Before Bogle: How much could the ordinary investor have got?

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McQ
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Before Bogle: How much could the ordinary investor have got?

Post by McQ »

John Bogle revolutionized the outcomes available to small investors. You already know that statement to be true, but it is the logical point of beginning for this thread and needs to be reiterated.

I’ve collected new data on the stock market returns that were available to small investors before 1977. I’ve also constructed a new Balanced fund index showing what an investor who desired to follow something like a 60/40 mix could have received before 1992 and the advent of the Vanguard Balanced Index fund.

The paper can be downloaded here: https://papers.ssrn.com/sol3/papers.cfm ... id=4457203. Annual returns given in table A.1 can be copied and pasted into a spreadsheet to use as you please.*

*I have returns for a new stock fund index, balanced fund index, savings deposit index, and with-cost intermediate Treasury index. The table also reports a new bond fund index but it was judged inferior to the others and not used in the paper’s analyses.

These data are actual: the returns the average small investor could have got, such as they were, by investing in mutual funds before Bogle. Not the returns in the Stocks, Bonds, Bills & Inflation yearbook, which no ordinary investor could have earned, because yearbook returns are presented free of costs. No commission cost to buy shares, no cost to reinvest dividends, no cost to buy index additions, no cost to sell index removals, yada yada.

The 4% rule before Bogle

The outcomes I will share won’t come as any surprise if you have already read Nisiprius’ earlier thread: viewtopic.php?t=330521 However, I have two advantages that may allow me to deliver a little more insight into the question broached by the title of this thread.

I’m trained to think like a scholar who has to get papers past peer review and into publication.* To that end I can’t use a scattering of individual funds available on Morningstar, as did Nisiprius; I have to construct an index that has a reasonable claim to capture the central tendency among outcomes received by the population of investors 1926 – 1986.

*Practical investors have leave to doubt whether this is an advantage or a demerit.

My second advantage is access to the Wiesenberger Investment Company yearbooks (think ‘Morningstar before there was Morningstar, but in print only’). From 1936 I have a list of, say, Balanced funds and of diversified common stock funds; I know how big each fund was and their annual return; and that allows me to construct an asset-weighted index of fund performance to capture that central tendency.

Well so what, you might say. The fund index will return less than what the cost-free S&P index returned. Big whoop. You might even recall that John Bogle already presented such an analysis (several FAJ papers, see his book, Stay the Course).

Here’s the payoff: sustainable withdrawal rate studies, as pioneered by Bengen, prove to be extraordinarily sensitive to small differences in the return series. Where Bengen, using SBBI returns, found 4% to be the SAFEMAX, threatened (barely) only in the 1960s, I can show that the 4% rule would have failed actual mutual fund investors in the 1960s (as did Nisiprius). Investors not inhabiting the Appendix pages in the back of a yearbook—investors in the world, who had to pay fund costs—could not have sustained 4% withdrawals.

So much for the 4% rule.

SWR on the new Balanced fund index

A little background: Bengen constructed an equal-weighted blend of the S&P stock index and the intermediate Treasury (=5-year maturity held one year and rolled). Here is a simulation of his 4% withdrawal results for retirement in 1966, the worst year of any he analyzed. Withdrawals are taken at the end of the year, after returns are booked. Withdrawals, initially 4%, are incremented by inflation each year, beginning that first year.* Inflation during calendar year 1966 was over 3%, so the first year withdrawal in the SS below is $413.

*Are there other valid ways to set up the problem? Of course! But this is how Bengen did it. Again, I’m a scholar, I have to build on what Bengen did. If you are NOT a scholar, then you have no need to start with Bengen or model your efforts on what he did. For instance, you can make the withdrawal at the beginning of the year. Or do it monthly. Or weekly. Or not rebalance the assets. You could lag inflation, or smooth it over X years; use wholesale prices instead of consumer prices; etc. etc. etc. Sky’s the limit! Have at it. But please, if you are not willing to adhere to the Bengen model, best to start your own thread.

Image

See? Using SBBI cost-free returns, in the worst year, 1966, constant dollar withdrawals at an initial 4% withdrawal rate could still be sustained for 34 years. Not too shabby. Thus was the 4% rule born: tested in the acid bath of the great inflation of the 1960s and 1970s, when bonds came to be known as “certificates of confiscation,” and stocks went nowhere in real terms for half a generation.

Here is my new index of balanced fund performance, compared to the 50-50 Bengen blend of stocks and intermediate Treasuries, measured from 1930, the first full year of the new index (Wellington launched in July 1929).

Image

Results are relatively close overall, but the new index does lag, especially during the downturn of the early 1970s. BTW, the new stock index lagged to a much greater degree, falling behind the SBBI S&P index by 158 bp annualized over 61 years, almost exactly the finding that Bogle reported (over two intervals). I’ll look at it in a future post.

Nonetheless, the performance shortfall on the Balanced fund index and its timing suffice to ruin the 4% rule. An actual investor, owning the asset weighted average of balanced funds then available and attempting to sustain 4% withdrawals, would have run out of money after 23 years.
Image

*The new fund index uses VFIAX and the BND predecessor to simulate the Balanced Index fund from 1987 to 1992, and VBIAX thereafter.

This next chart gives a visual rendition. The actual fund investor, with somewhat poorer returns early in the sequence, saw their balance shrink too far too soon. When the great boom of the 1980s began sixteen years into retirement, there wasn’t enough left. By contrast, the ever so slightly higher returns on the cost-free Bengen blend were just enough to catch the boom and fund another decade of withdrawals.

Image

Except, a true-to-life, actual investor in the world would have had to pay a load charge averaging somewhat more than 7% on the collection of Balanced funds included. Before Bogle launched the index fund revolution, almost all large funds, Wellington and other balanced funds included, charged a load, with 8.5% the mode. The actual investor who paid the average load to acquire the average balanced fund would have been able to sustain 4% withdrawals for only 19 years. To get to 30 years, the withdrawal rate would have to be reduced to 3.30%. Kinda like those international investors studied by Wade Pfau: https://www.financialplanningassociatio ... %20PDF.pdf

Pause for comments. Does it matter that the 4% rule would have failed for actual investors 55 years ago, even as it worked for hypothetical investors who incurred no cost?
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Re: Before Bogle: How much could the ordinary investor have got?

Post by Alpha4 »

McQ wrote: Mon Jun 05, 2023 10:50 pm Does it matter that the 4% rule would have failed for actual investors 55 years ago, even as it worked for hypothetical investors who incurred no cost?
I would tend to say that it might matter simply as a point of historical interest.

I don't think it matters much for backtesting purposes, though (given the "boots-on-the-ground" reality that zero or near zero expense investing options are in fact available in this day and age) unless one wishes to postulate one of two (IMO not very likely to happen/to have happened in either case) scenarios:

One, expense ratios and loads will rise again to the level of fifty or sixty years ago and low-cost index funds (and other low-cost options) will disappear entirely,

or

Two, that somehow the existence of high expense options (in terms of ERs and sales loads) had an effect on actual market return patterns above and beyond the--rather obvious--fact that they lowered investor returns due simply to the truism that higher costs equals lower returns assuming everything else is the same.....i.e. if it could be in some manner demonstrated that the mere existence of these high-expense products as the only investment options available increased volatility, reduced volatility, changed the pattern of drawdowns, lengthened or shortened bull and/or bear markets more than would've otherwise happened, made factor tilts work better/worse/not at all, etc, then yes, it would tend to matter. Other than that I don't see how such a "the 4% SWR failed thanks to crazy high investment expenses therefore one should assume it might not work going forward" conjecture is relevant to today's ETF or mutual fund investor who faces virtually frictionless B-A spreads, $0 commissions, no sales loads, and ERs under 0.1%. The 4% rule may well indeed fail in the future but if it does I'd be willing to bet it wouldn't be due to 1.5% ERs and 8.5% sales loads which are now very uncommon (actually, in the case of sales loads they are capped at no higher than 5.75% by law....and besides that there are plenty of no-load options available today anyhow).
Last edited by Alpha4 on Tue Jun 06, 2023 7:16 am, edited 2 times in total.
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Re: Before Bogle: How much could the ordinary investor have got?

Post by Stinky »

McQ wrote: Mon Jun 05, 2023 10:50 pm Does it matter that the 4% rule would have failed for actual investors 55 years ago, even as it worked for hypothetical investors who incurred no cost?
No, it doesn't matter to today’s investors.

We all live in the real world, which has been graced by the presence, intelligence, business skill, and financial acumen of John Bogle. And that real world has many low-cost options available to today's retail investors that make the "4% rule" and its progeny possible.

John Bogle is one of those rare individuals whose contributions to society will continue to benefit people for decades to come.

(McQ - By the way, absolutely excellent post. As always from you :D )
Last edited by Stinky on Tue Jun 06, 2023 5:24 am, edited 1 time in total.
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Re: Before Bogle: How much could the ordinary investor have got?

Post by dogagility »

Thanks for the enjoyable and clear read, McQ.
McQ wrote: Mon Jun 05, 2023 10:50 pm Pause for comments. Does it matter that the 4% rule would have failed for actual investors 55 years ago, even as it worked for hypothetical investors who incurred no cost?
It mattered for those investors 55 years ago.

It matters for current investors to show how fees affect retirement portfolio longevity. I wonder if it would be interesting to examine how various fee levels influence SWR, but maybe this type of analysis has been done multiple times? Maybe it's as simple as 4 - annual fee = fee-adjusted SWR?

A Boglehead mantra is that "fees matter". At what fee level does it really begin to matter? Is the effect of fees a linear function? If not, could one identify the point on the fee curve that equates to the point where fees begin have the most negative effect... maybe by finding the knee of that line (https://towardsdatascience.com/detectin ... 3fc517a63c). I've seen many posters state that fees up to 0.2%/year are "acceptable". Why 0.2%? Where's the data to back up claims such as this?
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Re: Before Bogle: How much could the ordinary investor have got?

