Asset Allocation Ideas Outdated?

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powercherry5
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Asset Allocation Ideas Outdated?

Post by powercherry5 »

Every few days there is a post on here from newbies asking some rhyme of "everything is sky high, there is no way it can keep going, should we take out all our stocks now?". The bogglehead mentality rightfully laughs at this since there is no way to predict how long the market will keep going. The replies usually fall back to "Don't try to predict the market and cash out, but if you are nervous, adjust your asset allocation so you can sleep at night". AA from my understanding, usually implies stocks/bonds AA.

That seems to be all fine and dandy advice through most of the last half CENTURY. But does that advice really still apply the same way?

It seems like adjusting your AA to increase Bonds is basically equivalent in outcome to the ignorant newbies question about taking out to Cash. Bonds are returning near zero returns but carry heavy interest risk right now and are very heavily underwater from inflation. I am absolutely not trying to predict interest rate hikes or when/how the bond market will crash. Only that there isn't much room for bonds to go up from this near zero until some kind of crash or interest rate hike does happen. Even if semi-long term interest rates rising is a good thing, when you really access things, aren't we just introducing more risk for almost no reward over just holding cash.... Which brings me back to my point, that in the current bond market, the boglehead advice boils down to echoing the newbies instinct to take out investments and hold in cash?

Note: I recognize depending on the bonds you invest, it may be near zero or slightly higher (total bond is 1.5%). But even the higher return options are very dismal and are much longer durations which carry much higher interest rate risk. BND would take 7 years to recover. Which isn't a big deal when bonds are at historically average %'s since you are making good yields in the meantime. But again, at the risk of sounding like a broken record, the current market isn't giving a good yield.
3funder
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Re: Asset Allocation Ideas Outdated?

Post by 3funder »

I hold the percentage of bonds with which I'm comfortable (20% for at least the next few years). Yields have only a small amount of influence in my decision (maybe 5% either way).
Global stocks, US bonds, and time.
mikejuss
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Re: Asset Allocation Ideas Outdated?

Post by mikejuss »

Stop worrying about a negative yield related to a minority fraction of your portfolio. Stocks are through the roof. Don't torture yourself about buying some bonds for ballast; keeping cash is at best going to save you a little money and at worst going cost you when--and, no, we cannot know when--bond yields rise.
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nisiprius
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Re: Asset Allocation Ideas Outdated?

Post by nisiprius »

When was the last time interest rates were in a long sustained period of rising rates? 1940-1980.

What did Benjamin Graham write?
We have suggested as a fundamental guiding rule that the investor should never have less than 25% or more than 75% of his funds in common stocks, with a consequence inverse range of 75% to 25% in bonds.
When did he write it? 1973.
Annual income twenty pounds, annual expenditure nineteen nineteen and six, result happiness; Annual income twenty pounds, annual expenditure twenty pounds ought and six, result misery.
Robot Monster
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Re: Asset Allocation Ideas Outdated?

Post by Robot Monster »

powercherry5 wrote: Wed Nov 24, 2021 12:17 pm Even if semi-long term interest rates rising is a good thing, when you really access things, aren't we just introducing more risk for almost no reward over just holding cash....
"Cash Is a Better Hedge Than Bonds, Goldman's Oppenheimer Says". From the article:

“I think as we move forward, given we are at record low bond yields, it is difficult to see the same kind of return,” he said in reference to historical bond performance. “Cash probably represents a much better way of hedging against an increased exposure to risk assets like equities.” link

You could consider a compromise position: short-term bonds.
Last edited by Robot Monster on Wed Nov 24, 2021 12:51 pm, edited 1 time in total.
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SantaClaraSurfer
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Re: Asset Allocation Ideas Outdated?

Post by SantaClaraSurfer »

Here are some Bonds we've purchased in 2021:

EE Bonds: pay 3.53% per year, doubling in 20 years
I Bonds: pay 0% fixed plus CPI adjusted rate every 6 months, currently 7.12%
VCITX: CA Tax Free Long Term Munis. Currently paying us about $20 dividends per month, per $10,000 invested, tax free. Depending on your tax rate that's a decent tax equivalent return here in CA.
SCHQ: Started purchasing this LTT Bond Fund in February of this year. For every 100% we put in taxable equities, we make a 20% investment in LTTs. Our average share price is under $50 per share. If the share price of SCHQ declines next year, it will mean we're getting higher dividends, and if equities drop next year, we will sell some SCHQ and rebalance into equities.

We don't have any sense of getting a dismal or bad yield. Each of these bond investments is doing exactly what they are supposed to do with the tax treatment they were designed to have, and each play a specific role in our portfolio.

We keep our 401(k)s aligned to a Target Date formula, so we have plenty of bond funds, there, too.

I guess we could move our target date further out and reduce our bond exposure? Is that what you are advocating? I can't see how that would make any sense.

That's pretty much effectively saying "after there's been a massive run up in equities, let's all increase our exposure to equities and reduce our exposure to bonds."
exodusNH
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Re: Asset Allocation Ideas Outdated?

Post by exodusNH »

powercherry5 wrote: Wed Nov 24, 2021 12:17 pm Every few days there is a post on here from newbies asking some rhyme of "everything is sky high, there is no way it can keep going, should we take out all our stocks now?". The bogglehead mentality rightfully laughs at this since there is no way to predict how long the market will keep going. The replies usually fall back to "Don't try to predict the market and cash out, but if you are nervous, adjust your asset allocation so you can sleep at night". AA from my understanding, usually implies stocks/bonds AA.

That seems to be all fine and dandy advice through most of the last half CENTURY. But does that advice really still apply the same way?

It seems like adjusting your AA to increase Bonds is basically equivalent in outcome to the ignorant newbies question about taking out to Cash. Bonds are returning near zero returns but carry heavy interest risk right now and are very heavily underwater from inflation. I am absolutely not trying to predict interest rate hikes or when/how the bond market will crash. Only that there isn't much room for bonds to go up from this near zero until some kind of crash or interest rate hike does happen. Even if semi-long term interest rates rising is a good thing, when you really access things, aren't we just introducing more risk for almost no reward over just holding cash.... Which brings me back to my point, that in the current bond market, the boglehead advice boils down to echoing the newbies instinct to take out investments and hold in cash?

Note: I recognize depending on the bonds you invest, it may be near zero or slightly higher (total bond is 1.5%). But even the higher return options are very dismal and are much longer durations which carry much higher interest rate risk. BND would take 7 years to recover. Which isn't a big deal when bonds are at historically average %'s since you are making good yields in the meantime. But again, at the risk of sounding like a broken record, the current market isn't giving a good yield.
As long as the bonds that you're investing in have a duration that matches their need, they're a better option than cash. If you have money you need in two years, bonds are not where you want to be. The funds with that duration are paying quite a bit less than even a "high-yield", FDIC-insured savings account.
Intrepyd
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Re: Asset Allocation Ideas Outdated?

