Quantifying risk

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ThankYouJack
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Quantifying risk

Post by ThankYouJack »

For me, the toughest Boglehead philosophy to wrap my mind around is #3: Never bear too much or too little risk

How do you quantify or predict what is too much or too little risk and then how do you set AA based on your assessment?
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bertilak
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Re: Quantifying risk

Post by bertilak »

ThankYouJack wrote: Sat Aug 24, 2019 3:18 pm For me, the toughest Boglehead philosophy to wrap my mind around is #3: Never bear too much or too little risk

How do you quantify or predict what is too much or too little risk and then how do you set AA based on your assessment?
Actually, that is a tough question. I simply set my AA to 50/50 to avoid the question. Whatever the "appropriate" risk, some portion of my portfolio is invested perfectly. The rest of the portfolio is just gravy.
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Re: Quantifying risk

Post by grabiner »

This is a very personal decision. Mathematically, if you are 20 years from retirement, the optimal level of risk might be 100% stocks. But 100% stocks is only right if you will stick with it when the market crashes, and if you look through forum posts from 2008-2009, you will find that many investors didn't. Therefore, I never recommend more than 80% stocks to any investor who hasn't been through a bear market.
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Re: Quantifying risk

Post by KlangFool »

OP,

It is actually a very simple question.

A) What is your current investment net worth (excluding home equity)?

B) What is your annual saving amount?

C) When do you plan to FI and/or retire?

D) What is the return rate that you need to reach your goal?

After you answer (A) to (D), it is very easy to pick your AA.

1) Pick your AA so that the return rate is good enough to reach your goal.

2) It is too little risk if the return rate is too low.

3) It is too much risk if the return rate is too high.

If the AA answer that you get is between 70/30 and 30/70, you are done.

A) If the AA answer is 100/0, you save too little.

B) If the AA answer is 0/100, you save too much or you could FI/retire earlier.

KlangFool
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Re: Quantifying risk

Post by KlangFool »

OP,

IMHO, it is easy to find the answer. It is tough to argue against the number. Hence, many people choose not to calculate the number.

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Re: Quantifying risk

Post by longinvest »

There's no perfect solution to asset allocation. Here's a suggestion: The One-Fund Portfolio.
Variable Percentage Withdrawal (bogleheads.org/wiki/VPW) | One-Fund Portfolio (bogleheads.org/forum/viewtopic.php?t=287967)
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Phineas J. Whoopee
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Re: Quantifying risk

Post by Phineas J. Whoopee »

By my reading, too much and too little risk are intentionally vague. The principle doesn't say always take precisely the right amount of risk. If a risk is clearly too much, take less. If a risk is clearly too little, take more.

Too much and too little are relative to one's own situation and objectives. The question what am I trying to accomplish can be an enlightening one.

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Tyler Aspect
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Re: Quantifying risk

Post by Tyler Aspect »

Age-based Asset Allocation

One easy way to compose an asset allocation is to do it according to an age based formula. If you are targeting retirement at age 60, then the retirement asset allocation is set to 50% stock / 50% bond. The stock allocation is 3/4 US stock, and 1/4 international stock. The bond allocation is entirely US stock. For every year younger than age 60, add 1% stock and subtract 1% bond.

US stock : ticker symbol VTI, VTSAX, ITOT, FXAIX, FSKAX
international stock : ticker symbol VXUS, VEA, IEFA, IXUS, FTIHX
US bond : ticker symbol BND, AGG, FXNAX

Sample LifeStrategy Funds Graph at 80% stock, 60% stock, 40% stock

Image

(Chart hosted by PortfolioVisualizer.com)
Past result does not predict future performance. Mentioned investments may lose money. Contents are presented "AS IS" and any implied suitability for a particular purpose are disclaimed.
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ThankYouJack
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Re: Quantifying risk

Post by ThankYouJack »

Thanks all. Good responses.
KlangFool wrote: Sat Aug 24, 2019 3:55 pm OP,

It is actually a very simple question.

A) What is your current investment net worth (excluding home equity)?

~16x annual expenses


B) What is your annual saving amount?
close to 1x annual expenses

C) When do you plan to FI and/or retire?


Lean-ish FI in 5-10 years (market depending). Retire -- not sure. For the most part we enjoy our work so we may always work on a part-time flexible basis that would cover our discretionary spending.


D) What is the return rate that you need to reach your goal?

To reach our FI number? 0%. But if/when we start withdrawing from our portfolio, I'm guessing a return of 2-3%. Not sure when that would be. Maybe in 5 years?

After you answer (A) to (D), it is very easy to pick your AA.

1) Pick your AA so that the return rate is good enough to reach your goal.

2) It is too little risk if the return rate is too low.

3) It is too much risk if the return rate is too high.

If the AA answer that you get is between 70/30 and 30/70, you are done.

A) If the AA answer is 100/0, you save too little.

B) If the AA answer is 0/100, you save too much or you could FI/retire earlier.