Post by nisiprius »

Very neat (and thank you for being polite to me in my non-scholastic look at selected funds).

Does it matter? In one sense no, in another yes.

In a sense, no, because my impression is that the whole idea of systematic withdrawals from a risky portfolio, as a way for individual ordinary small investors to fund retirement, didn't really start until the development of the 401(k) plan. Although as an historical inquiry it would be interesting to dig out just how TIAA presented and helped participants manage retirement payments after the creation of the stock-based CREF fund as an option.

Before the 401(k) plan, retirement was not managed by individuals; those lucky enough to have pensions left that up to the pension manager. Pensions didn't need to deal with any 4% rule because they were normally bond-based, laddered to provide the promised payments from coupon interest and principal repayments. Payments were conveniently level so inflation did not need to be taken into account. I think the chief risks were actuarial and, I suppose, reinvestment risk (the ability to refresh the portfolio with new bond with adequate interest rates).

Wealthy families lived off portfolios by using very conservative withdrawals. One reads of elderly ladies living by "clipping coupons" (i.e. enough in bonds to live off bond interest).* One reads of "widows and orphans stocks," living off living off the dividends of selected stocks. I have heard it said that very wealthy families set goals of living on "the interest on the interest," but I don't know if any of them really did that. The Great Depression: A Diary suggests that, unfortunately, many wealthy families lived on the dividends from a single stock, the stock of the dominant business or employer in their town--in his case, the Youngstown Iron Sheet and Tube Company.

So before the 1950s or thereabouts, nobody was trying to do 4% withdrawals from balanced portfolios. It is an abstract exercise in hypotheticals.

In another sense it's very important because (warning: personal bias ahead) the desire for predictability combined with normal personal greed, and the self-interest of Wall Street, have led to (in my opinion) a systematic bias in representing stocks as being less risky than they are, and withdrawals from stock portfolios as being safer than they are.

Before Bengen, it was generally accepted that safe withdrawal rate = average annual return. A 1998 retirement seminar from my employer's 401(k) provider implicitly assumed this. They wanted us to commit to assumptions about portfolio return but helpfully provided an example with three columns, headed "5%", "7%", and "9%" with 7% not only in the center but in boldface. "Retirement calculators" were amortization calculators; the safe withdrawal rate was the amount that would pay down a mortgage in 30 years but in reverse.

In 1995, Peter Lynch published an article advocateing a retirement strategy of 100% stocks--either an S&P 500 index fund or, preferably selections from Moody's Dividend Achievers. Here's his presentation of one calculation. No ugly sequence-of-return risks there! (It was backed by other calculations by one Bob Beckwith at Fidelity that seem to have been historical simulations with real time-varying returns, but he thought this was legitimate to present).

Image

So the Bengen and Trinity studies shocked people by showing that the safe withdrawal rate was only 4%. Everybody hates the low number and everybody has been fighting it ever since. Everyone want to believe that higher expected return from stocks supports higher safe withdrawal rates. Rather than calling it a rule of thumb, as in "4%±1% for all reasonable stock/bond allocations," everyone is doing historical simulations. And, sure, if those are the rules of the game, it is relevant to use the most realistic data we can find.

And, yes, I think that there is a systematic bias in favor of optimism about stocks.

The real-world "proof" of this for me is the failure of the 5%-target Vanguard Managed Payout Growth & Distribution Fund. It is to safe withdrawal rates as Buffett/Seides ten-year bet is to the ability of hedge funds to beat index funds. It was launched in 2008 as a retirement income solution, and combined an aggressive portfolio with a high stock allocation and a Yale-model-like strategy... factor tilts, non-traditional assets, low correlation... a variable payout based on a three year moving average of past investment performance... and a stated-carefully-not-promised "aim" of fairly stable payouts centered on 5%* of the original purchase per year, with the aim/hope that the natural performance of the portfolio in combination with the payout rule would allow both the payouts, and portfolio capital after payouts, to sustain real inflation-adjusted value. In other words, the 4% rule but variable, a more aggressive and modern-style portfolio than plain 60/40, and perpetual rather than 30-year survival. I'm not aware of how they arrived at the 5% number. I'd really love to know if it was the product of intensive and diligent research or whether it was spitballed in some committee meeting. ("Can we beat 4%?" "Sure, we can add half a percent by using a less timid portfolio, and another half by allowing the payouts to vary...")

Launch in 2008 represented pessimal bad luck, but, of course, all the traditional studies are based on worst historical cases and 2008-2009 didn't break any bad-luck records. 2008-2009 was bad for the portfolio, the uncorrelated assets correlated, in 2014 they cut the payout target to 4%, and in 2020 ended the payout feature which had been the fund's raison d'etre in 2020. Presumably it was kept on for investors who just like the portfolio, and then finally killed in 2022.

*As launched, it was a family of three funds with three different aims and target payout percentages: "growth focus," with 3% payouts; "growth & distribution focus" with 5% payouts and stable-real-value payouts and remaining-portfolio; and "distribution focus" with 7%. In 2014 they were merged--into VPGDX, i.e. the former "growth & distribution" fund, the name changed simply to (the!) Managed Payout Fund, and the target payout cut to 4%. The press release (which I no longer can find, darn it) announcing the merger quoted John Ameriks as saying only that 4% was a recognized or familiar withdrawal rate. As far as I know, Vanguard has never published anything explaining why it thought it could get 5%, unlike the white papers it has published about its target-date glide paths, etc.
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Re: Before Bogle: How much could the ordinary investor have got?

Post by jeffyscott »

Alpha4 wrote: Tue Jun 06, 2023 4:49 amTwo, that somehow the existence of high expense options (in terms of ERs and sales loads) had an effect on actual market return patterns above and beyond the--rather obvious--fact that they lowered investor returns due simply to the truism that higher costs equals lower returns assuming everything else is the same.....i.e. if it could be in some manner demonstrated that the mere existence of these high-expense products as the only investment options available increased volatility, reduced volatility, changed the pattern of drawdowns, lengthened or shortened bull and/or bear markets more than would've otherwise happened, made factor tilts work better/worse/not at all, etc, then yes, it would tend to matter. Other than that I don't see how such a "the 4% SWR failed thanks to crazy high investment expenses therefore one should assume it might not work going forward" conjecture is relevant to today's ETF or mutual fund investor who faces virtually frictionless B-A spreads, $0 commissions, no sales loads, and ERs under 0.1%. The 4% rule may well indeed fail in the future but if it does I'd be willing to bet it wouldn't be due to 1.5% ERs and 8.5% sales loads which are now very uncommon (actually, in the case of sales loads they are capped at no higher than 5.75% by law....and besides that there are plenty of no-load options available today anyhow).
I would think that high expenses and other barriers to small investors could have affected returns by keeping them out of the stock market entirely. I don't think it was very common for the average, modest income, person to invest in stocks in the 1950s, 60s, or even 70s. Like Nisiprius, I think that only started to change when the 401K was invented (apparently about 1978). Maybe my view is distorted, due to having been raised in a poor, single-parent household in the 1960s and 70s, but I don't think personal saving for retirement was much of a thing, even for those, like my mom, who had no pension.

Besides expenses and other costs, another big difference is that someone who actually was saving for retirement in those past times would only have been able to do so in a taxable account. These days, not only can one invest with near 0 expenses, much of that can be done with no tax drag on the returns.
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Re: Before Bogle: How much could the ordinary investor have got?

Post by randomguy »

nisiprius wrote: Tue Jun 06, 2023 6:56 am
In 1995, Peter Lynch published an article advocateing a retirement strategy of 100% stocks--either an S&P 500 index fund or, preferably selections from Moody's Dividend Achievers. Here's his presentation of one calculation. No ugly sequence-of-return risks there! (It was backed by other calculations by one Bob Beckwith at Fidelity that seem to have been historical simulations with real time-varying returns, but he thought this was legitimate to present).
And note how Lynch was pretty much right. You can take out 7% for a portfolio and other than basically 1929-1931 (and now 2000), you don't go broke. Bengen changed the way we talk about withdrawal in retirement. Nobody talks about nominal dollars like people did in the 80s/90s. And we focus on the worst cases rather than average cases. That paper and the ones that followed resulted in a fundamental change of how we think about the problem. And tons of cheap computing power also helped...

In the end McQ is just rediscovering that that the edges small differences matter.
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Re: Before Bogle: How much could the ordinary investor have got?

Post by Svensk Anga »

There is a school of thought that the high expense nature of investing long ago suppressed stock/bond prices and so enhanced return. High expense here means not just fund loads and expense ratios, but includes large bid/ask spreads (1/8 dollar minimum) and high commissions. As all investing expenses have been driven down, prices have gone up. This is part of the explanation of why the Shiller CAPE ratio shows no sign of reverting to its historical average, which was about 16 when first published.

The current low cost investor might do no better than the 1930 investor in Wellington and its peers. Buying expensive financial instruments but incurring low costs might about balance buying cheap instruments but bearing high costs.

I think small cap stocks have an excellent deep history return record in part because they were very hard and expensive to invest in decades ago. It is similar for stocks and bonds in general, but not to the small cap extreme.
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Re: Before Bogle: How much could the ordinary investor have got?

Post by seajay »

nisiprius wrote: Tue Jun 06, 2023 6:56 am Very neat (and thank you for being polite to me in my non-scholastic look at selected funds).

Does it matter? In one sense no, in another yes.

