Larry Swedroe: Don’t Count Out Commodities

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Larry Swedroe: Don’t Count Out Commodities

Post by Random Walker » Mon Mar 12, 2018 9:58 am

http://www.etf.com/sections/index-inves ... nopaging=1

This is a great article that goes way beyond the subject of CCFs. CCFs have been the worst performing asset class over the last 10 years. Larry starts out the article looking at some human behavioral traits / errors: recency bias, confusing strategy with outcome, ignoring alternative histories that could have played out, viewing an investment in isolation as opposed to its overall effect on a portfolio.
CCFs perform best in an environment of high inflation, rising inflation, unexpected inflation. In periods of low or declining inflation they have performed poorly. Like an insurance policy, we shouldn’t be upset that we didn’t get a payout. Over the long term, CCFs have shown negative correlation to both stocks and bonds. In general they have performed well when both stocks and bonds have not. CCFs are especially good for hedging against event risk. So while they are highly volatile and many investors perceive them as too risky, in fact, investors who are most sensitive to event risk should most strongly consider CCFs.
Larry defends his prior recommendation of CCFs by looking at the quality of the decision. The purpose of incorporating a small allocation within a portfolio to CCFs is to defend against unexpected inflation, negative supply shocks, positive demand shocks. CCFs acted as an insurance policy for risks that have not shown up in the recent past.
Several on the forum have accused Larry of flip flopping on CCFs. This article goes a long way to explaining his position. I’ll take the liberty of going a step further. Real portfolios have real limitations and there are trade offs involved in portfolio construction. Perhaps one of the biggest factors is limited tax advantaged space. CCFs like REITs and the Alts recently discussed are all quite tax inefficient. So in maximizing the use of limited tax advantaged space, it is highly likely that the investor needs to make some decisions and exclude some asset classes. REITs returns can be explained by underlying factors that can be more directly accessed in equities, and they are not great diversifiers. CCFs are great diversifiers, have low expected returns in general, and have become expensive since becoming financialized. The relatively new Alts have equity like expected returns and are excellent diversifiers. So in prioritizing potential investments for valuable tax advantaged space, I can see why CCFs have taken a back seat lately. Portfolio decisions really depend on what risks the investor is willing to take and what risks he is trying to protect against.
Because CCFs are negatively correlated with long term bonds, holding a small 3-5% CCF allocation allows the investor to extend the maturity of their bonds and colllect some term premium as well. Larry finishes off the article comparing two portfolios: one with a small commodities position taken from the equity side and slightly longer maturity bonds, and the second portfolio just equities and shorter bonds. It’s a great lesson in not looking at investments in isolation and instead looking at the portfolio as a whole. Eager to hear comments.

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Re: Larry Swedroe: Don’t Count Out Commodities

Post by AtlasShrugged? » Mon Mar 12, 2018 10:45 am

Random....Agreed, a good article. Just because I like to 'stir the pot' every once in awhile....why not hold physical gold/silver/platinum, as opposed to a CCF? I have gold (1 oz bars, American Eagles - not too much), and silver. Is that 'wrong'?

If I had to guesstimate, I would value the physical metal at roughly 5% of my portfolio. I add a little bit here and there. Typically, I try to get a 1oz bar annually, and add some silver eagles. Not a lot.

One thing I am less convinced of..... Mr. Swedroe posits that one should consider 'alternate histories' as opposed to 'reality' (outcome). I am not really a fan of this line of reasoning. Yeah, I get that things 'could be' much worse, but the reality is that I have to live with what is presently happening. Maybe someone could make this argument another way that would make more sense to me. I think I get it....but still....it sort of sounds like CYA. Am I way off base here?
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Re: Larry Swedroe: Don’t Count Out Commodities

Post by lack_ey » Mon Mar 12, 2018 10:58 am

AtlasShrugged? wrote:
Mon Mar 12, 2018 10:45 am
Random....Agreed, a good article. Just because I like to 'stir the pot' every once in awhile....why not hold physical gold/silver/platinum, as opposed to a CCF? I have gold (1 oz bars, American Eagles - not too much), and silver. Is that 'wrong'?
The relative upside (downside?) would be no roll return. You can physically hold or use funds that physically hold, and even if you used futures there wouldn't really be the same kinds of issues with contango/backwardation. Well, if you physically hold then you also don't get a return on collateral. So it's a bit of a different beast. Only price return minus transaction costs. Maybe that's more desirable to some, less to others.

Also the behavior with respect to supply shocks would of course be different. Rationales for CCFs include addressing that kind of risk, and the behavior of precious metals here is not really the same.

To some extent there's a different kind of semi-catastrophe tail hedge with precious metals, some semblance of store of value during hyperinflation or societal upheaval, etc.
AtlasShrugged? wrote:
Mon Mar 12, 2018 10:45 am
One thing I am less convinced of..... Mr. Swedroe posits that one should consider 'alternate histories' as opposed to 'reality' (outcome). I am not really a fan of this line of reasoning. Yeah, I get that things 'could be' much worse, but the reality is that I have to live with what is presently happening. Maybe someone could make this argument another way that would make more sense to me. I think I get it....but still....it sort of sounds like CYA. Am I way off base here?
If you accept that you cannot accurately predict the future with certainty (I mean this in a level beyond having information, but knowing what will happen), then you can effectively view outcomes as unknown, effectively random. The true future is one outcome out of a range of different possibilities. The past is effectively a sequence of events representing one realization of what could have happened. If we were to hypothetically roll the dice again and re-simulate the past, we would get a different sequence of events under which different investments would have had different returns, among other things.

Regardless, even stepping away from that line of thinking, you can't directly extrapolate the past into the future anyway as a means of accurate forecasting.

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Re: Larry Swedroe: Don’t Count Out Commodities

Post by Random Walker » Mon Mar 12, 2018 12:49 pm

Atlas shrugged,
I’d say you’re a little off base :-). Certainly only one history of multiple alternatives has actually played out. And as you say, that’s the reality we need to deal with. But we invest looking forward and we can’t predict the future reality. So we need to build portfolios that take into account multiple potential alternative future realities, only one of which will actually play out. Buying earthquake insurance was no mistake because the earthquake didn’t occur, and buying insurance against events or unexpected inflation is not a mistake if the event or inflation doesn’t occur.
This is why Larry is promoting “hyperdiversification”:We can’t predict the future. In a well diversified portfolio, some part will always be performing poorly. I think William Bernstein wrote “Diversification is always working, whether we want it to or not”

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Re: Larry Swedroe: Don’t Count Out Commodities

Post by AtlasShrugged? » Mon Mar 12, 2018 12:54 pm

This is why Larry is promoting “hyperdiversification”: We can’t predict the future.
Random....Now that concept, hyperdiversification, makes all the sense in the world to me. Scatter the eggs among many baskets. Totally get that.

