Portfolio as a default suggestion

Post by Dandy » Fri Aug 16, 2019 7:44 am

As a default option not a bad idea at all. Especially for those not well versed in investing and/or those who want to set it and forget it. They would be much better off than having most advisers handle their money. Also, helps avoid or at least mitigate concerns about managing a portfolio as you age and may begin to lose your sharpness. Also makes for a better transition from a somewhat investment oriented spouse to a survivor spouse/heirs that aren't.

With any all in one or balance fund you need to compromise in some sense -- either the overall allocation or the allocations to sub investments, etc. Also, using the same all in one fund in both tax advantage and taxable is less than ideal. Finally, VG has a track record of changing these accounts from allocations and sub accounts included or excluded and they reserve the right to keep changing them. I like to know what I am buying.

I can see doing this for my TIRA later on in retirement and living with the all in one compromises to make it easy on spouse/heirs. Taxable accounts have large cap gains so that is not an option I would choose. Also, heirs will get stepped up value for them which will be an advantage. Not sure I would choose a 60/40 allocation well into retirement would probably opt for the Retirement Income fund. Risk need and tolerance doesn't go away in retirement.

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Re: The One-Fund Portfolio as a default suggestion

Post by longinvest » Fri Aug 16, 2019 10:42 pm

Here are some additional arguments in favor of a mirrored asset allocation in all accounts that I've written in another thread:

Often in investing, shooting for the best or optimal solution is counterproductive. For example, shooting for an optimal asset allocation using mean-variance analysis usually leads to concentration into the asset which had the best historical returns. We know that this can sometimes result into a bad outcome.

The optimal asset allocation can only be determined after the fact. The same goes with asset location. It's only when I'll die that survivors will be able to determine what asset allocation and location would have been optimal during my life.

As an investor into a globally-diversified total-market balanced index portfolio, I'm just aiming for a good enough outcome. I know that a total-market index portfolio will only deliver average returns. But, this average result is mathematically guaranteed. In other words, I am guaranteed not to be invested into the worst portfolio. This strong guarantee is very attractive to me. Actually, total-market investing comes with other advantages: it isn't vulnerable to front running, it minimizes turnover, it can be done at low cost, etc.

Choosing a mirrored asset allocation in all accounts is similar. It might not be optimal, but it's mathematically guaranteed not to be the worst choice. It's a simple and good enough asset location strategy. Actually, it comes with advantages: it eliminates the need for tax-adjusting the asset allocation (as it's inherently tax adjusted) and it opens the door for using a single identical all-in-one fund in all accounts significantly simplifying the portfolio.
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Re: The One-Fund Portfolio as a default suggestion

Post by pascalwager » Sat Aug 17, 2019 12:06 pm

longinvest wrote:
Fri Aug 16, 2019 10:42 pm
Here are some additional arguments in favor of a mirrored asset allocation in all accounts that I've written in another thread:

Often in investing, shooting for the best or optimal solution is counterproductive. For example, shooting for an optimal asset allocation using mean-variance analysis usually leads to concentration into the asset which had the best historical returns. We know that this can sometimes result into a bad outcome.

The optimal asset allocation can only be determined after the fact. The same goes with asset location. It's only when I'll die that survivors will be able to determine what asset allocation and location would have been optimal during my life.

As an investor into a globally-diversified total-market balanced index portfolio, I'm just aiming for a good enough outcome. I know that a total-market index portfolio will only deliver average returns. But, this average result is mathematically guaranteed. In other words, I am guaranteed not to be invested into the worst portfolio. This strong guarantee is very attractive to me. Actually, total-market investing comes with other advantages: it isn't vulnerable to front running, it minimizes turnover, it can be done at low cost, etc.

Choosing a mirrored asset allocation in all accounts is similar. It might not be optimal, but it's mathematically guaranteed not to be the worst choice. It's a simple and good enough asset location strategy. Actually, it comes with advantages: it eliminates the need for tax-adjusting the asset allocation (as it's inherently tax adjusted) and it opens the door for using a single identical all-in-one fund in all accounts significantly simplifying the portfolio.
"Actually, it comes with advantages: it eliminates the need for tax-adjusting the asset allocation (as it's inherently tax adjusted) and it opens the door for using a single identical all-in-one fund in all accounts significantly simplifying the portfolio."