In a sense, no, because my impression is that the whole idea of systematic withdrawals from a risky portfolio, as a way for individual ordinary small investors to fund retirement, didn't really start until the development of the 401(k) plan. Although as an historical inquiry it would be interesting to dig out just how TIAA presented and helped participants manage retirement payments after the creation of the stock-based CREF fund as an option.

Before the 401(k) plan, retirement was not managed by individuals; those lucky enough to have pensions left that up to the pension manager. Pensions didn't need to deal with any 4% rule because they were normally bond-based, laddered to provide the promised payments from coupon interest and principal repayments. Payments were conveniently level so inflation did not need to be taken into account. I think the chief risks were actuarial and, I suppose, reinvestment risk (the ability to refresh the portfolio with new bond with adequate interest rates).

Wealthy families lived off portfolios by using very conservative withdrawals. One reads of elderly ladies living by "clipping coupons" (i.e. enough in bonds to live off bond interest).* One reads of "widows and orphans stocks," living off living off the dividends of selected stocks. I have heard it said that very wealthy families set goals of living on "the interest on the interest," but I don't know if any of them really did that. The Great Depression: A Diary suggests that, unfortunately, many wealthy families lived on the dividends from a single stock, the stock of the dominant business or employer in their town--in his case, the Youngstown Iron Sheet and Tube Company.

So before the 1950s or thereabouts, nobody was trying to do 4% withdrawals from balanced portfolios. It is an abstract exercise in hypotheticals.

In another sense it's very important because (warning: personal bias ahead) the desire for predictability combined with normal personal greed, and the self-interest of Wall Street, have led to (in my opinion) a systematic bias in representing stocks as being less risky than they are, and withdrawals from stock portfolios as being safer than they are.

Before Bengen, it was generally accepted that safe withdrawal rate = average annual return. A 1998 retirement seminar from my employer's 401(k) provider implicitly assumed this. They wanted us to commit to assumptions about portfolio return but helpfully provided an example with three columns, headed "5%", "7%", and "9%" with 7% not only in the center but in boldface. "Retirement calculators" were amortization calculators; the safe withdrawal rate was the amount that would pay down a mortgage in 30 years but in reverse.

In 1995, Peter Lynch published an article advocateing a retirement strategy of 100% stocks--either an S&P 500 index fund or, preferably selections from Moody's Dividend Achievers. Here's his presentation of one calculation. No ugly sequence-of-return risks there! (It was backed by other calculations by one Bob Beckwith at Fidelity that seem to have been historical simulations with real time-varying returns, but he thought this was legitimate to present).

Image

So the Bengen and Trinity studies shocked people by showing that the safe withdrawal rate was only 4%. Everybody hates the low number and everybody has been fighting it ever since. Everyone want to believe that higher expected return from stocks supports higher safe withdrawal rates. Rather than calling it a rule of thumb, as in "4%±1% for all reasonable stock/bond allocations," everyone is doing historical simulations. And, sure, if those are the rules of the game, it is relevant to use the most realistic data we can find.

And, yes, I think that there is a systematic bias in favor of optimism about stocks.

The real-world "proof" of this for me is the failure of the 5%-target Vanguard Managed Payout Growth & Distribution Fund. It is to safe withdrawal rates as Buffett/Seides ten-year bet is to the ability of hedge funds to beat index funds. It was launched in 2008 as a retirement income solution, and combined an aggressive portfolio with a high stock allocation and a Yale-model-like strategy... factor tilts, non-traditional assets, low correlation... a variable payout based on a three year moving average of past investment performance... and a stated-carefully-not-promised "aim" of fairly stable payouts centered on 5%* of the original purchase per year, with the aim/hope that the natural performance of the portfolio in combination with the payout rule would allow both the payouts, and portfolio capital after payouts, to sustain real inflation-adjusted value. In other words, the 4% rule but variable, a more aggressive and modern-style portfolio than plain 60/40, and perpetual rather than 30-year survival. I'm not aware of how they arrived at the 5% number. I'd really love to know if it was the product of intensive and diligent research or whether it was spitballed in some committee meeting. ("Can we beat 4%?" "Sure, we can add half a percent by using a less timid portfolio, and another half by allowing the payouts to vary...")

Launch in 2008 represented pessimal bad luck, but, of course, all the traditional studies are based on worst historical cases and 2008-2009 didn't break any bad-luck records. 2008-2009 was bad for the portfolio, the uncorrelated assets correlated, in 2014 they cut the payout target to 4%, and in 2020 ended the payout feature which had been the fund's raison d'etre in 2020. Presumably it was kept on for investors who just like the portfolio, and then finally killed in 2022.

*As launched, it was a family of three funds with three different aims and target payout percentages: "growth focus," with 3% payouts; "growth & distribution focus" with 5% payouts and stable-real-value payouts and remaining-portfolio; and "distribution focus" with 7%. In 2014 they were merged--into VPGDX, i.e. the former "growth & distribution" fund, the name changed simply to (the!) Managed Payout Fund, and the target payout cut to 4%. The press release (which I no longer can find, darn it) announcing the merger quoted John Ameriks as saying only that 4% was a recognized or familiar withdrawal rate. As far as I know, Vanguard has never published anything explaining why it thought it could get 5%, unlike the white papers it has published about its target-date glide paths, etc.
Britain pre 1930's and most rented, and saved into cash deposits/bonds, many wouldn't touch stocks at all. Money was gold (sovereign gold one pound coins, silver shillings) that deposited earned interest and as gold is finite so inflation broadly tended to average 0%, interest was like a real rate of return. Many only planned for a short retirement, years rather than decades. The state pension age was set a couple of years between ending work and life expectancy, so broadly was relatively inexpensive for the state to manage. In contrast to nowadays where between end of work and life expectancy can be three decades or more.

When money was no longer gold, deposited gold sovereigns for safe keeping and interest instead returned as pound note paper currency (as of from September 1931) the tendency was for the crown/state to no longer pay a real rate of return on the gold it borrowed (from savers), to instead tax/inflate (deflate), such that broadly it cost the state/crown 0% real to borrow. But where it also had less need to borrow when it could simply print/spend new paper notes instead. Stock and home ownership became more popular, however trading stocks was expensive, equivalent of $1000/trade present day type cost (brokers fee), and where market makers often widened spreads to double digit levels. For those that did buy stocks the tendency was to buy just 8 or so, diversified businesses, buy and hold, spending the dividends. Owning a home also avoided having to find/pay rent to others, liability matched rent.

Historic averages for stock dividend and imputed rent were around the 4.5% level. But unlike SWR that is linear in real terms, imputed rent and dividends were more volatile. Factoring in that volatility and in real terms 3.3% real (SWR) was more of the PWR. Which over 30 years is a have-cake-and-eat-it situation. Return of your money via 30 yearly instalments, along with the tendency to end 30 years with your original inflation adjusted wealth (home and number of shares) still intact/available.

Those that didn't transition over to buying their own home, and continued to hold bonds, ultimately saw the losses that incurred such that adding 'some stocks' to a otherwise all-bond portfolio became apparently beneficial. General acceptance of holding stock increased over time.

Those fortunate enough to have a inflation adjusted occupational pension had less need to put savings aside, owning a home and pension income alone was 'enough' for many. More so in the UK's case as the national health service, free at the point of use, collective health insurance, was of a good enough standard that most didn't need to concern themselves with health care costs risks.

Of the real world portfolio extending back 20+ years 15 to 30 individual stocks initially equally weighted, bought and held, is the more 'modern' preference. Bogle suggested 50 stocks https://www.forbes.com/forbes/1999/0614 ... 61ea0d6874

As to rebalancing periodically or not, and broadly the two tend to compare in total returns and align with the general stock index. With non rebalanced you end up with high weightings in single stocks, finds its own cap-weighting, which is a element of additional idiosyncratic risk, so somewhat a lower risk-adjusted reward factor. For rebalanced, a popular approach is to simply sell some of stocks whose weighting have risen to 1.5 or 2 times the median weighting, either adding the sale proceeds to laggards or adding a new stock to the set. So for example if a stock rises to being 2x the median weighting then sell half and add another stock to the set with the proceeds. LEXCX started with 30 stocks back in the 1930's on a buy and hold (non rebalanced) approach, is more recently down to around 20 stocks I believe, of which Union Pacific is a high weighting (33% recently). PV for VFINX vs LEXCX since 1985. Bit of a surprise to see that example case having LEXCX with a higher (better) Sharpe than the S&P500 (I had expected to see a lower Sharpe ratio value).

22nd year review example for a British non-rebalanced portfolio started in November 2000 HYP

Example of a rebalanced version that (real world) dates back to 1986 (rebalances individual holdings when the weighting rises above 1.5x the median weighting IIRC). I believe the 29 ... value in their userid reflects their birthyear, and is still 100% stock (but does own a home and has good pensions income).
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Re: Before Bogle: How much could the ordinary investor have got?

Post by nisiprius »

randomguy wrote: Tue Jun 06, 2023 8:27 am...And note how Lynch was pretty much right. You can take out 7% for a portfolio and other than basically 1929-1931 (and now 2000), you don't go broke...
But aside from that, Mrs. Lincoln, how did you like the play?
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Re: Before Bogle: How much could the ordinary investor have got?

Post by seajay »

nisiprius wrote: Tue Jun 06, 2023 9:50 am
randomguy wrote: Tue Jun 06, 2023 8:27 am...And note how Lynch was pretty much right. You can take out 7% for a portfolio and other than basically 1929-1931 (and now 2000), you don't go broke...
But aside from that, Mrs. Lincoln, how did you like the play?
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Re: Before Bogle: How much could the ordinary investor have got?