Not the first time I have been a little off base. :happy I will eventually 'get it'.
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Re: Larry Swedroe: Don’t Count Out Commodities

Post by Day9 » Mon Mar 12, 2018 1:16 pm

AtlasShrugged? wrote:
Mon Mar 12, 2018 10:45 am
Random....Agreed, a good article. Just because I like to 'stir the pot' every once in awhile....why not hold physical gold/silver/platinum, as opposed to a CCF? I have gold (1 oz bars, American Eagles - not too much), and silver. Is that 'wrong'?
Physical metals and CCFs perform different roles in a portfolio. Goldbugs say gold is a hedge against inflation and talk a lot about the price of a good suit over the millennia but if you look at the data precious metal prices do not really correlate well with inflation. Precious metals are more a hedge against a loss of faith in central banks and fiat currencies.

CCFs not only do well in unexpected inflation, but they do well in stagflation where inflation hurts bonds and the stock market is stagnant too. It makes sense to add a small allocation to CCFs and simultaneously extend the duration of your bond portfolio. This doesn't make sense with precious metals.
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Re: Larry Swedroe: Don’t Count Out Commodities

Post by heyyou » Mon Mar 12, 2018 6:14 pm

holding a small 3-5% CCF allocation
Commodities exposure is a very good idea, but as Dr. Wm. Bernstein noted, repeatedly rolling billions of dollars of futures contracts on known dates, is not likely to be profitable in the futures markets. The problem is not the commodities, it is how futures have to be sold since the futures owners cannot take delivery of the physical goods, and the pro traders know that. Goldman Sachs had some oil tankers parked in the ocean for a while since they could afford to wait to deliver the contents.

Many years ago, Larry wrote that he had sold his PCRIX shares, so yes, if he has repurchased CCF shares now, that resets the price, but does not help anyone who has held PCRIX shares since the last fad. I don't remember such small allocations being suggested back then. Those who bought 10% of portfolio in the middle of the 2000-2010 decade, now own shares that are worth a third of their purchase price from then. In a way, that is 10% to 3.3%.

PIMCO has ended the reduced fee waiver from the heyday period so the expense ratio on PCRIX shares is noticeable higher now. PIMCO has also done a 2 to 1 split to double the price, so today's $6.74 shares are $3.37 on the original ten dollar per share issue.
https://www.google.com/search?q=PCRIX+p ... irefox-b-1
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Re: Larry Swedroe: Don’t Count Out Commodities

Post by abuss368 » Mon Mar 12, 2018 8:01 pm

I found Warren Buffett's shareholder letter a few years ago related to commodities and specifically gold very educational and beneficial.
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Re: Larry Swedroe: Don’t Count Out Commodities

Post by stlutz » Mon Mar 12, 2018 11:01 pm

Gold has historically proven to be a better "diversifier" than CCFs. I guess I don't really see why someone would be comfortable recommending the later over the former.

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Re: Larry Swedroe: Don’t Count Out Commodities

Post by Random Walker » Tue Mar 13, 2018 8:20 am

Really surprised that this article hasn’t stimulated more conversation. A lot of the folks questioning the alternatives recommended by Larry have posted threads that are critical of Larry’s prior recommendation of CCFs. I think this article puts the CCF recommendation in great context, provides continuing rationale for possibly including them in a portfolio, and provides rationale for there perhaps not being room for them in a portfolio given new alternatives.
Personally, I’m intrigued by the portfolio effects of CCFs, but moved out of them in exchange for the alternatives with higher expected returns: practical trade offs in portfolio construction. I really like the idea of extending bond duration in the presence of CCFs.

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Re: Larry Swedroe: Don’t Count Out Commodities

Post by Rick Ferri » Tue Mar 13, 2018 8:27 am

A broken click is right twice each day.

From 2008:

The Great Commodities Debate, Part I
The Great Commodities Debate, Part II



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Re: Larry Swedroe: Don’t Count Out Commodities

Post by azanon » Tue Mar 13, 2018 8:57 am

I imagine this has been covered before, and I apologize upfront for missing it, but what is the nature of Dave's/Random Walker's relationship with Larry? Of course I ask because I don't think Dave has missed an article Larry's written, and is clearly an advocate of his work.

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Re: Larry Swedroe: Don’t Count Out Commodities

Post by azanon » Tue Mar 13, 2018 9:16 am

My on-topic thoughts I'd offer:

1. I skimmed Larry and Rick's great debate again (I read it back when it was originally posted). One thing I'd offer to bring us up-to-date on that is regarding costs. If you want to include a CCF etf, they can be had for 0.29% (specifically, ticker BCI), not 0.75% as was mentioned in that article. I just thought i'd mention that since I know costs are huge to Rick F., and just bogleheads in general. So for the most part, costs are now almost a non-issue. And if that's only ~ 5% of your portfolio that'd be an extra 1.4 basis points vs. a completely free option for that 5% (assuming I did the math right).

2. In the amounts that commodities are being recommended (3-5%), one can run simulations with and without this, and you're simply not going to see much of a difference. Spending any time anguishing over a 3-5% allocation here is definitely operating in the margins. I'd recommend picking whichever one will cause you to be more likely to stick with your portfolio.
Last edited by azanon on Tue Mar 13, 2018 9:18 am, edited 1 time in total.

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Re: Larry Swedroe: Don’t Count Out Commodities

Post by AtlasShrugged? » Tue Mar 13, 2018 9:18 am

A broken click is right twice each day.
-- Wow, that was some debate. :happy
I imagine this has been covered before, and I apologize upfront for missing it, but what is the nature of Dave's/Random Walker's relationship with Larry?
-- Are you inferring an unknown negative motive for posting Larry's articles, azanon? Regarding your advocacy comment, why does advocacy matter? How would that be different from advocacy for Rick Ferri's work or William Bernstein's work or longinvest's work? All three have contributed greatly to the Boglehead's forum.

Speaking for myself, I am appreciative of the effort to post the articles (I suppose I could go to ETF.com and get them). I'll also say that there is stuff Larry writes that goes right over my head, but I find that his willingness to explore alternatives is helpful. It makes me look at things in a new way, from a different perspective. If we do not explore hypotheses, and sometimes fail, how do we grow?
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Re: Larry Swedroe: Don’t Count Out Commodities

Post by azanon » Tue Mar 13, 2018 9:21 am

AtlasShrugged? wrote:
Tue Mar 13, 2018 9:18 am
azanon wrote:I imagine this has been covered before, and I apologize upfront for missing it, but what is the nature of Dave's/Random Walker's relationship with Larry?
-- Are you inferring an unknown negative motive for posting Larry's articles, azanon? Regarding your advocacy comment, why does advocacy matter? How would that be different from advocacy for Rick Ferri's work or William Bernstein's work or longinvest's work? All three have contributed greatly to the Boglehead's forum.

