Value averaging rate of return

Discuss all general (i.e. non-personal) investing questions and issues, investing news, and theory.
Topic Author
HonoluluGator
Posts: 96
Joined: Fri Apr 20, 2012 1:04 pm

Value averaging rate of return

Post by HonoluluGator » Fri Apr 27, 2012 8:03 am

New to all this... forgive me if this is a dumb question.

I read (or at least mostly read) the value averaging book, and I see where the statistics show that DCA increases your your investing rate of return, and value averaging does so even more. If you do modified value averaging without selling stock, the rate of return falls in between DCA and VA. But what about total return? Isn't it true that if you value average without selling, your rate of return may be lower, but you'll end up with more money in the account, which is after all, the desired end point?

Or am I just missing something and don't really understand the rate of return calculation?

Occupier
Posts: 284
Joined: Wed Feb 01, 2012 10:21 pm

Re: Value averaging rate of return

Post by Occupier » Fri Apr 27, 2012 9:54 pm

I think your reading too much into what you have heard. DCA (I.e. investing a fixed sum periodically) theoretically is a good strategy because you buy less when markets are high more when markets are low. But it's not a substitute for having a plan you have confidence in, and sticking to it. Dave

umfundi
Posts: 3361
Joined: Tue Jun 07, 2011 5:26 pm

Re: Value averaging rate of return

Post by umfundi » Fri Apr 27, 2012 10:27 pm

HonoluluGator wrote:New to all this... forgive me if this is a dumb question.

I read (or at least mostly read) the value averaging book, and I see where the statistics show that DCA increases your your investing rate of return, and value averaging does so even more. If you do modified value averaging without selling stock, the rate of return falls in between DCA and VA. But what about total return? Isn't it true that if you value average without selling, your rate of return may be lower, but you'll end up with more money in the account, which is after all, the desired end point?

Or am I just missing something and don't really understand the rate of return calculation?
Which book?

DCA is a bad idea. Value averaging is a bad idea. If you have money to invest now, and have crafted an investment plan, implement that plan and invest the money now, all at once.

If you don't have a plan, stop and make one.

If you really do think that DCA is lower risk, or will result in higher returns, you should also just stop. Then, spend some time gaining more education about investing.

Keith
Last edited by umfundi on Fri Apr 27, 2012 11:09 pm, edited 1 time in total.
Déjà Vu is not a prediction

User avatar
tetractys
Posts: 4596
Joined: Sat Mar 17, 2007 3:30 pm
Location: Along the Salish Sea

Re: Value averaging rate of return

Post by tetractys » Fri Apr 27, 2012 10:51 pm

In value averaging, selecting the expected rate of return is the tricky part.

Also notice that the book Value Averaging (VA) really focuses on using 1 mutual fund. It seems to have been written before modern portfolio theory (MPT), back when a single mutual fund was considered diversified. And IMO it seems to try and accomplish something similar to modern portfolio theory, albeit from an entirely different approach. Frankly, also IMO, MPT is a superior approach. Some on this forum try to blend both methods, MPT and VA; but IMO, that is superfluous. -- Tet
Last edited by tetractys on Fri Apr 27, 2012 11:03 pm, edited 1 time in total.

555
Posts: 4955
Joined: Thu Dec 24, 2009 7:21 am

Re: Value averaging rate of return

Post by 555 » Fri Apr 27, 2012 11:02 pm

The above two posts [immediately following the OP] are off topic. Obviously the OP is talking about having a plan, and there is no mention of any lump sum in this conversation.

That said, I don't think one can generalize as to whether value averaging is better than any other particular form of DCA.

Topic Author
HonoluluGator
Posts: 96
Joined: Fri Apr 20, 2012 1:04 pm

Re: Value averaging rate of return

Post by HonoluluGator » Sat Apr 28, 2012 7:18 am

umfundi wrote: Which book?

DCA is a bad idea. Value averaging is a bad idea. If you have money to invest now, and have crafted an investment plan, implement that plan and invest the money now, all at once.

If you don't have a plan, stop and make one.

If you really do think that DCA is lower risk, or will result in higher returns, you should also just stop. Then, spend some time gaining more education about investing.

Keith
The book Value Avergaing, by Edleson.

I am setting up a plan, part of which is investing $3k per month according to Boglehead accepted theory. In effect, I am already doing DCA. However, he shows in the book that by value averaging, you increase your rate of return, theoretically. You are essentially forcing yourself to buy low and sell high.

So my question was if you buy low, and don't sell at all, wouldn't you end up with more money overall?

SP-diceman
Posts: 3968
Joined: Sun Oct 05, 2008 9:17 am

Re: Value averaging rate of return

Post by SP-diceman » Sat Apr 28, 2012 8:51 am

Well remember, you create your value path,
you decide your rate of return.

Its either the market returns or your money.
In a bull market it will be easy to stay on the path,
in a bear you will need the cash to make up the market losses.

So it all depends on:
1)How optimistic you are:
Did you set up a 6% value path or 12%?

2)Market Conditions;
Do you need to come up with the cash or did the market give it to you?

3) Your Limits:
You’ve run out of money to buy, or you have a limit like
you’ve maxed out the legal IRA contribution you can make.


Thanks
SP-diceman

SP-diceman
Posts: 3968
Joined: Sun Oct 05, 2008 9:17 am

Re: Value averaging rate of return

Post by SP-diceman » Sat Apr 28, 2012 9:08 am

HonoluluGator wrote:
So my question was if you buy low, and don't sell at all, wouldn't you end up with more money overall?
Probably, but you wouldn’t technically be following value averaging.
You would be losing the cash to buy low.
(you never sold)
You would also “lose” your value path because you are artificially over it.
(when is your next buy signal if you never sold)

Remember, if you never add more because you are over your value path
and you never sell, you will eventually hit the path again,
at that point you didn’t get anywhere.

The biggest problem is coming up with the money in poor markets.