Post by GAAP »

McQ wrote: Mon Jun 05, 2023 10:50 pmPause for comments. Does it matter that the 4% rule would have failed for actual investors 55 years ago, even as it worked for hypothetical investors who incurred no cost?
It matters to the extent that investors are using that theoretical result to justify their choice of strategy, or to avoid looking more carefully at their chosen strategy. "It worked in the past so it should be fine in the future", or "for your longer period you can just reduce the percentage a little and be fine" are common examples here.

I use backtesting to evaluate how a strategy reacts to various conditions -- for that purpose, the theoretical model makes a fine baseline comparison. That's a long way from relying upon the historical theoretical results themselves.
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Re: Before Bogle: How much could the ordinary investor have got?

Post by seajay »

Another factor is that during periods of stress when SWR is less inclined to be successful, so also do taxes tend to rise. Non-coincidentally.

https://www.dividend.com/taxes/a-brief- ... tax-rates/

Code: Select all

Time Period	Tax Rate on Dividends
1913-1936	Exempt
1936-1939	Individuals income tax rate (Max 79%)
1939-1953	Exempt
1954-1985	Individuals income tax rate (Max 90%)
1985-2003	Individuals income tax rate (Max 28-50%)
2003-Present	15%
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Re: Before Bogle: How much could the ordinary investor have got?

Post by ScubaHogg »

Excellent post McQ
Stinky wrote: Tue Jun 06, 2023 5:10 am
McQ wrote: Mon Jun 05, 2023 10:50 pm Does it matter that the 4% rule would have failed for actual investors 55 years ago, even as it worked for hypothetical investors who incurred no cost?
No, it doesn't matter to today’s investors.

We all live in the real world, which has been graced by the presence, intelligence, business skill, and financial acumen of John Bogle. And that real world has many low-cost options available to today's retail investors that make the "4% rule" and its progeny possible.
Unless of course one finds it plausible that lowering the cost of investing has risen the demand for investment products (i.e., stocks, etc.), driving up their price and lowering their future returns. An all roads lead to Rome situation...

I don't know if that true or not, but Econ 101 tells us you lower the cost of something, all else equal, you drive up the demand for it.
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Re: Before Bogle: How much could the ordinary investor have got?

Post by Stinky »

ScubaHogg wrote: Tue Jun 06, 2023 2:17 pm Excellent post McQ
Stinky wrote: Tue Jun 06, 2023 5:10 am
McQ wrote: Mon Jun 05, 2023 10:50 pm Does it matter that the 4% rule would have failed for actual investors 55 years ago, even as it worked for hypothetical investors who incurred no cost?
No, it doesn't matter to today’s investors.

We all live in the real world, which has been graced by the presence, intelligence, business skill, and financial acumen of John Bogle. And that real world has many low-cost options available to today's retail investors that make the "4% rule" and its progeny possible.
Unless of course one finds it plausible that lowering the cost of investing has risen the demand for investment products (i.e., stocks, etc.), driving up their price and lowering their future returns. An all roads lead to Rome situation...

I don't know if that true or not, but Econ 101 tells us you lower the cost of something, all else equal, you drive up the demand for it.
I’ll let McQ, nisiprius, or other “very thoughtful” posters on this Forum weigh in on your hypothesis.

Until they do, I’ll continue to believe that a world where high quality, low cost investments are available to the masses is a better world than one where the investment returns might be a little higher, but access is limited to the wealthy and well connected.
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Re: Before Bogle: How much could the ordinary investor have got?

Post by ScubaHogg »

Stinky wrote: Tue Jun 06, 2023 2:41 pm Until they do, I’ll continue to believe that a world where high quality, low cost investments are available to the masses is a better world than one where the investment returns might be a little higher, but access is limited to the wealthy and well connected.
To be clear, I'm not saying it's not, though I do appreciate the strawman that I prefer a world built for the wealthy and connected.

I'm saying that if returns going forward are partially lower due to increased demand, then it's not plainly obvious we just dismiss the bad-case historical returns of a retiree simply because they faced higher investment costs.

At a minimum Bengen, as I understand, assumed zero costs and 4% barely squeaked by. Doesn't mean we need to be chicken-little. But it also doesn't mean we need to be pollyannas about it
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Re: Before Bogle: How much could the ordinary investor have got?

Post by livesoft »

Not too many people reading this could have invested before say 1975 including myself. We became Vanguard clients in 1982. Thus to some extent I just don't care what the ordinary investor could/should have been doing before 1982.
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Re: Before Bogle: How much could the ordinary investor have got?

Post by Svensk Anga »

Stinky wrote: Tue Jun 06, 2023 2:41 pm
Until they do, I’ll continue to believe that a world where high quality, low cost investments are available to the masses is a better world than one where the investment returns might be a little higher, but access is limited to the wealthy and well connected.
I doubt that you had to be wealthy and well-connected to invest pre-Vanguard. My grandpa had a portfolio. He and grandma both had full white-collar careers, but I would not call them wealthy. I think he retired at the conventional age 65 in the late 1950's. He held an assortment of dividend payers. I think this was the way to go when mutual funds had up-front loads and substantial ongoing expense ratios. Sure you had to pay a high bid/ask spread to buy shares plus a hefty brokerage commission, but if you held long enough, the per annum expense was minimal. You did not make your own dividend by selling shares in those days due to high trading costs. I think this is the historical basis for the learned preference for dividends.

Possibly, if you held enough different stocks to be decently diversified in grandpa's era, you could have done better than with the mutual funds available at the time. If those stocks paid out at about the safe withdrawal rate percentage, which was the case for grandpa's era, and if backstopped with a pension (or two) covering basic needs, I'm not so sure he needed bonds.
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Re: Before Bogle: How much could the ordinary investor have got?

Post by Broken Man 1999 »

Svensk Anga wrote: Tue Jun 06, 2023 5:13 pm
Stinky wrote: Tue Jun 06, 2023 2:41 pm
Until they do, I’ll continue to believe that a world where high quality, low cost investments are available to the masses is a better world than one where the investment returns might be a little higher, but access is limited to the wealthy and well connected.
I doubt that you had to be wealthy and well-connected to invest pre-Vanguard. My grandpa had a portfolio. He and grandma both had full white-collar careers, but I would not call them wealthy. I think he retired at the conventional age 65 in the late 1950's. He held an assortment of dividend payers. I think this was the way to go when mutual funds had up-front loads and substantial ongoing expense ratios. Sure you had to pay a high bid/ask spread to buy shares plus a hefty brokerage commission, but if you held long enough, the per annum expense was minimal. You did not make your own dividend by selling shares in those days due to high trading costs. I think this is the historical basis for the learned preference for dividends.

Possibly, if you held enough different stocks to be decently diversified in grandpa's era, you could have done better than with the mutual funds available at the time. If those stocks paid out at about the safe withdrawal rate percentage, which was the case for grandpa's era, and if backstopped with a pension (or two) covering basic needs, I'm not so sure he needed bonds.
My father bought several utility stocks during the mid 1970ties, when the DJIA was less than 600. Never sold. One group of stock purchases held from mid-1970ties until his death in 2006. He enjoyed increasing dividends (for a long period of time reinvesting the dividends), no ongoing account expenses.

Like many Bogleheads today, his retirement was comfortable, and had three legs: SS, pension, and utility stocks. Never held a bond.

Even today there is no lack of investors who have a portfolio that is biased towards dividend paying stocks. Works today just like the olden days prior to index funds.

Time marches on. There might be a new investment type that comes along that entices investors to embrace the new, instead of using broad-based index funds/ETFs. If so, just as index funds didn't mean the end of dividend stock strategies, the new investment probably will just be another type investment, rather than a slayer of index funds or dividend stock strategies.

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Re: Before Bogle: How much could the ordinary investor have got?

Post by Leesbro63 »

Broken Man 1999 wrote: Tue Jun 06, 2023 6:00 pm My father bought several utility stocks during the mid 1970ties, when the DJIA was less than 600. Never sold. One group of stock purchases held from mid-1970ties until his death in 2006. He enjoyed increasing dividends (for a long period of time reinvesting the dividends), no ongoing account expenses.

Like many Bogleheads today, his retirement was comfortable, and had three legs: SS, pension, and utility stocks. Never held a bond.

Even today there is no lack of investors who have a portfolio that is biased towards dividend paying stocks. Works today just like the olden days prior to index funds.

Time marches on. There might be a new investment type that comes along that entices investors to embrace the new, instead of using broad-based index funds/ETFs. If so, just as index funds didn't mean the end of dividend stock strategies, the new investment probably will just be another type investment, rather than a slayer of index funds or dividend stock strategies.

Broken Man 1999
Pretty much those who bought blue chip dividend stocks and municipal bonds and held them forever, with the certificates in the safe deposit box, were the prehistoric Bogleheads.
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Re: Before Bogle: How much could the ordinary investor have got?

Post by Broken Man 1999 »

Leesbro63 wrote: Tue Jun 06, 2023 6:05 pm
Broken Man 1999 wrote: Tue Jun 06, 2023 6:00 pm My father bought several utility stocks during the mid 1970ties, when the DJIA was less than 600. Never sold. One group of stock purchases held from mid-1970ties until his death in 2006. He enjoyed increasing dividends (for a long period of time reinvesting the dividends), no ongoing account expenses.

Like many Bogleheads today, his retirement was comfortable, and had three legs: SS, pension, and utility stocks. Never held a bond.

Even today there is no lack of investors who have a portfolio that is biased towards dividend paying stocks. Works today just like the olden days prior to index funds.

Time marches on. There might be a new investment type that comes along that entices investors to embrace the new, instead of using broad-based index funds/ETFs. If so, just as index funds didn't mean the end of dividend stock strategies, the new investment probably will just be another type investment, rather than a slayer of index funds or dividend stock strategies.