Post by Intrepyd »

What is the alternative to bonds? Cash with zero yield? 100% stocks?
Robot Monster
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Re: Asset Allocation Ideas Outdated?

Post by Robot Monster »

Intrepyd wrote: Wed Nov 24, 2021 12:56 pm What is the alternative to bonds? Cash with zero yield? 100% stocks?
There's TIPS! ;-)

This is vineviz's very rough rule of thumb for a bond allocation, which will vary depending on your stock exposure.

Code: Select all

Stocks	LTT	TIPS	STIG
100%	0%	0%	0%
90%	10%	0%	0%
80%	20%	0%	0%
70%	20%	10%	0%
60%	20%	20%	0%
50%	20%	30%	0%
40%	10%	40%	10%
30%	0%	50%	20%
LTT = Long-term Treasuries
TIPS = Broad TIPS fund (or Series I Savings Bonds or individual TIPS ladder)
STIG = Short-term investment grade corporate bond fund
source

I'll also mention BlackRock is underweight government bonds:

"We are strategically underweight nominal government bonds given their diminished ability to act as portfolio ballasts with yields near lower bounds. Rising debt levels may eventually pose risks to the low-rate regime. We prefer inflation-linked bonds – particularly in the U.S. relative to the euro area on valuations. Tactically, we are also underweight government bonds on expectations of gradually rising yields."
link
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Topic Author
powercherry5
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Re: Asset Allocation Ideas Outdated?

Post by powercherry5 »

SantaClaraSurfer wrote: Wed Nov 24, 2021 12:50 pm Here are some Bonds we've purchased in 2021:

EE Bonds: pay 3.53% per year, doubling in 20 years
I Bonds: pay 0% fixed plus CPI adjusted rate every 6 months, currently 7.12%
VCITX: CA Tax Free Long Term Munis. Currently paying us about $20 dividends per month, per $10,000 invested, tax free. Depending on your tax rate that's a decent tax equivalent return here in CA.
SCHQ: Started purchasing this LTT Bond Fund in February of this year. For every 100% we put in taxable equities, we make a 20% investment in LTTs. Our average share price is under $50 per share. If the share price of SCHQ declines next year, it will mean we're getting higher dividends, and if equities drop next year, we will sell some SCHQ and rebalance into equities.

We don't have any sense of getting a dismal or bad yield. Each of these bond investments is doing exactly what they are supposed to do with the tax treatment they were designed to have, and each play a specific role in our portfolio.

We keep our 401(k)s aligned to a Target Date formula, so we have plenty of bond funds, there, too.

I guess we could move our target date further out and reduce our bond exposure? Is that what you are advocating? I can't see how that would make any sense.

That's pretty much effectively saying "after there's been a massive run up in equities, let's all increase our exposure to equities and reduce our exposure to bonds."
Intrepyd wrote: Wed Nov 24, 2021 12:56 pm What is the alternative to bonds? Cash with zero yield? 100% stocks?
I'm dealing with a relatively large portfolio so I ignored I-bonds. Those are great in this climate for anyone where 10k will move the needle. Unfortunately on a larger portfolio it's a moot point.

I didn't make prescriptive claims since I was trying to keep the post about descriptive changes in fundamentals that could challenge accepted prescriptive boglehead mentality (instead of trying to "predict the market"). But if you're asking......I think the implications of my post is Cash may actually be a better hedge in your AA instead of bonds. So if you did 70/30 stocks/bonds, maybe 70/30 stock/cash is right. Previously, exposure to bonds acted as a ballast in your portfolio while still receiving relatively GOOD gains. You accepted smaller returns than equities for less volatility. Now the returns are near zero, for an arguably higher volatility risk than in the past. So its NOT the same math as before. Yea, 1% is better than 0%, but it comes at an enormous cost. The risk of going down 20%+ in a short amount of time. In the long term, getting 10-20% more into a low market on your annual rebalancing, is a pretty huge deal. While all you're missing out on is a paltry 1%.

So just to clarify again. I am not advocating that "should I take out my money since we are at all time highs" is correct or that "adjust your AA" is incorrect. I am discussing whether the working definition of AA should actually change from stock/bond to stock/cash to reproduce the same utility stock/bond AA changes had in the past.
Fallible
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Re: Asset Allocation Ideas Outdated?

Post by Fallible »

powercherry5 wrote: Wed Nov 24, 2021 12:17 pm ... Which brings me back to my point, that in the current bond market, the boglehead advice boils down to echoing the newbies instinct to take out investments and hold in cash? ...
Most of the Bogleheads advice I've seen does not echo the newbies instinct to pull investments and hold cash. Instead, they generally advise, as I have, to base asset allocation largely on personal risk tolerance in the event of a market crash and use bonds as ballast to reduce some effects of a crash on equities. When new investors ask about bond yields and inflation, there have been discussions of that, but getting out and going to cash is not the answer - unless someone happens to know when to get out and get back in.
"Yes, investing is simple. But it is not easy, for it requires discipline, patience, steadfastness, and that most uncommon of all gifts, common sense." ~Jack Bogle
luckyducky99
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Re: Asset Allocation Ideas Outdated?

Post by luckyducky99 »

powercherry5 wrote: Wed Nov 24, 2021 1:57 pm I am discussing whether the working definition of AA should actually change from stock/bond to stock/cash to reproduce the same utility stock/bond AA changes had in the past.
I think "cash" vs "bond" is a distinction without a difference.

I think most people used "bonds" and "fixed income" interchangeably. Cash is a form of fixed income. Cash is also basically a zero duration bond. It's just quibbling over word choice.

So go ahead and use whichever words you prefer. :beer
stan1
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Re: Asset Allocation Ideas Outdated?

Post by stan1 »

The rule of thumb to be question is "age in bonds"
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powercherry5
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Re: Asset Allocation Ideas Outdated?

Post by powercherry5 »

Fallible wrote: Wed Nov 24, 2021 2:37 pm
powercherry5 wrote: Wed Nov 24, 2021 12:17 pm ... Which brings me back to my point, that in the current bond market, the boglehead advice boils down to echoing the newbies instinct to take out investments and hold in cash? ...
Most of the Bogleheads advice I've seen does not echo the newbies instinct to pull investments and hold cash. Instead, they generally advise, as I have, to base asset allocation largely on personal risk tolerance in the event of a market crash and use bonds as ballast to reduce some effects of a crash on equities. When new investors ask about bond yields and inflation, there have been discussions of that, but getting out and going to cash is not the answer - unless someone happens to know when to get out and get back in.
I think I either have not been clear or you misread. I specifically said this wasn't about pulling investments like equities and holding cash instead. It is about interchanging the "bonds" portion of AA with "cash" because in the current market it seems like that would do a better job of " in the event of a market crash and use bonds as ballast to reduce some effects of a crash on equities" than bonds would.
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powercherry5
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Re: Asset Allocation Ideas Outdated?