Thanks
SP-diceman

AndroAsc
Posts: 1219
Joined: Sat Nov 21, 2009 7:39 am

Re: Value averaging rate of return

Post by AndroAsc » Sat Apr 28, 2012 10:04 am

I do VA, and the way I set it up is as follows.
1) Figure out the parameters for expected returns. I tend to use conservative values (will explain later) of 6-7% for 100% stock as opposed to historical values of 10%+ for 100% stock
2) Figure out the lump sum you need at retirement
3) Use the VA path calculator to determine how much you need to invest/save every time period
4) "DCA" into your retirement portfolio every time period as CASH, and "VA" that cash component into stock/bonds as defined by the VA path
5) If your retirement portfolio value goes above the VA path either sell (pure VA strategy) or do nothing as in leave the cash as cash (pseudo-VA strategy).

To answer your other question, if you do not sell your returns will be intermediate between pure DCA and pure VA, assuming that your expected return rate is accurate. I also practice a pseudo-VA strategy with no selling (due to tax concerns). However, it is NOT TRUE that you will not accumulate cash. In a bull market, you will just find yourself DCAing into the cash component, but not buying any stocks. It is true that you will have less cash during a market crash as opposed to a pure VA strategy (with selling).

The major risk in VA strategy is that you will run out of cash during a market crash. This is why I try to use a conservative expected return, to minimize the likelihood of such a scenario. The downside to this approach is that one may underestimate the expected returns over one's working life, and so you will be sitting on a large proportion of cash for your life (i.e. if you had invested it as per normal DCA, you would have gotten more money). However, I justify risk to be acceptable since I have figured out how much I need at retirement (pt 2), i.e. I rather be in a situation at retirement where I could have more money if I had invested the cash over the situation at retirement where I cannot meet my target because too much money was DCAed during the peak of the market.

555
Posts: 4955
Joined: Thu Dec 24, 2009 7:21 am

Re: Value averaging rate of return

Post by 555 » Sat Apr 28, 2012 11:29 am

AndroAsc wrote:`...assuming that your expected return rate is accurate...'
This is a major flaw. You have to guess correctly about future returns, otherwise you can do worse than other methods. OP needs to understand this.

umfundi
Posts: 3361
Joined: Tue Jun 07, 2011 5:26 pm

Re: Value averaging rate of return

Post by umfundi » Sat Apr 28, 2012 12:36 pm

HonoluluGator wrote: The book Value Avergaing, by Edleson.

I am setting up a plan, part of which is investing $3k per month according to Boglehead accepted theory. In effect, I am already doing DCA. However, he shows in the book that by value averaging, you increase your rate of return, theoretically. You are essentially forcing yourself to buy low and sell high.

So my question was if you buy low, and don't sell at all, wouldn't you end up with more money overall?
I don't know. I have not read the book, so I am unsure of the conditions for selling. Why don't you download some historical data for total return (for example, at Yahoo finance) and see how your scenario plays out? You should quickly be able to understand what is going on.

If the $3k per month only becomes available monthly that, in the strict sense, is not DCA: It is systematic or periodic investing.

If you invest a constant periodic amount (say, monthly for a year) , your per share price will end up being the harmonic mean of the monthly prices. The harmonic mean is less that the arithmetic mean. Yes, you will have paid less per share than the average price, but that's just the way the math works out.

The usual DCA question discussed by academics, is this: Suppose you have a lump sum. Should you invest it all at once, or should you break it into chunks, and invest each chunk periodically? Let's say you break it into 12 chunks, and invest one chunk monthly for a year.

There are only two numbers that matter: Today's price, and the harmonic mean price over the coming year. The price trend, and the price in one year's time do not matter!

Think about it this way: If the mean price over the coming year is lower than today's price, DCA will have a better result than Lump Sum. Is that really the bet you thought you were making?

Keith
Déjà Vu is not a prediction

AndroAsc
Posts: 1219
Joined: Sat Nov 21, 2009 7:39 am

Re: Value averaging rate of return

Post by AndroAsc » Sat Apr 28, 2012 1:28 pm

555 wrote:
AndroAsc wrote:`...assuming that your expected return rate is accurate...'
This is a major flaw. You have to guess correctly about future returns, otherwise you can do worse than other methods. OP needs to understand this.
This is why I have chosen to do this:
AndroAsc wrote:The major risk in VA strategy is that you will run out of cash during a market crash. This is why I try to use a conservative expected return, to minimize the likelihood of such a scenario. The downside to this approach is that one may underestimate the expected returns over one's working life, and so you will be sitting on a large proportion of cash for your life (i.e. if you had invested it as per normal DCA, you would have gotten more money). However, I justify risk to be acceptable since I have figured out how much I need at retirement (pt 2), i.e. I rather be in a situation at retirement where I could have more money if I had invested the cash over the situation at retirement where I cannot meet my target because too much money was DCAed during the peak of the market.

User avatar
tfb
Posts: 8156
Joined: Mon Feb 19, 2007 5:46 pm
Contact:

Re: Value averaging rate of return

Post by tfb » Sat Apr 28, 2012 1:32 pm

AndroAsc wrote:I rather be in a situation at retirement where I could have more money if I had invested the cash over the situation at retirement where I cannot meet my target because too much money was DCAed during the peak of the market.
I agree with this tradeoff.
Harry Sit, taking a break from the forums.

555
Posts: 4955
Joined: Thu Dec 24, 2009 7:21 am

Re: Value averaging rate of return

Post by 555 » Sat Apr 28, 2012 3:43 pm

@umfundi Your posts are irrelevant to this thread.

User avatar
rustymutt
Posts: 3760
Joined: Sat Mar 07, 2009 12:03 pm
Location: Oklahoma

Re: Value averaging rate of return

Post by rustymutt » Sat Apr 28, 2012 3:48 pm

umfundi wrote:
HonoluluGator wrote:New to all this... forgive me if this is a dumb question.