Speaking for myself, I am appreciative of the effort to post the articles (I suppose I could go to ETF.com and get them). I'll also say that there is stuff Larry writes that goes right over my head, but I find that his willingness to explore alternatives is helpful. It makes me look at things in a new way, from a different perspective. If we do not explore hypotheses, and sometimes fail, how do we grow?
I'm assuming there's a relationship, yes. If there is not, I think it is obvious I'm inviting Dave to confirm that is also the case. Atlas, I prefer full disclosures because I think it is sometimes important to know that. If you don't, that's fine, but I'm not you.
AtlasShrugged? wrote:
Tue Mar 13, 2018 9:18 am
Rick Ferri wrote:A broken click is right twice each day.
-- Wow, that was some debate. :happy

You didn't see Rick's links?

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Re: Larry Swedroe: Don’t Count Out Commodities

Post by Dead Man Walking » Tue Mar 13, 2018 12:08 pm

Larry's reference to Pete Carroll's play call in the Super Bowl was amusing. Calling a pass play was not Pete's big mistake; failing to call one that utilized Russell Wilson's skill set was.

Will a 5% allocation to CCFs have a significant effect on the total return of a diversified portfolio? Some posters have stated that a 5% allocation to cash is a drag on portfolio performance. I doubt that the effect of either would be all that significant.

I appreciate Dave's posting Larry's articles and his commentary on them. They always stimulate lively discussion!

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Re: Larry Swedroe: Don’t Count Out Commodities

Post by Random Walker » Tue Mar 13, 2018 12:45 pm

Azanon,

No, I don’t think I’ve directly said it before. So if you don’t mind, I’m going to give you the long answer. :-) I am a client of Larry’s firm. I derive no financial benefit from posting and discussing his writings. I’ve met Larry once in person, talked to him on the phone two or three times, and email occasionally with my own questions or regarding things that come up on Bogleheads.
I am a perhaps pathologically interested amateur investor. I’m 55 years old and began investing in 1996. I started with individual stocks I bought through a close tennis friend who is a stock broker. I learned a lot through the 2000-2002 bear. After reading Random Walk Down Wall Street and Bogle’s Common Sense On Mutual Funds I became a hardcore DIY all VG TSM Boglehead proud of my 0.15% ER portfolio. I’m an ardent believer in efficient markets. I view the market like perfect competition from Econ 101 or chemical equilibrium from Chem 1. I continued to read and learn. I became strongly interested in tilting to value based on writings by William Bernstein. Also based on Bernstein, I began to consider tax managed value funds, at the time only provided by DFA. So I started to consider the advisor route. (DFA access alone is insufficient reason to consider an advisor though). I continued to read: Swedroe, Ferri, Bogle, Malkiel, Ellis, Gibson. Especially influenced by Gibson’s Asset Allocation: Balancing Financial Risk (a book not discussed enough around here I think) I gained an appreciation for the significance of diversifying across uncorrelated sources of return. Larry’s writings completely fit with Gibson’s. They both seem to emphatically teach improved portfolio efficiency but give us different views of the same phenomenon. Larry emphasizes narrowing the standard deviation and minimizing the fat tails while Gibson shows the same phenomenon with efficient frontier type plots.
If one reads Larry’s writings, I think the clarity of thought, knowledge, experience, internal consistency, honesty, and integrity jump off the page. After many spreadsheets comparing my DIY all VG approach to going the DFA Advisor approach, I took advantage of big TLH opportunity after 2007-2008 bear to go with Larry’s firm. I’ve been a satisfied client from 2009 to present. I think William Bernstein has written something to the effect “Once an individual knows enough to choose a good advisor, he can probably do it himself”. While there is a lot of truth in that, there are still potentially various good reasons to go the advisor route.
Some people have asked me to compare my DIY/ Boglehead /all VG portfolio to my advisor/factor/alt portfolio. I’m not qualified or compulsive enough to do that. Moreover it’s illogical and meaningless. Partly as a result of having an advisor with access to Monte Carlo Simulation and the bull market of the last decade, my appetite for risk has changed dramatically and so has my AA. There is no telling what my alternative DIY all VG history would have been.
Because I have a trusted advisor, I only think about investing when I want to. My mind has been freed up to enjoy the forum as an escape from work and kids. It’s a hobby that hurts a lot less than my rowing machine! Admittedly, posting Larry’s articles may be a form of confirmation bias, reinforcing my personal Investing decisions. Nonetheless, I believe his articles are the best investment writing I can find on the web for forum discussion. I have in the past posted an article or two from Research Affiliates or AQR, but I just don’t find much else that I think is both beneficial to Bogleheads and interesting to me. So I’m just an asset class junkie, factor groupie, alternative addict, huge fan of Larry, and big believer in efficient markets and modern portfolio theory. As I’ve said before, improved portfolio efficiency is clearly worth some additional cost. How much additional cost beyond rock bottom TSM VG, if any, is up to each individual investor to decide.

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Re: Larry Swedroe: Don’t Count Out Commodities

Post by AtlasShrugged? » Tue Mar 13, 2018 12:47 pm

You didn't see Rick's links?
I did, azanon. The back and forth in Parts I and II were pretty....how shall I say....lively. :happy
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Re: Larry Swedroe: Don’t Count Out Commodities

Post by azanon » Tue Mar 13, 2018 5:04 pm

I really appreciate that candid response Dave, and I imagine several others do as well. Speaking only for myself, it just mentally helps me understand and ultimately be more open to your viewpoints with that additional background, given the peculiar way you just started posting on Larry's behalf shortly after his departure. I found myself wanting to guess as possible explanations which were mostly just becoming a mental detraction for me to the points you were trying to make. Now, with your explanation, that distraction is out of the way for me, and for anyone else that was not really sure what angle you were coming from.

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Re: Larry Swedroe: Don’t Count Out Commodities

Post by Random Walker » Tue Mar 13, 2018 6:19 pm

My biggest angle is my transition from a TSMer to basically all out slice dice factor alt etc. it was a difficult decision because as I say, costs are certain and the benefits are only potential. The reason I went into such detail regarding my evolution is that I think my effective investing life is relevant. Investing from 1996 to present, I’ve seen biggest bubble in history with its associated crash, big bull followed by financial crisis with its crash, and now another decade long bull. I tell people I gained a lifetime’s worth of investing experience in one decade. Many here have had the same lessons :-) I’ve seen just how volatile a single factor, market beta, can be. When the investor loses 50%, he has to make 100% to break even.
The investor who goes all in on advisor/factor/alt route is definitely paying more in fees than the all VG TSM investor. I guesstimate the increased fees (ER + advisor) at about 0.8-1.0%. All the potential advantages of going this route may or may not be realized. But for me the potential advantages started to really add up. They added up to the point where I decided to change routes. The potential advantages of the advisor route included less likely behavioral errors, more aggressive tax loss harvesting, more efficient portfolio, tax managed and tax aware value funds, core funds, management of muni bond ladder. Of course the biggest category was stuff I didn’t know that I didn’t know. This has included purchasing a home for my father, making a charitable donation, managing the kid’s 529 accounts, determining which lots to sell as I’ve cooled off my AA, determining when the benefits of TLH outweigh the costs. Perhaps the biggest benefit so far has been the use of Monte Carlo Simulation. This has helped lots in determining my asset allocation for myself and the kid’s 529 accounts. I think it is quite likely I’m taking (appropriately) substantially less risk than I’d take on my own.
My angle is the trade off between portfolio efficiency and cost.