Post by powercherry5 »

luckyducky99 wrote: Wed Nov 24, 2021 2:44 pm
powercherry5 wrote: Wed Nov 24, 2021 1:57 pm I am discussing whether the working definition of AA should actually change from stock/bond to stock/cash to reproduce the same utility stock/bond AA changes had in the past.
I think "cash" vs "bond" is a distinction without a difference.

I think most people used "bonds" and "fixed income" interchangeably. Cash is a form of fixed income. Cash is also basically a zero duration bond. It's just quibbling over word choice.

So go ahead and use whichever words you prefer. :beer
I have seen the two used interchangeably by forum users occasionally. But I think the way most use them are not interchangeable and the "literature" on the boglehead mentality doesn't interchange them either. But I may be wrong?
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steve r
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Re: Asset Allocation Ideas Outdated?

Post by steve r »

nisiprius wrote: Wed Nov 24, 2021 12:40 pm When was the last time interest rates were in a long sustained period of rising rates? 1940-1980.

What did Benjamin Graham write?
We have suggested as a fundamental guiding rule that the investor should never have less than 25% or more than 75% of his funds in common stocks, with a consequence inverse range of 75% to 25% in bonds.
When did he write it? 1973.
I love this post. Never really thought about it that way. :beer
"It's much easier than most investors expect to get satisfactory investment returns and it is much more difficult than they expect to get better results than that." Benjamin Graham
etfan
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Re: Asset Allocation Ideas Outdated?

Post by etfan »

My favorite thing about this forum is I learned the "stay the course" guidance from it, and also daily posts/news telling me not to stay the course. :D
Target Date Fund + BND & VTI
KlangFool
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Re: Asset Allocation Ideas Outdated?

Post by KlangFool »

powercherry5 wrote: Wed Nov 24, 2021 12:17 pm
Bonds are returning near zero returns but carry heavy interest risk right now and are very heavily underwater from inflation. I am absolutely not trying to predict interest rate hikes or when/how the bond market will crash. Only that there isn't much room for bonds to go up from this near zero until some kind of crash or interest rate hike does happen.
powercherry5,

<<I am absolutely not trying to predict interest rate hikes or when/how the bond market will crash.>>

You are.

<<Only that there isn't much room for bonds to go up from this near zero>>

How do you know that? Can you predict the future interest rate movement? For some country, the interest rate had gone negative.

<<Only that there isn't much room for bonds to go up from this near zero until some kind of crash or interest rate hike does happen. >>

How do you know this?

The professional bond buyers, sellers, and issuers are paid millions every year to answer those questions. They buy and sell billions in bonds. The price of the bonds are set by those professional folks.

What do you know that they do not know? Aka, you believe that they had priced the bond incorrectly.

If you know this, so does everyone else. So, why do you think that the current bond's price does not take all the known information and priced in the current price?

KlangFool
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Robot Monster
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Re: Asset Allocation Ideas Outdated?

Post by Robot Monster »

powercherry5 wrote: Wed Nov 24, 2021 1:57 pm But if you're asking......I think the implications of my post is Cash may actually be a better hedge in your AA instead of bonds. So if you did 70/30 stocks/bonds, maybe 70/30 stock/cash is right. Previously, exposure to bonds acted as a ballast in your portfolio while still receiving relatively GOOD gains. You accepted smaller returns than equities for less volatility. Now the returns are near zero, for an arguably higher volatility risk than in the past. So its NOT the same math as before. Yea, 1% is better than 0%, but it comes at an enormous cost. The risk of going down 20%+ in a short amount of time. In the long term, getting 10-20% more into a low market on your annual rebalancing, is a pretty huge deal. While all you're missing out on is a paltry 1%.
Nicely said.

‘Black Swan’ author Nassim Taleb says cash is the right hedge against rising market risk for regular investors link

In a few years people might look at that and laugh. They might say, "Can you believe that in 2021-2022 people were afraid of rate hikes and inflation, right before the Fed took rates negative in 2023? Now cash is yielding -0.8%."

Mind you, Switzerland is currently -0.8% on their 6-month bond. Germany is -0.874%.

Who knows.
"The downs are part of the long term upward trend." -- our favorite golfer
SantaClaraSurfer
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Re: Asset Allocation Ideas Outdated?

Post by SantaClaraSurfer »

powercherry5 wrote: Wed Nov 24, 2021 1:57 pm
I'm dealing with a relatively large portfolio so I ignored I-bonds. Those are great in this climate for anyone where 10k will move the needle. Unfortunately on a larger portfolio it's a moot point.

I am discussing whether the working definition of AA should actually change from stock/bond to stock/cash to reproduce the same utility stock/bond AA changes had in the past.
I hear your points and take them in good faith! Your strongest argument seems, to me, to be that if you keep 30% of a large portfolio in bonds and both:

a) prediction bond yields go up drastically sending bond prices down and
b) prediction the stock market has a major correction

for purposes of rebalancing, your 30% bond allocation might have shrunk relative to the dollar value that you'd hold for purposes of rebalancing if you cashed out your bonds today and held the money in cash or near cash alternative. (Like a money fund.)

This of course, begs the question, especially if your portfolio is so large that the annual limit on I Bonds makes them irrelevant to you, why you are advocating selling hundreds of thousands of dollars, and perhaps millions of dollars, in bonds in 2021 based on two go forward market predictions that BOTH have to be true: ie. 2021 bonds won't serve as an effective rebalancing tool and equities are bound for a major correction soon enough to make selling out your existing bonds and changing your AA an urgent matter.

If your predictions don't hold, what then? Selling bonds to hold cash with the current CPI is a move guaranteed to lose value to inflation. What if the current bond offerings actually prove to be the best deal available at this moment in time, and for some years to come? What if equities tread water, or slightly decline, for seven, or nine, or twelve years?

I don't think you have answered those questions. And your assumption that bonds have a "dismal" outlook, when you unpack it, doesn't answer the crucial question: compared to what? What if bonds have a boring outlook...and that's the best we can do for awhile?

For ourselves, my wife and I started down the path we are on with bonds in our taxable account prior to current market conditions. Since that time I Bonds, EE Bonds, CA Long Term Munis and Long Term US Treasuries are all doing exactly what we originally purchased them to do. And as I noted in my post, are offering good value, with attractive tax advantages, that does not seem dismal to us, at all.

Our earning / investing horizon is somewhere around 15-20 years. From that perspective, changing our AA from Equities/Bonds to Equities/Cash would be strictly a market timing play.

My advice to anyone considering making a big move based on market predictions or assessments, is to construct an AA that reflects your timeframe, existing portfolio and long term financial goals along the lines of the recommendations of the Bogleheads Investment Philosophy.
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Re: Asset Allocation Ideas Outdated?

