Lifecycle Investing vs. Hedgefundie's Excellent Adventure

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he400
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Re: Lifecycle Investing vs. Hedgefundie's Excellent Adventure

Post by he400 »

millennialmillions wrote: Sat Aug 14, 2021 11:51 am I ran the same strategies as above through bootstrap-sampled Monte Carlo simulations. The fund performance data includes 1955-2020. I assume each year is independent but that the returns across various funds within a year are dependent. E.g. a year in the sample may correspond to historical year 1980, in which case returns for all funds reflect returns from 1980. I ran 10,000 simulations of 35-year periods for each strategy.

Image

Unsurprisingly, there is more spread in the percentiles than the straight historical analysis. The only meaningful difference I see is that the 10th percentile is much closer across strategies.

Looking at both the historical period analysis and the bootstrap analysis, the constant 2x 70-30 portfolio seems like the winner to me. The 10th percentile is close to the best result, and the median result is significantly higher than anything except a constant HFEA.

The biggest thing I'm grappling with is Rob's point about bond performance being inherently different in the future. However, even looking at periods that begin in the mid-80's, the performance of the 2x 70-30 portfolio is significantly better than strategies that do not hold bolds while leveraged. I understand it's not reasonable to assume that high of inflation and bond yields going forward, but isn't it reasonable to assume the risk premium of equities over bonds will behave similarly to the past and the strategy that performed best across history is most likely to perform best going forward?
This is very interesting - do you mind sharing your MC code? I have been playing around with your earlier analysis and it has been very helpful.

Thank you!
kjm
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Re: Lifecycle Investing vs. Hedgefundie's Excellent Adventure

Post by kjm »

Think you could add 100% stocks, 200% intermediate-term treasures into the backtest?
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millennialmillions
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Re: Lifecycle Investing vs. Hedgefundie's Excellent Adventure

Post by millennialmillions »

My original analysis used leveraged ETFs (LETFs) because we have solid simulated data going back to 1955 and the strategy is very easy to implement in practice. However, LETFs have some disadvantages. They reset leverage daily (deviating from the Lifecycle Investing strategy), and they don't allow exploration of things like ITT instead of LTT.

I updated my analysis to test leverage using margin, in addition to LETFs. For my analysis, I chose to use the 10-year treasury yield as the historical cost of borrowing. In recent times, this has been close to the cost of margin on Interactive Brokers, so it seems reasonable. There are certainly cheaper ways to leverage in tax-advantaged accounts, such as futures. However, the majority of my portfolio is in regular taxable, and I'm fine being a bit pessimistic on the cost of leverage overall.

Here is my updated Excel workbook. The historical cost of borrowing can be replaced with anything you believe is reasonable for your situation. The workbook contains simple macros to run through 10,000 bootstrap-sampled Monte Carlo simulation, but you can see how the logic works for a given simulation without using the macros.

And here are some updated results using LETFs and margin for both historical simulations (every historical 35-year period) and 10,000 bootstrap simulations (sampling individual years):

Image

Overall, using margin instead of LETFs has a very minor impact on the results. Again, my assumption for cost of borrowing is likely conservative, so a better result could be achieved using futures in a tax-advantaged account.

Based on these results, the constant 2x 70/30 portfolio still looks very appealing to me. I'm surprised that Lifecycle strategies consistently underperform at the median while offering little downside protection at the 10th percentile. Digging into this, I realized that using the strategy described in the book still results in much higher exposure to stocks in later years because the portfolio growth well-outpaces inflation. To combat this, I tried adding in assumed real returns to calculation the present value of the lifetime portfolio, which results in a smoother leverage transition. So far, it doesn't appear this makes much of a difference. The ability to do this in included in the workbook, so please feel free to play around with the Portfolio Assumed Real Returns field.

Next, I am looking to do some analysis with ITT instead of LTT. As I've been thinking more about the right portfolio allocation to leverage, I realized that there is a fundamental problem in the way many calculate the efficient frontier. The efficient frontier maximizes return/risk. Risk is typically calculated as annual standard deviation of returns. However, that is not risk to me. Risk to me is variance in 35-year returns. So it makes sense that leveraged allocations on the "efficient frontier" when considering only 1 year periods do not win in these simulations. I plan to think/experiment more around this.
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Re: Lifecycle Investing vs. Hedgefundie's Excellent Adventure

Post by Ramjet »

kjm wrote: Sun Sep 12, 2021 9:50 pm Think you could add 100% stocks, 200% intermediate-term treasures into the backtest?
Use negative cash in Portfolio Visualizer with ticker cashx
VT & HFEA
kjm
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Re: Lifecycle Investing vs. Hedgefundie's Excellent Adventure

Post by kjm »

millennialmillions wrote: Mon Sep 13, 2021 1:31 pm Next, I am looking to do some analysis with ITT instead of LTT. As I've been thinking more about the right portfolio allocation to leverage, I realized that there is a fundamental problem in the way many calculate the efficient frontier. The efficient frontier maximizes return/risk. Risk is typically calculated as annual standard deviation of returns. However, that is not risk to me. Risk to me is variance in 35-year returns. So it makes sense that leveraged allocations on the "efficient frontier" when considering only 1 year periods do not win in these simulations. I plan to think/experiment more around this.
Looking forward to seeing what you come up with. I agree it's a mistake to focus solely on standard deviation as your measure of risk. I like to look at the ratio of annualized returns to max drawdown.
Ramjet wrote: Mon Sep 13, 2021 2:42 pm Use negative cash in Portfolio Visualizer with ticker cashx
Yea, PV only goes back to 1972. Thought I read somewhere in this thread the OP has data back to the 1950s. The testing I was able to do in PV suggests a portfolio of 100% stocks and 200% ITTs can return twice as much as 100% stocks with a similar risk profile. You could get this with 33% UPRO / 67% TYD.
skierincolorado
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Re: Lifecycle Investing vs. Hedgefundie's Excellent Adventure

Post by skierincolorado »

millennialmillions wrote: Mon Sep 13, 2021 1:31 pm
Next, I am looking to do some analysis with ITT instead of LTT. As I've been thinking more about the right portfolio allocation to leverage, I realized that there is a fundamental problem in the way many calculate the efficient frontier. The efficient frontier maximizes return/risk. Risk is typically calculated as annual standard deviation of returns. However, that is not risk to me. Risk to me is variance in 35-year returns. So it makes sense that leveraged allocations on the "efficient frontier" when considering only 1 year periods do not win in these simulations. I plan to think/experiment more around this.
The average 35-yr return and associated variance are mathematically a direct product of the annual returns and variance. Stocks have high annual returns and high annual variance. They also have high 35-yr returns, but also high variance in the 35-yr return. This assumes, that annual returns are random and there is no correlation between them - which isn't quite true but is close enough. I think you'll find that the efficient frontier of annual returns also maximizes the 35-yr return with the least variance in final outcome.

This is exactly why HFEA does so well. HFEA is reasonably close to the historical efficient frontier, and has a very high sharpe ratio (the efficient frontier is the highest sharpe ratio, and HFEA is very close to this sharpe ratio but not quite there). We could get the same return from stocks by leveraging ~3x, but the variance in final outcome would be much higher. The negative correlation between stocks and bonds reduces both the annual variance, and the 35-yr variance. By replacing LTT with ITT, you can reduce this variance short and long-term variance further. Or you could increase leverage to further increase returns beyond HFEA, while maintaining similar variance in the 1-yr and 35-yr returns.
Last edited by skierincolorado on Mon Sep 13, 2021 4:26 pm, edited 1 time in total.
jarjarM
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Re: Lifecycle Investing vs. Hedgefundie's Excellent Adventure

Post by jarjarM »

Ramjet wrote: Mon Sep 13, 2021 2:42 pm
kjm wrote: Sun Sep 12, 2021 9:50 pm Think you could add 100% stocks, 200% intermediate-term treasures into the backtest?
Use negative cash in Portfolio Visualizer with ticker cashx
Just be careful with PV data when deal with margin. PV uses month end data so intra-month volatility is not accounted for. One can get margin call if intra-month drop is significant enough. That happened in the HFEA thread.
skierincolorado
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Re: Lifecycle Investing vs. Hedgefundie's Excellent Adventure

Post by skierincolorado »

firebirdparts wrote: Sun Aug 15, 2021 11:21 pm
bumbojumbo wrote: Wed Aug 11, 2021 1:10 am Does anyone know why long-term treasuries (LTT) have had lower risk-adjusted returns than STT or ITT?
Returns are similar, but variation in price due to interest rate expectations are not similar.