Broken Man 1999
Pretty much those who bought blue chip dividend stocks and municipal bonds and held them forever, with the certificates in the safe deposit box, were the prehistoric Bogleheads.
Yeah, for sure. Those stock certificates were beautiful. I wish I had saved a couple, especially the company that became MegaCorp for me.

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Re: Before Bogle: How much could the ordinary investor have got?

Post by randomguy »

nisiprius wrote: Tue Jun 06, 2023 9:50 am
randomguy wrote: Tue Jun 06, 2023 8:27 am...And note how Lynch was pretty much right. You can take out 7% for a portfolio and other than basically 1929-1931 (and now 2000), you don't go broke...
But aside from that, Mrs. Lincoln, how did you like the play?
Do you have the same thoughts about the 4% rule that also failed several times?
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Re: Before Bogle: How much could the ordinary investor have got?

Post by Watty »

jeffyscott wrote: Tue Jun 06, 2023 8:13 am Besides expenses and other costs, another big difference is that someone who actually was saving for retirement in those past times would only have been able to do so in a taxable account. These days, not only can one invest with near 0 expenses, much of that can be done with no tax drag on the returns.
When looking at the investing environments of different generations it would be hard to overemphasize that and many changes were not all that long ago.

Before 2001 the IRA contribution limit was $2,000 or less and if I remember correctly there were severe restrictions on making deductible IRA contributions if you had a pension plan.

As I recall before the late 1990s companies having a 401k plan was not common and the mid-size company I worked for did not have one until around 1998 which was about the time they froze their pension plan.

I retired in 2015 so I only had around 17 years when I could make 401k contributions.

The Roth IRA also only became available in 1998.

My recollection is fuzzy but capital gains tax rates were also a lot higher(28%(ish)????) so investing in a taxable account was also more difficult.

It would be a mistake to think that everyone had great pensions back then. Many if not most jobs did not have a pension plan and there were long vesting schedules and if you left a job with a pension before you were 65 then you could easily lose most of the value of the pension.
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Re: Before Bogle: How much could the ordinary investor have got?

Post by nedsaid »

In the old days before index funds, savvy investors could have invested in a portfolio of individual blue-chip stocks, reinvested the dividends, and in effect created a mini-index for themselves. It cost 2% to 3% in commissions to buy a stock and the same to sell, so you were looking at a 4% to 6% roundtrip. To save money, one could have bought in round lots of 100 shares. Also, one would seek to minimize portfolio turnover as trading costs were relatively high. One reason Nedsaid doesn't like portfolio turnover. I bought my first stock back in 1989.

I bought my first no-load mutual fund on July 16, 1984 but this fund had an annual expense ratio of 1.00%. It was the Twentieth Century Select Fund, which I still own by the way.

So my rough guess is that the ordinary individual investor could get the annual return of the S&P 500 minus two percent or perhaps minus one percent if they were fairly smart at doing this.
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Re: Before Bogle: How much could the ordinary investor have got?

Post by McQ »

Stinky wrote: Tue Jun 06, 2023 5:10 am
McQ wrote: Mon Jun 05, 2023 10:50 pm Does it matter that the 4% rule would have failed for actual investors 55 years ago, even as it worked for hypothetical investors who incurred no cost?
No, it doesn't matter to today’s investors.

We all live in the real world, which has been graced by the presence, intelligence, business skill, and financial acumen of John Bogle. And that real world has many low-cost options available to today's retail investors that make the "4% rule" and its progeny possible.

John Bogle is one of those rare individuals whose contributions to society will continue to benefit people for decades to come.

(McQ - By the way, absolutely excellent post. As always from you :D )
Hello Stinky--high praise indeed, coming from you. Now would be a good opportunity for me to thank you for your many contributions to the forum. It's terrific to have a true expert on matters connected to insurance and annuities regularly posting here.

I read your posts avidly. A recent favorite began "I am an actuary" and continued on to teach me something important about the pricing of annuities (=insurance cos have a target return on capital overall, not a target margin on individual product lines.)

Best!
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Re: Before Bogle: How much could the ordinary investor have got?

Post by MarkRoulo »

nedsaid wrote: Tue Jun 06, 2023 8:10 pm ...snip...

So my rough guess is that the ordinary individual investor could get the annual return of the S&P 500 minus two percent or perhaps minus one percent if they were fairly smart at doing this.
I suspect (but cannot prove!) that the variation was much larger between investors back then. I can imagine that a bunch of folks, even relatively sophisticated folks, would have most/all of their stock investments in a handful of "good" companies.One or two of these going south could result in large drops in the person's stock portfolio.

My *guess* is that typical investors today mostly invest in mutual funds and those won't see the sort of crash you can get with a handful of individual stocks. But I don't know.
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Re: Before Bogle: How much could the ordinary investor have got?

Post by McQ »

nisiprius wrote: Tue Jun 06, 2023 6:56 am Very neat (and thank you for being polite to me in my non-scholastic look at selected funds).

Does it matter? In one sense no, in another yes.

In a sense, no, because my impression is that the whole idea of systematic withdrawals from a risky portfolio, as a way for individual ordinary small investors to fund retirement, didn't really start until the development of the 401(k) plan. Although as an historical inquiry it would be interesting to dig out just how TIAA presented and helped participants manage retirement payments after the creation of the stock-based CREF fund as an option.

Before the 401(k) plan, retirement was not managed by individuals; those lucky enough to have pensions left that up to the pension manager. Pensions didn't need to deal with any 4% rule because they were normally bond-based, laddered to provide the promised payments from coupon interest and principal repayments. Payments were conveniently level so inflation did not need to be taken into account. I think the chief risks were actuarial and, I suppose, reinvestment risk (the ability to refresh the portfolio with new bond with adequate interest rates).

Wealthy families lived off portfolios by using very conservative withdrawals. One reads of elderly ladies living by "clipping coupons" (i.e. enough in bonds to live off bond interest).* One reads of "widows and orphans stocks," living off living off the dividends of selected stocks. I have heard it said that very wealthy families set goals of living on "the interest on the interest," but I don't know if any of them really did that. The Great Depression: A Diary suggests that, unfortunately, many wealthy families lived on the dividends from a single stock, the stock of the dominant business or employer in their town--in his case, the Youngstown Iron Sheet and Tube Company.

So before the 1950s or thereabouts, nobody was trying to do 4% withdrawals from balanced portfolios. It is an abstract exercise in hypotheticals.

In another sense it's very important because (warning: personal bias ahead) the desire for predictability combined with normal personal greed, and the self-interest of Wall Street, have led to (in my opinion) a systematic bias in representing stocks as being less risky than they are, and withdrawals from stock portfolios as being safer than they are.

Before Bengen, it was generally accepted that safe withdrawal rate = average annual return. A 1998 retirement seminar from my employer's 401(k) provider implicitly assumed this. They wanted us to commit to assumptions about portfolio return but helpfully provided an example with three columns, headed "5%", "7%", and "9%" with 7% not only in the center but in boldface. "Retirement calculators" were amortization calculators; the safe withdrawal rate was the amount that would pay down a mortgage in 30 years but in reverse.

In 1995, Peter Lynch published an article advocateing a retirement strategy of 100% stocks--either an S&P 500 index fund or, preferably selections from Moody's Dividend Achievers. Here's his presentation of one calculation. No ugly sequence-of-return risks there! (It was backed by other calculations by one Bob Beckwith at Fidelity that seem to have been historical simulations with real time-varying returns, but he thought this was legitimate to present).

Image

So the Bengen and Trinity studies shocked people by showing that the safe withdrawal rate was only 4%. Everybody hates the low number and everybody has been fighting it ever since. Everyone want to believe that higher expected return from stocks supports higher safe withdrawal rates. Rather than calling it a rule of thumb, as in "4%±1% for all reasonable stock/bond allocations," everyone is doing historical simulations. And, sure, if those are the rules of the game, it is relevant to use the most realistic data we can find.

And, yes, I think that there is a systematic bias in favor of optimism about stocks.

The real-world "proof" of this for me is the failure of the 5%-target Vanguard Managed Payout Growth & Distribution Fund. It is to safe withdrawal rates as Buffett/Seides ten-year bet is to the ability of hedge funds to beat index funds. It was launched in 2008 as a retirement income solution, and combined an aggressive portfolio with a high stock allocation and a Yale-model-like strategy... factor tilts, non-traditional assets, low correlation... a variable payout based on a three year moving average of past investment performance... and a stated-carefully-not-promised "aim" of fairly stable payouts centered on 5%* of the original purchase per year, with the aim/hope that the natural performance of the portfolio in combination with the payout rule would allow both the payouts, and portfolio capital after payouts, to sustain real inflation-adjusted value. In other words, the 4% rule but variable, a more aggressive and modern-style portfolio than plain 60/40, and perpetual rather than 30-year survival. I'm not aware of how they arrived at the 5% number. I'd really love to know if it was the product of intensive and diligent research or whether it was spitballed in some committee meeting. ("Can we beat 4%?" "Sure, we can add half a percent by using a less timid portfolio, and another half by allowing the payouts to vary...")

Launch in 2008 represented pessimal bad luck, but, of course, all the traditional studies are based on worst historical cases and 2008-2009 didn't break any bad-luck records. 2008-2009 was bad for the portfolio, the uncorrelated assets correlated, in 2014 they cut the payout target to 4%, and in 2020 ended the payout feature which had been the fund's raison d'etre in 2020. Presumably it was kept on for investors who just like the portfolio, and then finally killed in 2022.

