Ben Mathew wrote: ↑Fri Oct 23, 2020 3:08 pm
Re: # 1 Why Not 130% Stocks?
It's easier and cheaper to go from 90% stocks to 100% stocks than it is to go from 100% stocks to 110% stocks. So 100% stocks is a natural corner solution:
From 90 to 100, you are implicitly borrowing at the risk free rate offered by the treasuries you give up. From 100 to 110, you are explicitly borrowing at the higher margin rate offered by the brokerage.
From 90 to 100, there is no big mismatch in duration of portfolio because you are reducing long term bonds and increasing stocks which are also of long duration. From 100 to 110, you are borrowing short term (because the debt is callable) but investing in stocks with long duration. If interest rates rise, the value of the stocks fall a lot, but the value of the debt does not fall. Financing long term assets with short term debt introduces interest rate risk. You are compensated for it some because of the upward sloping yield curve, but you'll have to decide whether it's worth it for you.
If someone created a product like a closed end fund that is financed by long term non-callable debt, a leveraged portfolio at younger ages might become a more compelling and mainstream option.
That's somewhat valid for many people. It's not as valid considering all instruments available which are usable by only somewhat sophisticated retail investors. The most efficient way to go from 100%>110% would be some position in stock index futures, implicit borrowing rate now ~0.40%. The 'riskless' treasury bill rate is lower than that, but the best rates on similarly 'riskless' FDIC insured bank deposits are actually higher than that. IOW right now there is a modest arbitrage for retail investors to go long via the index futures and put the excess cash on deposit at a rate > than the implicit financing cost embedded in the futures prices, rather than investing the cash in stocks (subject to limits of liquidity management, tax considerations etc. but this actually works in some real cases).
On duration mismatch, I think it could be debated how much of a net increase in risk if any you have in financing short term to buy stocks, in contrast to financing short to buy bonds which is definitely a duration mismatch. In the current environment of persistent headwinds to growth (worldwide) a pick up in growth, inflation and therefore short rates is probably a positive for stocks, up to some point. In general the short term rate/stock relationship is too loose to consider financing bonds with short term borrowing anything like the same as financing stocks with short term borrowing. But, if convinced of the risk argument you make, the investor could just go short treasury note futures to hedge this assumed rate mismatch.
Big picture, I'd agree with article author there's nothing completely special about 100% stock, especially considering that most people claiming this position don't really have it. They often have 'emergency funds' and home equity which 'don't count' in their mental accounting, though in the real world they both count. So even to get an actual 100% stock position, these investors would have to use leverage (ie 100% stock+30% house+10% 'emergency fund'-40% borrowing, or whatever).