It seems to me that is misleading and unhelpful. The reason LTT's figure in this sort of strategizing is that they have higher absolute returns, high volatility, and lack of correlation to stocks. The ideal portfolio would have something in with returns as high as stocks but short-term negative correlation. No such investment exists, but if it did, volatility would actually be useful. In these portfolios of the past, the volatility of long term treasuries has not been a problem, it's been a feature.

I think mistaking the volatility for actual risk is a very bad mistake, commonly made in these forums. If you are really desperate to do some mathematical comparison, it's generally accepted that volatility of stocks could be used a proxy for risk, which is not easily measureable. But obviously, a model of the risk of stocks is not really applicable to treasuries. Treasury pricing is based entirely on some simple fundamental concepts.
The risk of a US treasury bankruptcy is not involved in setting the prices. Using volatility as a proxy for risk is not some fundamental truth; it's a weak attempt at building a meaningful model.

To me it just seemed like total nonsense. This is just my opinion which these days would need to be combined with over $2 to buy you a cup of coffee.
Replacing LTT with twice as much ITT has the same variance, the same negative correlation, and higher return. This is why all the mathematical models you are criticizing are so widely used and why they are accurate. There is always the question of how much leverage to take. Investors can always leverage more. So why don't they? Because their time horizon is not infinite. Leveraging stocks 2x will always beat leveraging stocks 1x or 1.5x, but it will take a 30+ year time horizon to (nearly) guarantee this. Over a 10 year time horizon, there is considerable chance that 2x in stock will have worse returns than 1x in stock, potentially much worse if you were 2x leveraged in 2000, 2008, 1987 etc. Many investors don't have a 30+ year time horizon. Because ITT have lower volatility, we can leverage them much more than LTT, without increasing our time horizon, which is already quite long for HFEA.
Hydromod
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Re: Lifecycle Investing vs. Hedgefundie's Excellent Adventure

Post by Hydromod »

kjm wrote: Mon Sep 13, 2021 3:11 pm
millennialmillions wrote: Mon Sep 13, 2021 1:31 pm Next, I am looking to do some analysis with ITT instead of LTT. As I've been thinking more about the right portfolio allocation to leverage, I realized that there is a fundamental problem in the way many calculate the efficient frontier. The efficient frontier maximizes return/risk. Risk is typically calculated as annual standard deviation of returns. However, that is not risk to me. Risk to me is variance in 35-year returns. So it makes sense that leveraged allocations on the "efficient frontier" when considering only 1 year periods do not win in these simulations. I plan to think/experiment more around this.
Looking forward to seeing what you come up with. I agree it's a mistake to focus solely on standard deviation as your measure of risk. I like to look at the ratio of annualized returns to max drawdown.
Ramjet wrote: Mon Sep 13, 2021 2:42 pm Use negative cash in Portfolio Visualizer with ticker cashx
Yea, PV only goes back to 1972. Thought I read somewhere in this thread the OP has data back to the 1950s. The testing I was able to do in PV suggests a portfolio of 100% stocks and 200% ITTs can return twice as much as 100% stocks with a similar risk profile. You could get this with 33% UPRO / 67% TYD.
There's a new feature allowing different leverage options; just showed up two weeks ago.
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Re: Lifecycle Investing vs. Hedgefundie's Excellent Adventure

Post by millennialmillions »

skierincolorado wrote: Mon Sep 13, 2021 3:44 pm
Stocks have high annual returns and high annual variance. They also have high 35-yr returns, but also high variance in the 35-yr return. This assumes, that annual returns are random and there is no correlation between them - which isn't quite true but is close enough.
Assuming each year is independent is a pretty large assumption, which is why I’m looking to do some more testing.
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millennialmillions
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Re: Lifecycle Investing vs. Hedgefundie's Excellent Adventure

Post by millennialmillions »

Hydromod wrote: Mon Sep 13, 2021 4:52 pm There's a new feature allowing different leverage options; just showed up two weeks ago.
That sounds super useful. Do you have a link or could you provide a quick explanation of how it works? I’m not immediately finding anything on their site or with a search.

I wanted to do my analysis in Portfolio Visualizer instead of building my own workbook, but their Financial Goals tool doesn’t allow negative positions (to simulate leverage) and only offers a linear glide path. I could have lived with the linear glide path, but the lack of negative positions was a dealbreaker.
jarjarM
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Re: Lifecycle Investing vs. Hedgefundie's Excellent Adventure

Post by jarjarM »

Hydromod wrote: Mon Sep 13, 2021 4:52 pm There's a new feature allowing different leverage options; just showed up two weeks ago.
But as of now, it only allows for fixed interest rate, which is not really realistic since we know borrowing rate (margin or other forms of leverage) is not a constant.
Hydromod
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Re: Lifecycle Investing vs. Hedgefundie's Excellent Adventure

Post by Hydromod »

millennialmillions wrote: Mon Sep 13, 2021 6:51 pm
Hydromod wrote: Mon Sep 13, 2021 4:52 pm There's a new feature allowing different leverage options; just showed up two weeks ago.
That sounds super useful. Do you have a link or could you provide a quick explanation of how it works? I’m not immediately finding anything on their site or with a search.

I wanted to do my analysis in Portfolio Visualizer instead of building my own workbook, but their Financial Goals tool doesn’t allow negative positions (to simulate leverage) and only offers a linear glide path. I could have lived with the linear glide path, but the lack of negative positions was a dealbreaker.
The only place I can find it is under the two Backtest options. The asset class one allows further back in time.
skierincolorado
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Re: Lifecycle Investing vs. Hedgefundie's Excellent Adventure

Post by skierincolorado »

millennialmillions wrote: Mon Sep 13, 2021 6:44 pm
skierincolorado wrote: Mon Sep 13, 2021 3:44 pm
Stocks have high annual returns and high annual variance. They also have high 35-yr returns, but also high variance in the 35-yr return. This assumes, that annual returns are random and there is no correlation between them - which isn't quite true but is close enough.
Assuming each year is independent is a pretty large assumption, which is why I’m looking to do some more testing.
The assumption of independence works out reasonably well for stocks in simulations I've seen, but does produce a little more variance in long-term returns. In other words, it tends to be a more pessimistic assumption than assuming the actual historical sequence of returns. I'd consider this pessimistic assumption to be a feature when deciding how much leverage to take.

For bond returns, the assumption is probably less true, assuming there is no default on U.S. debt. But you still can get several decades of negative returns from leveraged bonds even in the actual historical sequence (1935-1981). I'm reasonably certain leveraged LTT had negative returns from 1935-1981.

The point is that annual variance of returns overall tends to be a pretty good proxy for variance of long-term returns. It's also not like we are completely ambivalent about what happens in the interim 35 years either. One's current NW affects all sorts of decisions and expectaitons about the future even if you're not spending it.
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millennialmillions
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Re: Lifecycle Investing vs. Hedgefundie's Excellent Adventure

Post by millennialmillions »

skierincolorado wrote: Mon Sep 13, 2021 9:09 pm The point is that annual variance of returns overall tends to be a pretty good proxy for variance of long-term returns.
I did the calculations for myself, and this is exactly right. Using 35-year period returns from 1955 to present, the efficient frontier considering only stocks and LTTs comes out to 40% stocks, 60% LTTs. This is very very close to the output using annual returns.

The thing I am having trouble reconciling is that levering this efficient frontier does not perform very well in the simulations.

Image

Looking only at the constant allocations across time, the 3x levered 40/60 portfolio loses to both a 3x levered 55/45 and 2x 70/30. The 2x 70/30 has a slightly lower median result but a much better 10th percentile. It doesn't appear this can be "fixed" by just increasing the leverage, which brings up the median but pulls down the 10th percentile even further.