Inherently tax-adjusted? By locating bonds indiscriminately, doesn't it totally ignore tax-adjustment? Or maybe I don't understand what you mean by "tax-adjustment".

Total market investing is fine, but your new portfolio structure eliminates flexibility in favor of maximum simplicity. My initial reaction was to prefer your old four-fund portfolio (which included TIPS); but considering your above explanation, there's still the lack of TIPS in your new portfolio, which might be needed somewhat prior to and during retirement. I don't have Social Security, so TIPS are important in my own current retirement.

Your old portfolio included 25% real-return bonds. Why are real-return bonds no longer important to you?

The Vanguard Retirement Income Fund only holds 16% TIPS, but the VG blog mentions that they assume a fairly large investor SS income component. The VG Life Strategy funds don't contain any TIPS, so I don't consider them usable in retirement as a one-fund approach. The LS funds are marketed for "life's adventures" and a TIPS-free retirement might be a little too adventurous for some investors.

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Re: The One-Fund Portfolio as a default suggestion

Post by 305pelusa » Sat Aug 17, 2019 12:25 pm

longinvest wrote:
Mon Aug 12, 2019 10:37 am
What I have stated is mathematically sound
Imagine you can place bets on two coin flips. Should you put all of your money on one flip, or split 50/50 into both coin flips? While they both have the same expected returns, the split (diversified strategy) has lower variance.

Similarly, you want to place roughly similar amounts of dollars into the stock market every year of your life. So when you have few savings, you should increase the percentage to stocks. When you have large savings, decrease the percentage in stocks. Hence, the dollar amount in stocks every year is closer to equal, delivering the same expected returns for lower variance of results. To use a constant percentage (like portfolio 1) is to deliberatively place more faith in the stock market during your retirement than during your savings. And no one is paying you to do that so it is unsystematic risk.

So mathematically? Same expected returns, lower variance. Time diversification (like asset diversification) IS a free lunch.
longinvest wrote:
Mon Aug 12, 2019 10:37 am
and can be observed through backtesting.
Backtesting supports what Ben and I are saying in fact. Backtest work has been done comparing lifecycle investing vs constant percentage. And lifecycle crushes constant percentage. The authors of Lifecycle Investing have worked on this:
http://faculty.som.yale.edu/barrynalebu ... _v2008.pdf

if you get hung up with the idea of leverage (everyone does), this paper discusses the optimal strategy (based on backtest) when you do not allow leverage. Not surprisingly, it has the investors 100% in stocks until around 31 years of age, goes down until you hit retirement, and then increases in stocks through retirement as you exhaust your nest egg (again, in an attempt to maintain a more constant dollar amount exposure in the market):
https://pdfs.semanticscholar.org/0395/1 ... cd4382.pdf

Yes, on average a fixed asset % does the same as a glide path. But the glide path has far less variance in results due to superior diversification. This is fairly trivial to show mathematically and, not surprisingly, backtests supports it.

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Re: The One-Fund Portfolio as a default suggestion

Post by longinvest » Sat Aug 17, 2019 12:35 pm

305pelusa wrote:
Sat Aug 17, 2019 12:25 pm
Time diversification (like asset diversification) IS a free lunch.
Here's a link with a mathematical discussion: The Fallacy of Time Diversification, from Risk and Time by John Norstad (2000).
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Re: The One-Fund Portfolio as a default suggestion

Post by LoveVermont » Sat Aug 17, 2019 12:45 pm

I have used lifestrategy moderate growth as the default core of my portfolio for a number of years and have been fairly happy with that. One could do a lot worse. One caveat for those who wish to use it as a “set it and forget it” holding: Vanguard has had a history of significant tinkering with the lifestrategy allocations over the years. Lifestrategy actually started with a quarter of fund assets in a market timing fund. More recently, there has been the addition of international bonds and changes in international allocations generally.