I read (or at least mostly read) the value averaging book, and I see where the statistics show that DCA increases your your investing rate of return, and value averaging does so even more. If you do modified value averaging without selling stock, the rate of return falls in between DCA and VA. But what about total return? Isn't it true that if you value average without selling, your rate of return may be lower, but you'll end up with more money in the account, which is after all, the desired end point?

Or am I just missing something and don't really understand the rate of return calculation?
Which book?

DCA is a bad idea. Value averaging is a bad idea. If you have money to invest now, and have crafted an investment plan, implement that plan and invest the money now, all at once.

If you don't have a plan, stop and make one.

If you really do think that DCA is lower risk, or will result in higher returns, you should also just stop. Then, spend some time gaining more education about investing.

Keith
I'm not sure were your answer came from, but DCA is a good plan. If someone goes all in and the market crashes, they have lost. DCA keeps your from putting your money in right before a crash. Yes it's true that it could be right before a bump up also, but DCA is a good plan for those whom have a long time before retirement. I DCA my entire investment portfolio and I'm glad I did. You can also reverse DCA when withdrawing money out of your investments in retirement, and make that work to your advantage also. Simply don't withdraw during bad market years, and withdraw during good ones.
I'm amazed at the wealth of Knowledge others gather, and share over a lifetime of learning. The mind is truly unique. It's nice when we use it!

umfundi
Posts: 3361
Joined: Tue Jun 07, 2011 5:26 pm

Re: Value averaging rate of return

Post by umfundi » Sat Apr 28, 2012 4:22 pm

555 wrote:@umfundi Your posts are irrelevant to this thread.
I'm gone.
Déjà Vu is not a prediction

User avatar
bertilak
Posts: 6912
Joined: Tue Aug 02, 2011 5:23 pm
Location: East of the Pecos, West of the Mississippi

Re: Value averaging rate of return

Post by bertilak » Sat Apr 28, 2012 4:56 pm

rustymutt wrote:I'm not sure were your answer came from, but DCA is a good plan. If someone goes all in and the market crashes, they have lost. DCA keeps your from putting your money in right before a crash.
Actually, it doesn't do that. At some point you will have finished your DCA process and you are then "all in" anyway. The market is just as likely to crash at that point and you have gained nothing with DCA. But if the market doesn't crash you have lost all that time your money could have been invested and working for you. You do believe investing is a good idea, right? If so, delaying that investment with DCA is missing whatever opportunity it is that makes it a good idea in the first place.
May neither drought nor rain nor blizzard disturb the joy juice in your gizzard. -- Squire Omar Barker (aka S.O.B.), the Cowboy Poet

555
Posts: 4955
Joined: Thu Dec 24, 2009 7:21 am

Re: Value averaging rate of return

Post by 555 » Sat Apr 28, 2012 5:45 pm

This is irrelevant. OP is talking about contributing from salary thoughout their earning years. There's no lump sum here.
bertilak wrote:
rustymutt wrote:I'm not sure were your answer came from, but DCA is a good plan. If someone goes all in and the market crashes, they have lost. DCA keeps your from putting your money in right before a crash.
Actually, it doesn't do that. At some point you will have finished your DCA process and you are then "all in" anyway. The market is just as likely to crash at that point and you have gained nothing with DCA. But if the market doesn't crash you have lost all that time your money could have been invested and working for you. You do believe investing is a good idea, right? If so, delaying that investment with DCA is missing whatever opportunity it is that makes it a good idea in the first place.

User avatar
bertilak
Posts: 6912
Joined: Tue Aug 02, 2011 5:23 pm
Location: East of the Pecos, West of the Mississippi

Re: Value averaging rate of return

Post by bertilak » Sat Apr 28, 2012 6:05 pm

555 wrote:This is irrelevant. OP is talking about contributing from salary thoughout their earning years. There's no lump sum here.
bertilak wrote:
rustymutt wrote:I'm not sure were your answer came from, but DCA is a good plan. If someone goes all in and the market crashes, they have lost. DCA keeps your from putting your money in right before a crash.
Actually, it doesn't do that. At some point you will have finished your DCA process and you are then "all in" anyway. The market is just as likely to crash at that point and you have gained nothing with DCA. But if the market doesn't crash you have lost all that time your money could have been invested and working for you. You do believe investing is a good idea, right? If so, delaying that investment with DCA is missing whatever opportunity it is that makes it a good idea in the first place.
If the OP is considering Value Averaging that implies a buffer of un-invested cash. Add to it if your investments have increased in value beyond what is needed to keep up with the projected return, spend it if the investments have not met that expectation.

But I admit the the difference one way or the other in this case is trivial. I was just trying to make the principle clear.
May neither drought nor rain nor blizzard disturb the joy juice in your gizzard. -- Squire Omar Barker (aka S.O.B.), the Cowboy Poet

User avatar
rustymutt
Posts: 3760
Joined: Sat Mar 07, 2009 12:03 pm
Location: Oklahoma

Re: Value averaging rate of return

Post by rustymutt » Sat Apr 28, 2012 6:10 pm

bertilak wrote:
rustymutt wrote:I'm not sure were your answer came from, but DCA is a good plan. If someone goes all in and the market crashes, they have lost. DCA keeps your from putting your money in right before a crash.
Actually, it doesn't do that. At some point you will have finished your DCA process and you are then "all in" anyway. The market is just as likely to crash at that point and you have gained nothing with DCA. But if the market doesn't crash you have lost all that time your money could have been invested and working for you. You do believe investing is a good idea, right? If so, delaying that investment with DCA is missing whatever opportunity it is that makes it a good idea in the first place.

Once again that's not true. The market has a long history of slowing heading up, so your DCA investment grow as time goes.
I'm not sure where you people are getting your investment advice, but I sure wouldn't volunteer to help out your loved ones.
The average investor does so through long term DCA, as I did in my career. I was able to retire at 53 because of DCA, so don't tell me it doesn't work. It does, and did for me, and many others.
I'm amazed at the wealth of Knowledge others gather, and share over a lifetime of learning. The mind is truly unique. It's nice when we use it!