My current thinking is that the continuing portfolio contributions over time must be reducing the downside of holding a higher allocation of the riskier asset (stocks).

Next up: replicating some of this with ITTs.
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Re: Lifecycle Investing vs. Hedgefundie's Excellent Adventure

Post by LTCM »

millennialmillions wrote: Tue Sep 14, 2021 12:17 pm Next up: replicating some of this with ITTs.
STTs too please!
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skierincolorado
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Re: Lifecycle Investing vs. Hedgefundie's Excellent Adventure

Post by skierincolorado »

millennialmillions wrote: Tue Sep 14, 2021 12:17 pm
skierincolorado wrote: Mon Sep 13, 2021 9:09 pm The point is that annual variance of returns overall tends to be a pretty good proxy for variance of long-term returns.
I did the calculations for myself, and this is exactly right. Using 35-year period returns from 1955 to present, the efficient frontier considering only stocks and LTTs comes out to 40% stocks, 60% LTTs. This is very very close to the output using annual returns.

The thing I am having trouble reconciling is that levering this efficient frontier does not perform very well in the simulations.

Image

Looking only at the constant allocations across time, the 3x levered 40/60 portfolio loses to both a 3x levered 55/45 and 2x 70/30. The 2x 70/30 has a slightly lower median result but a much better 10th percentile. It doesn't appear this can be "fixed" by just increasing the leverage, which brings up the median but pulls down the 10th percentile even further.

My current thinking is that the continuing portfolio contributions over time must be reducing the downside of holding a higher allocation of the riskier asset (stocks).

Next up: replicating some of this with ITTs.
How did you calculate efficiency? Just eyeballing it 40/60 (3x) 55/45 (3x) and 70/30 (2x) all seem to have similar efficiency. Leverage reduces efficiency. They should be levered to have the same mean. So for 40/60 it would be ~3.5x, for 55/45 it would be ~3x and for 70/30 it would be ~2.5x. But in my testing, the unleveraged efficient frontier is still the same as the leveraged efficient frontier.

Also, how did you rebalance? The margin vs LETF comparison should be a lot closer if the rebalancing method is the same. The only difference would be the fees of the LETF (assuming the margin rate is the same as what the LETFs pay). It's very strange to me that using margin instead of LETF decreased the standard deviation so much.

Would you mind posting the spreadsheet, or is this all in the original spreadsheet? I'd like to play around with it some and post some results. Also, I'm not really seeing how to do margin in the original spreadsheet, mind pointing me in the right direction or is this a new spreadsheet?
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millennialmillions
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Re: Lifecycle Investing vs. Hedgefundie's Excellent Adventure

Post by millennialmillions »

skierincolorado wrote: Tue Sep 14, 2021 1:10 pm How did you calculate efficiency? Just eyeballing it 40/60 (3x) 55/45 (3x) and 70/30 (2x) all seem to have similar efficiency. Leverage reduces efficiency. They should be levered to have the same mean. So for 40/60 it would be ~3.5x, for 55/45 it would be ~3x and for 70/30 it would be ~2.5x. But in my testing, the unleveraged efficient frontier is still the same as the leveraged efficient frontier.

Also, how did you rebalance? The margin vs LETF comparison should be a lot closer if the rebalancing method is the same. The only difference would be the fees of the LETF (assuming the margin rate is the same as what the LETFs pay). It's very strange to me that using margin instead of LETF decreased the standard deviation so much.

Would you mind posting the spreadsheet, or is this all in the original spreadsheet? I'd like to play around with it some and post some results. Also, I'm not really seeing how to do margin in the original spreadsheet, mind pointing me in the right direction or is this a new spreadsheet?
I used PV's efficient frontier forecast tool with the mean and standard deviation inputs coming from the 1955+ data I'm using.

In my leveraged ETFs simulations, the ETFs reset leverage daily, and I rebalance annually. In the margin simulations, all rebalancing (leverage and asset allocation) occurs only annually. So that likely explains the difference.

Here is my updated Excel workbook. Note that it contains macros to carry out multiple simulations. See this post for a bit more detail, and please feel free to PM me or post here if anything doesn't seem to make sense. It'd be great to have another mind thinking through this.
skierincolorado
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Re: Lifecycle Investing vs. Hedgefundie's Excellent Adventure

Post by skierincolorado »

millennialmillions wrote: Wed Sep 15, 2021 9:02 am
skierincolorado wrote: Tue Sep 14, 2021 1:10 pm How did you calculate efficiency? Just eyeballing it 40/60 (3x) 55/45 (3x) and 70/30 (2x) all seem to have similar efficiency. Leverage reduces efficiency. They should be levered to have the same mean. So for 40/60 it would be ~3.5x, for 55/45 it would be ~3x and for 70/30 it would be ~2.5x. But in my testing, the unleveraged efficient frontier is still the same as the leveraged efficient frontier.

Also, how did you rebalance? The margin vs LETF comparison should be a lot closer if the rebalancing method is the same. The only difference would be the fees of the LETF (assuming the margin rate is the same as what the LETFs pay). It's very strange to me that using margin instead of LETF decreased the standard deviation so much.

Would you mind posting the spreadsheet, or is this all in the original spreadsheet? I'd like to play around with it some and post some results. Also, I'm not really seeing how to do margin in the original spreadsheet, mind pointing me in the right direction or is this a new spreadsheet?
I used PV's efficient frontier forecast tool with the mean and standard deviation inputs coming from the 1955+ data I'm using.

In my leveraged ETFs simulations, the ETFs reset leverage daily, and I rebalance annually. In the margin simulations, all rebalancing (leverage and asset allocation) occurs only annually. So that likely explains the difference.

Here is my updated Excel workbook. Note that it contains macros to carry out multiple simulations. See this post for a bit more detail, and please feel free to PM me or post here if anything doesn't seem to make sense. It'd be great to have another mind thinking through this.
Wow if that's the cause of the difference it really demonstrates the cost of daily rebalancing. Higher stddev, lower mean. I should be able to dig into the spreadsheet today, it would be great to do sims back to 1955.

One problem with annual reset of leverage is that if you start the year with 2x, some years there would be margin calls within the year that the sim is ignoring. Starting with 2x leverage it only takes a 25% market drop for the leverae to increase to 4x which would trigger a margin call assuming 25% margin requirement. Lots of 2x margin calls. If you reset leverage annually, I don't think leverage can be above 1.3x.
AllomancerJack
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Re: Lifecycle Investing vs. Hedgefundie's Excellent Adventure

Post by AllomancerJack »

Annual rebalancing will also result in a slightly lower average leverage ratio when stocks go up (so most of the time).
I'm wondering what would be the optimal approach to leverage reset which ensures no margin calls while minimizing volatility drag.
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Re: Lifecycle Investing vs. Hedgefundie's Excellent Adventure

Post by DMoogle »

skierincolorado wrote: Wed Sep 15, 2021 10:42 amWow if that's the cause of the difference it really demonstrates the cost of daily rebalancing. Higher stddev, lower mean. I should be able to dig into the spreadsheet today, it would be great to do sims back to 1955.

One problem with annual reset of leverage is that if you start the year with 2x, some years there would be margin calls within the year that the sim is ignoring. Starting with 2x leverage it only takes a 25% market drop for the leverae to increase to 4x which would trigger a margin call assuming 25% margin requirement. Lots of 2x margin calls. If you reset leverage annually, I don't think leverage can be above 1.3x.
25% requirement would be for a Reg T account, portfolio margin account likely should be a much lower threshold.

Although, to be fair, most people who pursue aggressive leverage strategies like this should be younger and have less money to invest overall, so may not even be eligible for portfolio margin.
jarjarM
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Re: Lifecycle Investing vs. Hedgefundie's Excellent Adventure

Post by jarjarM »

DMoogle wrote: Wed Sep 15, 2021 12:45 pm 25% requirement would be for a Reg T account, portfolio margin account likely should be a much lower threshold.