Post by Zeno »

nisiprius wrote: Wed Nov 24, 2021 12:40 pm When was the last time interest rates were in a long sustained period of rising rates? 1940-1980.

What did Benjamin Graham write?
We have suggested as a fundamental guiding rule that the investor should never have less than 25% or more than 75% of his funds in common stocks, with a consequence inverse range of 75% to 25% in bonds.
When did he write it? 1973.
+1

I owe you a debt of gratitude, nisiprius. And by that I mean our portfolio, and thus our retirement, send their thanks. Same for the other members of the wise guard here who weigh into these threads from time to time.

Wisdom borne of experience is priceless. Literally.

Thank you.
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powercherry5
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Re: Asset Allocation Ideas Outdated?

Post by powercherry5 »

KlangFool wrote: Wed Nov 24, 2021 4:41 pm
powercherry5 wrote: Wed Nov 24, 2021 12:17 pm
Bonds are returning near zero returns but carry heavy interest risk right now and are very heavily underwater from inflation. I am absolutely not trying to predict interest rate hikes or when/how the bond market will crash. Only that there isn't much room for bonds to go up from this near zero until some kind of crash or interest rate hike does happen.
powercherry5,

<<I am absolutely not trying to predict interest rate hikes or when/how the bond market will crash.>>

You are.
I am gonna push back on alot of things you said, but I do appreciate the insight and response.

In the strictest sense, of course I am "predicting". But then so is choosing boglehead strategy vs other strategies. So is saying "sometimes it goes up and sometimes it goes down". What if it just goes up from now on without another down ever again? Certainly possible. If we were not using some level of prediction or timing, then even boglehead philosophy would be out. We would throw our hands up, say we know absolutely nothing and hold in cash. Even then that is risky, so we would just be paralyzed in inaction.

Point? There is a level of prediction in the strictest sense that is involved in everything we do, but not the colloquial uses of the words. What I am bringing up doesn't depend on timing things to a very precise level or to know unreasonable things that others don't know.

The only big prediction I seem to be making is that I am prediction interest rates will eventually rise again. It is always possible they will just stay near zero forever. But regardless of how ahistorical that is, even if it happens, what you have lost on this bet is also very little because of the dismyl Yields.

KlangFool wrote: Wed Nov 24, 2021 4:41 pm <<Only that there isn't much room for bonds to go up from this near zero>>

How do you know that? Can you predict the future interest rate movement? For some country, the interest rate had gone negative.
Seems to be missing the forest for the trees. The fact that some countries have went from 0 to -.25% or even -.5% means absolutely nothing to the point as that does little to the ETF Price and then only makes yields even worse. There is an enormous asymmetry between possible negative rates and average rates. (forget about comparing to possible interest rates based on history like 10%+). Unless you suggest it is within the realm of possibility that rates get to -5% for a while, this point is a red herring.
KlangFool wrote: Wed Nov 24, 2021 4:41 pm <<Only that there isn't much room for bonds to go up from this near zero until some kind of crash or interest rate hike does happen. >>

How do you know this?

The professional bond buyers, sellers, and issuers are paid millions every year to answer those questions. They buy and sell billions in bonds. The price of the bonds are set by those professional folks.

What do you know that they do not know? Aka, you believe that they had priced the bond incorrectly.

If you know this, so does everyone else. So, why do you think that the current bond's price does not take all the known information and priced in the current price?

KlangFool
While the Efficient Market Hypothesis is what Bogleheads subscribe to (including myself), it is based on very LONG TERM views. Long term the markets price things correctly and you are right (I think). That doesn't negate that occasionally inefficiencies happen or non-market driven forces happen which mess with it's accuracy. A money printing arm of the govt buying 170 BILLION bonds a month regardless of price, isn't "the market finding the correct price" any more than calling rent controlled area real estate "priced correctly by the market". The "market" may believe a 2% return is required but if a govt entity buys at lower, it will be lower.

As for professionals.... According to the few links in this thread from other posts, it seems some big names have actually agreed with my assessment as well. But that's really besides the point as professionals of all stripes get things wrong all the time. I don't consider this proof one way or the other.

Things like "the fed buying bonds", "the largest generation going into retirement and buying what they believe to be safer assets based on history regardless of return/risk ratio", "people socking away their monthly 401k distributions regardless of returns an price because its just on a plan", and "managers are discouraged from just holding funds as cash, since they are paid to invest peoples money and not just hold cash" are glaring holes in the EMH in short and medium term.

You are right, obviously, that neither I or anyone else knows how much these distortions effect the accuracy of 'market price'.

Which brings me back to my entire point. It seems like with how low the yields are, even with NOT KNOWING where things are going.... There is an asymmetry of risk/reward compared to just holding cash for your bond allocations. Acknowledging the "not knowing" and doing assessments based on that seem to run contrary to the colloquial uses of "timing/predictions".
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powercherry5
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Re: Asset Allocation Ideas Outdated?

Post by powercherry5 »

Robot Monster wrote: Wed Nov 24, 2021 4:57 pm
powercherry5 wrote: Wed Nov 24, 2021 1:57 pm But if you're asking......I think the implications of my post is Cash may actually be a better hedge in your AA instead of bonds. So if you did 70/30 stocks/bonds, maybe 70/30 stock/cash is right. Previously, exposure to bonds acted as a ballast in your portfolio while still receiving relatively GOOD gains. You accepted smaller returns than equities for less volatility. Now the returns are near zero, for an arguably higher volatility risk than in the past. So its NOT the same math as before. Yea, 1% is better than 0%, but it comes at an enormous cost. The risk of going down 20%+ in a short amount of time. In the long term, getting 10-20% more into a low market on your annual rebalancing, is a pretty huge deal. While all you're missing out on is a paltry 1%.
Nicely said.

‘Black Swan’ author Nassim Taleb says cash is the right hedge against rising market risk for regular investors link

In a few years people might look at that and laugh. They might say, "Can you believe that in 2021-2022 people were afraid of rate hikes and inflation, right before the Fed took rates negative in 2023? Now cash is yielding -0.8%."

Mind you, Switzerland is currently -0.8% on their 6-month bond. Germany is -0.874%.

Who knows.
I didn't address this in my original post but I did in a reply to Kang. It seems like unless the implications are that negative rates could go to a steady -5%.... talking about negative rates in this discussion turns into a red herring. Even if interest rates fall 1% towards negative, there will be a small bump in NAV, but then your yield will turn to complete garbage based on those interest rates and bonds become an even worse wealth preservation proposition. You ok with PAYING for the privilege of others owing you money? That's the deal in Switzerland.
Topic Author
powercherry5
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Re: Asset Allocation Ideas Outdated?

Post by powercherry5 »

SantaClaraSurfer wrote: Wed Nov 24, 2021 5:19 pm
powercherry5 wrote: Wed Nov 24, 2021 1:57 pm
I'm dealing with a relatively large portfolio so I ignored I-bonds. Those are great in this climate for anyone where 10k will move the needle. Unfortunately on a larger portfolio it's a moot point.