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Re: Larry Swedroe: Don’t Count Out Commodities

Post by Random Walker » Tue Mar 13, 2018 6:36 pm

The reason the CCF discussion has gotten me amped up here is that some people have said that Larry flip flopped on CCFs. I agree that he recommended them some in the past and then perhaps recommended them less or stopped recommending them for a while. I’ll even admit that he may have made his recommendations with an eye on valuations. (Even Bogle eyes valuations). But it’s not a simple flip flop or effort at market timing. I believe it represents continuously making decisions as investing evolves, new financial instruments become available, and real investors with finite real portfolio limitations need to make portfolio decisions that involve trade offs.

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Re: Larry Swedroe: Don’t Count Out Commodities

Post by Rick Ferri » Tue Mar 13, 2018 9:15 pm

Dave,

To the contrary, in the last 10- years I haven’t found any reason to add funds or make changes to existing funds based on new products in the marketplace. If anything, I’m trying to reduce the member of funds in my portfolio.

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Re: Larry Swedroe: Don’t Count Out Commodities

Post by packer16 » Tue Mar 13, 2018 9:35 pm

Dave,

Thanks for your narrative. I am similarly interested in the market but try to use a micro edge (focus on specifically mispriced securities) versus trying to invest where I think I have macro/asset class edge. I read the article & found it defensive & the arguments about CCF weak. If CCF is too small to effect the portfolio when it fails how good is it when it is suppose to succeed. CCF investing IMO is an imperfect bet on high inflation & should have been described as that not as more diversification. Also, introducing the example of substituting a ST treasury fund for an intermediate term one with commodities IMO was silly. Who invests in ST treasuries when they can investing Vanguard Total Bind Market and pick up more yield for a small amount of risk compared to commodities? The one trade-off missed in some of Larry's analyses is the cost associated with the correlation avoided. In some cases, it may be worth the cost but I think in most cases it is not. Individuals can change spending versus institutions who cannot & being constrained like institutions can lead to high cost volatility dampers which in the end can cost individuals quite abit of real dollars. IMO individuals should use their variable spending edge against other constant spenders in the market.

IMO the diversification to the nth degree argument is pretty weak when it is based upon correlation versus fundamentals and becomes a bet against the market as in the case of re-insurance risk and high yield consumer lending. It is a bet that the market is not smart enough to price on a macro scale these types of risks correctly & the specific funds mentioned for these areas introduces lack of marketability risk. Do folks really think the SRRIX has some special skill vs. Buffet, Markel & Prem Watsa to play the re-insurance game or are they the patsies at the table? Lack of marketability increases in times of distress so I do not see how SRRIX and LENDX are going to work if you want either your money back in a time of distress or want to re-allocate to equities at such a time. Also, IMO opinion these asset classes are similar to high yield debt, there are times you want to be in & times you do not. IMO both SRRIX and LENDX have the wrong incentives to invest in these markets. They have a huge incentive to in the markets at all time because that is how they generate fees, AUM not return. This incents them to invest all the time versus changing the exposure depending upon expected return (the approach followed by successful investors in these sectors). The correct way to incent these funds is a low cost & shrinking management fee to cover fixed costs and an incentive (% of profits) as this will discourage asset gathering & focus on returns.

Also, I was surprised you do not benchmark against a low cost set of funds. If you do not how do you know if the the alts & are adding value or if another alternative my not be better & the alts/factor story is just like the active management story more precisely implemented. Just my 2 cents.

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Re: Larry Swedroe: Don’t Count Out Commodities

Post by Leif » Tue Mar 13, 2018 11:12 pm

I took Larry's advice and had 5% in commodity futures (PCRIX). I finally closed that out last year with a 60% loss. Luckily only 5%. It had dropped so much PIMCO had to do a reverse split at one point.

At least I didn't add anything to that position for a long time. I remember a post a few years ago where someone was thinking to add to PCRIX after it had dropped so much. He said he planned to do that. I wonder what he has done since that time.

I was sold that commodities may help in years when both stocks and bonds decline. That is certainly possible. But I think it is so rare I'm not going to be concerned with that. Instead I invested the money in TIPS. At least my principal is protected.
Investors should diversify across many asset-classes so that whatever happens, we will not have all our investments in underperforming asset classes and thereby fail to meet our goals-Taylor Larimore

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Re: Larry Swedroe: Don’t Count Out Commodities

Post by Random Walker » Tue Mar 13, 2018 11:15 pm

Hi Rick,
Yes I’ve thought I’ve seen a trend towards simpler / fewer in your comments over time. That has certainly gotten my attention; fits with my Econ 1 and chemical equilibrium visions of the market. I think over time I’ve just become more convinced of the stories behind size, value, momentum. Size, perhaps the weakest, seems like very plausible risk story to me. I like that value has very plausible risk and behavioral stories. And I’m becoming more convinced that human behavior doesn’t change much, so increasing faith in momentum.
I think it was your book Rick, that first opened my eyes to the value of uncorrelated portfolio components!

Dave

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Re: Larry Swedroe: Don’t Count Out Commodities

Post by nedsaid » Wed Mar 14, 2018 9:00 am

Random Walker wrote:
Mon Mar 12, 2018 12:49 pm
Atlas shrugged,
I’d say you’re a little off base :-). Certainly only one history of multiple alternatives has actually played out. And as you say, that’s the reality we need to deal with. But we invest looking forward and we can’t predict the future reality. So we need to build portfolios that take into account multiple potential alternative future realities, only one of which will actually play out. Buying earthquake insurance was no mistake because the earthquake didn’t occur, and buying insurance against events or unexpected inflation is not a mistake if the event or inflation doesn’t occur.
This is why Larry is promoting “hyperdiversification”:We can’t predict the future. In a well diversified portfolio, some part will always be performing poorly. I think William Bernstein wrote “Diversification is always working, whether we want it to or not”

Dave
What this boils down to is whether the benefits of the insurance are worth the premiums. The benefit is having an asset class that goes up in the time of crisis, and hopefully a lot, when most everything else is going down. The premium you pay is the performance drag from that asset class during more normal times. Are you better off foregoing the insurance and just waiting out the crisis? Really tough one to answer.

What kind of insurance do you buy and how much? Will the insurance work when you most need it to? The answers to both are uncertain. If we knew what would cause the next market crisis, it would be relatively easy to prepare for it. But we don't. We run the danger of fighting the last war. Pretty much, what worked in the last crisis may not work in the next.