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Re: The One-Fund Portfolio as a default suggestion

Post by fortfun » Sat Aug 17, 2019 12:46 pm

Both are better than ending up over at Edward Jones, etc. because you believe investing for retirement is too confusing. I recommend TDF to all my friends for this reason--most go to EJ anyway, ughhh.

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Re: The One-Fund Portfolio as a default suggestion

Post by 305pelusa » Sat Aug 17, 2019 12:47 pm

longinvest wrote:
Sat Aug 17, 2019 12:35 pm
305pelusa wrote:
Sat Aug 17, 2019 12:25 pm
Time diversification (like asset diversification) IS a free lunch.
Here's a link with a mathematical discussion: The Fallacy of Time Diversification, from Risk and Time by John Norstad (2000).
If you read what I wrote and read what you linked, you'd realize they have nothing to do with each other.
- Lifecycle Investing -> Bet an equal amount on every stock market year so you aren't as susceptible to any one given year. AKA intertemporal diversification. This is consistent with random Gaussian walks.
- Fallacy of Time Diversification -> That the market must mean revert so if you invest for long enough, eventually you get the expected returns. Because if the market was bad for 20 years, it must be good on the next 20 so if you invest for 40, it's less risky than just for 20. This is inconsistent with random Gaussian walks.

I understand your confusion since I did call it "Time Diversification". I should stick to "intertemporal diversification" so people don't mix them up. Here's a nice quote from another thread:
Ben Mathew wrote:
Thu Mar 07, 2019 12:50 pm
This error of not recognizing the possibility of time diversification by reducing the bet and spreading it out over time deserves a name. I'd like to call it the "fallacy of the fallacy of time diversification."
I agree, we should say that constant percentage asset allocation falls prey to the "fallacy of the fallacy of time diversification". It's a bit of a mouthful though :/

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Re: The One-Fund Portfolio as a default suggestion

Post by longinvest » Sat Aug 17, 2019 12:49 pm

pascalwager wrote:
Sat Aug 17, 2019 12:06 pm
Inherently tax-adjusted? By locating bonds indiscriminately, doesn't it totally ignore tax-adjustment? Or maybe I don't understand what you mean by "tax-adjustment".
This is obvious. If I want a tax-adjusted 60/40 stocks/bonds allocation (in other words, effective post-tax 60/40 stocks/bonds allocation), I can allocate my traditional IRA 60/40 stocks/bonds and my Roth IRA 60/40 stocks/bonds. If I discount my traditional IRA for for taxes, the overall portfolio allocation will remain unchanged at 60/40 stocks/bonds. In other words, to get a specific tax-adjusted allocation, I can use the same non-adjusted allocation in both traditional and Roth accounts. There's no need to predict future returns, withdrawal schedules, and taxes on traditional IRA withdrawals.

When it comes to a taxable account, there might be a difference in the stocks/bonds weighting between a non-adjusted and a tax-adjusted allocation due to pending taxes on embedded (long-term) capital gains (usually higher for stocks). Yet, in the vast majority of portfolios, the difference (on a total portfolio level) is small enough to ignore.
Last edited by longinvest on Sat Aug 17, 2019 12:57 pm, edited 1 time in total.
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Re: The One-Fund Portfolio as a default suggestion

Post by longinvest » Sat Aug 17, 2019 12:53 pm

305pelusa, as I wrote, portfolio 1 requires fewer assumptions. You're free to consider additional assumptions and pick portfolio 2.

Good luck!
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Re: The One-Fund Portfolio as a default suggestion

Post by 305pelusa » Sat Aug 17, 2019 1:09 pm

longinvest wrote:
Sat Aug 17, 2019 12:53 pm
305pelusa, as I wrote, portfolio 1 requires fewer assumptions. You're free to consider additional assumptions and pick portfolio 2.

Good luck!
I won't argue about assumptions nor did I intend to. I imagine we won't agree there.

The purpose of my comments was because you claimed that mathematically and historically they were fairly similar. I wanted to clarify that both mathematically and historically, portfolio 2 is far superior. That's all.