*As launched, it was a family of three funds with three different aims and target payout percentages: "growth focus," with 3% payouts; "growth & distribution focus" with 5% payouts and stable-real-value payouts and remaining-portfolio; and "distribution focus" with 7%. In 2014 they were merged--into VPGDX, i.e. the former "growth & distribution" fund, the name changed simply to (the!) Managed Payout Fund, and the target payout cut to 4%. The press release (which I no longer can find, darn it) announcing the merger quoted John Ameriks as saying only that 4% was a recognized or familiar withdrawal rate. As far as I know, Vanguard has never published anything explaining why it thought it could get 5%, unlike the white papers it has published about its target-date glide paths, etc.
Nisiprius, I first learned about the Vanguard payout fund failure from you. It cries out for journalistic treatment. Not my thing, and maybe not yours, but still ... (there was a recent history of Vanguard that I haven't read; somehow, I think the payout story didn't make it in).

Title might be "That day Vanguard tried to be an insurance company," or "Can you beat the 4% rule? Vanguard couldn't."

Pressing my luck here: when are you going to write a book? I suspect you, like me, have about $12,000 a year in medical insurance costs deductible on Schedule C (self and DW, Medicare B, D, and Medigap, deductibles, LTC, [IRMAA]). I swore when I retired in 2016 I'd never do anything for money again, but only whatever I pleased. But $12,000/year tax-free income ... I am sorely tempted to flog out a book.

And you are a better stylist than me.
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Re: Before Bogle: How much could the ordinary investor have got?

Post by McQ »

ScubaHogg wrote: Tue Jun 06, 2023 2:17 pm Excellent post McQ
Stinky wrote: Tue Jun 06, 2023 5:10 am
McQ wrote: Mon Jun 05, 2023 10:50 pm Does it matter that the 4% rule would have failed for actual investors 55 years ago, even as it worked for hypothetical investors who incurred no cost?
No, it doesn't matter to today’s investors.

We all live in the real world, which has been graced by the presence, intelligence, business skill, and financial acumen of John Bogle. And that real world has many low-cost options available to today's retail investors that make the "4% rule" and its progeny possible.
Unless of course one finds it plausible that lowering the cost of investing has risen the demand for investment products (i.e., stocks, etc.), driving up their price and lowering their future returns. An all roads lead to Rome situation...

I don't know if that true or not, but Econ 101 tells us you lower the cost of something, all else equal, you drive up the demand for it.
You've put your finger on the key unknown: are expenses of the moment entangled with returns of the moment? (to use the language of quantum physics).

All of us today hope and beseech that we can continue to book those 10% nominal returns on stock historically seen in Bengen and the SBBI, even though we pay almost nothing in expenses, so different from before. Not impossible--it would add to Bogle's greatness if he truly bent the curve on investment returns actually received (=no entanglement)
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Re: Before Bogle: How much could the ordinary investor have got?

Post by McQ »

nedsaid wrote: Tue Jun 06, 2023 8:10 pm In the old days before index funds, savvy investors could have invested in a portfolio of individual blue-chip stocks, reinvested the dividends, and in effect created a mini-index for themselves. It cost 2% to 3% in commissions to buy a stock and the same to sell, so you were looking at a 4% to 6% roundtrip. To save money, one could have bought in round lots of 100 shares. Also, one would seek to minimize portfolio turnover as trading costs were relatively high. One reason Nedsaid doesn't like portfolio turnover. I bought my first stock back in 1989.

I bought my first no-load mutual fund on July 16, 1984 but this fund had an annual expense ratio of 1.00%. It was the Twentieth Century Select Fund, which I still own by the way.

So my rough guess is that the ordinary individual investor could get the annual return of the S&P 500 minus two percent or perhaps minus one percent if they were fairly smart at doing this.
As it turned out, the average investor (=asset-weighted outcomes of owning the largest mutual funds) would have received the S&P index return minus 158 basis points annualized from 1926 - 1986 inclusive. Interestingly, they would have received the total market return (CRSP) minus only 120 bp (S&P outperformed the market, particularly in the Great Crash).

Hold your tears: that meant the cost-free CRSP total market index would have turned one dollar into $268 by the end of 1986; the (not so) poor mutual fund investor would have got $137 out of their one dollar investment in mutual funds at the outset of 1926.

Costs matter; but a 137-to-1 return is better than a poke in the eye with a sharp stick. Then again, most investors do not make a lump sum investment that they hold for sixty-one years.

But it was possible for anyone to do exactly that using the actual open-end funds that had come into existence in the 1920s (minus the load charge).
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Re: Before Bogle: How much could the ordinary investor have got?

Post by McQ »

MarkRoulo wrote: Tue Jun 06, 2023 10:18 pm
nedsaid wrote: Tue Jun 06, 2023 8:10 pm ...snip...

So my rough guess is that the ordinary individual investor could get the annual return of the S&P 500 minus two percent or perhaps minus one percent if they were fairly smart at doing this.
I suspect (but cannot prove!) that the variation was much larger between investors back then. I can imagine that a bunch of folks, even relatively sophisticated folks, would have most/all of their stock investments in a handful of "good" companies.One or two of these going south could result in large drops in the person's stock portfolio.

My *guess* is that typical investors today mostly invest in mutual funds and those won't see the sort of crash you can get with a handful of individual stocks. But I don't know.
You've put your finger on the key fact: no one owned each of the S&P 90 stocks in 1926; and no one owned the S&P 500 in 1957.

Mutual funds were called the "Boston plan"--something new under the sun, and quite different from the portfolio of the average ordinary investor. None of these early funds were index funds, but the largest became perforce closet indexers, holding most of the S&P index (holdings in the Wiesenberger yearbooks).

Ordinary investors owned at most a dozen stocks, and collected the dividends for haphazard reinvestment or spending. It was per se possible for the wealthy to own the S&P 90: call it one share each, $9,000 in all, maybe $200,000 in constant dollars. But nobody owned the capitalization-weighted S&P 90 stocks--as late as the 1960s, Fisher and Lorie of CRSP presented equal-weighted results. And nobody could reinvest dividends in fractional shares or not pay a commission to reinvest dividends.

Hence the unrealism of the SBBI.

But my mutual fund data are real, actual--your great-grandfather could have harvested the returns in the paper.
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Re: Before Bogle: How much could the ordinary investor have got?

Post by siamond »

McQ wrote: Mon Jun 05, 2023 10:50 pmPause for comments. Does it matter that the 4% rule would have failed for actual investors 55 years ago, even as it worked for hypothetical investors who incurred no cost?
Great research, McQ. I only skimmed through your paper because my head is mostly elsewhere nowadays, but I could definitely appreciate the huge amount of work, research and thoroughness you put into this.

Like Alpha4 and others, I am skeptical that this finding truly matters for anybody making investment decisions for modern times. I hate the saying "this time, things are different" because it usually neglects the fundamental fact that human nature does NOT change, but when it comes to funds costs, I do believe that this time is different from 50 years ago and the coming decades are unlikely to change that... Now how are (past) costs and (past) returns entangled, I have no clue and I doubt anybody knows.

Also, after I put my hands on International returns and started to crunch numbers, I reached the same conclusion as Prof. Pfau, the 4% SWR 'rule' is pure hogwash. It's just an outcome of success bias and really shouldn't be relied on for the future, even for a US-only investor. And frankly, I believe this consideration totally overrides any concern about past funds costs AND remains definitely applicable in today's world.

This being said, I do applaud the extensive research. Setting the historical record a little bit more straight is always a great achievement and you definitely did it.
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Re: Before Bogle: How much could the ordinary investor have got?

Post by siamond »

PS. Amusingly enough, skimming through this paper rekindled a line of thinking which was getting stronger and stronger in my mind during my last forays of historical data analysis. Something possibly shockingly opposite to what most people might get out of McQ's research.

Instead of using real-life index funds returns for known years, why not use index numbers ALL ALONG? And then apply a constant and more modern expense ratio for the entire historical record. It seems to me that this would be much more consistent when it comes to analyzing the past to try to determine a strategy for the future (as opposed to establishing a more factual past for the sake of history). And well, it seems to me that only scholars do the latter while most of us personal investors do the former...

Fact is past fund costs have varied a lot (and this new research from McQ makes the point even more glaring), to the point of really obfuscating what a large index fund could have achieved, had it existed by then. Maybe removing such cost factors 'noise' would actually help to isolate the real 'signal'...

I am not 100% convincing myself, it is certainly uncomfortable to ignore real-life data in favor of more theoretical constructs, but fact is modern index funds technology got pretty darn close to 'theoretical' index numbers...
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Re: Before Bogle: How much could the ordinary investor have got?

Post by Indyhou »

McQ wrote: Tue Jun 06, 2023 10:47 pm
nedsaid wrote: Tue Jun 06, 2023 8:10 pm In the old days before index funds, savvy investors could have invested in a portfolio of individual blue-chip stocks, reinvested the dividends, and in effect created a mini-index for themselves. It cost 2% to 3% in commissions to buy a stock and the same to sell, so you were looking at a 4% to 6% roundtrip. To save money, one could have bought in round lots of 100 shares. Also, one would seek to minimize portfolio turnover as trading costs were relatively high. One reason Nedsaid doesn't like portfolio turnover. I bought my first stock back in 1989.

I bought my first no-load mutual fund on July 16, 1984 but this fund had an annual expense ratio of 1.00%. It was the Twentieth Century Select Fund, which I still own by the way.

So my rough guess is that the ordinary individual investor could get the annual return of the S&P 500 minus two percent or perhaps minus one percent if they were fairly smart at doing this.
As it turned out, the average investor (=asset-weighted outcomes of owning the largest mutual funds) would have received the S&P index return minus 158 basis points annualized from 1926 - 1986 inclusive. Interestingly, they would have received the total market return (CRSP) minus only 120 bp (S&P outperformed the market, particularly in the Great Crash).