All kinds of things helped lower the risks of the 2000-2002 bear market. The things that worked then crashed along with everything else in 2008-2009. Each market crisis is different as are the causes of each.

Trying to prepare for the next crisis raises a lot of tough questions. We just don't know the answers for sure.
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Re: Larry Swedroe: Don’t Count Out Commodities

Post by Greg in Idaho » Wed Mar 14, 2018 9:02 am

It seems to me (also) that this kind of stuff goes against BH basics: add complexity and cost for potential small hypothetical gains...another, more sophisticated form of noise, which if listened to, may lead one to either do more fiddling (a common source of mistakes), or be tempted to hire a professional (perhaps the ultimate goal)...

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Re: Larry Swedroe: Don’t Count Out Commodities

Post by Leif » Wed Mar 14, 2018 10:19 am

Random Walker wrote:
Tue Mar 13, 2018 11:15 pm
Hi Rick,
Yes I’ve thought I’ve seen a trend towards simpler / fewer in your comments over time. That has certainly gotten my attention; fits with my Econ 1 and chemical equilibrium visions of the market.
I wonder if Rick has reduced/eliminated his rather significant holding of small value? Have you stayed the course Rick?
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Re: Larry Swedroe: Don’t Count Out Commodities

Post by nisiprius » Wed Mar 14, 2018 1:21 pm

Random Walker wrote:
Tue Mar 13, 2018 6:36 pm
The reason the CCF discussion has gotten me amped up here is that some people have said that Larry flip flopped on CCFs. I agree that he recommended them some in the past and then perhaps recommended them less or stopped recommending them for a while. I’ll even admit that he may have made his recommendations with an eye on valuations. (Even Bogle eyes valuations). But it’s not a simple flip flop or effort at market timing. I believe it represents continuously making decisions as investing evolves, new financial instruments become available, and real investors with finite real portfolio limitations need to make portfolio decisions that involve trade offs.

Dave
Larry Swedroe often hedges his remarks, and often reminds us that he doesn't make predictions.

You will have to sort out for yourself whether his 2015 article, Financialization and Commodities can be summarized as "for" or "against" commodities. As I read that article, he is putting a great deal of credence to the study he cites.
Between 2004 and 2008 alone, it’s estimated that at least $100 billion moved into commodity futures. This increase in investor demand has led to what’s been called the “financialization” of commodities markets. As is always the case, an increase in demand impacts prices and expected returns....

Zaremba’s analysis of the data led him to estimate—and he emphasized that this should only be treated as an estimate—that financialization had led to an expected roll return of about 0.38 percent per month (about 4.5 percent per year) lower than the average for the full period....

Zaremba writes: “In other words, as a result of the process of commodity markets’ financialization, the benefits of commodity investments in terms of portfolio may not be valid anymore.” He did add the following: “They still may turn attractive if roll yields enter their positive territory anew.”
With regard to CCFs, I personally feel that either he has "flip-flopped," or else that he believes that he can (and has) successfully timed the market in CCF-based mutual funds, e.g. in his comment on the discussion of his 2015 article, in which he wrote
Personally I've been in and out of commodities based on two things, first the steepness of the yield curve (if I want to add duration then I consider adding CCF) and the second is the contango issue. And thus because of the high contango during much of the period I was out of CCF. Now being in backwardation doesn't mean you avoid falling prices. When curve steepened last year and there was backwardation I went longer on bonds and added small amount of CCF. The bonds did great and the CCF did poorly. Net I was fine. I'm currently out, moving my position into QSPIX, where expected returns are much higher and gain some diversification benefits but lose the unexpected inflation hedge and the supply shock hedge.
Note that the model portfolios he published in 2004, in The Only Guide to a Winning Investment Strategy You'll Ever Need: The Way Smart Money Invests Today, did not allocations to commodities and/or CCFs.

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Re: Larry Swedroe: Don’t Count Out Commodities

Post by Dead Man Walking » Wed Mar 14, 2018 3:39 pm

However beautiful the strategy, you should occasionally look at the results.

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Re: Larry Swedroe: Don’t Count Out Commodities

Post by MrPotatoHead » Wed Mar 14, 2018 10:51 pm

nisiprius wrote:
Wed Mar 14, 2018 1:21 pm
Random Walker wrote:
Tue Mar 13, 2018 6:36 pm
The reason the CCF discussion has gotten me amped up here is that some people have said that Larry flip flopped on CCFs. I agree that he recommended them some in the past and then perhaps recommended them less or stopped recommending them for a while. I’ll even admit that he may have made his recommendations with an eye on valuations. (Even Bogle eyes valuations). But it’s not a simple flip flop or effort at market timing. I believe it represents continuously making decisions as investing evolves, new financial instruments become available, and real investors with finite real portfolio limitations need to make portfolio decisions that involve trade offs.

Dave
Larry Swedroe often hedges his remarks, and often reminds us that he doesn't make predictions.

You will have to sort out for yourself whether his 2015 article, Financialization and Commodities can be summarized as "for" or "against" commodities. As I read that article, he is putting a great deal of credence to the study he cites.
Between 2004 and 2008 alone, it’s estimated that at least $100 billion moved into commodity futures. This increase in investor demand has led to what’s been called the “financialization” of commodities markets. As is always the case, an increase in demand impacts prices and expected returns....

Zaremba’s analysis of the data led him to estimate—and he emphasized that this should only be treated as an estimate—that financialization had led to an expected roll return of about 0.38 percent per month (about 4.5 percent per year) lower than the average for the full period....

Zaremba writes: “In other words, as a result of the process of commodity markets’ financialization, the benefits of commodity investments in terms of portfolio may not be valid anymore.” He did add the following: “They still may turn attractive if roll yields enter their positive territory anew.”
With regard to CCFs, I personally feel that either he has "flip-flopped," or else that he believes that he can (and has) successfully timed the market in CCF-based mutual funds, e.g. in his comment on the discussion of his 2015 article, in which he wrote
Personally I've been in and out of commodities based on two things, first the steepness of the yield curve (if I want to add duration then I consider adding CCF) and the second is the contango issue. And thus because of the high contango during much of the period I was out of CCF. Now being in backwardation doesn't mean you avoid falling prices. When curve steepened last year and there was backwardation I went longer on bonds and added small amount of CCF. The bonds did great and the CCF did poorly. Net I was fine. I'm currently out, moving my position into QSPIX, where expected returns are much higher and gain some diversification benefits but lose the unexpected inflation hedge and the supply shock hedge.
Note that the model portfolios he published in 2004, in The Only Guide to a Winning Investment Strategy You'll Ever Need: The Way Smart Money Invests Today, did not allocations to commodities and/or CCFs.