User avatar
bertilak
Posts: 6912
Joined: Tue Aug 02, 2011 5:23 pm
Location: East of the Pecos, West of the Mississippi

Re: Value averaging rate of return

Post by bertilak » Sat Apr 28, 2012 9:06 pm

rustymutt wrote:The average investor does so through long term DCA, as I did in my career. I was able to retire at 53 because of DCA, so don't tell me it doesn't work. It does, and did for me, and many others.
You're definition of DCA might be different from mine. If you are investing a percentage of your paycheck each payday, that is not my definition of DCA, nor is it the definition used in the academic literature. Investing a (relatively) constant amount from each paycheck is a series of lump sum investments. My definition of DCA is having a lump sum available to invest but not investing it all at once. Periodic investing of a paycheck gives you little choice -- the full amount that you will eventually invest is not available up front so you can't DCA the full amount. The best you can do is invest every dollar available as soon as it becomes available, in other words lump sum.
May neither drought nor rain nor blizzard disturb the joy juice in your gizzard. -- Squire Omar Barker (aka S.O.B.), the Cowboy Poet

tpm871
Posts: 149
Joined: Sun Sep 12, 2010 10:58 am

Re: Value averaging rate of return

Post by tpm871 » Sun Apr 29, 2012 12:11 am

I've been doing value averaging for about five years. The approach looks to take advantage of the following tendencies of the market (and human behavior):

1. Markets occasionally become oversold.
2. Markets occasionally become overbought.
3. Markets have a tendency revert back to the mean.

The oversold part is handled as a buying opportunity in VA. The more the market goes down, the more you will buy. You'll generally buy even more shares than DCA during a dip, because the amount you buy is determined by how much the market has dropped. Reverting to the mean here means that the market may go back up within a relatively short time -- you'll sometimes make a quick profit this way.

The overbought part is handled as a selling opportunity in VA. The more the market goes up, the more you will sell. Unlike DCA, you won't usually buy when the market is at its peak. Reverting to the mean here means that the market may eventually fall back to Earth after a euphoric rise. But selling some shares, you preserve some of the gain. It gives you more cash to work with the next time there is a dip.

I'd also recommend the following in addition to the classic VA approach:

1. Reset your value path annually. As a few people pointed out, you can't really predict returns in advance. Resetting the path based on how much you have in cash and investment each year will allow you to continually adjust. Don't worry about running out of cash -- you'll correct for that.

2. Make your sales in retirement accounts. You avoid the immediate loss associated with taxes. If you hold a portion of each asset class in retirement accounts, you have more freedom to sell some shares when you need to.

3. Only buy or sell if when your investment is below/above a thresold. This is known as "using band triggers" around here. For VA, it will reduce the volume of transactions and make you wait for better buying/selling opportunities.

555
Posts: 4955
Joined: Thu Dec 24, 2009 7:21 am

Re: Value averaging rate of return

Post by 555 » Sun Apr 29, 2012 12:52 am

@tpm871
How can you tell when stocks are oversold?
How can you tell when stocks are overbought?
What is the mean that they revert back to?

I don't think you can be too sure of these things.

rr2
Posts: 1025
Joined: Wed Nov 19, 2008 10:04 pm

Re: Value averaging rate of return

Post by rr2 » Sun Apr 29, 2012 1:14 am

tpm871 wrote:I've been doing value averaging for about five years. The approach looks to take advantage of the following tendencies of the market (and human behavior):

1. Markets occasionally become oversold.
2. Markets occasionally become overbought.
3. Markets have a tendency revert back to the mean.

The oversold part is handled as a buying opportunity in VA. The more the market goes down, the more you will buy. You'll generally buy even more shares than DCA during a dip, because the amount you buy is determined by how much the market has dropped. Reverting to the mean here means that the market may go back up within a relatively short time -- you'll sometimes make a quick profit this way.

The overbought part is handled as a selling opportunity in VA. The more the market goes up, the more you will sell. Unlike DCA, you won't usually buy when the market is at its peak. Reverting to the mean here means that the market may eventually fall back to Earth after a euphoric rise. But selling some shares, you preserve some of the gain. It gives you more cash to work with the next time there is a dip.

I'd also recommend the following in addition to the classic VA approach:

1. Reset your value path annually. As a few people pointed out, you can't really predict returns in advance. Resetting the path based on how much you have in cash and investment each year will allow you to continually adjust. Don't worry about running out of cash -- you'll correct for that.

2. Make your sales in retirement accounts. You avoid the immediate loss associated with taxes. If you hold a portion of each asset class in retirement accounts, you have more freedom to sell some shares when you need to.

3. Only buy or sell if when your investment is below/above a thresold. This is known as "using band triggers" around here. For VA, it will reduce the volume of transactions and make you wait for better buying/selling opportunities.
tpm871 -- Many thanks for your explanation. Could you give an example(s) of band triggers? Is this similar to rebalancing bands?

SP-diceman
Posts: 3968
Joined: Sun Oct 05, 2008 9:17 am

Re: Value averaging rate of return

Post by SP-diceman » Sun Apr 29, 2012 2:25 am

555 wrote:@tpm871
How can you tell when stocks are oversold?
How can you tell when stocks are overbought?
What is the mean that they revert back to?

I don't think you can be too sure of these things.

False premise.

“Sure” is irrelevant.
Is one sure they will be alive in 5-10 years,
doesn’t seem to stop folks from living?



Thanks
SP-diceman

555
Posts: 4955
Joined: Thu Dec 24, 2009 7:21 am

Re: Value averaging rate of return

Post by 555 » Sun Apr 29, 2012 2:43 am

SP-diceman wrote:
555 wrote:@tpm871
How can you tell when stocks are oversold?
How can you tell when stocks are overbought?
What is the mean that they revert back to?