Hold your tears: that meant the cost-free CRSP total market index would have turned one dollar into $268 by the end of 1986; the (not so) poor mutual fund investor would have got $137 out of their one dollar investment in mutual funds at the outset of 1926.

Costs matter; but a 137-to-1 return is better than a poke in the eye with a sharp stick. Then again, most investors do not make a lump sum investment that they hold for sixty-one years.

But it was possible for anyone to do exactly that using the actual open-end funds that had come into existence in the 1920s (minus the load charge).
McQ- As always a thought provoking post.

Your analysis is probably correct as to what would have happened “before Bogle”. I’m not sure how you can use it to inform current investment decisions.

Consider an analogous situation: I'm looking at funding a wind farm and only have historical data about wind direction/velocity from 1926 onward.

If I want to evaluate the economics of the investment, I wouldn't assume wind turbine efficiency from 1926 (or 1980 as far as that goes). I'd look at the current wind turbine efficiency and model how it would have performed from the start of the dataset onward.

There might be things that will cause the environment to change and make the analysis inaccurate (ie climate change changes wind patterns from 1926). I can consider that if necessary.

But simulating the power generated from 1926 vintage equipment would model what would have happened in the past. It wouldn’t help make the investment decisions.
Last edited by Indyhou on Wed Jun 07, 2023 9:26 pm, edited 1 time in total.
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Re: Before Bogle: How much could the ordinary investor have got?

Post by seajay »

McQ wrote: Mon Jun 05, 2023 10:50 pm SWR on the new Balanced fund index

A little background: Bengen constructed an equal-weighted blend of the S&P stock index and the intermediate Treasury (=5-year maturity held one year and rolled). Here is a simulation of his 4% withdrawal results for retirement in 1966, the worst year of any he analyzed. Withdrawals are taken at the end of the year, after returns are booked. Withdrawals, initially 4%, are incremented by inflation each year, beginning that first year.* Inflation during calendar year 1966 was over 3%, so the first year withdrawal in the SS below is $413.

*Are there other valid ways to set up the problem? Of course! But this is how Bengen did it. Again, I’m a scholar, I have to build on what Bengen did. If you are NOT a scholar, then you have no need to start with Bengen or model your efforts on what he did. For instance, you can make the withdrawal at the beginning of the year. Or do it monthly. Or weekly. Or not rebalance the assets. You could lag inflation, or smooth it over X years; use wholesale prices instead of consumer prices; etc. etc. etc. Sky’s the limit! Have at it. But please, if you are not willing to adhere to the Bengen model, best to start your own thread.

Image
Reading through Bengen's paper there is some ambiguity

https://www.ifologiapop.com/wp-content/ ... n-1994.pdf

your interpretation is paramount to a 1966 start year 4.13% SWR

Bengen indicated
Assuming a minimum requirement of 30 of portfolio longevity, a first-year withdrawal of 4 percent, followed by inflation-adjusted withdrawals in subsequent years, should be safe
however the Appendix notes in his paper are confusing. One interpretation is that of $1M initial split 50/50 between stocks and bonds ... after £40,000 had already been set aside (the initial 4% SWR value).

Your method is a 4% + first year inflation adjustment with no income until 12 months measure. What others might consider to be a 5% SWR rather than a 4% SWR had inflation been 25% in the first year for instance.

The Trinity Study SWR I believe assumed end of month withdrawals, with the withdrawal value being uplifted by yearly changes in CPI once/year. So again $400 first year 4% SWR value assuming $10,000 initial portfolio value.

No matter, applying like for like methods and similar observed differences in outcome comparisons will still tend to hold.
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Re: Before Bogle: How much could the ordinary investor have got?

Post by seajay »

McQ wrote: Tue Jun 06, 2023 11:00 pmOrdinary investors owned at most a dozen stocks, and collected the dividends for haphazard reinvestment or spending. It was per se possible for the wealthy to own the S&P 90: call it one share each, $9,000 in all, maybe $200,000 in constant dollars. But nobody owned the capitalization-weighted S&P 90 stocks--as late as the 1960s, Fisher and Lorie of CRSP presented equal-weighted results. And nobody could reinvest dividends in fractional shares or not pay a commission to reinvest dividends.

Hence the unrealism of the SBBI.

But my mutual fund data are real, actual--your great-grandfather could have harvested the returns in the paper.
But the index (SBBI) does reflect the collective, the average across all investors. Individual fund(s) being just one subset within that, most unlikely to perfectly match the index, instead inclined to be either side, more often according to good/bad luck.
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Re: Before Bogle: How much could the ordinary investor have got?

Post by Stinky »

McQ wrote: Tue Jun 06, 2023 10:08 pm
Stinky wrote: Tue Jun 06, 2023 5:10 am
McQ wrote: Mon Jun 05, 2023 10:50 pm Does it matter that the 4% rule would have failed for actual investors 55 years ago, even as it worked for hypothetical investors who incurred no cost?
No, it doesn't matter to today’s investors.

We all live in the real world, which has been graced by the presence, intelligence, business skill, and financial acumen of John Bogle. And that real world has many low-cost options available to today's retail investors that make the "4% rule" and its progeny possible.

John Bogle is one of those rare individuals whose contributions to society will continue to benefit people for decades to come.

(McQ - By the way, absolutely excellent post. As always from you :D )
Hello Stinky--high praise indeed, coming from you. Now would be a good opportunity for me to thank you for your many contributions to the forum. It's terrific to have a true expert on matters connected to insurance and annuities regularly posting here.

I read your posts avidly. A recent favorite began "I am an actuary" and continued on to teach me something important about the pricing of annuities (=insurance cos have a target return on capital overall, not a target margin on individual product lines.)

Best!
Thank you for your kind words.

I truly appreciate them.
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Re: Before Bogle: How much could the ordinary investor have got?

Post by nedsaid »

McQ wrote: Tue Jun 06, 2023 10:47 pm
nedsaid wrote: Tue Jun 06, 2023 8:10 pm In the old days before index funds, savvy investors could have invested in a portfolio of individual blue-chip stocks, reinvested the dividends, and in effect created a mini-index for themselves. It cost 2% to 3% in commissions to buy a stock and the same to sell, so you were looking at a 4% to 6% roundtrip. To save money, one could have bought in round lots of 100 shares. Also, one would seek to minimize portfolio turnover as trading costs were relatively high. One reason Nedsaid doesn't like portfolio turnover. I bought my first stock back in 1989.

I bought my first no-load mutual fund on July 16, 1984 but this fund had an annual expense ratio of 1.00%. It was the Twentieth Century Select Fund, which I still own by the way.

So my rough guess is that the ordinary individual investor could get the annual return of the S&P 500 minus two percent or perhaps minus one percent if they were fairly smart at doing this.
As it turned out, the average investor (=asset-weighted outcomes of owning the largest mutual funds) would have received the S&P index return minus 158 basis points annualized from 1926 - 1986 inclusive. Interestingly, they would have received the total market return (CRSP) minus only 120 bp (S&P outperformed the market, particularly in the Great Crash).

Hold your tears: that meant the cost-free CRSP total market index would have turned one dollar into $268 by the end of 1986; the (not so) poor mutual fund investor would have got $137 out of their one dollar investment in mutual funds at the outset of 1926.

Costs matter; but a 137-to-1 return is better than a poke in the eye with a sharp stick. Then again, most investors do not make a lump sum investment that they hold for sixty-one years.

But it was possible for anyone to do exactly that using the actual open-end funds that had come into existence in the 1920s (minus the load charge).
Awesome. Am I psychic or what? My rough guess of the average investor being able to get a pre-index fund return from the markets of between the S&P 500 return minus 2% and the S&P 500 return minus 1% turned out to be almost exactly right! Okay, okay, so I missed it by 8 basis points, it was an S&P 500 return minus 1.58% but for eyeballing and rough guesstimating, that wasn't bad.
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Re: Before Bogle: How much could the ordinary investor have got?

Post by nedsaid »

MarkRoulo wrote: Tue Jun 06, 2023 10:18 pm
nedsaid wrote: Tue Jun 06, 2023 8:10 pm ...snip...

So my rough guess is that the ordinary individual investor could get the annual return of the S&P 500 minus two percent or perhaps minus one percent if they were fairly smart at doing this.
I suspect (but cannot prove!) that the variation was much larger between investors back then. I can imagine that a bunch of folks, even relatively sophisticated folks, would have most/all of their stock investments in a handful of "good" companies. One or two of these going south could result in large drops in the person's stock portfolio.

My *guess* is that typical investors today mostly invest in mutual funds and those won't see the sort of crash you can get with a handful of individual stocks. But I don't know.
Foggy memory recalls cited research by Larry Swedroe showed that individuals who picked stocks trailed the indexes by 4% a year. Reasons for this were such things as performance chasing, incorrect sell/buy decisions, too much trading, poor stock picking. In other words, poor investor behavior was the big culprit.

If you invest in individual stocks, you will have investing disasters. I had Lucent Technologies, AIG, and Nortel crater on me at different times. Lucent was the most painful. But I noticed that when stock indexes dropped 50%, my individual stocks dropped by a similar amount. When the markets recovered, my stocks recovered. My unhappy experiences with good stocks going bad were offset by winners that I had.

In my case, over rolling 15 year periods I have about matched the Vanguard Value Index, not surprising as my individual stocks focused on Large Value companies. Sometimes I am ahead by a bit, sometimes I trail a bit. So I bought good companies at reasonable prices, diversified across industry groups, had long holding periods, and refused to chase hot stocks. Whatever success I had was due to good behavior, not so much to stock picking brilliance.

A big ingredient for investor success is good investing behavior, that seems to trump most everything else. Another big factor, as McQ posted upthread are costs. I kept portfolio turnover low, in part because I am cheap, so trading costs all along were relatively low.
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Re: Before Bogle: How much could the ordinary investor have got?