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And the problem with all this slicing and dicing for the DIY types is you better hope all your money is in tax privileged because guru following appears to often create taxable events, your guru may pass away, and your cognitive abilities may decline to the point you are not able to execute the strategies suggested. The latter is particularly troublesome.

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Re: Larry Swedroe: Don’t Count Out Commodities

Post by Rick Ferri » Fri Mar 16, 2018 7:15 pm

MrPotatoHead wrote:
And the problem with all this slicing and dicing for the DIY types is you better hope all your money is in tax privileged because guru following appears to often create taxable events, your guru may pass away, and your cognitive abilities may decline to the point you are not able to execute the strategies suggested. The latter is particularly troublesome.
Exactly! Hit the nail right in the head. Do what you understand and can keep up with. If there is any question, don’t do it. IMO, simplicity trumps complexity every time.
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Re: Larry Swedroe: Don’t Count Out Commodities

Post by Leif » Fri Mar 16, 2018 7:31 pm

MrPotatoHead wrote:
And the problem with all this slicing and dicing for the DIY types is you better hope all your money is in tax privileged because guru following appears to often create taxable events, your guru may pass away, and your cognitive abilities may decline to the point you are not able to execute the strategies suggested. The latter is particularly troublesome.
I have broad based index funds in taxable. S&P 500 and EAFE. They are very tax efficient. Not all my money is in tax privileged.

In my tax preferred I have my SV, ISV, EM, and bonds.
Rick Ferri wrote:
Fri Mar 16, 2018 7:15 pm
Exactly! Hit the nail right in the head. Do what you understand and can keep up with. If there is any question, don’t do it. IMO, simplicity trumps complexity every time.
Odd that Rick would agree. I thought he supported an even split of asset classes between taxable and tax preferred. Is that not correct? Do you still have a large allocation to SV Rick, or have you sold that?

Also, I have only a few additional funds compared to a 3-fund. I don't think the complexity is that daunting. I have targets for each class and a spreadsheet to track, with one-click to update my spreadsheet with the most recent values. I plan to stay the course on my S&D.
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Re: Larry Swedroe: Don’t Count Out Commodities

Post by nisiprius » Sat Mar 17, 2018 6:43 am

In an earlier post here, I opined that in my opinion, Larry Swedroe either has indeed flip-flopped on CCFs, or else that he believes that he can (and has) successfully timed the market in CCF-based mutual funds, based on his comments like "Personally I've been in and out of commodities based on two things, first the steepness of the yield curve (if I want to add duration then I consider adding CCF) and the second is the contango issue..." See the linked post for full context.

Larry has sent me a PM responding to remark and he's given me permission to quote it. I choose to quote it verbatim in its entirely:
First, don't believe anyone can time markets in general (TS MOM does work though), but valuations do matter. With stocks its things like PE. With futures its backwardation or contango and as I wrote in my article we had massive contango, which works like very high PE, doesn't mean returns will be negative, but it's big hurdle.
that is why I personally sold years ago. Plus we had new alternatives coming like QSPRX.

Now backwardation doesn't guarantee profits any more than low PEs guarantee high returns, but they provide tailwinds

So for most who are buy and hold you have to decide to ignore or not.

What I showed however is that whichever you did, even if held throughout and actually took BOTH my advice of CCF considering AND adding maturity you did fine. And I could have shown not going from short to intermediate but intermediate to long and would have seen even better results

So don't see how you can say I flip flopped

What I have done is with the new alts available suggested that they are superior diversifiers. But if don't invest in them and have inflation risk concerns CCF is still worth considering but should extend durations at same time for reasons I gave

Best wishes
Larry
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Re: Larry Swedroe: Don’t Count Out Commodities

Post by stlutz » Sat Mar 17, 2018 10:45 am

Warning: This comment is going to sound much more harsh that I intend it to, so I will then explain. I think the CCF episode shows that Swedroe is not the leading researcher that some here think he is, and that affects the results one can achieve from following his recommendations/suggestions/predictions/expectations (pick your preferred word).

Free lunch opportunities open up to those who till through the landscape of financial assets looking for opportunities that very few are aware of. Most commonly, these opportunities are found by secretive investors (e.g. RenTek) and may never even get publicized. But some are actually found first by individuals (P2P lending in its early days).

What happens next is that word leaks out and AUM-based investment firms take the opportunity to start forming funds based on the anomaly. The next level of investors then get in. The free lunch starts to become merely a free stop at the dessert tray.

It is at this point that the opportunity gets marketed to Swedroe (generally via academic or practitioner research papers), and it becomes open to higher-net-worth investors who can access via a gatekeeper.

Next, people like Swedroe write articles/books etc. touting the opportunity and converting the research into information that is more readily understood by a general, albeit sophisticated, investing audience. That audience looks for, and finds, ways to access the opportunity w/o access via that gatekeeper. These investors then become the bozos that Bernstein talks about. At this point the premiums are gone or may have become negative. Swedore has gotten out at this point--he may have done well on his investment or may not have.

The point of this narrative is to make it clear at what point it is that good financial writers start talking about something. The big money was made long before they put pen to paper. Those who made it may have been pouring through terabytes of data on their own. It may be by those who saw something interesting and decided it was worth the risk (what you might call seat-of-the-pants bargain shoppers). But once you start reading articles or books about great new opportunities, know that the time window to take advantage of them is short.

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Re: Larry Swedroe: Don’t Count Out Commodities

Post by lack_ey » Sat Mar 17, 2018 11:48 am

The thing to me is simply that if you have inflation concerns, add CCFs, and then extend duration in nominal bonds, at a certain point you're just about as exposed to unexpected inflation risk as you were without CCFs (extending nominal bonds negates that potential benefit of the CCFs).

Say you have 50% stocks, 45% nominal bonds, 5% CCFs. Let's say inflation spikes up and to make calculations simpler, stocks stay put in real returns. You extend duration in the 45% nominal bonds so they go down 20% in real terms. The CCFs gain 30% real. Your return overall is -7.5%. Alternatively, you have 50% stocks, 50% nominal bonds with lower duration. Stocks stay put and your bonds go down 15%. Your return overall is -7.5%. And CCFs did what we were hoping for in this hypothetical.

Now, if the extra term risk adds to returns in the long term and CCFs are not too negative (or better yet, about equal in returns to bonds, which is very plausible if taking historical returns into account, though people have reservations about that), then the first allocation should have the superior returns over time.

Or alternatively you could extend duration by less, or add more CCFs. But that's a real tradeoff, right? You have to decide how much the potential inflation shock protection is worth to you relative to the diversification of returns (or deworsification?) more generally and other properties.

Extending from short-term Treasuries to intermediate-term Treasuries (VGSH to VGIT) as in the article is pretty significant, about a 3.2 years duration change over a period that we know in hindsight greatly favored term risk, getting into the much steeper part of the yield curve over the period. That at first glance doesn't seem commensurate with the addition of CCFs so that doesn't seem a fair comparison.