KlangFool
I don't really have a clear goal, so that's a starting point. It would be one thing if I wanted to call it quits after X years, but I don't really have a timeframe. Also, we may need to help our parents as they age so that could add a lot to expenses. And healthcare costs would likely make it tough to retire early - at least with the lifestyle we would like to live.
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Re: Quantifying risk

Post by Phineas J. Whoopee »

This is what I did, and a couple of years later I answered some questions about it.
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mbasherp
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Re: Quantifying risk

Post by mbasherp »

KlangFool wrote: Sat Aug 24, 2019 3:55 pm OP,

It is actually a very simple question.

A) What is your current investment net worth (excluding home equity)?

B) What is your annual saving amount?

C) When do you plan to FI and/or retire?

D) What is the return rate that you need to reach your goal?

After you answer (A) to (D), it is very easy to pick your AA.

1) Pick your AA so that the return rate is good enough to reach your goal.

2) It is too little risk if the return rate is too low.

3) It is too much risk if the return rate is too high.

If the AA answer that you get is between 70/30 and 30/70, you are done.

A) If the AA answer is 100/0, you save too little.

B) If the AA answer is 0/100, you save too much or you could FI/retire earlier.

KlangFool
This isn’t quite so simple for those (like myself) who answer C with “as soon as possible” and D with “as high as possible.”

Most accepted measurements of risk are simply backtesting and extrapolating that into the future. I’ve read several books on the subject and an accurate definition of risk is still hard to come by. The best I’ve been able to settle on is that risk is entirely relative to and defined by the goals of an individual. Financial or investment risk is never absolute. Essentially, not meeting your goal is the risk you face. If my goal is maximum return over an undefined but still long time horizon, 100% stocks with the appropriate mental fortitude to see it through is an entirely reasonable conclusion. I am not quite 100% stocks, but I do see it as logical for some.
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Re: Quantifying risk

Post by Kevin M »

grabiner wrote: Sat Aug 24, 2019 3:36 pm TTherefore, I never recommend more than 80% stocks to any investor who hasn't been through a bear market.
William Bernstein has recommended no more than 50% in stocks until you've lived through a brutal bear market.
If I make a calculation error, #Cruncher probably will let me know.
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Re: Quantifying risk

Post by KlangFool »

ThankYouJack wrote: Sat Aug 24, 2019 4:28 pm Thanks all. Good responses.
KlangFool wrote: Sat Aug 24, 2019 3:55 pm OP,

It is actually a very simple question.

A) What is your current investment net worth (excluding home equity)?

~16x annual expenses


B) What is your annual saving amount?
close to 1x annual expenses

C) When do you plan to FI and/or retire?


Lean-ish FI in 5-10 years (market depending). Retire -- not sure. For the most part we enjoy our work so we may always work on a part-time flexible basis that would cover our discretionary spending.


D) What is the return rate that you need to reach your goal?

To reach our FI number? 0%. But if/when we start withdrawing from our portfolio, I'm guessing a return of 2-3%. Not sure when that would be. Maybe in 5 years?

After you answer (A) to (D), it is very easy to pick your AA.

1) Pick your AA so that the return rate is good enough to reach your goal.

2) It is too little risk if the return rate is too low.

3) It is too much risk if the return rate is too high.

If the AA answer that you get is between 70/30 and 30/70, you are done.

A) If the AA answer is 100/0, you save too little.

B) If the AA answer is 0/100, you save too much or you could FI/retire earlier.

KlangFool
I don't really have a clear goal, so that's a starting point. It would be one thing if I wanted to call it quits after X years, but I don't really have a timeframe. Also, we may need to help our parents as they age so that could add a lot to expenses. And healthcare costs would likely make it tough to retire early - at least with the lifestyle we would like to live.
ThankYouJack,

If you do not know, the answer would be 60/40.

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Re: Quantifying risk

Post by KlangFool »

mbasherp wrote: Sat Aug 24, 2019 4:35 pm
KlangFool wrote: Sat Aug 24, 2019 3:55 pm OP,

It is actually a very simple question.

A) What is your current investment net worth (excluding home equity)?

B) What is your annual saving amount?

C) When do you plan to FI and/or retire?

D) What is the return rate that you need to reach your goal?

After you answer (A) to (D), it is very easy to pick your AA.

1) Pick your AA so that the return rate is good enough to reach your goal.

2) It is too little risk if the return rate is too low.

3) It is too much risk if the return rate is too high.

If the AA answer that you get is between 70/30 and 30/70, you are done.

A) If the AA answer is 100/0, you save too little.

B) If the AA answer is 0/100, you save too much or you could FI/retire earlier.

KlangFool
This isn’t quite so simple for those (like myself) who answer C with “as soon as possible” and D with “as high as possible.”

Most accepted measurements of risk are simply backtesting and extrapolating that into the future. I’ve read several books on the subject and an accurate definition of risk is still hard to come by. The best I’ve been able to settle on is that risk is entirely relative to and defined by the goals of an individual. Financial or investment risk is never absolute. Essentially, not meeting your goal is the risk you face. If my goal is maximum return over an undefined but still long time horizon, 100% stocks with the appropriate mental fortitude to see it through is an entirely reasonable conclusion. I am not quite 100% stocks, but I do see it as logical for some.
Your answer is 70/30.

