my commodity exposure is getting killed
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my commodity exposure is getting killed
7% in 2 days
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Peter L. Bernstein often said the following:Scott S wrote:I can't remember who said it first, but being diversified means you're always unhappy with something in your portfolio.
- Scott
- “Many years ago an associate said to me [that] you’re not really diversified unless you own something you’re uncomfortable with. It was a wise statement. Because if you’re comfortable with all your holdings, they probably have the same flavor and are going to respond to the same set of forces."
Commodity funds seem to make investors unhappy no matter what. They don't go up very much when commodities go up, but they sure go down when commodities go down. It's a "heads I lose, tails I lose".Scott S wrote:I can't remember who said it first, but being diversified means you're always unhappy with something in your portfolio.
- Scott
Ignore the market noise. Keep to your rebalancing schedule whether that is semi-annual, annual or trigger bands.
From what I read commodity funds are not part of the Bogglehead philosophy.
Here is what John Bogle says about commodity funds:
Don't own them. Of course, there will be commodity bubbles that will attract you only after they have inflated to absurd proportions. But unlike stocks and bonds, commodities have no fundamentals to support them (neither earnings and dividends nor interest payments).
This is from The Little Book of Common Sense Investing.
Here is what John Bogle says about commodity funds:
Don't own them. Of course, there will be commodity bubbles that will attract you only after they have inflated to absurd proportions. But unlike stocks and bonds, commodities have no fundamentals to support them (neither earnings and dividends nor interest payments).
This is from The Little Book of Common Sense Investing.
Heh, I hate to say this about one of John Bogle's writings.... but if "of course there will be commodity bubbles" then owning a commodity fund all the time (AND REBALANCING) should be a very wise move.stemikger wrote:From what I read commodity funds are not part of the Bogglehead philosophy.
Here is what John Bogle says about commodity funds:
Don't own them. Of course, there will be commodity bubbles that will attract you only after they have inflated to absurd proportions. But unlike stocks and bonds, commodities have no fundamentals to support them (neither earnings and dividends nor interest payments).
This is from The Little Book of Common Sense Investing.
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ccf
First if going to think of CCF in isolation, never buy them
Second, as I noted if going to buy CCF as insurance against some risks you have to understand that they don't protect against all risks, just some--like fire insurance doesn't protect against floods or earthquakes. Want that protection need to buy that insurance
Third as I have noted, CCF doesn't help against deflationary shocks like 2008 or the Japan type event. They help against other types.
Fourth, I also have recommended that if going to add CCF one should also consider adding duration risk as CCF hedges bond risks even better than it hedges equity risks---never down year for bonds when CCF also down.
Fifth, also recommended that if going to own CCF should take the allocation from the equity side, not the bond side. So if followed all the advice then you lost less from equities than would have otherwise and your bonds would have made more than otherwise so perhaps the end result not so bad. And now you get chance to rebalance, buying low and selling high, relatively speaking.
Hope that helps
Best wishes
Larry
Second, as I noted if going to buy CCF as insurance against some risks you have to understand that they don't protect against all risks, just some--like fire insurance doesn't protect against floods or earthquakes. Want that protection need to buy that insurance
Third as I have noted, CCF doesn't help against deflationary shocks like 2008 or the Japan type event. They help against other types.
Fourth, I also have recommended that if going to add CCF one should also consider adding duration risk as CCF hedges bond risks even better than it hedges equity risks---never down year for bonds when CCF also down.
Fifth, also recommended that if going to own CCF should take the allocation from the equity side, not the bond side. So if followed all the advice then you lost less from equities than would have otherwise and your bonds would have made more than otherwise so perhaps the end result not so bad. And now you get chance to rebalance, buying low and selling high, relatively speaking.
Hope that helps
Best wishes
Larry
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If you don't understand how an invesment works you shouldn't invest in it. Commodities are very volatile and aren't expected to to well unless there is high inflation like in the 70's or unless there is a actual or fear of a supply shock of oil (at least for oil rich commodity plays). Outside of that period I don't expect them to do much other than help give a better risk/ reward for the portfolio as a whole via lower correlations. As Darst mentions in his book commodities don't follow economical cycles thus the reason the have diversification benefits.
Good luck.
Good luck.
"The stock market [fluctuation], therefore, is noise. A giant distraction from the business of investing.” |
-Jack Bogle
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Thats interesting.bob90245 wrote:Commodity funds seem to make investors unhappy no matter what. They don't go up very much when commodities go up, but they sure go down when commodities go down. It's a "heads I lose, tails I lose".Scott S wrote:I can't remember who said it first, but being diversified means you're always unhappy with something in your portfolio.
- Scott
Is there some sort of graphical representation of this? Or numerical support of this?
Thanks,
LH
Detailed in this article:LH wrote:Thats interesting.bob90245 wrote:Commodity funds seem to make investors unhappy no matter what. They don't go up very much when commodities go up, but they sure go down when commodities go down. It's a "heads I lose, tails I lose".Scott S wrote:I can't remember who said it first, but being diversified means you're always unhappy with something in your portfolio.
- Scott
Is there some sort of graphical representation of this? Or numerical support of this?