Although, to be fair, most people who pursue aggressive leverage strategies like this should be younger and have less money to invest overall, so may not even be eligible for portfolio margin.
Although during time of stress, portfolio margin requirement maybe adjusted by brokerage firm though. Either way, I agree with skier, a bit risky to leverage up to 2x on margin long term.
skierincolorado
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Re: Lifecycle Investing vs. Hedgefundie's Excellent Adventure

Post by skierincolorado »

jarjarM wrote: Wed Sep 15, 2021 1:12 pm
DMoogle wrote: Wed Sep 15, 2021 12:45 pm 25% requirement would be for a Reg T account, portfolio margin account likely should be a much lower threshold.

Although, to be fair, most people who pursue aggressive leverage strategies like this should be younger and have less money to invest overall, so may not even be eligible for portfolio margin.
Although during time of stress, portfolio margin requirement maybe adjusted by brokerage firm though. Either way, I agree with skier, a bit risky to leverage up to 2x on margin long term.
To be clear I think 2x equity is fine as long as you reset the leverage with rebalancing bands or use an instrument that is auto-rebalancing. This is what Ayres and Nalebuff recommend. It wouldn't leave a lot of room for bonds though if one wanted to diversify.
jarjarM
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Re: Lifecycle Investing vs. Hedgefundie's Excellent Adventure

Post by jarjarM »

skierincolorado wrote: Wed Sep 15, 2021 1:17 pm
jarjarM wrote: Wed Sep 15, 2021 1:12 pm
DMoogle wrote: Wed Sep 15, 2021 12:45 pm 25% requirement would be for a Reg T account, portfolio margin account likely should be a much lower threshold.

Although, to be fair, most people who pursue aggressive leverage strategies like this should be younger and have less money to invest overall, so may not even be eligible for portfolio margin.
Although during time of stress, portfolio margin requirement maybe adjusted by brokerage firm though. Either way, I agree with skier, a bit risky to leverage up to 2x on margin long term.
To be clear I think 2x equity is fine as long as you reset the leverage with rebalancing bands or use an instrument that is auto-rebalancing. This is what Ayres and Nalebuff recommend. It wouldn't leave a lot of room for bonds though if one wanted to diversify.
Yeah, I should emphasize that the 2x margin issue is mainly related to annual rebalance time frame, so if one is doing some sort of auto-rebalancing on band then it's definitely doable, though it'll be a bit of rough ride though.
skierincolorado
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Re: Lifecycle Investing vs. Hedgefundie's Excellent Adventure

Post by skierincolorado »

millennialmillions wrote: Wed Sep 15, 2021 9:02 am
skierincolorado wrote: Tue Sep 14, 2021 1:10 pm How did you calculate efficiency? Just eyeballing it 40/60 (3x) 55/45 (3x) and 70/30 (2x) all seem to have similar efficiency. Leverage reduces efficiency. They should be levered to have the same mean. So for 40/60 it would be ~3.5x, for 55/45 it would be ~3x and for 70/30 it would be ~2.5x. But in my testing, the unleveraged efficient frontier is still the same as the leveraged efficient frontier.

Also, how did you rebalance? The margin vs LETF comparison should be a lot closer if the rebalancing method is the same. The only difference would be the fees of the LETF (assuming the margin rate is the same as what the LETFs pay). It's very strange to me that using margin instead of LETF decreased the standard deviation so much.

Would you mind posting the spreadsheet, or is this all in the original spreadsheet? I'd like to play around with it some and post some results. Also, I'm not really seeing how to do margin in the original spreadsheet, mind pointing me in the right direction or is this a new spreadsheet?
I used PV's efficient frontier forecast tool with the mean and standard deviation inputs coming from the 1955+ data I'm using.

In my leveraged ETFs simulations, the ETFs reset leverage daily, and I rebalance annually. In the margin simulations, all rebalancing (leverage and asset allocation) occurs only annually. So that likely explains the difference.

Here is my updated Excel workbook. Note that it contains macros to carry out multiple simulations. See this post for a bit more detail, and please feel free to PM me or post here if anything doesn't seem to make sense. It'd be great to have another mind thinking through this.
Also I think I'm confused on how you're calculating efficiency. The goal was to find the portfolio with the most return and least variance in the final outcome. But if we're plugging the 1955+ data in, it's juts going to calculate it as normal - annual return and annual variance - I think.

Or are you putting in the variance and return of the final outcome in the 35 year simulations?
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Re: Lifecycle Investing vs. Hedgefundie's Excellent Adventure

Post by millennialmillions »

Yes, there would be potential margin call issues actually implementing an annual leverage reset. Though less likely using portfolio margin. Ultimately it would have to be coupled with rebalancing bands to make it work. I thought about including monthly data in the analysis to allow more frequent rebalancing but decided to keep it simple with annual data for now.
skierincolorado wrote: Wed Sep 15, 2021 2:19 pm
Also I think I'm confused on how you're calculating efficiency. The goal was to find the portfolio with the most return and least variance in the final outcome. But if we're plugging the 1955+ data in, it's juts going to calculate it as normal - annual return and annual variance - I think.
I used the Portfolio Visualizer Efficient Frontier Forecast tool and input the mean and standard deviation for 35 year periods. For example, the mean and standard deviation of stock returns over a 35 period are 3,992% and 808% respectively. This gives me 40% stocks 60% LTT when only considering those two asset classes.
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Re: Lifecycle Investing vs. Hedgefundie's Excellent Adventure

Post by DMoogle »

Speaking of, I *still* don't think margin calls are the devil that people here make them out to be. I've said this before, and haven't been convinced by the responses. A margin call is nothing more than a forced rebalance to a target ratio, really. LETFs rebalance to a target ratio every day - a margin call isn't fundamentally any different.

If someone says "it forces you to liquidate at the worst timing," then that implies that person believes market timing is a thing... which I know most people here don't advocate for in the first place.
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Re: Lifecycle Investing vs. Hedgefundie's Excellent Adventure

Post by Lee_WSP »

DMoogle wrote: Wed Sep 15, 2021 3:18 pm Speaking of, I *still* don't think margin calls are the devil that people here make them out to be. I've said this before, and haven't been convinced by the responses. A margin call is nothing more than a forced rebalance to a target ratio, really. LETFs rebalance to a target ratio every day - a margin call isn't fundamentally any different.
If you let it get to a margin call, you aren't rebalancing, either up or down, you're just taking out a loan.
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Re: Lifecycle Investing vs. Hedgefundie's Excellent Adventure

Post by skierincolorado »

millennialmillions wrote: Wed Sep 15, 2021 3:14 pm Yes, there would be potential margin call issues actually implementing an annual leverage reset. Though less likely using portfolio margin. Ultimately it would have to be coupled with rebalancing bands to make it work. I thought about including monthly data in the analysis to allow more frequent rebalancing but decided to keep it simple with annual data for now.
skierincolorado wrote: Wed Sep 15, 2021 2:19 pm
Also I think I'm confused on how you're calculating efficiency. The goal was to find the portfolio with the most return and least variance in the final outcome. But if we're plugging the 1955+ data in, it's juts going to calculate it as normal - annual return and annual variance - I think.
I used the Portfolio Visualizer Efficient Frontier Forecast tool and input the mean and standard deviation for 35 year periods. For example, the mean and standard deviation of stock returns over a 35 period are 3,992% and 808% respectively. This gives me 40% stocks 60% LTT when only considering those two asset classes.
Ah perfect that’s what I was guessing but wasn’t sure. I assume you’re still using the built in pv correlations, which aren’t correct. The 35 year returns could be quite positively correlated since both stocks and bonds did best after 1980. The correlations will still be less than one, so it still makes sense to own stocks and bonds. But it make sense to tilt towards whichever one has the best 35 year sharpe ratio ( not really a sharpe ratio if it’s for 35 years I think)
Last edited by skierincolorado on Wed Sep 15, 2021 4:06 pm, edited 1 time in total.
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Re: Lifecycle Investing vs. Hedgefundie's Excellent Adventure

Post by skierincolorado »