<< an accurate definition of risk is still hard to come by. >>

It is very simple.

Risk = the likelihood that you cannot reach your goal.

<<Essentially, not meeting your goal is the risk you face.>>

You know the answer.

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Re: Quantifying risk

Post by Kevin M »

KlangFool wrote: Sat Aug 24, 2019 3:55 pm <snip>
D) What is the return rate that you need to reach your goal?
<snip>
Several problems with this.

First is that you don't know what your return rate will be if you use risky assets (for which by definition, the return rate is uncertain). Second is that even estimates of expected return are very uncertain.

You need to take a stab at expected return estimates if you're going to use an analytical approach to determine your AA, but I think it's good to remember that there's much uncertainty in these estimates.

Kevin
If I make a calculation error, #Cruncher probably will let me know.
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Re: Quantifying risk

Post by KlangFool »

Kevin M wrote: Sat Aug 24, 2019 4:43 pm
KlangFool wrote: Sat Aug 24, 2019 3:55 pm <snip>
D) What is the return rate that you need to reach your goal?
<snip>
Several problems with this.

First is that you don't know what your return rate will be if you use risky assets (for which by definition, the return rate is uncertain). Second is that even estimates of expected return are very uncertain.

You need to take a stab at expected return estimates if you're going to use an analytical approach to determine your AA, but I think it's good to remember that there's much uncertainty in these estimates.

Kevin
Kevin M,

1) Your statement is correct.

2) But, it is not a problem unless you have no safety margin at all.

3) You know that you need 5%. You pick an AA has an expected return of 5+2% = 7%. You have 2% safety margin.

4) It is just like how we deal with any uncertainty in life. We build tolerance (safety margin) into our plan.

KlangFool
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Re: Quantifying risk

Post by mbasherp »

KlangFool wrote: Sat Aug 24, 2019 4:42 pm
mbasherp wrote: Sat Aug 24, 2019 4:35 pm
KlangFool wrote: Sat Aug 24, 2019 3:55 pm OP,

It is actually a very simple question.

A) What is your current investment net worth (excluding home equity)?

B) What is your annual saving amount?

C) When do you plan to FI and/or retire?

D) What is the return rate that you need to reach your goal?

After you answer (A) to (D), it is very easy to pick your AA.

1) Pick your AA so that the return rate is good enough to reach your goal.

2) It is too little risk if the return rate is too low.

3) It is too much risk if the return rate is too high.

If the AA answer that you get is between 70/30 and 30/70, you are done.

A) If the AA answer is 100/0, you save too little.

B) If the AA answer is 0/100, you save too much or you could FI/retire earlier.

KlangFool
This isn’t quite so simple for those (like myself) who answer C with “as soon as possible” and D with “as high as possible.”

Most accepted measurements of risk are simply backtesting and extrapolating that into the future. I’ve read several books on the subject and an accurate definition of risk is still hard to come by. The best I’ve been able to settle on is that risk is entirely relative to and defined by the goals of an individual. Financial or investment risk is never absolute. Essentially, not meeting your goal is the risk you face. If my goal is maximum return over an undefined but still long time horizon, 100% stocks with the appropriate mental fortitude to see it through is an entirely reasonable conclusion. I am not quite 100% stocks, but I do see it as logical for some.
Your answer is 70/30.

<< an accurate definition of risk is still hard to come by. >>

It is very simple.

Risk = the likelihood that you cannot reach your goal.

<<Essentially, not meeting your goal is the risk you face.>>

You know the answer.

KlangFool
70/30 is relative to your risk assessment and likely has a heavy reliance on backtesting. That’s what the efficient frontier is, after all. In my case, it has lower expected return than a higher equity allocation, which runs directly counter to my timeframe (as soon as possible.) the market may work against me, but I see no need to work against myself here.

Keep in mind, age has a lot to do with this. 70/30 may be aggressive for someone in their 50s. For someone young, it might be downright foolish.
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Re: Quantifying risk

Post by Fallible »

ThankYouJack wrote: Sat Aug 24, 2019 3:18 pm For me, the toughest Boglehead philosophy to wrap my mind around is #3: Never bear too much or too little risk

How do you quantify or predict what is too much or too little risk and then how do you set AA based on your assessment
The wiki's page on "Risk tolerance" will help you understand what it is, ways to determine it, and why it's hard to determine. It includes links to Larry Swedroe's three blogs on ability (time horizon, earned income, etc), willingness (risk tolerance), and need to take risk (return needed to reach financial goals).

https://www.bogleheads.org/wiki/Risk_tolerance

Edit to add links to Swedroe blogs on ability, willingness, and need to take risk:

https://www.cbsnews.com/news/asset-allo ... -you-take/
https://www.cbsnews.com/news/asset-allo ... tolerance/
https://www.cbsnews.com/news/asset-allo ... -you-need/
Last edited by Fallible on Sat Aug 24, 2019 5:39 pm, edited 2 times in total.
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Re: Quantifying risk