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Re: The One-Fund Portfolio as a default suggestion

Post by Ben Mathew » Sat Aug 17, 2019 1:22 pm

longinvest wrote:
Sat Aug 17, 2019 12:35 pm
305pelusa wrote:
Sat Aug 17, 2019 12:25 pm
Time diversification (like asset diversification) IS a free lunch.
Here's a link with a mathematical discussion: The Fallacy of Time Diversification, from Risk and Time by John Norstad (2000).
Time diversification has been used in two senses--one fallacious, one correct.

John Norstad is correct about the fallacious interpretation. I have linked to Norstad's article several times in the past. He makes a very important point which can help people better understand the relationship between investing horizon and AA. The key point is that stock volatility adds up over longer horizons. The average return will have lower variance, but that's irrelevant since you don't eat average returns. You eat the $ in your portfolio, and that will have larger variance over longer time horizons. This debunks the widespread misconception that short horizons should lead to conservative allocations and long horizons should lead to more aggressive ones.

But Ayres and Nalebuff are using time diversification to mean something different. They are talking about spreading out stock exposure more evenly--increasing it when it's too low (when young) and decreasing it when it's too high (closer to retirement). Here, the variance ends up being averaged over time due to the law of large numbers. So this is good and proper time diversification--nothing fallacious about it. It operates in much the same way as diversification across assets.

The interesting thing is that Paul Samuelson talked about both types of time diversification in his work. He correctly pointed out error of the fallacious interpretation, and he correctly pointed out the benefits to time diversification done right. Unfortunately when Ayres and Nalebuff sent him their book for comment, Samuelson seemed to have assumed they were talking about the fallacious version of time diversification and came out against it.

Both versions of time diversification are widely misunderstood. Most people accept the wrong version and reject the right one. There is a lot to be gained from understanding both ideas well. They have tremendous practical implications for how to manage one's finances.

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Re: The One-Fund Portfolio as a default suggestion

Post by longinvest » Sat Aug 17, 2019 1:27 pm

Ben Mathew, as I wrote, portfolio 1 requires fewer assumptions. You're free to consider additional assumptions and pick portfolio 2.

If you want to discuss time diversification and life cycle investing, I suggest that you start new threads about these topics.
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Re: The One-Fund Portfolio as a default suggestion

Post by MrJones » Sat Aug 17, 2019 1:39 pm

Interesting. What is the cost of mirroring, which is a necessary component of the strategy? I.e. the cost of not doing
https://www.bogleheads.org/wiki/Tax-eff ... _placement ? I'd be curious to see an analysis.

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Re: The One-Fund Portfolio as a default suggestion

Post by Ben Mathew » Sat Aug 17, 2019 1:52 pm

longinvest wrote:
Sat Aug 17, 2019 1:27 pm
Ben Mathew, as I wrote, portfolio 1 requires fewer assumptions. You're free to consider additional assumptions and pick portfolio 2.

If you want to discuss time diversification and life cycle investing, I suggest that you start new threads about these topics.
You brought up Norstad's article on time diversification. I just clarified that it does not debunk lifecycle investing as you seemed to be suggesting.

I assumed that you started this thread to discuss how optimal or suboptimal these one-fund portfolios are. Lifecycle investing and time diversification has a lot to do with why the fixed allocation of portfolio 1 is suboptimal. Not sure why you're suggesting it's off-topic.

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Re: The One-Fund Portfolio as a default suggestion

Post by longinvest » Sat Aug 17, 2019 3:54 pm

MrJones wrote:
Sat Aug 17, 2019 1:39 pm
Interesting. What is the cost of mirroring, which is a necessary component of the strategy? I.e. the cost of not doing
https://www.bogleheads.org/wiki/Tax-eff ... _placement ? I'd be curious to see an analysis.
The future is uncertain. Investor circumstances change. Tax laws change. Etc. Do you really think that you can predict your exact future taxes precisely enough to select an asset location that will beat a mirrored asset allocation sufficiently, over your specific investing life, to justify a more complex arrangement than using a single identical all-in-one fund or ETF in all accounts?

If you can predict the future well enough, you'll be able to calculate the "cost". Personally, I'm unable to predict the future well enough for my own situation, so I can't quantify the "cost" for my portfolio.