I don't think you can be too sure of these things.
False premise.
“Sure” is irrelevant.
Is one sure they will be alive in 5-10 years,
doesn’t seem to stop folks from living?
What `premise'? :confused
And you seem to be confusing the phrase `not too sure' with `sure'.

tpm871 makes Value Averaging sound like a market timing strategy, so I think some skepticism is in order.

FireProof
Posts: 728
Joined: Thu May 05, 2011 12:15 pm

Re: Value averaging rate of return

Post by FireProof » Sun Apr 29, 2012 3:17 am

But, but, it's a back-tested (i.e. data-mined) market timing strategy!

rr2
Posts: 1025
Joined: Wed Nov 19, 2008 10:04 pm

Re: Value averaging rate of return

Post by rr2 » Sun Apr 29, 2012 3:28 am

FireProof wrote:But, but, it's a back-tested (i.e. data-mined) market timing strategy!
Have you read the book?

rr2
Posts: 1025
Joined: Wed Nov 19, 2008 10:04 pm

Re: Value averaging rate of return

Post by rr2 » Sun Apr 29, 2012 3:47 am

tetractys wrote:In value averaging, selecting the expected rate of return is the tricky part.

Also notice that the book Value Averaging (VA) really focuses on using 1 mutual fund. It seems to have been written before modern portfolio theory (MPT), back when a single mutual fund was considered diversified.
Tet -- I agree with what you said above. The original book and method is somewhat old but there was a revised edition a few years ago. But I am not sure about what you say below.
And IMO it seems to try and accomplish something similar to modern portfolio theory, albeit from an entirely different approach. Frankly, also IMO, MPT is a superior approach. Some on this forum try to blend both methods, MPT and VA; but IMO, that is superfluous. -- Tet
The problem with the VA method is that it is somewhat complicated with multiple asset classes and I do not recall any discussion in the book dealing with this topic in any detail. Some forum members have discussed and developed newer methods but you need to roll your own spreadsheet in order to compute everything. IMO, it is definitely not a KISS system. Obviously it is much easier to just contribute periodically to a predetermined asset allocation rather than try and figure out Value paths etc.

Topic Author
HonoluluGator
Posts: 96
Joined: Fri Apr 20, 2012 1:04 pm

Re: Value averaging rate of return

Post by HonoluluGator » Sun Apr 29, 2012 6:09 am

bertilak wrote:
You're definition of DCA might be different from mine. If you are investing a percentage of your paycheck each payday, that is not my definition of DCA, nor is it the definition used in the academic literature. Investing a (relatively) constant amount from each paycheck is a series of lump sum investments. My definition of DCA is having a lump sum available to invest but not investing it all at once. Periodic investing of a paycheck gives you little choice -- the full amount that you will eventually invest is not available up front so you can't DCA the full amount. The best you can do is invest every dollar available as soon as it becomes available, in other words lump sum.
To clarify, I am not keeping money on the sidelines, but adding an approximate figure of $3k per month from ongoing earnings. I agree with you that it would be foolish to keep a bunch of money on the sidelines to invest later according to a schedule.

User avatar
rustymutt
Posts: 3760
Joined: Sat Mar 07, 2009 12:03 pm
Location: Oklahoma

Re: Value averaging rate of return

Post by rustymutt » Sun Apr 29, 2012 6:17 am

HonoluluGator wrote:
bertilak wrote:
You're definition of DCA might be different from mine. If you are investing a percentage of your paycheck each payday, that is not my definition of DCA, nor is it the definition used in the academic literature. Investing a (relatively) constant amount from each paycheck is a series of lump sum investments. My definition of DCA is having a lump sum available to invest but not investing it all at once. Periodic investing of a paycheck gives you little choice -- the full amount that you will eventually invest is not available up front so you can't DCA the full amount. The best you can do is invest every dollar available as soon as it becomes available, in other words lump sum.
To clarify, I am not keeping money on the sidelines, but adding an approximate figure of $3k per month from ongoing earnings. I agree with you that it would be foolish to keep a bunch of money on the sidelines to invest later according to a schedule.
I have to disagree with you on this one. If you'd had lot of cash in March or 2009 to invest, you would have gotten a return of over 35% now on that money. Timing of these large cash inputs do make a huge difference in returns. I guess from your post that you're not really talking about DCA as it's defined for the average investor.
I'm amazed at the wealth of Knowledge others gather, and share over a lifetime of learning. The mind is truly unique. It's nice when we use it!

User avatar
bertilak
Posts: 6912
Joined: Tue Aug 02, 2011 5:23 pm
Location: East of the Pecos, West of the Mississippi

Re: Value averaging rate of return

Post by bertilak » Sun Apr 29, 2012 6:39 am

rustymutt wrote:If you'd had lot of cash in March or 2009 to invest, you would have gotten a return of over 35% now on that money. Timing of these large cash inputs do make a huge difference in returns.
If only we knew then what we know now, we could have actually done that timing.
May neither drought nor rain nor blizzard disturb the joy juice in your gizzard. -- Squire Omar Barker (aka S.O.B.), the Cowboy Poet

User avatar
czeckers
Posts: 1003
Joined: Thu May 17, 2007 3:49 pm
Location: Upstate NY

Re: Value averaging rate of return

Post by czeckers » Sun Apr 29, 2012 7:40 am

I have two tax deferred accounts with the same AA. In one I use a VA strategy and in the other straight DCA. (yes, making periodic monthly investments is a form of DCA).

Over the last 5 years, the VA strategy has been a bit better than the DCA, but not by as much as the VA theory would suggest. The problem with trying to implement the pure strategy by Edleson, is that with a big bear market, it becomes nearly impossible to keep up with the necessary cash inputs required to really take advantage of the strategy.