Post by halfnine »

I have a 40% rule. I look at human capital, equites, fixed income, property (inclusive of home equity) and social security/annuities. As long as I don't exceed 40% in anyone of those categories I consider myself diversified enough and free from concentration risk. Stocks are held constant at around 40% and the others are free to vary.
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Re: Quantifying risk

Post by KlangFool »

mbasherp wrote: Sat Aug 24, 2019 4:54 pm
KlangFool wrote: Sat Aug 24, 2019 4:42 pm
mbasherp wrote: Sat Aug 24, 2019 4:35 pm
KlangFool wrote: Sat Aug 24, 2019 3:55 pm OP,

It is actually a very simple question.

A) What is your current investment net worth (excluding home equity)?

B) What is your annual saving amount?

C) When do you plan to FI and/or retire?

D) What is the return rate that you need to reach your goal?

After you answer (A) to (D), it is very easy to pick your AA.

1) Pick your AA so that the return rate is good enough to reach your goal.

2) It is too little risk if the return rate is too low.

3) It is too much risk if the return rate is too high.

If the AA answer that you get is between 70/30 and 30/70, you are done.

A) If the AA answer is 100/0, you save too little.

B) If the AA answer is 0/100, you save too much or you could FI/retire earlier.

KlangFool
This isn’t quite so simple for those (like myself) who answer C with “as soon as possible” and D with “as high as possible.”

Most accepted measurements of risk are simply backtesting and extrapolating that into the future. I’ve read several books on the subject and an accurate definition of risk is still hard to come by. The best I’ve been able to settle on is that risk is entirely relative to and defined by the goals of an individual. Financial or investment risk is never absolute. Essentially, not meeting your goal is the risk you face. If my goal is maximum return over an undefined but still long time horizon, 100% stocks with the appropriate mental fortitude to see it through is an entirely reasonable conclusion. I am not quite 100% stocks, but I do see it as logical for some.
Your answer is 70/30.

<< an accurate definition of risk is still hard to come by. >>

It is very simple.

Risk = the likelihood that you cannot reach your goal.

<<Essentially, not meeting your goal is the risk you face.>>

You know the answer.

KlangFool
70/30 is relative to your risk assessment and likely has a heavy reliance on backtesting. That’s what the efficient frontier is, after all. In my case, it has lower expected return than a higher equity allocation, which runs directly counter to my timeframe (as soon as possible.) the market may work against me, but I see no need to work against myself here.

Keep in mind, age has a lot to do with this. 70/30 may be aggressive for someone in their 50s. For someone young, it might be downright foolish.
mbasherp,

You cannot substitute the saving rate with risk. In order to retire as soon as possible, you need to increase your saving rate. Increasing your equity allocation is not going to do it. You do not have the time to take the risk.

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Re: Quantifying risk

Post by mbasherp »

Klang,

We’re clearly not going to get anywhere here.

I’ll just rephrase and say that risks in the future will not be identical to risks in the past. History may rhyme but it does not repeat. And risk for me may or may not be risk for you.
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Re: Quantifying risk

Post by KlangFool »

mbasherp wrote: Sat Aug 24, 2019 5:03 pm Klang,

We’re clearly not going to get anywhere here.

I’ll just rephrase and say that risks in the future will not be identical to risks in the past. History may rhyme but it does not repeat. And risk for me may or may not be risk for you.
mbasherp,

<<I’ll just rephrase and say that risks in the future will not be identical to risks in the past.>>

In my case, with my high saving rate, it does not matter at all. With my portfolio at 20 times of my annual expense and the saving rate of 1 year of expense every year, I could get there with 60/40 easily in a few years.


<<And risk for me may or may not be risk for you.>>

If we define the risk as not reaching our financial goal within our timeline, we have the same risk definition. The difference is in the level of safety margin within our plan/forecast.

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Re: Quantifying risk

Post by Kevin M »

KlangFool wrote: Sat Aug 24, 2019 4:49 pm
Kevin M wrote: Sat Aug 24, 2019 4:43 pm
KlangFool wrote: Sat Aug 24, 2019 3:55 pm <snip>
D) What is the return rate that you need to reach your goal?
<snip>
Several problems with this.

First is that you don't know what your return rate will be if you use risky assets (for which by definition, the return rate is uncertain). Second is that even estimates of expected return are very uncertain.

You need to take a stab at expected return estimates if you're going to use an analytical approach to determine your AA, but I think it's good to remember that there's much uncertainty in these estimates.

Kevin
Kevin M,

1) Your statement is correct.

2) But, it is not a problem unless you have no safety margin at all.

3) You know that you need 5%. You pick an AA has an expected return of 5+2% = 7%. You have 2% safety margin.

4) It is just like how we deal with any uncertainty in life. We build tolerance (safety margin) into our plan.