Amber Waves of Pain
Lured by the idea of profiting from raw materials, investors put $277 billion into commodity ETFs and related securities by the end of 2009. Then they noticed a problem: When commodities go up, the commodity ETFs often don't.
Ignore the market noise. Keep to your rebalancing schedule whether that is semi-annual, annual or trigger bands.
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Re: my commodity exposure is getting killed
nearly 6%Morgan wrote:What is your commodity exposure as a % of your asset allocation?Manbaerpig wrote:
7% in 2 days
going against the grain here I suppose (literally+figuratively), but my reading on commodities is that over the last 40 years they have offered increased diversification and lowered risk to portfolios and shouldnt be discounted, I also believe they are a great inflation play, which in my opinion is rather timely looking at the sheer speed and volume of the printing presses running worldwide
I don't think Bogle would be against some commodity exposure given developments on the QE front worldwide
Re: my commodity exposure is getting killed
The data you've read are only on paper. Results could be different when running real money portfolios.Manbaerpig wrote:... my reading on commodities is that over the last 40 years they have offered increased diversification and lowered risk to portfolios and shouldnt be discounted ...
No one has clear crystal balls. So what you are saying is only a guess, including guessing what Jack Bogle is thinking. It could also be that any anomalies found related to commodity strategies in the past will diminish or disappear as investors try to exploit these anomalies.Manbaerpig wrote:... I also believe they are a great inflation play, which in my opinion is rather timely looking at the sheer speed and volume of the printing presses running worldwide
I don't think Bogle would be against some commodity exposure given developments on the QE front worldwide
Ignore the market noise. Keep to your rebalancing schedule whether that is semi-annual, annual or trigger bands.
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The government has done studies to find out if the future spot prices that were being predicited in the futures market was accurate enough for them to use to help price out commodities, but all the data shows not surprisingly that no one is good at predicting future spot prices (just like no one can predict the future). If no one can predict the future then how would people consistently make money of "strategies"?
If there is one similarity it would seem that the buy and hold would be the best route as more active trading causes the market to be more efficient.
Just my opinion.
BTW, I don't think Mr. Bogle would approve of any speculatory asset class which commodities falls into. But then again he doesn't agree with anything other then TSM and TBM.
Good luck.
If there is one similarity it would seem that the buy and hold would be the best route as more active trading causes the market to be more efficient.
Just my opinion.
BTW, I don't think Mr. Bogle would approve of any speculatory asset class which commodities falls into. But then again he doesn't agree with anything other then TSM and TBM.
Good luck.
"The stock market [fluctuation], therefore, is noise. A giant distraction from the business of investing.” |
-Jack Bogle
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stay the course
Used properly, or bought for the right reasons, commodity investment is about the furthest thing thing from speculation as you can get, as the right reason to own it is for purpose of portfolio insurance (not speculation)
Best wishes
Larry
Best wishes
Larry
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Re: stay the course
I completely agree. I was referring to other experts suggestions it is a speculation.larryswedroe wrote:Used properly, or bought for the right reasons, commodity investment is about the furthest thing thing from speculation as you can get, as the right reason to own it is for purpose of portfolio insurance (not speculation)
Best wishes
Larry
BTW, I loved the 1 page or so description of commodities from you latest book. Summed up the reasoning for commodities in a portfolio.
"The stock market [fluctuation], therefore, is noise. A giant distraction from the business of investing.” |
-Jack Bogle
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You need to understand contango. Read this article. I'm not sure where I originally came across it but is certainly convinced me to never invest in a commodity fund.LH wrote:Thats interesting.bob90245 wrote:Commodity funds seem to make investors unhappy no matter what. They don't go up very much when commodities go up, but they sure go down when commodities go down. It's a "heads I lose, tails I lose".Scott S wrote:I can't remember who said it first, but being diversified means you're always unhappy with something in your portfolio.
- Scott
Is there some sort of graphical representation of this? Or numerical support of this?
Thanks,
LH
http://www.businessweek.com/magazine/co ... 970461.htm
Here's a copy of the largest oil ETF's prospectus USO. The thing is 128 pages long (all fine print to boot)!!! Doesn't anybody read the prospectus before they buy!? Of course not. That would be hard and who needs to understand how commodity future funds work when the guys on TV squawk INFLATION! INFLATION! like a parot and then talk about how commodities are going to run up in response. Maybe they're right, maybe not but those commodity funds are doomed to lose money over the long haul.
http://www.unitedstatesoilfund.com/pdfs ... pectus.pdf
EDIT: Here's your graph http://www.businessweek.com/magazine/co ... 972561.htm
Another edit: Just noticed this has already been posted... never blog while you have a fever...
"Oh, M. le Comte, it is only a loss of money which I have sustained... nothing worth mentioning, I assure you."
Re: ccf
That's quite a list to juggle in order to make commodities worth the trouble. One addition might be that CCF costs must be kept way down to maintain hopes of any negligible expected benefit. Somehow this all reminds me of Steve Martin's "cruel shoes."larryswedroe wrote:First if going to think of CCF in isolation, never buy them
Second, as I noted if going to buy CCF as insurance against some risks you have to understand that they don't protect against all risks, just some--like fire insurance doesn't protect against floods or earthquakes. Want that protection need to buy that insurance
Third as I have noted, CCF doesn't help against deflationary shocks like 2008 or the Japan type event. They help against other types.