Lee_WSP wrote: Wed Sep 15, 2021 3:25 pm
DMoogle wrote: Wed Sep 15, 2021 3:18 pm Speaking of, I *still* don't think margin calls are the devil that people here make them out to be. I've said this before, and haven't been convinced by the responses. A margin call is nothing more than a forced rebalance to a target ratio, really. LETFs rebalance to a target ratio every day - a margin call isn't fundamentally any different.
If you let it get to a margin call, you aren't rebalancing, either up or down, you're just taking out a loan.
You were taking out a loan beforehand. While rebalance is usually used to refer to rebalancing between assets, people sometimes use it to refer to rebalancing the level of leverage back to some target level. His point is correct. If you don’t believe in market timing, margin calls aren’t really a bad thing. The problem is the market seems to be a little bit irrationally volatile, so more frequent rebalancing caused by a margin call, or like what leveraged etfs like upro do with daily leverage rebalance, tends to be modestly detrimental.
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Re: Lifecycle Investing vs. Hedgefundie's Excellent Adventure

Post by Lee_WSP »

skierincolorado wrote: Wed Sep 15, 2021 4:02 pm
Lee_WSP wrote: Wed Sep 15, 2021 3:25 pm
DMoogle wrote: Wed Sep 15, 2021 3:18 pm Speaking of, I *still* don't think margin calls are the devil that people here make them out to be. I've said this before, and haven't been convinced by the responses. A margin call is nothing more than a forced rebalance to a target ratio, really. LETFs rebalance to a target ratio every day - a margin call isn't fundamentally any different.
If you let it get to a margin call, you aren't rebalancing, either up or down, you're just taking out a loan.
You were taking out a loan beforehand. While rebalance is usually used to refer to rebalancing between assets, people sometimes use it to refer to rebalancing the level of leverage back to some target level. His point is correct. If you don’t believe in market timing, margin calls aren’t really a bad thing. The problem is the market seems to be a little bit irrationally volatile, so more frequent rebalancing caused by a margin call, or like what leveraged etfs like upro do with daily leverage rebalance, tends to be modestly detrimental.
If you don't rebalance up or down, a margin loan is still just a lump sum loan. You need to rebalance it regularly to get anything truly useful out of it. Otherwise, eventually either the portfolio growth or additional contributions will shrink the proportion of the loan to an irrelevant percentage.

Even lifecycle investing requires maintaining a glidepath of leverage.

If one wanted to simply leverage a sum certain, the best way is via a mortgage, the next best way is via some other low interest rate option.

As for the statement in and of itself, no, a margin call by itself doesn't tell anyone much.
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Re: Lifecycle Investing vs. Hedgefundie's Excellent Adventure

Post by skierincolorado »

Lee_WSP wrote: Wed Sep 15, 2021 4:10 pm
skierincolorado wrote: Wed Sep 15, 2021 4:02 pm
Lee_WSP wrote: Wed Sep 15, 2021 3:25 pm
DMoogle wrote: Wed Sep 15, 2021 3:18 pm Speaking of, I *still* don't think margin calls are the devil that people here make them out to be. I've said this before, and haven't been convinced by the responses. A margin call is nothing more than a forced rebalance to a target ratio, really. LETFs rebalance to a target ratio every day - a margin call isn't fundamentally any different.
If you let it get to a margin call, you aren't rebalancing, either up or down, you're just taking out a loan.
You were taking out a loan beforehand. While rebalance is usually used to refer to rebalancing between assets, people sometimes use it to refer to rebalancing the level of leverage back to some target level. His point is correct. If you don’t believe in market timing, margin calls aren’t really a bad thing. The problem is the market seems to be a little bit irrationally volatile, so more frequent rebalancing caused by a margin call, or like what leveraged etfs like upro do with daily leverage rebalance, tends to be modestly detrimental.
If you don't rebalance up or down, a margin loan is still just a lump sum loan. You need to rebalance it regularly to get anything truly useful out of it. Otherwise, eventually either the portfolio growth or additional contributions will shrink the proportion of the loan to an irrelevant percentage.

Even lifecycle investing requires maintaining a glidepath of leverage.

If one wanted to simply leverage a sum certain, the best way is via a mortgage, the next best way is via some other low interest rate option.

As for the statement in and of itself, no, a margin call by itself doesn't tell anyone much.
Some strategies involved rebalancing leverage up but never down and letting portfolio growth do the leveraging down. to do this you can’t start much above 1.3x.

I think we all agree a margin call is just a forced balancing back to some lower level of leverage. Upro does this every single day by choice. It tends to have some detrimental affect but isn’t really that bad.
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Re: Lifecycle Investing vs. Hedgefundie's Excellent Adventure

Post by Lee_WSP »

skierincolorado wrote: Wed Sep 15, 2021 4:21 pm
Some strategies involved rebalancing leverage up but never down and letting portfolio growth do the leveraging down. to do this you can’t start much above 1.3x.
Any strategy that doesn't have some sort of failsafe to avoid margin calls isn't a valid strategy IMO. That's all I have to say about this.
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Re: Lifecycle Investing vs. Hedgefundie's Excellent Adventure

Post by skierincolorado »

Lee_WSP wrote: Wed Sep 15, 2021 4:31 pm
skierincolorado wrote: Wed Sep 15, 2021 4:21 pm
Some strategies involved rebalancing leverage up but never down and letting portfolio growth do the leveraging down. to do this you can’t start much above 1.3x.
Any strategy that doesn't have some sort of failsafe to avoid margin calls isn't a valid strategy IMO. That's all I have to say about this.
I’m not sure you get it then. Rebalancing to a lower level of leverage when the market goes down isn’t a bad thing. Leveraged investors do this all the time voluntarily. Upro does this every single day voluntarily. A margin call simply makes this compulsory. For brokers that allow specification of which assets to liquidate, that liquidate as soon as the limit is exceeded, and that don’t liquidate more than necessary, it would function as an automated rebalance. There’s nothing detrimental about that. Investors do this every day routinely.

The only two cons I see are that if you have that much leverage you must have an extremely long time horizon because volatility increases with leverage. And secondly, some minor volatility decay may be experienced. Also a lot of brokers don’t function as described so leverage could exceed the limit significantly.
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Re: Lifecycle Investing vs. Hedgefundie's Excellent Adventure

Post by Lee_WSP »

skierincolorado wrote: Wed Sep 15, 2021 5:21 pm
Lee_WSP wrote: Wed Sep 15, 2021 4:31 pm
skierincolorado wrote: Wed Sep 15, 2021 4:21 pm
Some strategies involved rebalancing leverage up but never down and letting portfolio growth do the leveraging down. to do this you can’t start much above 1.3x.
Any strategy that doesn't have some sort of failsafe to avoid margin calls isn't a valid strategy IMO. That's all I have to say about this.
I’m not sure you get it then. Rebalancing to a lower level of leverage when the market goes down isn’t a bad thing. Leveraged investors do this all the time voluntarily. Upro does this every single day voluntarily. A margin call simply makes this compulsory. For brokers that allow specification of which assets to liquidate, that liquidate as soon as the limit is exceeded, and that don’t liquidate more than necessary, it would function as an automated rebalance. There’s nothing detrimental about that. Investors do this every day routinely.

The only two cons I see are that if you have that much leverage you must have an extremely long time horizon because volatility increases with leverage. And secondly, some minor volatility decay may be experienced. Also a lot of brokers don’t function as described so leverage could exceed the limit significantly.
I don't think we're talking about the same subject any longer. You'll only hit a margin call if your portfolio hits a certain leverage ratio. Any comprehensive strategy should not let this happen given today's trip wires.
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Re: Lifecycle Investing vs. Hedgefundie's Excellent Adventure

Post by skierincolorado »

Lee_WSP wrote: Wed Sep 15, 2021 5:40 pm
skierincolorado wrote: Wed Sep 15, 2021 5:21 pm
Lee_WSP wrote: Wed Sep 15, 2021 4:31 pm
skierincolorado wrote: Wed Sep 15, 2021 4:21 pm
Some strategies involved rebalancing leverage up but never down and letting portfolio growth do the leveraging down. to do this you can’t start much above 1.3x.
Any strategy that doesn't have some sort of failsafe to avoid margin calls isn't a valid strategy IMO. That's all I have to say about this.
I’m not sure you get it then. Rebalancing to a lower level of leverage when the market goes down isn’t a bad thing. Leveraged investors do this all the time voluntarily. Upro does this every single day voluntarily. A margin call simply makes this compulsory. For brokers that allow specification of which assets to liquidate, that liquidate as soon as the limit is exceeded, and that don’t liquidate more than necessary, it would function as an automated rebalance. There’s nothing detrimental about that. Investors do this every day routinely.