KlangFool
But how do you determine that the expected return is 7% over any particular time period? Different people have different estimates of expected return for different categories of stocks over the next 10 years, for example, and we don't know that any of them are reliable.

And maybe you can't even get 7% expected return in a broad stock market index fund.

In December 2018, Vanguard estimated 10-year global stock returns in the 4.5%-6.5% range, with US stock expected returns lower than international stock expected returns. US stocks are up almost 15% and international stocks about 6.5% since 12/31/2018, so the expected returns are even lower now than they were then. So an estimate of the 10-year expected return for global stocks might be 5%, in which case you can't get to 7% with a broad stock market index.

Kevin
If I make a calculation error, #Cruncher probably will let me know.
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Phineas J. Whoopee
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Re: Quantifying risk

Post by Phineas J. Whoopee »

I wrote it not so long ago, but I feel I must repeat in this thread:

In my opinion KlangFool's formulaic prescriptions that take little of an individual situation into account are overly simplistic. That doesn't mean I think portfolios should be complex. They should be simple. Advice should be individually tailored.

KlangFool, last time I wrote it you defended your advice by obliquely attacking me. Please feel free to do so again if you like. I won't complain.

PJW
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Re: Quantifying risk

Post by KlangFool »

Kevin M wrote: Sat Aug 24, 2019 5:35 pm
But how do you determine that the expected return is 7% over any particular time period? Different people have different estimates of expected return for different categories of stocks over the next 10 years, for example, and we don't know that any of them are reliable.

And maybe you can't even get 7% expected return in a broad stock market index fund.

In December 2018, Vanguard estimated 10-year global stock returns in the 4.5%-6.5% range, with US stock expected returns lower than international stock expected returns. US stocks are up almost 15% and international stocks about 6.5% since 12/31/2018, so the expected returns are even lower now than they were then. So an estimate of the 10-year expected return for global stocks might be 5%, in which case you can't get to 7% with a broad stock market index.

Kevin
Kevin M,

1) My statement applies to a 60/40 portfolio. In my case, I can reach my goal with a 0% return.

<<And maybe you can't even get 7% expected return in a broad stock market index fund.>>

2) Correct. And, does it matters? If it does, then, you may plan for 5% and/or 3% instead.

3) You cannot have it both way. If you believe that expected return is uncertain, then, the only thing that you could do is to increase your saving rate. Then, you do not need a high expected return. How does higher equity allocation help you?

KlangFool
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Re: Quantifying risk

Post by yarnandthread »

Klangfool: The focus in this thread has been for the accumulation stage. I am curious about your thoughts on AA for someone already retired with a predicted long retirement length of say 50 years with the following annual expense multipliers.

Portfolio size = 40x annual expense?
Portfolio size = 50x a nnual expense?
Portfolio size = 75x annual expense?
Portfolio size = 100x annual expense?

What does your formula or method of calculating an AA say for those? Would you care to share that formula or method please?
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nps
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Re: Quantifying risk

Post by nps »

KlangFool wrote: Sat Aug 24, 2019 5:16 pm
mbasherp wrote: Sat Aug 24, 2019 5:03 pm Klang,

We’re clearly not going to get anywhere here.

I’ll just rephrase and say that risks in the future will not be identical to risks in the past. History may rhyme but it does not repeat. And risk for me may or may not be risk for you.
mbasherp,

<<I’ll just rephrase and say that risks in the future will not be identical to risks in the past.>>

In my case, with my high saving rate, it does not matter at all. With my portfolio at 20 times of my annual expense and the saving rate of 1 year of expense every year, I could get there with 60/40 easily in a few years.
Get where? 25x expenses?

If the market drops 50 percent you lose 30 percent of your portfolio, or 6 years of savings. Even saving 1 year of expense every year that's quite a few more years of working, and that's if you are fortunate enough to keep your job.
EvelynTroy
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Re: Quantifying risk

Post by EvelynTroy »

For me analytical ways or formulas that come up with numbers to determine levels of risk don't work, probably because to begin with I'm not very mathematical, and also I couldn't begin to figure out expected return on a portfolio. Seems like it always has to involve some sort of predictions.

That said - I second the recommendation to read Larry Swedroe's 3 articles on risk, and the wiki that was referenced. I was a client of Larry's firm for several years and a lot of time and discussion went into determining my risk tolerance for determining the asset allocation.

You could also consider - I saved this 2008 bogleheads post if you are interested in a forumula or guideline -
I would set my allocation to something that you can maintain through thick & thin, and then not worry about it.
Dec. 2008
Most of us are familiar with Adrian's Formula:

Maximum Tolerable Loss X 2 = Maximum Stock Allocation

Nearly all our posts equate "Maximum tolerable loss" with "risk tolerance" (fear). We may feel confident we would not sell because of fear, but this does not mean we should never sell stocks.

Let's assume we have a $800,000 retirement portfolio providing $32,000 annual return (4%). We decide we need a minimum $24,000 annual return. This means we cannot allow our portfolio to be less than $600,000 ($600,000 X 4% = $24,000).