Fourth, I also have recommended that if going to add CCF one should also consider adding duration risk as CCF hedges bond risks even better than it hedges equity risks---never down year for bonds when CCF also down.
Fifth, also recommended that if going to own CCF should take the allocation from the equity side, not the bond side. So if followed all the advice then you lost less from equities than would have otherwise and your bonds would have made more than otherwise so perhaps the end result not so bad. And now you get chance to rebalance, buying low and selling high, relatively speaking.
IMO CCF are more apropos for the dancing shoes of a speculator. I just don't think they would come with a very high rating as an insurance policy, even for "other"--I mean, where's the guarantee, and for what? -- Tet
Re: my commodity exposure is getting killed
So what lesson have you learned about commodities that you would share with the rest of the flock here at Bogleheads? And may I ask you why you had commodities? As I read through Larry's book, I decided that commodities had no place in my investment portfolio.Manbaerpig wrote:
7% in 2 days
Even educators need education. And some can be hard headed to the point of needing time out.
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TET
First IMO it is pretty simple and straight forward.
Second, negligible benefit? As both I and Bill Bernstein have shown (in his case with PME) the low correlation and high volatility produce a diversification return of perhaps 4-5%
Now costs due matter and the contango in energy is creating a problem---though it doesn't really exist elsewhere to much if any degree. Is it permanent or temporary? No clue, as my crystal ball always cloudy
Second, negligible benefit? As both I and Bill Bernstein have shown (in his case with PME) the low correlation and high volatility produce a diversification return of perhaps 4-5%
Now costs due matter and the contango in energy is creating a problem---though it doesn't really exist elsewhere to much if any degree. Is it permanent or temporary? No clue, as my crystal ball always cloudy
Re: TET
PME = Precious Metals Equity? 4-5%; nominal for the asset itself?larryswedroe wrote:First IMO it is pretty simple and straight forward.
Second, negligible benefit? As both I and Bill Bernstein have shown (in his case with PME) the low correlation and high volatility produce a diversification return of perhaps 4-5%
Now costs due matter and the contango in energy is creating a problem---though it doesn't really exist elsewhere to much if any degree. Is it permanent or temporary? No clue, as my crystal ball always cloudy
Larry, I think you just through me a rubber chicken. Thanks, I've always wanted one of those. -- Tet
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TET
need to be able to read more carefully---I said that Bill Bernstein found that the diversification return (what some call the rebalancing bonus) was in that area.
In other words, say PME returned 5%, but if you owned PME and rebalanced then its addition had impact on the return of the portfolio as if it returned 10%. The only right way to look at things. I am sure if you search Bill's Efficient Frontier site you can find that article
The examples in my books in the commodity sections show similar results for CCF. Very large diversification return due to very low to negative correlation and the very high volatility.
In other words, say PME returned 5%, but if you owned PME and rebalanced then its addition had impact on the return of the portfolio as if it returned 10%. The only right way to look at things. I am sure if you search Bill's Efficient Frontier site you can find that article
The examples in my books in the commodity sections show similar results for CCF. Very large diversification return due to very low to negative correlation and the very high volatility.
Re: TET
Well I read that. The article's to loose; the regression seems thrown together. It's more or less a sympathy piece toward precious metals funds, rather than a level look at a useful asset. (http://www.efficientfrontier.com/ef/197/preci197.htm)larryswedroe wrote:need to be able to read more carefully---I said that Bill Bernstein found that the diversification return (what some call the rebalancing bonus) was in that area.
In other words, say PME returned 5%, but if you owned PME and rebalanced then its addition had impact on the return of the portfolio as if it returned 10%. The only right way to look at things. I am sure if you search Bill's Efficient Frontier site you can find that article
The examples in my books in the commodity sections show similar results for CCF. Very large diversification return due to very low to negative correlation and the very high volatility.
I should check out your book again and review your numbers. The studies I've seen on CCF always show too narrow a band of MPT derived benefit, and too much uncertainty, in my mind, around even those results recurring with any dependability. If costs could be kept below say .25, it seems doable, but still iffy. -- Tet
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from the book TET
Consider the following results, covering the period from 1991 through 2007.
Portfolio Allocation Annualized Return Standard Deviation
100% DJ-AIG 7.91% 16.63%
100% GSCI 6.80% 25.62%
100% S&P 500 11.41% 17.00%
95% S&P 500/5% GSCI 11.42% 15.94%
95% S&P 500/5% DJ-AIG 11.39% 15.98%
There are two important observations. First, while both the DJ-AIGCI and the S&P GSCI underperformed the S&P 500 Index by large amounts, the addition of a 5 percent allocation to either resulted in a more efficient portfolio. Second, despite the DJ-AIGCI’s seeming advantages, the portfolio including the DJ-AIGCI produced a virtually identical return and volatility as did the portfolio that included the S&P GSCI. The reason is that when you have an asset with negative correlation, and you add a small allocation of it to the portfolio, high volatility is actually a good thing.