The only two cons I see are that if you have that much leverage you must have an extremely long time horizon because volatility increases with leverage. And secondly, some minor volatility decay may be experienced. Also a lot of brokers don’t function as described so leverage could exceed the limit significantly.
I don't think we're talking about the same subject any longer. You'll only hit a margin call if your portfolio hits a certain leverage ratio. Any comprehensive strategy should not let this happen given today's trip wires.
I think it could. For example, an early 20s investor, high income & savings rate, little saved to date. A valid strategy would be to 4x leverage or whatever her broker limit is. Margin calls would be hit sometimes forcing her back down to 4x leverage. This would have to be at a broker that liquidated assets immediately and automatically as soon as the limit was reached, and did not liquidate more than necessary. I don't know if such a broker exists, but I imagine they do. This is very similar to the strategy employed by UPRO but with slightly more leverage (4x instead of 3x). It would probably be easier to just own 100% UPRO, although the leverage would be a little lower.

For example, with 50k saved leveraged to 200k. Market falls 5% bringing equity to 40k and assets to 190k. Broker issues margin call and auto-liquidates 30k bringing investor back to 160k of assets on 40k of equity. Market falls another 5%, equity down to 32k now. Broker forces sale of 32k in assets, so that assets are 128k on 32k of equity.

This is literally exactly what UPRO does every single day with 3x leverage, except the hypothetical investor is doing it at 4x instead of 3x.
Last edited by skierincolorado on Wed Sep 15, 2021 5:54 pm, edited 1 time in total.
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Re: Lifecycle Investing vs. Hedgefundie's Excellent Adventure

Post by Lee_WSP »

skierincolorado wrote: Wed Sep 15, 2021 5:49 pm
Lee_WSP wrote: Wed Sep 15, 2021 5:40 pm
skierincolorado wrote: Wed Sep 15, 2021 5:21 pm
Lee_WSP wrote: Wed Sep 15, 2021 4:31 pm
skierincolorado wrote: Wed Sep 15, 2021 4:21 pm
Some strategies involved rebalancing leverage up but never down and letting portfolio growth do the leveraging down. to do this you can’t start much above 1.3x.
Any strategy that doesn't have some sort of failsafe to avoid margin calls isn't a valid strategy IMO. That's all I have to say about this.
I’m not sure you get it then. Rebalancing to a lower level of leverage when the market goes down isn’t a bad thing. Leveraged investors do this all the time voluntarily. Upro does this every single day voluntarily. A margin call simply makes this compulsory. For brokers that allow specification of which assets to liquidate, that liquidate as soon as the limit is exceeded, and that don’t liquidate more than necessary, it would function as an automated rebalance. There’s nothing detrimental about that. Investors do this every day routinely.

The only two cons I see are that if you have that much leverage you must have an extremely long time horizon because volatility increases with leverage. And secondly, some minor volatility decay may be experienced. Also a lot of brokers don’t function as described so leverage could exceed the limit significantly.
I don't think we're talking about the same subject any longer. You'll only hit a margin call if your portfolio hits a certain leverage ratio. Any comprehensive strategy should not let this happen given today's trip wires.
I think it could. For example, an early 20s investor, high income & savings rate, little saved to date. A valid strategy would be to 4x leverage or whatever her broker limit is. Margin calls would be hit sometimes forcing her back down to 4x leverage. This would have to be at a broker that liquidated assets immediately and automatically as soon as the limit was reached, and did not liquidate more than necessary. I don't know if such a broker exists, but I imagine they do. This is very similar to the strategy employed by UPRO but with slightly more leverage (4x instead of 3x). It would probably be easier to just own 100% UPRO, although the leverage would be a little lower.
Disagree about the validity of the strategy posited. That's that. No further responses will be forthcoming on this subject.
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Re: Lifecycle Investing vs. Hedgefundie's Excellent Adventure

Post by skierincolorado »

Lee_WSP wrote: Wed Sep 15, 2021 5:53 pm
skierincolorado wrote: Wed Sep 15, 2021 5:49 pm
Lee_WSP wrote: Wed Sep 15, 2021 5:40 pm
skierincolorado wrote: Wed Sep 15, 2021 5:21 pm
Lee_WSP wrote: Wed Sep 15, 2021 4:31 pm

Any strategy that doesn't have some sort of failsafe to avoid margin calls isn't a valid strategy IMO. That's all I have to say about this.
I’m not sure you get it then. Rebalancing to a lower level of leverage when the market goes down isn’t a bad thing. Leveraged investors do this all the time voluntarily. Upro does this every single day voluntarily. A margin call simply makes this compulsory. For brokers that allow specification of which assets to liquidate, that liquidate as soon as the limit is exceeded, and that don’t liquidate more than necessary, it would function as an automated rebalance. There’s nothing detrimental about that. Investors do this every day routinely.

The only two cons I see are that if you have that much leverage you must have an extremely long time horizon because volatility increases with leverage. And secondly, some minor volatility decay may be experienced. Also a lot of brokers don’t function as described so leverage could exceed the limit significantly.
I don't think we're talking about the same subject any longer. You'll only hit a margin call if your portfolio hits a certain leverage ratio. Any comprehensive strategy should not let this happen given today's trip wires.
I think it could. For example, an early 20s investor, high income & savings rate, little saved to date. A valid strategy would be to 4x leverage or whatever her broker limit is. Margin calls would be hit sometimes forcing her back down to 4x leverage. This would have to be at a broker that liquidated assets immediately and automatically as soon as the limit was reached, and did not liquidate more than necessary. I don't know if such a broker exists, but I imagine they do. This is very similar to the strategy employed by UPRO but with slightly more leverage (4x instead of 3x). It would probably be easier to just own 100% UPRO, although the leverage would be a little lower.
Disagree about the validity of the strategy posited. That's that. No further responses will be forthcoming on this subject.
That's OK, I'll clarify futher for the benefit of others since you are mistaken.

For example, with 50k saved leveraged to 200k. Market falls 5% bringing equity to 40k and assets to 190k. Broker issues margin call and auto-liquidates 30k bringing investor back to 160k of assets on 40k of equity. Market falls another 5%, equity down to 30.5k now. Broker forces sale of 30k in assets, so that assets are 132k on 30.5k of equity. As long as the rebalancing is immediate, this can continue forever although the account will get quite small (less than $1,000 after enough 5% drops).

This is literally exactly what UPRO does every single day with 3x leverage, except the hypothetical investor is doing it at 4x instead of 3x.

100% UPRO is a legitimate strategy for a young investor with high income and little saved thus far. 4x may even be appropriate. It increases the time diversification, consistent with Lifecycle investing principles of Ayres and Nalebuff. What if the market doubles in the first year of an investor's career? Going 4x on an intial 10k would return ~100k leveraged 4x. And if the market crashes and they lose 90%, so what, they are young and saving 30k per year and will be buying in at market lows. This time diversification is the whole principle of Lifecycle investing. Ayres and Nalebuff just didn't deal with the practical and mathematical complexity of higher leverage ratios, but it's consistent with the principles. Steve Reading went higher than 2x leverage in the original Lifecycle thread on this forum, to great success.

This period of leverage beyond 2x would be relatively brief within the investing lifecycle, lasting only a few years probably if the market did well.
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Re: Lifecycle Investing vs. Hedgefundie's Excellent Adventure

Post by millennialmillions »

DMoogle wrote: Wed Sep 15, 2021 3:18 pm Speaking of, I *still* don't think margin calls are the devil that people here make them out to be. I've said this before, and haven't been convinced by the responses. A margin call is nothing more than a forced rebalance to a target ratio, really. LETFs rebalance to a target ratio every day - a margin call isn't fundamentally any different.
I agree with DMoogle and skierincolorado. Obviously not incorporating margin calls into my simulations makes my analysis imperfect. But in practice forced periodic rebalancing of leverage isn't that bad (as shown by the similarity of results using margin vs. using LETFs that rebalance daily).
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Re: Lifecycle Investing vs. Hedgefundie's Excellent Adventure

Post by skierincolorado »

Here are some initial results for ITT. I changed the cost of borrowing from the 10-yr treasury rate, to the rate on cash, which I believe is reflective of the typical borrowing cost for investors.