A few posters above mentioned the complexities of doing VA with a portfolio consisting of multiple asset classes. The crux here is setting up a reasonable value path for the overall portfolio. I suppose you could use the Gordon equation to calculate the expected return of each stock asset class and the yield and duration for each bond fund and then. Alculate the expected portfolio based on the weighted average of each asset class based on your asset allocation. The problem with such an approach is that it relies on a bunch of assumptions including predictions on divident growth rates and trends in PE ratios. To simplify things, I looked at the historical return of my portfolios asset allocation over the last 40 years using Simbas wonderful spreadsheet and used that as a starting point. You can dial down your expectations if you want to be conservative and risk sitting on cash in bull markets. You could be aggressive but then you run the risk of being "all-in" most of the time (essentially DCA) and not having a lot of cash on hand when the market goes down. Since the future is unknowable, the average return over the last 40 years is as reasonable guess as any.

As far as the mechanics of applying the theory to a multiasset class portfolio, that is easy. You calculate the glide path for the entire portfolio. If the portfolio is over the value path, you calculate how much of each asset class you should have if your portfolio were on the value path and you were at your exact asset allocation. Then you buy/sell to get to those amounts for each asset class. If you are below your path, then you buy into the lowest performing asset classes to bring them back up. I hold off on dumping the cash in until the portfolio is at least 10% below the value path to minimize trading.

Hope this helps.

-K
The Espresso portfolio: | | 16% LCV, 16% SCV, 16% EM, 8% Int'l Value, 8% Int'l Sm, 8% US REIT, 8% Int'l REIT, 20% Inter-term US Treas | | "A journey of a thousand miles begins with a single step."

User avatar
czeckers
Posts: 1003
Joined: Thu May 17, 2007 3:49 pm
Location: Upstate NY

Re: Value averaging rate of return

Post by czeckers » Sun Apr 29, 2012 7:47 am

A word on dollar cost averaging: it is simply the act of making periodic investments over time. It does come up when you have a lump sum to invest and you are deciding on whether to invest it all as a lump sum or to invest it over some period of time using incremental investments (DCA).

However, for the majority of us who invest for retirement by contributing to a retirement account by making periodic monthly or quarterly contributions, that is also DCA. It is this latter form of DCA that is relevant to this discussion. It is also the terminology used in Edleson's book whitch this discussion is based on.

-K
The Espresso portfolio: | | 16% LCV, 16% SCV, 16% EM, 8% Int'l Value, 8% Int'l Sm, 8% US REIT, 8% Int'l REIT, 20% Inter-term US Treas | | "A journey of a thousand miles begins with a single step."

tpm871
Posts: 149
Joined: Sun Sep 12, 2010 10:58 am

Re: Value averaging rate of return

Post by tpm871 » Sun Apr 29, 2012 9:09 am

tpm871 -- Many thanks for your explanation. Could you give an example(s) of band triggers? Is this similar to rebalancing bands?
For example, let's say that your threshold for buying/selling is 4% below/above your target. If your target value for this month is $10,000, you would not do anything if the actual value of your investment was between $9,600 and $10,400.

I use a similar approach as Opportunistic Rebalancing to determine how much to sell/buy: You rebalance back to half of your threshold. This is used to keep you from overcorrecting. Let's say that your investment rises to $10,500 this month. You'd rebalance back to $10,200 (i.e., 2% above your target), selling $300. See this article on opportunistic rebalancing:

http://www.tdainstitutional.com/pdf/Opp ... yanani.pdf

But the difference with doing this with VA is that this technically isn't "rebalancing". Each asset class has its own value path and you adjust according to each asset path rather than the percentage of the whole. The effect will be that you will tend to buy more during dips, and sell more during peaks. Of course you can never know where the lowest point of the dip or the highest point of the peak is at the time -- that's ok. This is simply a way to do a little better than buy-hold-rebalance and DCA.

User avatar
rustymutt
Posts: 3760
Joined: Sat Mar 07, 2009 12:03 pm
Location: Oklahoma

Re: Value averaging rate of return

Post by rustymutt » Sun Apr 29, 2012 9:21 am

bertilak wrote:
rustymutt wrote:If you'd had lot of cash in March or 2009 to invest, you would have gotten a return of over 35% now on that money. Timing of these large cash inputs do make a huge difference in returns.
If only we knew then what we know now, we could have actually done that timing.
I stumbled into this situation by means of retirement. I'd move my 401k to cash at the beginning of 2008 knowing I was about to retire. In June of 2009 it went into my IRA at Vanguard, along with my lump sum pension. With a 50/50 allocation, I've grown this by 28%. If I'd have DCA the balance in, I'd have loss this gain. I was lucky, but I also pay attention to my investments and what's going on around me. Good luck.
I'm amazed at the wealth of Knowledge others gather, and share over a lifetime of learning. The mind is truly unique. It's nice when we use it!

Default User BR
Posts: 7501
Joined: Mon Dec 17, 2007 7:32 pm

Re: Value averaging rate of return

Post by Default User BR » Sun Apr 29, 2012 12:07 pm

czeckers wrote:(yes, making periodic monthly investments is a form of DCA).
No, it is not. It is lump sum investing, in small amounts at intervals.


Brian

User avatar
tetractys
Posts: 4596
Joined: Sat Mar 17, 2007 3:30 pm
Location: Along the Salish Sea

Re: Value averaging rate of return

Post by tetractys » Sun Apr 29, 2012 12:44 pm

Default User BR wrote:
czeckers wrote:(yes, making periodic monthly investments is a form of DCA).
No, it is not. It is lump sum investing, in small amounts at intervals.
That seems odd. Even though periodic monthly investments accomplish the exact same thing as DCA, it's being called "lump summing," which accomplishes nothing like DCA. And what's going on here anyway? Why are we not talking about value averaging, the subject of the OP? -- Tet

Default User BR
Posts: 7501
Joined: Mon Dec 17, 2007 7:32 pm

Re: Value averaging rate of return

Post by Default User BR » Sun Apr 29, 2012 3:50 pm

tetractys wrote:
Default User BR wrote:
czeckers wrote:(yes, making periodic monthly investments is a form of DCA).
No, it is not. It is lump sum investing, in small amounts at intervals.
That seems odd. Even though periodic monthly investments accomplish the exact same thing as DCA, it's being called "lump summing," which accomplishes nothing like DCA.
If you are investing everything you have to invest at once, it's lump sum. It doesn't matter if it's a small amount or that you'll do it again in a week or a month.