As you can see the addition of the GSCI impacted the portfolio as if it earned roughly the same 11.4% as did the S&P yet it only returned 6.8, so the diversification return for that period was 4.6%. Not quite as high for the less volatile DJ AIG.
Yes I would also like a cheaper fund, though DFA getting there, probably will be under 50bp before too long. The bigger issue is the contango in energy. So question relative to both costs and contango is how much are you willing to pay for "insurance"?
Remember this, say you add 5% CCF and pay DFAs 55bp, instead of say 40bp for a diversified equity portfolio. So you have 15bp more expense for the large diversification return. Can do the math for other funds and other AAs if you like.
Best
Larry
Portfolio Allocation Annualized Return Standard Deviation
100% DJ-AIG 7.91% 16.63%
100% GSCI 6.80% 25.62%
100% S&P 500 11.41% 17.00%
95% S&P 500/5% GSCI 11.42% 15.94%
95% S&P 500/5% DJ-AIG 11.39% 15.98%
There are two important observations. First, while both the DJ-AIGCI and the S&P GSCI underperformed the S&P 500 Index by large amounts, the addition of a 5 percent allocation to either resulted in a more efficient portfolio. Second, despite the DJ-AIGCI’s seeming advantages, the portfolio including the DJ-AIGCI produced a virtually identical return and volatility as did the portfolio that included the S&P GSCI. The reason is that when you have an asset with negative correlation, and you add a small allocation of it to the portfolio, high volatility is actually a good thing.
As you can see the addition of the GSCI impacted the portfolio as if it earned roughly the same 11.4% as did the S&P yet it only returned 6.8, so the diversification return for that period was 4.6%. Not quite as high for the less volatile DJ AIG.
Yes I would also like a cheaper fund, though DFA getting there, probably will be under 50bp before too long. The bigger issue is the contango in energy. So question relative to both costs and contango is how much are you willing to pay for "insurance"?
Remember this, say you add 5% CCF and pay DFAs 55bp, instead of say 40bp for a diversified equity portfolio. So you have 15bp more expense for the large diversification return. Can do the math for other funds and other AAs if you like.
Best
Larry
Re: from the book TET
Larry - the comparison is inappropriate. Nobody owns 100% S&P500. We all have fixed income and we all have international. A significant portion of the reduction in volatility (from owing the S&P500) can be achieved by adding regular bonds, TIPs and international (all at an ER of 0.10%).larryswedroe wrote:There are two important observations. First, while both the DJ-AIGCI and the S&P GSCI underperformed the S&P 500 Index by large amounts, the addition of a 5 percent allocation to either resulted in a more efficient portfolio. Second, despite the DJ-AIGCI’s seeming advantages, the portfolio including the DJ-AIGCI produced a virtually identical return and volatility as did the portfolio that included the S&P GSCI. The reason is that when you have an asset with negative correlation, and you add a small allocation of it to the portfolio, high volatility is actually a good thing.
Only after you have a well diversified portfolio should you look at sprinkling in CCFs. It is that incremental return and volatility component that should be compared with the additional ER that you pay.
Much of the volatility reduction that you demonstrate has already been achieved by most investors, without use of CCFs.
Best wishes.
Andy
Here Larry supplies data showing the effects of CCFs on portfolios that contain both stocks and bonds.
http://moneywatch.bnet.com/investing/bl ... ance/1612/
http://moneywatch.bnet.com/investing/bl ... ntent;col1
I think his "Alternative Investments" book also showed the effects with domestic and international equities.
http://moneywatch.bnet.com/investing/bl ... ance/1612/
http://moneywatch.bnet.com/investing/bl ... ntent;col1
I think his "Alternative Investments" book also showed the effects with domestic and international equities.
Sorry, those are also unacceptable. Why no international stocks? Why no TIPs? We all have them. And why does Larry use the S&P500 as the only stock holding? How about Total Stock Market?Roy wrote:Here Larry supplies data showing the effects of CCFs on portfolios that contain both stocks and bonds.
http://moneywatch.bnet.com/investing/bl ... ance/1612/
http://moneywatch.bnet.com/investing/bl ... ntent;col1
I think his "Alternative Investments" book also showed the effects with domestic and international equities.
Surely, somebody has run the data to show what an incremental addition of CCFs do to a well-diversified portfolio.
Andy
Re: my commodity exposure is getting killed
I looks to me like most commodity prices are way up.Manbaerpig wrote:
7% in 2 days
Wheat: http://www.mongabay.com/images/commodit ... wheat.html
Rice: http://www.mongabay.com/images/commodit ... /rice.html
Corn: http://www.mongabay.com/images/commodit ... maize.html
Beef: http://www.mongabay.com/images/commodit ... /beef.html
Soybean Oil: http://www.mongabay.com/images/commodit ... n_oil.html
Coffee: http://www.mongabay.com/images/commodit ... offee.html
Sugar: http://www.mongabay.com/images/commodit ... sugar.html
Cocoa: http://www.mongabay.com/images/commodit ... cocoa.html
Copper: http://www.mongabay.com/images/commodit ... opper.html
Aluminium: http://www.mongabay.com/images/commodit ... minum.html
Crude Oil: http://www.mongabay.com/images/commodit ... e_oil.html
GLD: http://www.google.com//finance?chdnp=1& ... GLD&ntsp=0
SLV: http://www.google.com//finance?chdnp=1& ... SLV&ntsp=0
Everything commodity is up, except rice. How can you be getting killed if you owned those commodities.