I am discussing whether the working definition of AA should actually change from stock/bond to stock/cash to reproduce the same utility stock/bond AA changes had in the past.
I hear your points and take them in good faith! Your strongest argument seems, to me, to be that if you keep 30% of a large portfolio in bonds and both:

a) prediction bond yields go up drastically sending bond prices down and
b) prediction the stock market has a major correction

for purposes of rebalancing, your 30% bond allocation might have shrunk relative to the dollar value that you'd hold for purposes of rebalancing if you cashed out your bonds today and held the money in cash or near cash alternative. (Like a money fund.)

This of course, begs the question, especially if your portfolio is so large that the annual limit on I Bonds makes them irrelevant to you, why you are advocating selling hundreds of thousands of dollars, and perhaps millions of dollars, in bonds in 2021 based on two go forward market predictions that BOTH have to be true: ie. 2021 bonds won't serve as an effective rebalancing tool and equities are bound for a major correction soon enough to make selling out your existing bonds and changing your AA an urgent matter.

If your predictions don't hold, what then? Selling bonds to hold cash with the current CPI is a move guaranteed to lose value to inflation. What if the current bond offerings actually prove to be the best deal available at this moment in time, and for some years to come? What if equities tread water, or slightly decline, for seven, or nine, or twelve years?

I don't think you have answered those questions. And your assumption that bonds have a "dismal" outlook, when you unpack it, doesn't answer the crucial question: compared to what? What if bonds have a boring outlook...and that's the best we can do for awhile?

For ourselves, my wife and I started down the path we are on with bonds in our taxable account prior to current market conditions. Since that time I Bonds, EE Bonds, CA Long Term Munis and Long Term US Treasuries are all doing exactly what we originally purchased them to do. And as I noted in my post, are offering good value, with attractive tax advantages, that does not seem dismal to us, at all.

Our earning / investing horizon is somewhere around 15-20 years. From that perspective, changing our AA from Equities/Bonds to Equities/Cash would be strictly a market timing play.

My advice to anyone considering making a big move based on market predictions or assessments, is to construct an AA that reflects your timeframe, existing portfolio and long term financial goals along the lines of the recommendations of the Bogleheads Investment Philosophy.
I appreciate you honing in on my points and addressing them. I kind of addressed this in the other posts that I replied to just now, but I will tailor to your post.

I acknowledge that my theory is at least loosely based on fundamental historical predictions like eventually markets go down and eventually rates don't stay at zero. To be fair, it's not wild to make these predictions as they are based on the same historical groundwork as the boglehead philosophy is based. E.X. If history showed the market only goes down, boglehead philosophy would be to short the market at all times instead of invest! (a bit hyperbolic)

Anyways, even if I acknowledge that there is a real chance rates don't go up anytime in the near future and the stock market doesn't crash.... Doing a napkin math risk/reward seems like risk is asymmetrical. So I'lll lose out on 5 years of 1% on a bad assumption that I think most would say is unlikely. That will barely move the needle. On the other hand, being right moves the needle ALOT. The very low yield and historical precedent is why I am pushing back on the narrative that this is trying to predict the market , to any more degree than just using the boglehead philosophy is.

Quick note..... I am currently a few months into my 16 month or so DCA plan of almost 8 figures. I am doing 30% total bond market every week. So I have NOT put my money where my mouth is. I may be completely wrong and I am posting on here to stress test all my dumb ideas because I do believe you guys do a great job of knowing sense into people when they are astray. So I welcome all this disagreement!
Last edited by powercherry5 on Wed Nov 24, 2021 6:23 pm, edited 1 time in total.
KlangFool
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Re: Asset Allocation Ideas Outdated?

Post by KlangFool »

powercherry5 wrote: Wed Nov 24, 2021 5:40 pm

As for professionals.... According to the few links in this thread from other posts, it seems some big names have actually agreed with my assessment as well. But that's really besides the point as professionals of all stripes get things wrong all the time. I don't consider this proof one way or the other.
powercherry5,

Do you believe what they says or what they do?

They buy and sell billions of bonds every day. The price of the bond is set by their actions. The market price of the bonds reflects their actions.

I know my answer.

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Candor
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Re: Asset Allocation Ideas Outdated?

Post by Candor »

powercherry5 wrote: Wed Nov 24, 2021 5:56 pm
SantaClaraSurfer wrote: Wed Nov 24, 2021 5:19 pm
powercherry5 wrote: Wed Nov 24, 2021 1:57 pm
I'm dealing with a relatively large portfolio so I ignored I-bonds. Those are great in this climate for anyone where 10k will move the needle. Unfortunately on a larger portfolio it's a moot point.

I am discussing whether the working definition of AA should actually change from stock/bond to stock/cash to reproduce the same utility stock/bond AA changes had in the past.
I hear your points and take them in good faith! Your strongest argument seems, to me, to be that if you keep 30% of a large portfolio in bonds and both:

a) prediction bond yields go up drastically sending bond prices down and
b) prediction the stock market has a major correction

for purposes of rebalancing, your 30% bond allocation might have shrunk relative to the dollar value that you'd hold for purposes of rebalancing if you cashed out your bonds today and held the money in cash or near cash alternative. (Like a money fund.)

This of course, begs the question, especially if your portfolio is so large that the annual limit on I Bonds makes them irrelevant to you, why you are advocating selling hundreds of thousands of dollars, and perhaps millions of dollars, in bonds in 2021 based on two go forward market predictions that BOTH have to be true: ie. 2021 bonds won't serve as an effective rebalancing tool and equities are bound for a major correction soon enough to make selling out your existing bonds and changing your AA an urgent matter.

If your predictions don't hold, what then? Selling bonds to hold cash with the current CPI is a move guaranteed to lose value to inflation. What if the current bond offerings actually prove to be the best deal available at this moment in time, and for some years to come? What if equities tread water, or slightly decline, for seven, or nine, or twelve years?

I don't think you have answered those questions. And your assumption that bonds have a "dismal" outlook, when you unpack it, doesn't answer the crucial question: compared to what? What if bonds have a boring outlook...and that's the best we can do for awhile?

For ourselves, my wife and I started down the path we are on with bonds in our taxable account prior to current market conditions. Since that time I Bonds, EE Bonds, CA Long Term Munis and Long Term US Treasuries are all doing exactly what we originally purchased them to do. And as I noted in my post, are offering good value, with attractive tax advantages, that does not seem dismal to us, at all.

Our earning / investing horizon is somewhere around 15-20 years. From that perspective, changing our AA from Equities/Bonds to Equities/Cash would be strictly a market timing play.

My advice to anyone considering making a big move based on market predictions or assessments, is to construct an AA that reflects your timeframe, existing portfolio and long term financial goals along the lines of the recommendations of the Bogleheads Investment Philosophy.
I appreciate you honing in on my points and addressing them. I kind of addressed this in the other posts that I replied to just now, but I will tailor to your post.