DCA only makes sense to discuss if it's in comparison to a lump sum investment. In this case, what is the lump-sum option? You can't get the job to give you your 401(k) investments in a lump sum up front. You invest as you get it.

Brian

User avatar
tetractys
Posts: 4596
Joined: Sat Mar 17, 2007 3:30 pm
Location: Along the Salish Sea

Re: Value averaging rate of return

Post by tetractys » Sun Apr 29, 2012 4:19 pm

Default User BR wrote:
tetractys wrote:
Default User BR wrote:
czeckers wrote:(yes, making periodic monthly investments is a form of DCA).
No, it is not. It is lump sum investing, in small amounts at intervals.
That seems odd. Even though periodic monthly investments accomplish the exact same thing as DCA, it's being called "lump summing," which accomplishes nothing like DCA.
If you are investing everything you have to invest at once, it's lump sum. It doesn't matter if it's a small amount or that you'll do it again in a week or a month.

DCA only makes sense to discuss if it's in comparison to a lump sum investment. In this case, what is the lump-sum option? You can't get the job to give you your 401(k) investments in a lump sum up front. You invest as you get it.
So your saying that if you invest $100 a month it's lump summing if that's all you have at the moment; but it's DCA if you have $200 and only invest half. OK. I think I've always had a few dollars left over when I thought I was putting in a lump sum, so I guess I was really DCAing.

Nope, doesn't wash the oddness away.

I think it's more about intent and effect. So concerning VA, which is a form of DCA, the investor intends to put in a pre-planned amount, which could be flexible like a percentage or some other changing amount, at regular intervals. With regards to VA, which is a form of DCA according to the book we're discussing, that amount can be determined either by the investor, or by the market in relation to the portfolio. -- Tet
Last edited by tetractys on Sun Apr 29, 2012 4:29 pm, edited 1 time in total.

Default User BR
Posts: 7501
Joined: Mon Dec 17, 2007 7:32 pm

Re: Value averaging rate of return

Post by Default User BR » Sun Apr 29, 2012 4:24 pm

tetractys wrote:So your saying that if you invest $100 a month it's lump summing if that's all you have at the moment; but it's DCA if you have $200 and only invest half. OK. I think I've always had a few dollars left over when I thought I was putting in a lump sum, so I guess I was really DCAing. -- Tet
Only if you are deliberately withholding part of your investable funds in an effort to DCA.


Brian

555
Posts: 4955
Joined: Thu Dec 24, 2009 7:21 am

Re: Value averaging rate of return

Post by 555 » Sun Apr 29, 2012 6:23 pm

I'm interested in hearing about Value Averaging. I have a vague idea about it, and am somewhat skeptical that it could reliably beat other methods. I think it depends on choices you make, e.g. the rate of return, and on what the market does.

Unfortunately the thread keeps getting derailed by people who see the three letters DCA and want to have a DCAvsLumpsum debate (which is irrelevant here) or who want to define `DCA' as meaning something different to how it's normally used in this Value Averaging context.

I still wanted to hear about this from tpm871 or the OP or anyone else.

@tpm871
How can you tell when stocks are oversold?
How can you tell when stocks are overbought?
What is the mean that they revert back to?

I don't think you can be too sure of these things.

User avatar
tfb
Posts: 8156
Joined: Mon Feb 19, 2007 5:46 pm
Contact:

Re: Value averaging rate of return

Post by tfb » Sun Apr 29, 2012 6:36 pm

555 wrote:I still wanted to hear about this from tpm871 or the OP or anyone else.

@tpm871
How can you tell when stocks are oversold?
How can you tell when stocks are overbought?
What is the mean that they revert back to?

I don't think you can be too sure of these things.
You should read the book. Basically you say stocks should return say 8% a year and then you figure out what the value should be at each checkpoint. That's your value path. If stocks are doing well, the value is already above the value path, then you contribute less than $X a month or even sell some stocks. The money goes into a side fund. If stocks do poorly, you put in more than $X, using money from the side fund, to bring value up to the value path.
Harry Sit, taking a break from the forums.

User avatar
tetractys
Posts: 4596
Joined: Sat Mar 17, 2007 3:30 pm
Location: Along the Salish Sea

Re: Value averaging rate of return

Post by tetractys » Sun Apr 29, 2012 6:47 pm

Value Averaging, the book, explains in detail. It's worth checking out at the library for those that haven't read it yet.

Basically its pretty simple:
-You pick a "value path," or an expected rate of return for your portfolio to reach a certain value in a period of time.
-When portfolio return is short the value path, you buy stocks with cash to make up for it.
-When portfolio return is long the value path, you sell to cash.
-You DCA to add cash.

If you pick a value path greater than portfolio return you will invest more using up cash, and if you pick a value path lower than portfolio return you will accumulate more cash. You can always DCA in cash, because it's the path of your fund return (or funds by contemporary interpretation), not including the cash.

Hope that helps. My opinion on the overall utility of this method is posted near the top of the thread. -- Tet

User avatar
LadyGeek
Site Admin
Posts: 57748
Joined: Sat Dec 20, 2008 5:34 pm
Location: Philadelphia
Contact:

Re: Value averaging rate of return

Post by LadyGeek » Sun Apr 29, 2012 6:52 pm

Value averaging is in the wiki: Value averaging

Download the Dollar Cost vs Value Averaging spreadsheet and try different scenarios for yourself (File --> Download As).
Wiki To some, the glass is half full. To others, the glass is half empty. To an engineer, it's twice the size it needs to be.