If you bought any of these commodities just a few months ago or a year ago, you would be way ahead.
Exactly what commodities did you buy that is losing you money?
You asked to see data that included stocks and bonds, and Larry has provided it. If you want to see how a particular CCF allocation affects your portfolio, run the comparative data yourself for your own portfolio.Wagnerjb wrote:Sorry, those are also unacceptable. Why no international stocks? Why no TIPs? We all have them. And why does Larry use the S&P500 as the only stock holding? How about Total Stock Market?Roy wrote:Here Larry supplies data showing the effects of CCFs on portfolios that contain both stocks and bonds.
http://moneywatch.bnet.com/investing/bl ... ance/1612/
http://moneywatch.bnet.com/investing/bl ... ntent;col1
I think his "Alternative Investments" book also showed the effects with domestic and international equities.
Surely, somebody has run the data to show what an incremental addition of CCFs do to a well-diversified portfolio.
There isn't much difference between TSM and the S&P so I would not expect to see much difference in the portfolio returns using TSM. The data that includes international is in the book, and, like domestic equity, international is held by investors in different types and weightings. That no TIPS are mentioned in these analyses is irrelevant for several reasons, especially since many do not include TIPS in their diversified portfolios, or they may be held in different weightings, and TIPS are available in varying maturities as are nominal bonds.
Taken altogether, the above may include different allocations to equities, bonds, and different sub-allocations among those classes, and all these may be combined to provide an almost infinite number of portfolios. The only thing that matters is how an addition impacts your personal portfolio as a whole. This is why each investor must decide on the suitability of these as it applies to their own particular portfolios.
The examples Larry provided were interesting because he showed how a highly-volatile asset class (in isolation) can improve a portfolio's performance even when the returns of that asset class (in isolation) were not very good. This is the essence of viewing a portfolio as whole. Whether one wants to include CCFs or not is another question, but the analysis must include how they impact an investor's particular portfolio.
Re: my commodity exposure is getting killed
He may have lost 7% in 2 days, but he has also probably gained most of it back by now.
And to respond to wagner, use Simba's spreadsheet to add a 5% commodities holding to any asset allocation you desire. I'll do it for you for one instance.
20% TSM, 10% SCV, 5% REIT (total = 35% domestic equity), 20% Total Int'l, 10% Emerging Mkts, 5% Intl Small (total = 35% int'l equity), 15% TIPS, 15% TBM.
From 1972-2010: CAGR = 11.77%, Std Dev = 14.24%.
If we reduce the 20% Total Int'l to 15% and add 5% to CCFs, you get:
CAGR = 11.81%, Std Dev = 13.36.
If you don't believe me, download Simba's spreadsheet and try it with any asset allocation that you like.
Point being, as larry has tried to make, adding a small exposure to CCFs to almost ANY well-diversified portfolio, will---in the long run---reduce volatility while maintaining (or even slightly increasing) expected returns.
I fully agree with you that, taken in isolation, CCFs are a poor investment. But whether you like it or not, over the past 40 years a small CCF exposure to pretty much any well-diversified portfolio has been beneficial.
Will it remain beneficial for the next 40 years? Who knows. Will stocks continue to provide reliable 7% average annual returns for the next 40 years? Who knows.
And to respond to wagner, use Simba's spreadsheet to add a 5% commodities holding to any asset allocation you desire. I'll do it for you for one instance.
20% TSM, 10% SCV, 5% REIT (total = 35% domestic equity), 20% Total Int'l, 10% Emerging Mkts, 5% Intl Small (total = 35% int'l equity), 15% TIPS, 15% TBM.
From 1972-2010: CAGR = 11.77%, Std Dev = 14.24%.
If we reduce the 20% Total Int'l to 15% and add 5% to CCFs, you get:
CAGR = 11.81%, Std Dev = 13.36.
If you don't believe me, download Simba's spreadsheet and try it with any asset allocation that you like.
Point being, as larry has tried to make, adding a small exposure to CCFs to almost ANY well-diversified portfolio, will---in the long run---reduce volatility while maintaining (or even slightly increasing) expected returns.
I fully agree with you that, taken in isolation, CCFs are a poor investment. But whether you like it or not, over the past 40 years a small CCF exposure to pretty much any well-diversified portfolio has been beneficial.
Will it remain beneficial for the next 40 years? Who knows. Will stocks continue to provide reliable 7% average annual returns for the next 40 years? Who knows.
Re: my commodity exposure is getting killed
Correction: Adding a small exposure to CCFs to almost ANY well-diversified portfolio would have--in the past--reduced volatility while maintaining (or even slightly increasing) expected returns.chrikenn wrote:Point being, as larry has tried to make, adding a small exposure to CCFs to almost ANY well-diversified portfolio, will---in the long run---reduce volatility while maintaining (or even slightly increasing) expected returns.