I acknowledge that my theory is at least loosely based on fundamental historical predictions like eventually markets go down and eventually rates don't stay at zero. To be fair, it's not wild to make these predictions as they are based on the same historical groundwork as the boglehead philosophy is based. E.X. If history showed the market only goes down, boglehead philosophy would be to short the market at all times instead of invest! (a bit hyperbolic)

Anyways, even if I acknowledge that there is a real chance rates don't go up anytime in the near future and the stock market doesn't crash.... Doing a napkin math risk/reward seems like risk is asymmetrical. So I'lll lose out on 5 years of 1% on a bad assumption that I think most would say is unlikely. That will barely move the needle. On the other hand, being right moves the needle ALOT. The very low yield and historical precedent is why I am pushing back on the narrative that this is trying to predict the market , to any more degree than just using the boglehead philosophy is.

Quick note..... I am currently a few months into my 16 month or so DCA plan of almost 10 figures. I am doing 30% total bond market every week. So I have NOT put my money where my mouth is. I may be completely wrong and I am posting on here to stress test all my dumb ideas because I do believe you guys do a great job of knowing sense into people when they are astray. So I welcome all this disagreement!
You are currently DCA'ing almost 1 billion USD?
The fool, with all his other faults, has this also - he is always getting ready to live. - Epicurus
Topic Author
powercherry5
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Re: Asset Allocation Ideas Outdated?

Post by powercherry5 »

Candor wrote: Wed Nov 24, 2021 6:21 pm You are currently DCA'ing almost 1 billion USD?
DOH, good catch! 8 figures!
Robot Monster
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Re: Asset Allocation Ideas Outdated?

Post by Robot Monster »

powercherry5 wrote: Wed Nov 24, 2021 5:46 pm
Robot Monster wrote: Wed Nov 24, 2021 4:57 pm
powercherry5 wrote: Wed Nov 24, 2021 1:57 pm But if you're asking......I think the implications of my post is Cash may actually be a better hedge in your AA instead of bonds. So if you did 70/30 stocks/bonds, maybe 70/30 stock/cash is right. Previously, exposure to bonds acted as a ballast in your portfolio while still receiving relatively GOOD gains. You accepted smaller returns than equities for less volatility. Now the returns are near zero, for an arguably higher volatility risk than in the past. So its NOT the same math as before. Yea, 1% is better than 0%, but it comes at an enormous cost. The risk of going down 20%+ in a short amount of time. In the long term, getting 10-20% more into a low market on your annual rebalancing, is a pretty huge deal. While all you're missing out on is a paltry 1%.
Nicely said.

‘Black Swan’ author Nassim Taleb says cash is the right hedge against rising market risk for regular investors link

In a few years people might look at that and laugh. They might say, "Can you believe that in 2021-2022 people were afraid of rate hikes and inflation, right before the Fed took rates negative in 2023? Now cash is yielding -0.8%."

Mind you, Switzerland is currently -0.8% on their 6-month bond. Germany is -0.874%.

Who knows.
I didn't address this in my original post but I did in a reply to Kang. It seems like unless the implications are that negative rates could go to a steady -5%.... talking about negative rates in this discussion turns into a red herring. Even if interest rates fall 1% towards negative, there will be a small bump in NAV, but then your yield will turn to complete garbage based on those interest rates and bonds become an even worse wealth preservation proposition. You ok with PAYING for the privilege of others owing you money? That's the deal in Switzerland.
Yeah, that's a good point. If the yield on BND went down to 0%, what would that be, a 10% bump in NAV? And then, like you say, BND would be a garbage investment. But, then again, in this scenario, might cash be an even worse investment? Right now the 10yr Switzerland bond yields -0.13%, which is garbage until it's compared to the -0.8% on their 6 month bill, and then maybe that -0.13% is looking much better?

I don't know. I mean, I'm personally not in nominal bonds at all. (I'm 25% cash, 25% stocks, 50% TIPS.)
"The downs are part of the long term upward trend." -- our favorite golfer
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Re: Asset Allocation Ideas Outdated?

Post by livesoft »

You and others won't like my mental accounting, but here goes:

Our Total US Bond Market index fund is down about 2.4% YTD. But my Total US Stock Market Index fund is up more than 25% YTD, so mentally I can re-arrange and think my Total US Bond market has done nothing this year and my stocks are up more than 22%, so the total portfolio is doing GREAT!

I have had years when the stock market was down and the bond market was up a few percent. Did I ditch equities in those years? Absolutely not!
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rockstar
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Re: Asset Allocation Ideas Outdated?

Post by rockstar »

powercherry5 wrote: Wed Nov 24, 2021 12:17 pm Note: I recognize depending on the bonds you invest, it may be near zero or slightly higher (total bond is 1.5%). But even the higher return options are very dismal and are much longer durations which carry much higher interest rate risk. BND would take 7 years to recover. Which isn't a big deal when bonds are at historically average %'s since you are making good yields in the meantime. But again, at the risk of sounding like a broken record, the current market isn't giving a good yield.
I agree with you. If you bonds aren't going to provide a good return, why own them? If you go long dated, you're likely to lose to interest risk. If you go short, you're worse than being in HYS. This all gets more complicated if you hold the bonds in a fund, rather than actual bonds that you can hold to maturity. Our Fed Chairman plans to hold his muni bonds to maturity.

If the idea is to reduce drawdown, and you're paying on a real basis anyway, I wonder why folks aren't using options to protect their drawdown.
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Re: Asset Allocation Ideas Outdated?

Post by Beensabu »

powercherry5 wrote: Wed Nov 24, 2021 5:40 pm The fact that some countries have went from 0 to -.25% or even -.5% means absolutely nothing to the point as that does little to the ETF Price and then only makes yields even worse.
You may want to read this on bond convexity and then revisit your current thoughts:

https://portfoliocharts.com/2019/05/27/ ... convexity/
"The only thing that makes life possible is permanent, intolerable uncertainty; not knowing what comes next." ~Ursula LeGuin
SantaClaraSurfer
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Re: Asset Allocation Ideas Outdated?

Post by SantaClaraSurfer »

Beensabu wrote: Wed Nov 24, 2021 7:17 pm
powercherry5 wrote: Wed Nov 24, 2021 5:40 pm The fact that some countries have went from 0 to -.25% or even -.5% means absolutely nothing to the point as that does little to the ETF Price and then only makes yields even worse.
You may want to read this on bond convexity and then revisit your current thoughts:

https://portfoliocharts.com/2019/05/27/ ... convexity/
That's a fantastic article! Bookmarked.

I'd add this one as well as a companion read, as it is directly responsive to OP and others in this thread:

Rising rates don't negate benefits of bonds - Vanguard Expert Perspective

Especially the section titled: "Myth #2: Go to cash—avoid duration risk."
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Re: Asset Allocation Ideas Outdated?