I don't think CCFs are necessarily some bad idea, though, generally.

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Re: Larry Swedroe: Don’t Count Out Commodities

Post by Random Walker » Sat Mar 17, 2018 12:18 pm

Stlutz,
I completely agree with your ideas about bozos and skating where the puck was. But no one has ever really considered any of the recommendations we’re discussing a free lunch. It’s mostly about diversifying across different types of risk. Each individual portfolio component has its own unique combination of risks, and perhaps there is a bit of free lunch at the portfolio level by diversifying across risks/sources of return in the portfolio. But at the individual investment level, don’t think anyone is expecting something for nothing.

Dave

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Re: Larry Swedroe: Don’t Count Out Commodities

Post by Rick Ferri » Sat Mar 17, 2018 8:37 pm

I have always said, and continue to say, alpha goes to the manager.

In other words, any benefit over market betas from slice and dice is spent on the adviser in the middle running the strategy. This doesn’t mean don’t use an adviser. It means you should look at this as a way to reduce the cost of the adviser (or even paid for the adviser in the case of a low fee), and that’s perfectly OK. Just be aware of it.

I have been saying this for 15 years.

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Re: Larry Swedroe: Don’t Count Out Commodities

Post by packer16 » Sun Mar 18, 2018 7:16 am

IMO the quality of Larry's decision is dependent upon the quality of his model. He is treating financial data & processes like scientific data which is an interesting approach but may be wrong if financial markets do not act like natural processes. If he has the correct model of markets then he is correct. I believe his model is adding uncorrelated assets together will give you a better portfolio despite some assets having lower expected return and even more so after fees.

The key assumptions in the model are lack of correlation continuing & the cost you pay to buy these uncorrelated assets. If it does not, like in the case of CCF you end up with a failure. Another example is SCV after his article is 2011. Now if you invested in either of these after his recommendations you would have had experienced return shortfalls from the advertised expected return. The other recommended fund QSPIX which is touted as a success but has not generated equity-like returns but generated less than this. He also recommended a low cost EM fund which I would say is a win. So on the surface it sounds like the record so far with these deviations from lets say the 3 fund portfolio to date (it may change in the future) is 1-2-1. I give QSPIX a tie as it has generated more than balanced fund returns but not equity like as originally described. This data and the data Taylor quoted on AQR funds having return shortfalls, makes me skeptical of the model in practice. In theory it works great but in practice not so great. One observation is the recommended fund that was win had a return driver of beta (a well understood & long time return powerhouse) and low costs which sounds very Boglehead like to me.

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Re: Larry Swedroe: Don’t Count Out Commodities

Post by Rick Ferri » Sun Mar 18, 2018 9:10 am

A couple of closing comments:

If you decide to go down the road of slice and dice, it’s imperative to make it a life long investment strategy. Make your bet and stick with it. Slice and dice won’t work if the slices keep changing, or if the strategy shifts back to market beta only because of underperformance.

The only guarantee in a slice and dice strategy is that the cost will always be higher than a simple market tracking strategy. Those costs must be overcome first before any “alpha” is generated. An adviser in the middle of it all makes earning alpha even more difficult for you, the investor.

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Last edited by Rick Ferri on Sun Mar 18, 2018 10:27 am, edited 1 time in total.
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Re: Larry Swedroe: Don’t Count Out Commodities

Post by rustymutt » Sun Mar 18, 2018 9:20 am

I'd be concerned that I'd end up with a yard full of corn that I couldn't move. I have to side with Rick on this discussion.
Commodities don't belong in my portfolio. Now if I was as rich as Warren Buffet, or Bill Gates, then maybe some of my wealth could be in some commodities. Better yet, I could own commodity companies in a Mutual Fund. I believe REITs have a correlation to inflation also. Many other smart choices.
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Re: Larry Swedroe: Don’t Count Out Commodities

Post by pkcrafter » Sun Mar 18, 2018 12:09 pm

Well, there was a time when I never thought Larry would recommend a fund with an ER of 1.40%.

The BAM Alliance (scroll down).

http://buckinghamadvisor.com/about/alliances/


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Re: Larry Swedroe: Don’t Count Out Commodities

Post by smesman » Sun Mar 18, 2018 4:25 pm

I appreciate Larrys article and the discussion.

One thing I'm missing is an intuitive explanation of why commodities would hedge better than TIPS (or: respond stronger to inflation).

Is it because commodities are raw products and sold at a multiple to consumers?

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Re: Larry Swedroe: Don’t Count Out Commodities

Post by boglerdude » Mon Mar 19, 2018 1:39 am

Depends how you define inflation. TIPS use CPI which includes things like electronics and clothing.

I dont buy clothes, I buy food, so a commodities fund might help me insure against food inflation, be it from increased money supply or decreased food supply.

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Re: Larry Swedroe: Don’t Count Out Commodities

Post by Elysium » Mon Mar 19, 2018 7:56 am

packer16 wrote:
Sun Mar 18, 2018 7:16 am
IMO the quality of Larry's decision is dependent upon the quality of his model. He is treating financial data & processes like scientific data which is an interesting approach but may be wrong if financial markets do not act like natural processes. If he has the correct model of markets then he is correct. I believe his model is adding uncorrelated assets together will give you a better portfolio despite some assets having lower expected return and even more so after fees.
Packer
This is a very astute observation. I have come to realize it as well about Larry and his theories, because that is what they are mostly, just theories with no real life results to prove it over an investment life time. I would also note that Larry did not make his fortune by investing this way, as I understand he made his money the old fashioned way, being very successful at his career. Most of the wealth he made is invested in safe fixed income securities which allows him to try all these exotic investment ideas with a small sliver of his net worth and makes no difference to his lifestyle if that strategy fails, as he has stated openly many times, credit to him. I do apprecciate his efforts to bring awareness on these new products and strategies and the healthy intellectually stimulating debates. But, I will just stop at that, and not let that affect my investments, unless of course I am in a position where such changes to my portfolio will not affect my lifestyle. Most of us here are not in that boat.