Note that we can quantify the additional cost of using VSMGX (for example) over holding four separate ETFs (VTI, VXUS, BND, and BNDX), which amounts to (0.13% - (36% X 0.03% + 24% X 0.09% + 28% X .035% + 12% X 0.09%)) = 0.077%. The additional cost is somewhat smaller than that when using the equivalent Admiral funds.

Mirroring is mathematically guaranteed to not turn out as the worst possible asset location choice. An optimal asset location, considering current tax laws and current projections of investor circumstances, could turn out to be a worse choice than a mirrored asset allocation in the future due to unforeseen tax law or investor circumstance changes, or simply because asset returns turned out differently than anticipated. It's really difficult to determine what's really optimal. Life is complex and often (always?) unpredictable.

A mirrored asset allocation is somewhat of a neutral position and, most importantly, it enables the use of a simple identical all-in-one fund or ETF in all accounts, significantly simplifying the portfolio and possibly helping the investor sidestep a long list of behavioral pitfalls.
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MrJones
Posts: 353
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Re: The One-Fund Portfolio as a default suggestion

Post by MrJones » Sat Aug 17, 2019 4:19 pm

longinvest wrote:
Sat Aug 17, 2019 3:54 pm
MrJones wrote:
Sat Aug 17, 2019 1:39 pm
Interesting. What is the cost of mirroring, which is a necessary component of the strategy? I.e. the cost of not doing
https://www.bogleheads.org/wiki/Tax-eff ... _placement ? I'd be curious to see an analysis.
The future is uncertain. Investor circumstances change. Tax laws change. Etc. Do you really think that you can predict your exact future taxes precisely enough to select an asset location that will beat a mirrored asset allocation sufficiently, over your specific investing life, to justify a more complex arrangement than using a single identical all-in-one fund or ETF in all accounts?
One common approach to estimating in the face of uncertainty is to analyze a couple of likely outcomes. Another is to determine the range.

It's hard to take any proposal seriously if a basic analysis is refused on the basis of uncertainty.

Topic Author
longinvest
Posts: 3980
Joined: Sat Aug 11, 2012 8:44 am

Re: The One-Fund Portfolio as a default suggestion

Post by longinvest » Sat Aug 17, 2019 4:35 pm

MrJones wrote:
Sat Aug 17, 2019 4:19 pm
One common approach to estimating in the face of uncertainty is to analyze a couple of likely outcomes. Another is to determine the range.

It's hard to take any proposal seriously if a basic analysis is refused on the basis of uncertainty.
The thing is this: mathematics tell us that a mirrored allocation cannot be the worst asset location strategy. So, the burden is on those who promote a different asset location strategy to prove that it will turn out better than a mirrored strategy.

It's somewhat (but not exactly) like total-market indexing. Mathematics tell us that it cannot be the worst investment strategy. The burden is on those who promote a different investment strategy to prove that it will turn out better than a total-market indexing strategy.

The warning and information boxes at the top of our wiki's Tax-efficient fund placement page say:
Determination of your asset allocation (% stocks / % bonds), which sets your portfolio's level of acceptable risk, is the single most influential decision you can make on your portfolio's performance. Only consider taxes after you have configured your total portfolio.
Tax regulations can be complex and contain subtle details that may escape inexperienced investors. If this article seems overly complicated, then just remember a few key points:
  • Set your asset allocation first, taxes come second. If you don't have any funds which can be put in a location to reduce your tax bill, then stop here. You've done the best you can.
  • Tax rates and brackets change frequently. What was a logical tax location one year may turn out to be a poor choice a few years later. Consider if it's worth the effort (added complexity) to take this approach.
As for our wiki's Tax-adjusted asset allocation page, it has a warning box that says:
Adjusting your asset allocation based on taxation may have significant unintended consequences. Tax rates change, tax brackets change, or your tax preferences may change. What was a logical tax location one year may turn out to be a poor choice a few years later. Consider the implications carefully.
A mirrored asset allocation is neutral. It doesn't tilt toward putting more or less of specific assets into specific accounts.
Last edited by longinvest on Sat Aug 17, 2019 5:23 pm, edited 1 time in total.
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