Post by mikejuss »

livesoft wrote: Wed Nov 24, 2021 6:45 pm You and others won't like my mental accounting, but here goes:

Our Total US Bond Market index fund is down about 2.4% YTD. But my Total US Stock Market Index fund is up more than 25% YTD, so mentally I can re-arrange and think my Total US Bond market has done nothing this year and my stocks are up more than 22%, so the total portfolio is doing GREAT!

I have had years when the stock market was down and the bond market was up a few percent. Did I ditch equities in those years? Absolutely not!
+100.
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Re: Asset Allocation Ideas Outdated?

Post by drumboy256 »

See sig, its hard to stay the course but easy to think we can predict the future.
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Re: Asset Allocation Ideas Outdated?

Post by Eagle33 »

I don't know about anyone else's crystal ball, but mine does not work. Its called personal finance for a reason - it's personal.
Rocket science is not “rocket science” to a rocket scientist, just as personal finance is not “rocket science” to a Boglehead.
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Re: Asset Allocation Ideas Outdated?

Post by theorist »

A question whose answer might provide a useful data point: is there any roughly 7-year period where an initial investment in a boglehead approved diversified intermediate term bond fund like VBTLX or VWITX would have underperformed an equal initial investment in cash? (An answer in the negative would still leave open the possibility of doing better short term timing with cash, but explain why intermediate term investors who don’t plan to hop in and out of investments should be calm.)
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Re: Asset Allocation Ideas Outdated?

Post by Ocean77 »

powercherry5 wrote: Wed Nov 24, 2021 5:46 pm Even if interest rates fall 1% towards negative, there will be a small bump in NAV, but then your yield will turn to complete garbage based on those interest rates and bonds become an even worse wealth preservation proposition.
Here is the error: In that case, the yield would "turn to complete garbage" for those who would buy bonds THEN. Those who buy bonds NOW would still be collecting the same $$ in interest payments on their bonds, for years to come. Plus have a bump in NAV should they decide to sell.

I agree bonds at 1.5% or 2% don't look very attractive here at the outset, especially when inflation is several times that. But still it is at least not inconceivable that bonds may beat other assets (like stocks) over the next few years.
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Re: Asset Allocation Ideas Outdated?

Post by Jaymover »

The Vanguard literature suggests that cash has no place in a diversified portfolio that you intend to hold long term 10 plus years. It has a place in terms of an emergency fund or to cover short term needs. I think they say this because usually bond values go down when stocks go up so it is quite a good diversifier. Also it is true that interest rate rises are bad for bonds in the short term but eventually the yields will catch up and they will be almost inflation beating. Cash over 10 plus years almost always gets eaten by inflation but occasionally gives a good return eg 2008
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Re: Asset Allocation Ideas Outdated?

Post by ivgrivchuck »

It is perfectly feasible to put bonds and cash alternatives side by side and pick the one with the highest expected return:

Mid term:
- Intermediate term TIPS
- Intermediate term nominal treasuries
- I-bonds
- CDs
- Savings account
- MYGAs (some risk premium penalty to be applied)

Long term:
- Long term TIPs
- Long term nominal treasuries
- EE-bonds

Choosing the option based on the highest expected return when the credit risk is identical is not market timing in my books...
Last edited by ivgrivchuck on Thu Nov 25, 2021 12:20 am, edited 1 time in total.
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Re: Asset Allocation Ideas Outdated?

Post by Northern Flicker »

powercherry5 wrote: Every few days there is a post on here from newbies asking some rhyme of "everything is sky high, there is no way it can keep going, should we take out all our stocks now?". The bogglehead mentality rightfully laughs at this since there is no way to predict how long the market will keep going. The replies usually fall back to "Don't try to predict the market and cash out, but if you are nervous, adjust your asset allocation so you can sleep at night". AA from my understanding, usually implies stocks/bonds AA.
An asset allocation is not limited to the asset classes of stocks and bonds. Other asset classes include real estate, commodities, stable value funds, CDs, MYGA's, SPIAs, cash and others. Real estate is quite broad-- there are many subclasses.
Last edited by Northern Flicker on Thu Nov 25, 2021 3:04 pm, edited 1 time in total.
My postings are my opinion, and never should be construed as a recommendation to buy, sell, or hold any particular investment.
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Re: Asset Allocation Ideas Outdated?

Post by Northern Flicker »

theorist wrote: A question whose answer might provide a useful data point: is there any roughly 7-year period where an initial investment in a boglehead approved diversified intermediate term bond fund like VBTLX or VWITX would have underperformed an equal initial investment in cash?
Yes, in the 1970's timeframe there were such periods.
My postings are my opinion, and never should be construed as a recommendation to buy, sell, or hold any particular investment.
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Re: Asset Allocation Ideas Outdated?

Post by Northern Flicker »

Some examples of portfolios that implement asset allocations with more asset classes than just stocks and bonds.

https://investor.vanguard.com/mutual-fu ... olio/vpgdx

https://www.nuveen.com/en-us/mutual-fun ... ncome-fund
My postings are my opinion, and never should be construed as a recommendation to buy, sell, or hold any particular investment.
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Re: Asset Allocation Ideas Outdated?

Post by ivgrivchuck »

Beensabu wrote: Wed Nov 24, 2021 7:17 pm
powercherry5 wrote: Wed Nov 24, 2021 5:40 pm The fact that some countries have went from 0 to -.25% or even -.5% means absolutely nothing to the point as that does little to the ETF Price and then only makes yields even worse.
You may want to read this on bond convexity and then revisit your current thoughts:

https://portfoliocharts.com/2019/05/27/ ... convexity/
I fail to understand the author's point in the article. With negative interest rates, the expected return is negative and he has shown that the volatility increases.

Certainly if we assume a negative correlation between bond and stock market that would be a great thing, but the long term correlation is around zero.

So in the end you are left with a highly volatile asset that is expected to lose money and doesn't really diversify risk (assuming zero correlation).

That's just awful. I don't understand his point...
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Re: Asset Allocation Ideas Outdated?

Post by Northern Flicker »

I think the buyers of long-term bonds in Europe with rates near zero or negative are institutional investors who are using the convexity and duration to hedge equity risk. It is cheaper than using options, though an imperfect hedge.
My postings are my opinion, and never should be construed as a recommendation to buy, sell, or hold any particular investment.
Jaymover
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Re: Asset Allocation Ideas Outdated?