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Re: Larry Swedroe: Don’t Count Out Commodities

Post by Random Walker » Mon Mar 19, 2018 9:27 am

Packer and Dieharder,
That theory of Larry’s that you are referring to is Modern Portfolio Theory. It’s on pretty solid footing. Harry Markowitz got a Nobel prize for it. I’m a big fan of a book called Asset Allocation: Balancing Financial Risk by Roger Gibson. In it he shows the benefits of multi asset class investing. The specific asset classes he uses are not what’s important, the understanding of mixing less than perfectly correlated, uncorrelated, negatively correlated sources of return in a single portfolio is what is important. As new sources of risk/return become available to us retail investors, we have the opportunity to choose whether to incorporate them into a portfolio based on modern portfolio theory. Check out this thread I started a while back based on the main graphic from his book.

viewtopic.php?f=10&t=231257&p=3778438#p3778438

Dave

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Re: Larry Swedroe: Don’t Count Out Commodities

Post by Elysium » Mon Mar 19, 2018 2:52 pm

Random Walker wrote:
Mon Mar 19, 2018 9:27 am
Packer and Dieharder,
That theory of Larry’s that you are referring to is Modern Portfolio Theory. It’s on pretty solid footing. Harry Markowitz got a Nobel prize for it. I’m a big fan of a book called Asset Allocation: Balancing Financial Risk by Roger Gibson. In it he shows the benefits of multi asset class investing. The specific asset classes he uses are not what’s important, the understanding of mixing less than perfectly correlated, uncorrelated, negatively correlated sources of return in a single portfolio is what is important. As new sources of risk/return become available to us retail investors, we have the opportunity to choose whether to incorporate them into a portfolio based on modern portfolio theory. Check out this thread I started a while back based on the main graphic from his book.

viewtopic.php?f=10&t=231257&p=3778438#p3778438

Dave
I am quite informed about MPT, Markowitz, Fama-French, Sharp, Roger Gibson, Rob Arnott, on and on ... Taylor's 3-fund portfolio is probably the most efficient MPT portfolio, and you could slice and dice endlessly from there on. At some point you lose value and with some of these alternatives that is the case. You end up paying for something that likely gives you nothing other than complexity and dare I say lower returns.

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Re: Larry Swedroe: Don’t Count Out Commodities

Post by nisiprius » Mon Mar 19, 2018 3:07 pm

Random Walker wrote:
Mon Mar 19, 2018 9:27 am
Packer and Dieharder,
That theory of Larry’s that you are referring to is Modern Portfolio Theory. It’s on pretty solid footing. Harry Markowitz got a Nobel prize for it. I’m a big fan of a book called Asset Allocation: Balancing Financial Risk by Roger Gibson. In it he shows the benefits of multi asset class investing. The specific asset classes he uses are not what’s important, the understanding of mixing less than perfectly correlated, uncorrelated, negatively correlated sources of return in a single portfolio is what is important. As new sources of risk/return become available to us retail investors, we have the opportunity to choose whether to incorporate them into a portfolio based on modern portfolio theory. Check out this thread I started a while back based on the main graphic from his book.

viewtopic.php?f=10&t=231257&p=3778438#p3778438

Dave
1) A Nobel prize in economics is more like one in literature or peace: it is an indication that the laureate is deserves recognition as an influential thought leader, not an endorsement of the scientific validity of the theory. It was widely noted that Fama and Shiller received Nobel prizes in the same year, even though their respective theories are pretty inconsistent with each other.

2) I think you are mixing up two aspects of MPT. The part of MPT that has validity is that if, over some specified time period, a set of assets actually has some specific values for return, standard deviation, and cross-correlations, then in some but not all cases, it turns out that a specific portfolio of these assets would have had a higher Sharpe ratio than any of the assets in isolation.

By the way, even on these terms, we have to be clear on "some but not all cases." It is not sufficient for the assets to be uncorrelated. They must also have decent, comparable return and standard deviation in their own right.

For example, cash has essentially zero correlation with stocks, but it is not valuable as a diversifier. A portfolio of cash and stocks does not have a higher Sharpe ratio than stocks alone because cash has essentially zero standard deviation as well. For another example, an allocation to casino bets has zero correlation with stocks and a high standard deviation, but it will not improve a stock portfolio because it has negative return.

The condition for a "diversifier" asset to synergize with, say, a stock asset class is that the correlation must be lower than the quotient of (lower of the two Sharpe ratios)/(higher of the two Sharpe ratios). Cases where the correlation has been robustly much lower than this quotient are rare.

3) Within its range of validity, MPT is only useful if you have reliable forward-looking prediction of what the return, standard deviation, and correlations will be in the future--over your proposed investing time frame. It's a truism that past performance is no sure guide to future performance. Unfortunately, exactly the same thing is true of standard deviation and correlations. Correlations play "now you see 'em, now you don't" just the way return does.

4) In practice, MPT is not used to construct portfolios. I'm sure I remember that Larry Swedroe had a column, which unfortunately I can't find, complaining bitterly about the dangers of making mean-variance optimizers available to retail investors. The problem is where to get the return, standard deviation, and correlation numbers to plug in. If you simply use past values, MPT tends to tell you the obvious: the best portfolio is to put 100% into whatever did best over the time period of the past data. Or, worse, if not constrained, it will suggest using leverage on the best-recently-performing assets and short positions on the worst-performing. MPT doesn't work as an everyday tool to be applied to Boglehead-style portfolios, Markowitz' Nobel prize notwithstanding. On close examination, firms claiming to use MPT are often using something called the Black-Litterman methodology instead, which works, not off of actual data, but off a combination of data with analyst's "views" or opinions.
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Re: Larry Swedroe: Don’t Count Out Commodities

Post by Random Walker » Mon Mar 19, 2018 3:59 pm

Agree that there is decreasing marginal benefit and increasing marginal cost as individual investors stray further from simple portfolios towards more esoteric, complex, and expensive portfolio additions that take up smaller %s of the portfolio,

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Re: Larry Swedroe: Don’t Count Out Commodities

Post by saltycaper » Mon Mar 19, 2018 4:09 pm

smesman wrote:
Sun Mar 18, 2018 4:25 pm
I appreciate Larrys article and the discussion.

One thing I'm missing is an intuitive explanation of why commodities would hedge better than TIPS (or: respond stronger to inflation).

Is it because commodities are raw products and sold at a multiple to consumers?
TIPS are as good a "hedge" as any. Don't believe me? Don't have to. Even Larry Swedroe once said so, back in 2012, calling them, "The only good inflation hedge":

How to hedge against inflation (hint: forget gold)

It is a multi-page article. Commodities are on page 3. Doesn't it say there that short-term nominal bonds are a better hedge than commodities? That's interesting. I can probably dig up an article where Larry says short-term nominal bonds are not a good inflation hedge. (I myself don't think they are.) I wonder what that means for commodities then. (Here it is! Time to slay these myths about TIPS)

Isn't this game fun?

I'm all for modifying strategy when new information comes to light, but if things change with this amount of frequency, I think there is something wrong with a deeper underlying philosophy. I don't want to discount the possibility that all of the diverging opinions have a shared and common explanation, but it can't possibly be clear to readers if that is the case.

Not holding the market portfolio myself, I do think it is prudent to engage in these sorts of exercises regarding various types of risk, but there is definitely a false precision in the presentation of certain advice. I'm not sure what the point of it is. Some people have to write articles on a periodic basis for their job because their job literally is to produce collections of words for people to read. I don't know why others feel compelled to do so with such frequency, especially with such vulnerable statistics. I like advice that is painted with broad strokes and a little humility. Larry does that sometimes, sometimes not. I gravitated more toward Bill Bernstein.
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