The trouble is that many commodity futures have been in persistent contango for the past 5-6 years, when more investment options became available and everyone caught on to the incredible diversification impact on back-tested portfolios. Occasional contango is not unusual and doesn't imply a problem, but persistent contango across almost all commodities implies persistent overvaluation. In other words, CCF investors today are paying a large premium for the diversification benefit. Alas, that large premium serves to eliminate most of the diversification benefit because expected returns are substantially lower than historical returns. Thus, I think investors using CCFs should have no more than 5% allocated to this position as there is a decent chance that they would have been better off with 0% going forward (which is the only time frame that matters).
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Andy
Have to laugh.
First you say that no one owns 100% equities. That of course is simply false statement. There are plenty of people who do and many who have more than 100% equity when do the math right (taking their mortgage as negative fixed income). Not small percent but large number. Also many people don't own any international
Second, it is just example, meant as illustration. You can run the math at all kinds of levels. Do you want me to run it at every AA every time someone asks about well that is okay at 60/40 but what about 40/60?
Third, the outcomes show large diversification returns at the various AAs I have looked at. In fact the standard one we show clients/prospects is 60/40 with 40% international.
Fourth, yes once you add many asset classes the benefits of adding another become less, but they don't go away.
The example we show using a globally diversified portfolio covering 70-09 taking 4% from equities and using GSCI shows portfolio return dropped from 11.09 to 11.04 but volatility dropped from 13.09 to 12.2 and Sharpe Ratio increased from .465 to .486.
Hopefully that meets YOUR criteria of a good example
Best wishes
Larry
First you say that no one owns 100% equities. That of course is simply false statement. There are plenty of people who do and many who have more than 100% equity when do the math right (taking their mortgage as negative fixed income). Not small percent but large number. Also many people don't own any international
Second, it is just example, meant as illustration. You can run the math at all kinds of levels. Do you want me to run it at every AA every time someone asks about well that is okay at 60/40 but what about 40/60?
Third, the outcomes show large diversification returns at the various AAs I have looked at. In fact the standard one we show clients/prospects is 60/40 with 40% international.
Fourth, yes once you add many asset classes the benefits of adding another become less, but they don't go away.
The example we show using a globally diversified portfolio covering 70-09 taking 4% from equities and using GSCI shows portfolio return dropped from 11.09 to 11.04 but volatility dropped from 13.09 to 12.2 and Sharpe Ratio increased from .465 to .486.
Hopefully that meets YOUR criteria of a good example
Best wishes
Larry
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Matt
First I completely agree the world has changed. How it will look in future we don't know either. Just as valuations matter with stocks, contango or backwardation matters with CCF. We do know it is likely we will see low to negative correlations and high volatility, leading to high diversification returns if rebalance. What we don't know is if the benefit will be enough to cover the costs. Or whether you will get a big benefit as have in the past.
Second, I have always recommended only a small allocation as much is not needed due to the low/negative correlation and high volatility, and also the issue above. So typically saying 5-10% of equity. And the less equity and the shorter the duration of your nominal bonds, the less CCF one needs.
I don't know the answer but I would be surprised if any of our clients has more than a 5% CCF allocation and the more typical is 2-3%. And part of that is due to we don't tend to own LT nominal bonds and we emphasize TIPS also. But we do believe investors should consider CCF inclusion, and the more risk averse one is to geopolitical events and unexpected inflation the more they should consider CCF.
Best
Larry
Second, I have always recommended only a small allocation as much is not needed due to the low/negative correlation and high volatility, and also the issue above. So typically saying 5-10% of equity. And the less equity and the shorter the duration of your nominal bonds, the less CCF one needs.
I don't know the answer but I would be surprised if any of our clients has more than a 5% CCF allocation and the more typical is 2-3%. And part of that is due to we don't tend to own LT nominal bonds and we emphasize TIPS also. But we do believe investors should consider CCF inclusion, and the more risk averse one is to geopolitical events and unexpected inflation the more they should consider CCF.
Best
Larry
Re: my commodity exposure is getting killed
You are right -- I can't argue with that. But I did kind of cover that in my last paragraph where I acknowledge we don't know if the benefits will continue over the next 40 year period I---for one---think that they will, if perhaps not to the same extent as in the past.matt wrote: Correction: Adding a small exposure to CCFs to almost ANY well-diversified portfolio would have--in the past--reduced volatility while maintaining (or even slightly increasing) expected returns.
Scott S
"I can't remember who said it first, but being diversified means you're always unhappy with something in your portfolio.
- Scott"
I think that you have it backward. Being diversified means that you are always happy about something in your portfolio.
I have had a small allocation of PCRIX for the last year. It has had a total returned of about 30%. I have had to take funds out to maintain my target allocation. Remember that in addition to NAV change, PCRIX has returned an average annualized dividend of 10.3% over the last 5 quarters. On the 17th they issued a $0.2478 divided per share (about 9.9% annualized), so share price dropped accordingly.
RE comments an the past not being a good predictor for the future. Isn't that true for ALL investments?
"I can't remember who said it first, but being diversified means you're always unhappy with something in your portfolio.