One thing that has become very apparent to me using this spreadsheet is that the results are completely dominated by the 30 year rising rate cycle from 1955-1981 and the falling rate cycle 1981-present. This has two primary effects:

1) Fixed allocation strategies that include bonds have higher max-return than strategies without bonds. The bottom end stays roughly the same. It's not possible to reduce leverage without also reducing the 10th and 90th percentiles. So basically, adding bonds doesn't make the bottom 10th percentile any better or worse, but the 90th percentile is much better (corresponding to start years that finish after 1982).

2) The above effect is even more pronounced in a lifecycle strategy. Perversely, lifecycle strategies seem to increase risk by tapering leverage before the bond boom.

Overall, it seems to me that a 35 year time horizon is barely long enough to be investing in LTT or ITT. The effect is similar for both. The longer duration of LTT does not mean that the investing time horizon is longer, because we are rolling both ITT and LTT, and we will not make money on either as long as rates are going up.

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Re: Lifecycle Investing vs. Hedgefundie's Excellent Adventure

Post by skierincolorado »

Here's 140/180 stock/ITT.

The other observation is that generally up to a point, increasing leverage on both stocks and bonds increases both the 10th and 90th percentiles. This seems anti-lifecycle to me and I'm a little confused. I suppose it comes down to the fact that we could commit to 40 years of leverage today, but 20 years from now when you have 5M, are you really going to stick with that? I'm going to have to go back to the book to see what they have to say about this..

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Re: Lifecycle Investing vs. Hedgefundie's Excellent Adventure

Post by telandra »

Can gold be added in?
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Re: Lifecycle Investing vs. Hedgefundie's Excellent Adventure

Post by millennialmillions »

skierincolorado wrote: Wed Sep 15, 2021 9:00 pm Here are some initial results for ITT. I changed the cost of borrowing from the 10-yr treasury rate, to the rate on cash, which I believe is reflective of the typical borrowing cost for investors.
This is great, thank you for diving in and running these simulations. A couple questions on the cost of borrowing:
  • Where are you getting the rate on cash? Would you mind sharing a CSV so I can add to my sheet?
  • When you say it's reflective of the borrowing cost, do you mean a strategy using margin at IBKR, a strategy rolling futures, or something else?
Those results with ITT seem outstanding. How did you land on testing 140/350 and 140/180?
skierincolorado wrote: Wed Sep 15, 2021 9:00 pm The other observation is that generally up to a point, increasing leverage on both stocks and bonds increases both the 10th and 90th percentiles. This seems anti-lifecycle to me and I'm a little confused. I suppose it comes down to the fact that we could commit to 40 years of leverage today, but 20 years from now when you have 5M, are you really going to stick with that? I'm going to have to go back to the book to see what they have to say about this..
This has been tough for me to grapple with, as well. I've tried modifying the Lifecycle strategy to assume 3% real returns for the portfolio, which results in a more gradual leverage glidepath and better temporal diversification. That helps a little, but not enough to close the gap vs. the static allocations. Intuitively, it's hard for me to understand how decreasing leverage near retirement would not help the 10th percentile result.
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Re: Lifecycle Investing vs. Hedgefundie's Excellent Adventure

Post by millennialmillions »

telandra wrote: Wed Sep 15, 2021 10:01 pm Can gold be added in?
If you poke around in the Excel workbook, you'll see it's not too difficult to add an asset class, assuming you have annual return data going back to 1955 (which can usually be obtained from the Simba backtesting sheet).

If there's enough interest, I could create a more "productionized" version of the workbook that allows the user to choose between more assets, like gold, and more easily run through simulations.
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Re: Lifecycle Investing vs. Hedgefundie's Excellent Adventure

Post by skierincolorado »

millennialmillions wrote: Wed Sep 15, 2021 10:11 pm
skierincolorado wrote: Wed Sep 15, 2021 9:00 pm Here are some initial results for ITT. I changed the cost of borrowing from the 10-yr treasury rate, to the rate on cash, which I believe is reflective of the typical borrowing cost for investors.
This is great, thank you for diving in and running these simulations. A couple questions on the cost of borrowing:
  • Where are you getting the rate on cash? Would you mind sharing a CSV so I can add to my sheet?
  • When you say it's reflective of the borrowing cost, do you mean a strategy using margin at IBKR, a strategy rolling futures, or something else?
Those results with ITT seem outstanding. How did you land on testing 140/350 and 140/180?
skierincolorado wrote: Wed Sep 15, 2021 9:00 pm The other observation is that generally up to a point, increasing leverage on both stocks and bonds increases both the 10th and 90th percentiles. This seems anti-lifecycle to me and I'm a little confused. I suppose it comes down to the fact that we could commit to 40 years of leverage today, but 20 years from now when you have 5M, are you really going to stick with that? I'm going to have to go back to the book to see what they have to say about this..
This has been tough for me to grapple with, as well. I've tried modifying the Lifecycle strategy to assume 3% real returns for the portfolio, which results in a more gradual leverage glidepath and better temporal diversification. That helps a little, but not enough to close the gap vs. the static allocations. Intuitively, it's hard for me to understand how decreasing leverage near retirement would not help the 10th percentile result.
I'm using the VUSXX T-Bill series from the simba spreadsheet for borrowing cost. Let me know if not finding it and I can post.

T-bills are reflective of the cost of borrowing using futures. There's two papers on this one for Treasury futures and one for S&P500.
https://www.cmegroup.com/trading/equity ... -etfs.html
https://www.financialresearch.gov/brief ... Trades.pdf

Using a box spread should also be close, but a little higher. Box spreads with shorter durations should have lower rates than longer box spreads but I haven't really tested this in practice. While my own boxes have been for .7%, I didn't try for good execution and I did longer duration boxes. I'd guess shorter duration boxes with good execution should be within .4% of the 3-month T-Bill (.04% currently), maybe even less.

The 140/180 and 140/350 were just sort of to get the feel of it. 140/180 I figured was similar to 140/60 stock/LTT... assuming the LTT duration is 3x longer. I need to check the duration for VSIGX. 140/350 was a guess at the efficient frontier.

I noticed that feature to assume real returns and was using it for the lifecycle's I posted. Without it they were even worse. I think I assumed 2.5%. I think assuming higher percentages should work as we are hoping.. deleveraging at the very end should increase the 10th percentile... even if it's just deleveraging the last 5 years or something.

I'll have to see what the book has to say on this topic of increasing leverage to improve 10th percentiles. Because the book definitely presents it in this framework. The whole point of the lifecycle is that it improves both the 90th and 10th percentiles. Or keeps the 10th percentile the same, and improves the 90th a ton. But they did find that keeping the leverage high would eventually drop the 10th percentile, which we are not finding.
AllomancerJack
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Joined: Fri May 21, 2021 11:58 am

Re: Lifecycle Investing vs. Hedgefundie's Excellent Adventure

Post by AllomancerJack »

skierincolorado wrote: Wed Sep 15, 2021 5:49 pm I think it could. For example, an early 20s investor, high income & savings rate, little saved to date. A valid strategy would be to 4x leverage or whatever her broker limit is. Margin calls would be hit sometimes forcing her back down to 4x leverage. This would have to be at a broker that liquidated assets immediately and automatically as soon as the limit was reached, and did not liquidate more than necessary. I don't know if such a broker exists, but I imagine they do. This is very similar to the strategy employed by UPRO but with slightly more leverage (4x instead of 3x). It would probably be easier to just own 100% UPRO, although the leverage would be a little lower.

For example, with 50k saved leveraged to 200k. Market falls 5% bringing equity to 40k and assets to 190k. Broker issues margin call and auto-liquidates 30k bringing investor back to 160k of assets on 40k of equity. Market falls another 5%, equity down to 32k now. Broker forces sale of 32k in assets, so that assets are 128k on 32k of equity.