User avatar
bertilak
Posts: 6912
Joined: Tue Aug 02, 2011 5:23 pm
Location: East of the Pecos, West of the Mississippi

Re: Value averaging rate of return

Post by bertilak » Sun Apr 29, 2012 7:50 pm

555 wrote:Unfortunately the thread keeps getting derailed by people who see the three letters DCA and want to have a DCAvsLumpsum debate (which is irrelevant here) or who want to define `DCA' as meaning something different to how it's normally used in this Value Averaging context.
That's because VA is simply DCA with some baroque decorations. It is simple enough that you can understand it and just enough more complex than traditional DCA to make you think "Hey, that just might work!" It is a gimmick. Another "magic formula" to play with until you really understand it does nothing but keep you amused for a while.

DCA does nothing for you but delay your investment and VA is just a clever twist on that. Clever in that it makes you think. Not clever in that it accomplishes anything investment-wise. DCA and VA make you think that you are accomplishing two things: avoiding buyer's remorse and successfully timing the market when all they are actually doing is delaying potential buyer's remorse at the cost of not putting all your money to work for you by holding some of it back. The "magic formula" aspect gives you a false sense of confidence.
May neither drought nor rain nor blizzard disturb the joy juice in your gizzard. -- Squire Omar Barker (aka S.O.B.), the Cowboy Poet

umfundi
Posts: 3361
Joined: Tue Jun 07, 2011 5:26 pm

Re: Value averaging rate of return

Post by umfundi » Sun Apr 29, 2012 7:53 pm

tfb wrote:
555 wrote:I still wanted to hear about this from tpm871 or the OP or anyone else.

@tpm871
How can you tell when stocks are oversold?
How can you tell when stocks are overbought?
What is the mean that they revert back to?

I don't think you can be too sure of these things.
You should read the book. Basically you say stocks should return say 8% a year and then you figure out what the value should be at each checkpoint. That's your value path. If stocks are doing well, the value is already above the value path, then you contribute less than $X a month or even sell some stocks. The money goes into a side fund. If stocks do poorly, you put in more than $X, using money from the side fund, to bring value up to the value path.
I'm back!

Let's start from the idea that in the old days it was far preferable to buy stocks in round lots, so, for example, you would buy 100 shares a month of a nominal $10 stock, and spend $1000. If you buy a constant round lot, you pay the arithmetic average price. For example, 100 shares at $8 this month, 100 shares at $12 next month. Average price $10. amount spent $2000, you own 200 shares.

Then we got to periodic investments and payroll deductions. Someone pointed out that if you invest a constant dollar amount, your average price is the geometric mean, which is lower than the average price. For example, $1000 at $8 per share this month (125 shares), $1000 at $12 per share next month (83.33 shares). You own 208.33 shares! The geometric mean price is $9.60. Seems like free money!

An interpretation of this is that you are buying more shares when prices are low, fewer when prices are high. Therein is the idea of value averaging, the problem is you have to figure out when prices are high or not high or low.

In the above example, what if you had invested all your $2000 when prices were $8, and none when they were $12? You'd have 250 shares!

So, the idea of value averaging is to figure out when prices are low (invest more than your average amount), high (invest less than your average amount) or very high (sell previous investments).

The proposed method is that you choose an expected return or glide path. If your account is on the glide path, make your average investment. If it is above your glide path, buy less, if it is very much above the glide path, sell. If it is below the glide path, buy more.

It's your glide path. If you guess too low, and the market goes higher, you will be underinvested. If you guess too high, and the market is lower than your estimate, you may run out of available cash to restore your glide path.
Déjà Vu is not a prediction

555
Posts: 4955
Joined: Thu Dec 24, 2009 7:21 am

Re: Value averaging rate of return

Post by 555 » Sun Apr 29, 2012 8:14 pm

Thanks tfb, tetractys, LadyGeek. I had a rough idea how VA worked. It seems to me it could go badly.

Having an `Expected rate of growth' seems like a bad idea.
Having an `Target value' seems like a bad idea.

As one bad consequence, among others, it seems you could leave a lot of univested cash on the sidelines in a bull market, and miss the runup. There's certainly no guarantee of `buy low sell high'.

Some proponents don't seem to realize the pitfalls.

User avatar
czeckers
Posts: 1003
Joined: Thu May 17, 2007 3:49 pm
Location: Upstate NY

Re: Value averaging rate of return

Post by czeckers » Sun Apr 29, 2012 8:40 pm

I guess I would summarize VA as an over rebalancing strategy. So far my VA account is about 0.5% better than my DCA account over 5 years. I enjoy the extra work but I think many may not find it to be worth the extra effort.

-K
The Espresso portfolio: | | 16% LCV, 16% SCV, 16% EM, 8% Int'l Value, 8% Int'l Sm, 8% US REIT, 8% Int'l REIT, 20% Inter-term US Treas | | "A journey of a thousand miles begins with a single step."

User avatar
tetractys
Posts: 4596
Joined: Sat Mar 17, 2007 3:30 pm
Location: Along the Salish Sea

Re: Value averaging rate of return

Post by tetractys » Sun Apr 29, 2012 8:48 pm

Ya you know, if you read the book, it's apparent that VA is really geared to investing toward a certain savings goal, like a house in 10 years, and stocks might not be a good vehicle for that to begin with. And the book is also geared to doing this with a single mutual fund and cash, an antiquated idea that's been superseded by better methods.

I've already said this in a slightly different way; but I really think rebalancing a low cost risk adjusted portfolio accomplishes what VA tries to do, but in a superior and simpler manner. And I think it's superfluous to try and adapt VA to such a portfolio. This was my conclusion after trying it for a couple years, no harm, but lots of gymnastics for not. -- Tet
Last edited by tetractys on Sun Apr 29, 2012 8:51 pm, edited 1 time in total.

Post Reply