Adrian's Forumula can be a big help. It tells us that our Maximum Tolerable Loss ($200,000) X 2 = $400,000 (Maximum Stock Allocation).

But what if our portfolio starts to go below $600,000 (maximum tolerable loss)? In this case we must exchange stocks for bonds or cash.

We should not invest in stocks if we cannot afford to lose (especially in retirement)
A big help to me in reinforcing and reminding myself to stick to my written plan when the market gets dicey, or jittery, is the sticky "A Time To Evaluate Your Jitters" - a lot in there about risk tolerance. I printed this out, and reread it every now and then. Such a thoughtful well-written piece.
viewtopic.php?f=10&t=79939

Evelyn
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Re: Quantifying risk

Post by KlangFool »

nps wrote: Sun Aug 25, 2019 7:13 am
KlangFool wrote: Sat Aug 24, 2019 5:16 pm
mbasherp wrote: Sat Aug 24, 2019 5:03 pm Klang,

We’re clearly not going to get anywhere here.

I’ll just rephrase and say that risks in the future will not be identical to risks in the past. History may rhyme but it does not repeat. And risk for me may or may not be risk for you.
mbasherp,

<<I’ll just rephrase and say that risks in the future will not be identical to risks in the past.>>

In my case, with my high saving rate, it does not matter at all. With my portfolio at 20 times of my annual expense and the saving rate of 1 year of expense every year, I could get there with 60/40 easily in a few years.
Get where? 25x expenses?

If the market drops 50 percent you lose 30 percent of your portfolio, or 6 years of savings. Even saving 1 year of expense every year that's quite a few more years of working, and that's if you are fortunate enough to keep your job.
nps,

My annual expense is 60K. 25X 60K = 1.5 million. My social security income is about 30K per year. I am 50+ years old.

A) 1.5 million = 25 X my annual expense before 62/67/70 years old.

B) 1.5 million = 50 X my retirement expense after 62/67/70 years old.

C) With 60/40, I have enough fixed income to reach 62/67/70 years old.

D) So, where is the problem?

E) I am preparing for a market downturn/recession/unemployment lasting 5 years. How about you?

F) All else failed, I have plan B, C, and D.

KlangFool
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Re: Quantifying risk

Post by KlangFool »

yarnandthread wrote: Sun Aug 25, 2019 5:33 am Klangfool: The focus in this thread has been for the accumulation stage. I am curious about your thoughts on AA for someone already retired with a predicted long retirement length of say 50 years with the following annual expense multipliers.

Portfolio size = 40x annual expense?
Portfolio size = 50x a nnual expense?
Portfolio size = 75x annual expense?
Portfolio size = 100x annual expense?

What does your formula or method of calculating an AA say for those? Would you care to share that formula or method please?
yarnandthread,

1) In retirement, you should have 10 to 25 years of annual expense in fixed income.

2) The AA should be in the range of 70/30 to 30/70.

<<Portfolio size = 40x annual expense?>>

That means your AA could be 70/30 to 30/70 depending on the years of expense in fixed income. If you pick 10 years, your AA would be 70/30. If you pick 25 years, it would be 35/65.

<<Portfolio size = 50x a nnual expense?>>

If you pick 10 years, your AA would be 70/30. If you pick 25 years, it would be 50/50.

<<Portfolio size = 75x annual expense?>>

If you pick 10 years, your AA would be 70/30. If you pick 25 years, it would be 65/35.

<<Portfolio size = 100x annual expense?>>

Your AA would be 70/30.

KlangFool
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Re: Quantifying risk

Post by nps »

KlangFool wrote: Sun Aug 25, 2019 9:06 am
nps wrote: Sun Aug 25, 2019 7:13 am
KlangFool wrote: Sat Aug 24, 2019 5:16 pm
mbasherp wrote: Sat Aug 24, 2019 5:03 pm Klang,

We’re clearly not going to get anywhere here.

I’ll just rephrase and say that risks in the future will not be identical to risks in the past. History may rhyme but it does not repeat. And risk for me may or may not be risk for you.
mbasherp,

<<I’ll just rephrase and say that risks in the future will not be identical to risks in the past.>>

In my case, with my high saving rate, it does not matter at all. With my portfolio at 20 times of my annual expense and the saving rate of 1 year of expense every year, I could get there with 60/40 easily in a few years.
Get where? 25x expenses?

If the market drops 50 percent you lose 30 percent of your portfolio, or 6 years of savings. Even saving 1 year of expense every year that's quite a few more years of working, and that's if you are fortunate enough to keep your job.
nps,

My annual expense is 60K. 25X 60K = 1.5 million. My social security income is about 30K per year. I am 50+ years old.

A) 1.5 million = 25 X my annual expense before 62/67/70 years old.

B) 1.5 million = 50 X my retirement expense after 62/67/70 years old.

C) With 60/40, I have enough fixed income to reach 62/67/70 years old.

D) So, where is the problem?

E) I am preparing for a market downturn/recession/unemployment lasting 5 years. How about you?

F) All else failed, I have plan B, C, and D.