This is literally exactly what UPRO does every single day with 3x leverage, except the hypothetical investor is doing it at 4x instead of 3x.
Isn't it exactly what happened to market timer back in 2008?
an_asker
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Re: Lifecycle Investing vs. Hedgefundie's Excellent Adventure

Post by an_asker »

millennialmillions wrote: Sun Aug 08, 2021 10:09 pm [...]A constant allocation of 2x leverage 70% S&P 500 30% LTT
[...]
I think the most attractive option to me is the constant 2x 70-30 portfolio. Its median result is close to HFEA, while its minimum and 10th percentile result are vastly superior.
[...]
Sorry to nitpick but I got confused by this composition.

You are trying to say 70% in 2xleveraged SP500, right?
skierincolorado
Posts: 537
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Re: Lifecycle Investing vs. Hedgefundie's Excellent Adventure

Post by skierincolorado »

AllomancerJack wrote: Thu Sep 16, 2021 5:34 am
skierincolorado wrote: Wed Sep 15, 2021 5:49 pm I think it could. For example, an early 20s investor, high income & savings rate, little saved to date. A valid strategy would be to 4x leverage or whatever her broker limit is. Margin calls would be hit sometimes forcing her back down to 4x leverage. This would have to be at a broker that liquidated assets immediately and automatically as soon as the limit was reached, and did not liquidate more than necessary. I don't know if such a broker exists, but I imagine they do. This is very similar to the strategy employed by UPRO but with slightly more leverage (4x instead of 3x). It would probably be easier to just own 100% UPRO, although the leverage would be a little lower.

For example, with 50k saved leveraged to 200k. Market falls 5% bringing equity to 40k and assets to 190k. Broker issues margin call and auto-liquidates 30k bringing investor back to 160k of assets on 40k of equity. Market falls another 5%, equity down to 32k now. Broker forces sale of 32k in assets, so that assets are 128k on 32k of equity.

This is literally exactly what UPRO does every single day with 3x leverage, except the hypothetical investor is doing it at 4x instead of 3x.
Isn't it exactly what happened to market timer back in 2008?
Market timer did not rebalance back down to 4x leverage. He allowed the leverage to grow infinitely. He borrowed money from credit cards, family, etc. to place in his brokerage and lever it 2-4x in his broker account. You can't just look at leverage as how levered you are within your brokerage account. You have to consider how levered your net worth is. If the account value declines, you still owe the credit card companies, family members, and mortgage companies what you have borrowed.

Consistent rebalancing to 4x leverage on your total net worth is much less risky than what MT did. It's a slightly more levered strategy than UPRO - and we can see the UPRO results ourselves. They are very volatile, with massive drawdowns, but it doesn't zero out or go negative. UPRO is much easier to manage with fewer pitfalls if you make a mistake, so that is what I have recommended to young people I know. I wouldn't recommend going 4x on your net-worth unless you really really knew what you were doing and how to manage it. I even think leverage beyond 4x, or investing in the stock market with negative net worth, are theoretically sound if you can get beyond the psychological limitations and implement with consistent discipline.

For example, if you had started working in early 2008 and borrowed 10k interest free on a credit card to invest in the stock market. Buy SSO (2x daily rebal etf). This decision would have paid off by 2012 if you had the discipline to keep rolling the 10k loan from from credit card to credit card (by 2009 or 2010 if you kept your job you'd have positive net worth and could use easier forms of leverage like futures). Market timer borrowed more than this, levered it more, and people like his family wanted their money back. You'd need a better more sustainable plan on how to maintain the loans.

In order of risk:
-leveraging 2x against net worth (SSO), or 3x (UPRO)
-leveraging 4x against net worth
-taking fixed loans using your future income as collateral via credit cards, mortgages, personal loans. This allows for leverage higher than 4x, and can very easily turn into infinite leverage if one's net worth becomes negative
-taking more fixed loans than you'd be able to sustain in a market down turn or loss of job

It's really only the last bullet that I'd object to. As long as there is a sustainable plan for rolling the debt, the plan should pay off in the long-run. Any plan should be able to make it through a crash at least as large as 2008.
skierincolorado
Posts: 537
Joined: Sat Mar 21, 2020 10:56 am

Re: Lifecycle Investing vs. Hedgefundie's Excellent Adventure

Post by skierincolorado »

AllomancerJack wrote: Thu Sep 16, 2021 5:34 am
skierincolorado wrote: Wed Sep 15, 2021 5:49 pm I think it could. For example, an early 20s investor, high income & savings rate, little saved to date. A valid strategy would be to 4x leverage or whatever her broker limit is. Margin calls would be hit sometimes forcing her back down to 4x leverage. This would have to be at a broker that liquidated assets immediately and automatically as soon as the limit was reached, and did not liquidate more than necessary. I don't know if such a broker exists, but I imagine they do. This is very similar to the strategy employed by UPRO but with slightly more leverage (4x instead of 3x). It would probably be easier to just own 100% UPRO, although the leverage would be a little lower.

For example, with 50k saved leveraged to 200k. Market falls 5% bringing equity to 40k and assets to 190k. Broker issues margin call and auto-liquidates 30k bringing investor back to 160k of assets on 40k of equity. Market falls another 5%, equity down to 32k now. Broker forces sale of 32k in assets, so that assets are 128k on 32k of equity.

This is literally exactly what UPRO does every single day with 3x leverage, except the hypothetical investor is doing it at 4x instead of 3x.
Isn't it exactly what happened to market timer back in 2008?
For example, there's this quote from MT in September 2008:

Exposure: $440K
Net worth: -$80K
Leverage: 5x

First of all, his leverage is not 5x. It's infinite. The exposure would be 5x if his net worth was +85k. Instead his net worth was -80k. It's simply far too much leverage. I'd never be comfortable with a net-worth of -80k, or a plan that made that possible. The most I'd be comfortable with is maybe -30k, assuming I had a pretty solid plan for maintaining this loan. On a -30k net worth, the most stock exposure I'd take would be ~50k, and that certainly would not be my starting point - that would only be a very sad place I'd end up in after a major market drop. The starting point after college might look like 80k stock exposure on -10k net worth. Even after a 50% market drop and without rebalancing, that would still look like 40k stock exposure on -50k net worth. Not pretty, but recoverable. The plan needs to be detailed, specific, and backtested to survive something at least as bad as 2008.

In terms of sustainable plans for maintaing a 30k loan on negative net worth? That's definitely not for everybody, but there are a few ways:

1) credit card balance transfers at 0%
2) buying money orders with a credit card at the start of the statement and paying off 7 weeks later (3 weeks after the statement, before any interest accumulates)
3) I had 0% interest student loans after college
4) low interest car loans, personal loans, mortgage

None of these are 100% guaranteed to continue working, except perhaps the 0% student loans I had after college, but the odds are high enough (>90% I'd say) for somebody that wants to take the risk.
Last edited by skierincolorado on Thu Sep 16, 2021 10:11 am, edited 1 time in total.
DMoogle
Posts: 293
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Re: Lifecycle Investing vs. Hedgefundie's Excellent Adventure

Post by DMoogle »

skierincolorado wrote: Thu Sep 16, 2021 8:05 amIn order of risk:
-leveraging 2x against net worth (SSO), or 3x (UPRO)
-leveraging 4x against net worth
-taking fixed loans using your future income as collateral via credit cards, mortgages, personal loans. This allows for leverage higher than 4x, and can very easily turn into infinite leverage if one's net worth becomes negative
-taking more fixed loans than you'd be able to sustain in a market down turn or loss of job
I think we need a new framework for talking about leverage ratios in a non-LETF context. 4x against net worth sounds sky-high and very scary to most, but if a portfolio was actually 0.5x SPY and 3.5x STTs, then it's actually a reasonably safe portfolio. Even 1x SPY and 8x STTs looks to be less risky than HFEA. Using a flat number to discuss leverage ratios really doesn't hold up well at all when not considering the context of the underlying assets.

I'm not really sure what this framework should look like, but I think the more we can point to long-term results (i.e. at least 3 decades) and discuss volatility and drawdowns, the better off we'll be.
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