- Scott"
I think that you have it backward. Being diversified means that you are always happy about something in your portfolio.
I have had a small allocation of PCRIX for the last year. It has had a total returned of about 30%. I have had to take funds out to maintain my target allocation. Remember that in addition to NAV change, PCRIX has returned an average annualized dividend of 10.3% over the last 5 quarters. On the 17th they issued a $0.2478 divided per share (about 9.9% annualized), so share price dropped accordingly.
RE comments an the past not being a good predictor for the future. Isn't that true for ALL investments?
Last edited by rkayakr on Fri Mar 18, 2011 9:54 am, edited 1 time in total.
With many cheerful facts about the square of the hypotenuse |
- Modern Portfolio General, Gilbert & Sullivan
Re: my commodity exposure is getting killed
Some would raise similar forward-looking questions regarding the equity risk premium (from today's valuations compared to historical) and bonds (based on today's yields compared to the last few decades). While the deep future may differ from the deep past, it does not mean historical data can not help inform present decisions.chrikenn wrote:You are right -- I can't argue with that. But I did kind of cover that in my last paragraph where I acknowledge we don't know if the benefits will continue over the next 40 year period I---for one---think that they will, if perhaps not to the same extent as in the past.matt wrote: Correction: Adding a small exposure to CCFs to almost ANY well-diversified portfolio would have--in the past--reduced volatility while maintaining (or even slightly increasing) expected returns.
It's more than that. We can largely predict long-term equity and bond returns based on current fundamental factors. Current interest rates low? Future bond returns are likely to be low. Current stock valuations high? Future stock returns are likely to be low.rkayakr wrote:RE comments an the past not being a good predictor for the future. Isn't that true for ALL investments?
The same analysis cannot be performed with CCFs. If there were a metric that can tell us whether CCFs will be in backwardation or contago, that would go a long way from removing it from being merely a speculative asset and placing it into the prudent investment category.
Ignore the market noise. Keep to your rebalancing schedule whether that is semi-annual, annual or trigger bands.
bob90245
Hmmm - your comments seem to be in variance with your tag line. Do you change your asset allocations based on current interest rates or current equity valuations? How often to you change your allocation plan versus rebalancing to that plan?
These are genuine questions about issues that I struggle with.
Hmmm - your comments seem to be in variance with your tag line. Do you change your asset allocations based on current interest rates or current equity valuations? How often to you change your allocation plan versus rebalancing to that plan?
These are genuine questions about issues that I struggle with.
With many cheerful facts about the square of the hypotenuse |
- Modern Portfolio General, Gilbert & Sullivan
It's only a struggle if you believe you have the ability to outperform by timing the markets. Give up the hope of outperformance by simply accepting what the markets offer you.rkayakr wrote:bob90245
Hmmm - your comments seem to be in variance with your tag line. Do you change your asset allocations based on current interest rates or current equity valuations? How often to you change your allocation plan versus rebalancing to that plan?
These are genuine questions about issues that I struggle with.
The flip side is that if the stock market moves from low valuations to high valuations, your now-larger portfolio brings you much closer to reaching your goals. Thus, you can revisit your equity-fixed mix and decide that the need to take equity risk is lower. Therefore, it may be prudent to lower your stock allocation and ease into reaching your goal. In other words, as Larry has often said, if you have already won the game, you can choose not to play.
Ignore the market noise. Keep to your rebalancing schedule whether that is semi-annual, annual or trigger bands.
bob90245
Well I certainly have not won the game.
"It's only a struggle if you believe you have the ability to outperform by timing the markets. Give up the hope of outperformance by simply accepting what the markets offer you."
EXACTLY! I try to stick to my allocation plan whether I think in the future interest rates might rise, equity evaluations might fall or CCFs have contango. I don't see how acting on some analysis predictions is "prudent" and others "speculative" as you indicated in your post.
Well I certainly have not won the game.
"It's only a struggle if you believe you have the ability to outperform by timing the markets. Give up the hope of outperformance by simply accepting what the markets offer you."
EXACTLY! I try to stick to my allocation plan whether I think in the future interest rates might rise, equity evaluations might fall or CCFs have contango. I don't see how acting on some analysis predictions is "prudent" and others "speculative" as you indicated in your post.
With many cheerful facts about the square of the hypotenuse |
- Modern Portfolio General, Gilbert & Sullivan
Both statements can (and should!) be true at the same time.rkayakr wrote:Scott S
"I can't remember who said it first, but being diversified means you're always unhappy with something in your portfolio.
- Scott"
I think that you have it backward. Being diversified means that you are always happy about something in your portfolio.
I have had a small allocation of PCRIX for the last year. It has had a total returned of about 30%. I have had to take funds out to maintain my target allocation. Remember that in addition to NAV change, PCRIX has returned an average annualized dividend of 10.3% over the last 5 quarters. On the 17th they issued a $0.2478 divided per share (about 9.9% annualized), so share price dropped accordingly.
The point of Bernstein's quote is to reassure the person who sees a "loser" in their portfolio that they should stay diversified, and not attempt to invest just in things that are "winning" now.