KlangFool
I didn't catch it. Get where within a few years? What is your number if not 25x expenses?
KlangFool
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Re: Quantifying risk

Post by KlangFool »

nps wrote: Sun Aug 25, 2019 9:52 am
KlangFool wrote: Sun Aug 25, 2019 9:06 am
nps wrote: Sun Aug 25, 2019 7:13 am
KlangFool wrote: Sat Aug 24, 2019 5:16 pm
mbasherp wrote: Sat Aug 24, 2019 5:03 pm Klang,

We’re clearly not going to get anywhere here.

I’ll just rephrase and say that risks in the future will not be identical to risks in the past. History may rhyme but it does not repeat. And risk for me may or may not be risk for you.
mbasherp,

<<I’ll just rephrase and say that risks in the future will not be identical to risks in the past.>>

In my case, with my high saving rate, it does not matter at all. With my portfolio at 20 times of my annual expense and the saving rate of 1 year of expense every year, I could get there with 60/40 easily in a few years.
Get where? 25x expenses?

If the market drops 50 percent you lose 30 percent of your portfolio, or 6 years of savings. Even saving 1 year of expense every year that's quite a few more years of working, and that's if you are fortunate enough to keep your job.
nps,

My annual expense is 60K. 25X 60K = 1.5 million. My social security income is about 30K per year. I am 50+ years old.

A) 1.5 million = 25 X my annual expense before 62/67/70 years old.

B) 1.5 million = 50 X my retirement expense after 62/67/70 years old.

C) With 60/40, I have enough fixed income to reach 62/67/70 years old.

D) So, where is the problem?

E) I am preparing for a market downturn/recession/unemployment lasting 5 years. How about you?

F) All else failed, I have plan B, C, and D.

KlangFool
I didn't catch it. Get where within a few years? What is your number if not 25x expenses?
nps,

1) My number is 1.5 million. I will get there in a few years. It is 1.3 million now.

2) It is 25 times my current annual expense = 60K.

2) It is 50 times my retirement expense since my social security income will cover 30K of that. So, my retirement expense = 30K.

KlangFool
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Re: Quantifying risk

Post by nps »

KlangFool wrote: Sun Aug 25, 2019 10:11 am
nps wrote: Sun Aug 25, 2019 9:52 am I didn't catch it. Get where within a few years? What is your number if not 25x expenses?
nps,

1) My number is 1.5 million. I will get there in a few years. It is 1.3 million now.

2) It is 25 times my current annual expense = 60K.

2) It is 50 times my retirement expense since my social security income will cover 30K of that. So, my retirement expense = 30K.

KlangFool
It is very possible that you may not get there in a few years. A deep stock selloff with a longer recovery period than 2009 would put you off track quite a bit with a 60/40 portfolio.

Is you AA truly good enough to reach your goal, if your goal is $1.5M within a few years?
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Re: Quantifying risk

Post by KlangFool »

nps wrote: Sun Aug 25, 2019 10:35 am
KlangFool wrote: Sun Aug 25, 2019 10:11 am
nps wrote: Sun Aug 25, 2019 9:52 am I didn't catch it. Get where within a few years? What is your number if not 25x expenses?
nps,

1) My number is 1.5 million. I will get there in a few years. It is 1.3 million now.

2) It is 25 times my current annual expense = 60K.

2) It is 50 times my retirement expense since my social security income will cover 30K of that. So, my retirement expense = 30K.

KlangFool
It is very possible that you may not get there in a few years. A deep stock selloff with a longer recovery period than 2009 would put you off track quite a bit with a 60/40 portfolio.

Is you AA truly good enough to reach your goal, if your goal is $1.5M within a few years?
nps,

I am at 1.3 million now and an annual saving of 50K to 60K after my daughter graduated from college next May.

Please explain

A) Why my AA is not good enough?

B) What could you do to the AA to make any difference?

<<A deep stock selloff with a longer recovery period than 2009 would put you off track quite a bit with a 60/40 portfolio. >>

Then, I will be old enough to withdraw social security. I would only need 750K.

KlangFool
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Re: Quantifying risk

Post by nps »

KlangFool wrote: Sun Aug 25, 2019 10:42 am
nps wrote: Sun Aug 25, 2019 10:35 am
KlangFool wrote: Sun Aug 25, 2019 10:11 am
nps wrote: Sun Aug 25, 2019 9:52 am I didn't catch it. Get where within a few years? What is your number if not 25x expenses?
nps,

1) My number is 1.5 million. I will get there in a few years. It is 1.3 million now.

2) It is 25 times my current annual expense = 60K.

2) It is 50 times my retirement expense since my social security income will cover 30K of that. So, my retirement expense = 30K.

KlangFool
It is very possible that you may not get there in a few years. A deep stock selloff with a longer recovery period than 2009 would put you off track quite a bit with a 60/40 portfolio.

Is you AA truly good enough to reach your goal, if your goal is $1.5M within a few years?
nps,

I am at 1.3 million now and an annual saving of 50K to 60K after my daughter graduated from college next May.