Post by Jaymover »

Northern Flicker wrote: Thu Nov 25, 2021 12:20 am
powercherry5 wrote: Every few days there is a post on here from newbies asking some rhyme of "everything is sky high, there is no way it can keep going, should we take out all our stocks now?". The bogglehead mentality rightfully laughs at this since there is no way to predict how long the market will keep going. The replies usually fall back to "Don't try to predict the market and cash out, but if you are nervous, adjust your asset allocation so you can sleep at night". AA from my understanding, usually implies stocks/bonds AA.
An asset allocation is not limited two the asset classes of stocks and bonds. Other asset classes include real estate, commodities, stable value funds, CDs, MYGA's, SPIAs, cash and others. Real estate is quite broad-- there are many subclasses.
I am in Australia and I keep an eye on what superannuation funds are doing. Most of the big ones have largely rid themselves of bonds in their growth fund products, have a stash of cash for ballast purposes and have increased their holdings in real estate and infrastructure as well as alternatives as partly defensive hedges. I might check in a couple of months time and they may have bought bonds again as a defensive hedge but it tells alot. The managers for these huge funds look at their holdings in real time and might tinker based on some sophisticated research. However average person is better off sticking to the plan and not tinkering as we probably will be bad at guessing and dont have much access to the unlisted assets that are less likely correlated to the stock market.
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Re: Asset Allocation Ideas Outdated?

Post by seajay »

3funder wrote: Wed Nov 24, 2021 12:28 pm I hold the percentage of bonds with which I'm comfortable (20% for at least the next few years). Yields have only a small amount of influence in my decision (maybe 5% either way).
Firms issue corporate bonds, borrow. As of 2019 around $30T stock cap, $9T corporate bond cap, 77/23 proportions. If you invest $77 in a stock and also buy $23 of its corporate bonds then $23 of your money is in effect earning 0% nominal.

Corporate bond premiums reflect their default risk, are priced to risk free treasury bonds overall reward expectancy after defaults are factored in.

Buffett advocates 10% in 'bonds', enough to cover emergency expenditure without having to sell stocks when stocks are down. Or more generally whatever amount of emergency 'cash' you feel comfortable with. His preference is for high liquidity/stability and as such he holds TBills and suggests short dated treasury bonds for others. If you've $50M then $5M in 'cash' is likely excessive, even 1% might suffice. If you've $500K then $50K cash might be enough, or perhaps you might prefer $100K to hand (80/20).
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Re: Asset Allocation Ideas Outdated?

Post by Northern Flicker »

seajay wrote: Firms issue corporate bonds, borrow. As of 2019 around $30T stock cap, $9T corporate bond cap, 77/23 proportions. If you invest $77 in a stock and also buy $23 of its corporate bonds then $23 of your money is in effect earning 0% nominal.

Corporate bond premiums reflect their default risk, are priced to risk free treasury bonds overall reward expectancy after defaults are factored in.
Which corporate bond fund is earning 0% nominal?
My postings are my opinion, and never should be construed as a recommendation to buy, sell, or hold any particular investment.
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Beensabu
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Re: Asset Allocation Ideas Outdated?

Post by Beensabu »

ivgrivchuck wrote: Thu Nov 25, 2021 1:43 am
Beensabu wrote: Wed Nov 24, 2021 7:17 pm
powercherry5 wrote: Wed Nov 24, 2021 5:40 pm The fact that some countries have went from 0 to -.25% or even -.5% means absolutely nothing to the point as that does little to the ETF Price and then only makes yields even worse.
You may want to read this on bond convexity and then revisit your current thoughts:

https://portfoliocharts.com/2019/05/27/ ... convexity/
I fail to understand the author's point in the article. With negative interest rates, the expected return is negative and he has shown that the volatility increases.

Certainly if we assume a negative correlation between bond and stock market that would be a great thing, but the long term correlation is around zero.

So in the end you are left with a highly volatile asset that is expected to lose money and doesn't really diversify risk (assuming zero correlation).

That's just awful. I don't understand his point...
I think you may be focusing on interest income and disregarding capital appreciation. Capital appreciation is how you make money with bonds at low or negative rates, and longer duration bonds is what you need to do that. The higher sensitivity to small rate changes at low interest rates means there is greater opportunity for capital appreciation. And yes, there is greater opportunity for capital depreciation too, but the potential downside is smaller than the potential upside. Look at that bond fund interest rate sensitivity chart. Look at the 30-year at 2% -- if there's a -1% change in rates, that's ~27% annual return (I'm eyeballing); if there's a +1% change in rates, that's ~18% annual loss. And interest rates fluctuate. They just do. Let's say the 30-year went from 2% to 1% one year and then back up to 2% the next year -- ~27% return one year and then ~20% loss the next year; did you make or lose money? So at low or negative rates, as interest rates are fluctuating, you are making more for every (-) change in rates than you are losing for the same (+) change in rates. The point is: at low/negative rates, it's not about the coupon.
"The only thing that makes life possible is permanent, intolerable uncertainty; not knowing what comes next." ~Ursula LeGuin
ivgrivchuck
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Re: Asset Allocation Ideas Outdated?

Post by ivgrivchuck »

Beensabu wrote: Thu Nov 25, 2021 3:12 pm Let's say the 30-year went from 2% to 1% one year and then back up to 2% the next year -- ~27% return one year and then ~20% loss the next year; did you make or lose money? So at low or negative rates, as interest rates are fluctuating, you are making more for every (-) change in rates than you are losing for the same (+) change in rates. The point is: at low/negative rates, it's not about the coupon.
$10000 worth of bonds at 2%

Interest rates go down to 1%:
It's now worth $10000 * 1.27 = $12700

Interest rates go up to 2%:
It's now worth $12700 * 0.8 = $10000

So we are back where we started (excluding coupon).

Usually investors try to minimize volatility, not maximize it. And at low/negative rates, you have a very low return asset with a massive volatility. Unless you are banking on negative correlation with stocks, there is no point...
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Beensabu
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Re: Asset Allocation Ideas Outdated?

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ivgrivchuck wrote: Thu Nov 25, 2021 5:19 pm
Beensabu wrote: Thu Nov 25, 2021 3:12 pm Let's say the 30-year went from 2% to 1% one year and then back up to 2% the next year -- ~27% return one year and then ~20% loss the next year; did you make or lose money? So at low or negative rates, as interest rates are fluctuating, you are making more for every (-) change in rates than you are losing for the same (+) change in rates. The point is: at low/negative rates, it's not about the coupon.
$10000 worth of bonds at 2%

Interest rates go down to 1%:
It's now worth $10000 * 1.27 = $12700

Interest rates go up to 2%:
It's now worth $12700 * 0.8 = $10000
$12,700 * 0.8 = $10,160
Usually investors try to minimize volatility, not maximize it. And at low/negative rates, you have a very low return asset with a massive volatility. Unless you are banking on negative correlation with stocks, there is no point...
Sometimes, mixing certain volatile uncorrelated assets can reduce overall volatility below that of each separate asset (as long as you rebalance periodically). This has certainly been the case for stocks and long-term treasuries in the past, anyway. Negative correlation not needed.

It's fine if it's not your cup of tea.
"The only thing that makes life possible is permanent, intolerable uncertainty; not knowing what comes next." ~Ursula LeGuin
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