- Scott
"Old value investors never die, they just get their fix from rebalancing." -- vineviz
If my evaluation of stock valuations indicate a mininal long-term equity risk premium was likely, that might cause me to revisit my asset allocation plan. This would be an exception because, for the most part, the equity risk premium has been sufficient to be rewarding.rkayakr wrote:bob90245
Well I certainly have not won the game.
"It's only a struggle if you believe you have the ability to outperform by timing the markets. Give up the hope of outperformance by simply accepting what the markets offer you."
EXACTLY! I try to stick to my allocation plan whether I think in the future interest rates might rise, equity evaluations might fall or CCFs have contango. I don't see how acting on some analysis predictions is "prudent" and others "speculative" as you indicated in your post.
In the case of CCFs, there is no fundamental metric that tells you the equivalent of a long-term "equity risk premium". If no fundamental metric exists that holding CCFs will be more rewarding than holding bonds, I consider this to be a speculation.
Now Larry might counter that a proper analysis does not look at assets in isolation, but rather how they interact with the other assets in your portfolio. Unfortunately, the long-term data used for this analysis is only on paper when backwardation was the rule, not using real money with real costs. However, the recent data with real money shows that investors have encountered contango.
Ignore the market noise. Keep to your rebalancing schedule whether that is semi-annual, annual or trigger bands.
The two Moneywatch articles that you linked show a 60/40 portfolio of US equities and regular bonds. Looking at the longer term data in both articles (generally around 10 years) shows that adding CCFs to these moderately diversified portfolios does little to reduce volatility. The benefit to the Sharpe Ratio is coming from the higher return of the combined portfolio.Roy wrote:You asked to see data that included stocks and bonds, and Larry has provided it. If you want to see how a particular CCF allocation affects your portfolio, run the comparative data yourself for your own portfolio.
I don't need this data to make a decision since I don't need any extra commodity exposure as an energy industry employee. But others considering CCFs should assume only a negligible benefit on the volatility side from adding CCFs to a portfolio with US and international equities plus regular and inflation bonds.
Matt has raised excellent points about the future of CCF returns since the commodity futures market have fundamentally changed with regular investors now playing that market. We are already seeing the effects of the investor influx with the more persistent contango in oil futures, so informed investors needs to take this potential into account.
So you have to question the volatility reduction. And you have to question the recent high returns. IMO, the case for CCFs rests on a rebalancing benefit. And I wonder if paying 0.75% is too much for that benefit.
Just my opinion....
Andy
This gets to another point about CCFs. It's next to impossible to generate a long-run expected return because that return is highly dependent on the unpredictable nature of the futures curve. If you assume current contango levels will maintain in the future, CCF "valuations" are high and thus expected returns are low. At current valuation levels, equity returns are also low. However, there is a big potential difference in how to end up with high expected returns. With stocks, there is only one near-term option: stock prices must decline significantly. With CCFs, there are two near-term options: commodity prices could decline significantly OR futures contango could be replaced with backwardation. In theory, the futures shift could occur over a very short period of time with minimal losses to CCF holders and yet result in a meaningful rise in expected returns. That is because the futures need to be continually rolled over every 1-2 months, which means that you are only locking in the premium or discount to spot for a short period of time, not indefinitely like you are locking into a stock's valuation. In other words, the futures component of CCFs has a very low duration, while stocks have a very high duration.bob90245 wrote:It's more than that. We can largely predict long-term equity and bond returns based on current fundamental factors. Current interest rates low? Future bond returns are likely to be low. Current stock valuations high? Future stock returns are likely to be low.
The same analysis cannot be performed with CCFs. If there were a metric that can tell us whether CCFs will be in backwardation or contago, that would go a long way from removing it from being merely a speculative asset and placing it into the prudent investment category.
So is there anything actionable about this? Not much! But it points out that buying CCFs today is not guaranteed to produce low returns just because current conditions are unfavorable. It's possible future conditions will be better...but they could also be worse, I suppose. It may take a long time, but my guess is that if CCFs produce poor returns over a long period of time, which is likely, some investors will exit this asset class and backwardation may one day return. At that point, a commitment to CCFs would be more attractive.
bob90245 wrote:
"However, the recent data with real money shows that investors have encountered contango."
PCRIX
1 month + 2.4%
3 month + 8.6%
1 yr +29.8%
If "contango" means a 30% return over the recent year with my real money, as PCRIX has delivered, I'll take it. I just don't see poor recent performance.
Wagnerjb
I think that band rebalancing, rather than fixed time rebalancing, is useful for volatile instruments like CCFs.
"However, the recent data with real money shows that investors have encountered contango."
PCRIX
1 month + 2.4%
3 month + 8.6%
1 yr +29.8%
If "contango" means a 30% return over the recent year with my real money, as PCRIX has delivered, I'll take it. I just don't see poor recent performance.
Wagnerjb
I think that band rebalancing, rather than fixed time rebalancing, is useful for volatile instruments like CCFs.
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- Modern Portfolio General, Gilbert & Sullivan
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rkayakr
Band rebalancing, not time, is the only kind IMO that makes sense. And the more volatile the asset the wider the band should be (in presence of costs and taxes)