Please explain

A) Why my AA is not good enough?

B) What could you do to the AA to make any difference?

<<A deep stock selloff with a longer recovery period than 2009 would put you off track quite a bit with a 60/40 portfolio. >>

Then, I will be old enough to withdraw social security. I would only need 750K.

KlangFool
You defined risk as the likelihood that you cannot reach your goal. You need $200k to reach your stated goal of $1.5M and are saving $60k per year. There is an AA that could guarantee you reach your goal of $1.5M within a few years, but it is not 60/40. So you are taking on more risk than you need to reach your goal.
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Re: Quantifying risk

Post by KlangFool »

nps wrote: Sun Aug 25, 2019 12:08 pm
KlangFool wrote: Sun Aug 25, 2019 10:42 am
nps wrote: Sun Aug 25, 2019 10:35 am
KlangFool wrote: Sun Aug 25, 2019 10:11 am
nps wrote: Sun Aug 25, 2019 9:52 am I didn't catch it. Get where within a few years? What is your number if not 25x expenses?
nps,

1) My number is 1.5 million. I will get there in a few years. It is 1.3 million now.

2) It is 25 times my current annual expense = 60K.

2) It is 50 times my retirement expense since my social security income will cover 30K of that. So, my retirement expense = 30K.

KlangFool
It is very possible that you may not get there in a few years. A deep stock selloff with a longer recovery period than 2009 would put you off track quite a bit with a 60/40 portfolio.

Is you AA truly good enough to reach your goal, if your goal is $1.5M within a few years?
nps,

I am at 1.3 million now and an annual saving of 50K to 60K after my daughter graduated from college next May.

Please explain

A) Why my AA is not good enough?

B) What could you do to the AA to make any difference?

<<A deep stock selloff with a longer recovery period than 2009 would put you off track quite a bit with a 60/40 portfolio. >>

Then, I will be old enough to withdraw social security. I would only need 750K.

KlangFool
You defined risk as the likelihood that you cannot reach your goal. You need $200k to reach your stated goal of $1.5M and are saving $60k per year. There is an AA that could guarantee you reach your goal of $1.5M within a few years, but it is not 60/40. So you are taking on more risk than you need to reach your goal.
nps,

My goal is FI. The number changes depending on how far I am from 62/67/70 years old. It is not 1.5 million.

<<There is an AA that could guarantee you reach your goal of $1.5M within a few years,>>

Show me the AA and show me the calculation of why that is true.

KlangFool
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dbr
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Re: Quantifying risk

Post by dbr »

In the context of that statement the quantification is what is the proportion of stocks and bonds in the portfolio. That is a (mostly) unambiguous number. Too much risk is more in stocks that you need to meet your objectives and too little risk is not enough in stocks to meet your objectives, considering need, ability, and willingness to take risk.

I would take this statement as saying less rather than more than meets the eye and avoid attempting universal concepts of risk.
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Re: Quantifying risk

Post by nps »

KlangFool wrote: Sun Aug 25, 2019 12:43 pm
nps wrote: Sun Aug 25, 2019 12:08 pm
KlangFool wrote: Sun Aug 25, 2019 10:42 am
nps wrote: Sun Aug 25, 2019 10:35 am
KlangFool wrote: Sun Aug 25, 2019 10:11 am

nps,

1) My number is 1.5 million. I will get there in a few years. It is 1.3 million now.

2) It is 25 times my current annual expense = 60K.

2) It is 50 times my retirement expense since my social security income will cover 30K of that. So, my retirement expense = 30K.

KlangFool
It is very possible that you may not get there in a few years. A deep stock selloff with a longer recovery period than 2009 would put you off track quite a bit with a 60/40 portfolio.

Is you AA truly good enough to reach your goal, if your goal is $1.5M within a few years?
nps,

I am at 1.3 million now and an annual saving of 50K to 60K after my daughter graduated from college next May.

Please explain

A) Why my AA is not good enough?

B) What could you do to the AA to make any difference?

<<A deep stock selloff with a longer recovery period than 2009 would put you off track quite a bit with a 60/40 portfolio. >>

Then, I will be old enough to withdraw social security. I would only need 750K.

KlangFool
You defined risk as the likelihood that you cannot reach your goal. You need $200k to reach your stated goal of $1.5M and are saving $60k per year. There is an AA that could guarantee you reach your goal of $1.5M within a few years, but it is not 60/40. So you are taking on more risk than you need to reach your goal.
nps,

My goal is FI. The number changes depending on how far I am from 62/67/70 years old. It is not 1.5 million.

<<There is an AA that could guarantee you reach your goal of $1.5M within a few years,>>

Show me the AA and show me the calculation of why that is true.

KlangFool
Ok, you said your number was $1.5M earlier and now you say it is not. I'm concerned about derailing the thread so I'll drop it. My intent though was to re-examime your notion of how the problem identified by the OP is "simple" to solve.

As far as an AA that guarantees getting from $1.3M to $1.5M in a few years with a $60k savings rate, you would only need to be in cash.
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