Post by MarkRoulo »

nedsaid wrote: Wed Jun 07, 2023 11:33 am
MarkRoulo wrote: Tue Jun 06, 2023 10:18 pm
nedsaid wrote: Tue Jun 06, 2023 8:10 pm ...snip...

So my rough guess is that the ordinary individual investor could get the annual return of the S&P 500 minus two percent or perhaps minus one percent if they were fairly smart at doing this.
I suspect (but cannot prove!) that the variation was much larger between investors back then. I can imagine that a bunch of folks, even relatively sophisticated folks, would have most/all of their stock investments in a handful of "good" companies. One or two of these going south could result in large drops in the person's stock portfolio.

My *guess* is that typical investors today mostly invest in mutual funds and those won't see the sort of crash you can get with a handful of individual stocks. But I don't know.
Foggy memory recalls cited research by Larry Swedroe showed that individuals who picked stocks trailed the indexes by 4% a year. Reasons for this were such things as performance chasing, incorrect sell/buy decisions, too much trading, poor stock picking. In other words, poor investor behavior was the big culprit.

If you invest in individual stocks, you will have investing disasters. I had Lucent Technologies, AIG, and Nortel crater on me at different times. Lucent was the most painful. But I noticed that when stock indexes dropped 50%, my individual stocks dropped by a similar amount. When the markets recovered, my stocks recovered. My unhappy experiences with good stocks going bad were offset by winners that I had.

...snip ...
A co-worker of mine was invested in three stocks during the dot-com boom in three separate niches because he wanted to be diversified:
  • Sun Microsystems (peaked at ~$200B market cap; sold to Oracle a while later for ~$7B)
  • Cisco (peak with a market cap of ~$550B; 80% down during dot-com crash; today around $200B)
  • Oracle (Down about 85% as part of the dot-com bust, but got better over time)
I think he did "better" than just mirroring the Nasdaq-100 ~80% drop :-)
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Re: Before Bogle: How much could the ordinary investor have got?

Post by burritoLover »

Even though you can buy total market funds for peanuts now, that does not mean your SWR has necessarily improved. The US stock market is much less risky than it has been in the past. Less risk = a lower expected return:

1. Much lower fund costs and greater availability
2. Near zero transaction costs.
3. Greater market efficiency
4. Greater liquidity.
5. Market circuit breakers (since 1988)
6. Gov't/fed will bail you out in a crisis - aggressive QE/interest rate manipulation (circa 2008+), massive stimulus (2020+)
7. Greater access to and better quality information
8. Less frictions to trade (online trading, etc)
9. Lower LT capital gains taxes (1981/1997).
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Re: Before Bogle: How much could the ordinary investor have got?

Post by Harry Livermore »

Great discussion and interesting paper. Thanks as always, Dr. McQ!
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Re: Before Bogle: How much could the ordinary investor have got?

Post by seajay »

LEXCX originally bought 30 stocks in the 1930's, has held them ever since (natural evolution). More recently a single stock within that is 33% weighted (Union Pacific). Older style of investing of buying a bunch of stocks, perhaps no more than 30, in some cases fewer (maybe 8 or 10) and holding them long term. Compared to TSM since 1960 and total returns have reasonably closely compared ...

Image

A 1960's investor could have bought into that, or perhaps started their own version. LEXCX is down to 22 holdings more recently, when I last looked some months back IIRC it was holding around 20 stocks. Perceived risk in high single stock weightings can often turn out to result in split/division dilution, for example LEXCX holds BRK shares, that weren't around in the 1930's when LECXX first started.

If as more often seems the case, funds of funds (or averages of funds) lags the broader index (average), then more likely that's a consequence of costs/fees/expenses. Investing with costs/taxes in mind can close down that gap. To me the stock index of funds data presented and a 1.5% to 2% type lag is more suggestive of the average funds having had relatively high costs to invest in the average fund.

Before Bogle: How much could the ordinary investor have got ... IF THEY INVESTED WITHOUT REGARD TO COSTS.
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Re: Before Bogle: How much could the ordinary investor have got?

Post by nedsaid »

MarkRoulo wrote: Wed Jun 07, 2023 11:53 am
nedsaid wrote: Wed Jun 07, 2023 11:33 am
MarkRoulo wrote: Tue Jun 06, 2023 10:18 pm
nedsaid wrote: Tue Jun 06, 2023 8:10 pm ...snip...

So my rough guess is that the ordinary individual investor could get the annual return of the S&P 500 minus two percent or perhaps minus one percent if they were fairly smart at doing this.
I suspect (but cannot prove!) that the variation was much larger between investors back then. I can imagine that a bunch of folks, even relatively sophisticated folks, would have most/all of their stock investments in a handful of "good" companies. One or two of these going south could result in large drops in the person's stock portfolio.

My *guess* is that typical investors today mostly invest in mutual funds and those won't see the sort of crash you can get with a handful of individual stocks. But I don't know.
Foggy memory recalls cited research by Larry Swedroe showed that individuals who picked stocks trailed the indexes by 4% a year. Reasons for this were such things as performance chasing, incorrect sell/buy decisions, too much trading, poor stock picking. In other words, poor investor behavior was the big culprit.

If you invest in individual stocks, you will have investing disasters. I had Lucent Technologies, AIG, and Nortel crater on me at different times. Lucent was the most painful. But I noticed that when stock indexes dropped 50%, my individual stocks dropped by a similar amount. When the markets recovered, my stocks recovered. My unhappy experiences with good stocks going bad were offset by winners that I had.

...snip ...
A co-worker of mine was invested in three stocks during the dot-com boom in three separate niches because he wanted to be diversified:
  • Sun Microsystems (peaked at ~$200B market cap; sold to Oracle a while later for ~$7B)
  • Cisco (peak with a market cap of ~$550B; 80% down during dot-com crash; today around $200B)
  • Oracle (Down about 85% as part of the dot-com bust, but got better over time)
I think he did "better" than just mirroring the Nasdaq-100 ~80% drop :-)
It served me well to not chase the hot High Tech/Internet stocks during the 1990's, particularly during the second half of that decade. That being said, I have always had individual Tech stocks with my individual stock portfolio. The first individual stock that I ever owned was AST Research. So don't want to say that I am at all anti-tech, I just don't want to overpay for those stocks.

Currently, I have Microsoft and Applied Materials within my individual stocks. I bought both during a time they would have been in the Value category of the market. Both have been excellent.
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Re: Before Bogle: How much could the ordinary investor have got?

Post by psteinx »

See my post a couple down from this. Actual pre-1975 one-way total costs probably closer to 1.1%. Leaving the rest of my post, below, but please regard it as likely inaccurate.

=====================================================

If someone has a link to the pre-1975 ~standard commission rates on stocks, I'd be interested.

That said, my memory is that it was around 2%, and didn't vary much with $ size. i.e. Buy 100 shares at $30 and pay ~2%, but also (nearly) the same 2% if you bought 1000 shares.

$30 was probably a typical stock price, and IIRC, it was more common to trade in quarters than eighths.

So, on a $30 stock, crossing a $0.25 spread is 0.83%. Sometimes the spreads were bigger than a quarter, and many stocks traded < $30, so lets round up the bid/ask spread to 1.00%. Since you only pay ~half that to buy (and the other half to sell), then the rough price to buy stocks is 2.5%, and a further 2.5% when you sell. Kinda wild that it cost nearly as much, %-wise, to trade a liquid stock such as GM or IBM as it would to trade (buy/sell) a house. As much as folks fuss about 5-6% commissions on houses today, there's a lot of work involved in being a real estate agent. Imagine paying a similar spread to buy a stock!

Anyways, even if a mutual fund charges 8%, they generally charged ~nothing to sell. And I think a lot of mutual funds were "low-load", i.e. 4.5% or less.

So, pre-1975, buying a loaded mutual fund was not necessarily much more expensive than buying a stock (or a basket of stocks). Both were much more expensive than today.

Dividend re-investment was likely cheaper - big corporations encouraged it - I suspect often offering it for free, and my guess is loaded mutual funds may have commonly done the same. But that said, you still had to get your money out sooner or later.

Also note that tax-deferred accounts were rare (non-existent?) and taxes were often high. So if you buy that blue-chip paying a 4% dividend, how much do you really keep in your pocket?
Last edited by psteinx on Wed Jun 07, 2023 8:06 pm, edited 2 times in total.
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Re: Before Bogle: How much could the ordinary investor have got?

Post by McQ »

siamond wrote: Wed Jun 07, 2023 12:12 am PS. Amusingly enough, skimming through this paper rekindled a line of thinking which was getting stronger and stronger in my mind during my last forays of historical data analysis. Something possibly shockingly opposite to what most people might get out of McQ's research.

Instead of using real-life index funds returns for known years, why not use index numbers ALL ALONG? And then apply a constant and more modern expense ratio for the entire historical record. It seems to me that this would be much more consistent when it comes to analyzing the past to try to determine a strategy for the future (as opposed to establishing a more factual past for the sake of history). And well, it seems to me that only scholars do the latter while most of us personal investors do the former...

Fact is past fund costs have varied a lot (and this new research from McQ makes the point even more glaring), to the point of really obfuscating what a large index fund could have achieved, had it existed by then. Maybe removing such cost factors 'noise' would actually help to isolate the real 'signal'...

I am not 100% convincing myself, it is certainly uncomfortable to ignore real-life data in favor of more theoretical constructs, but fact is modern index funds technology got pretty darn close to 'theoretical' index numbers...
Thanks for taking a look, Siamond. Your stewardship of the Simba spreadsheet makes you part of the core audience when I write papers of this kind. Speaking of which, I have been getting great value from the Simba spreadsheet of late, not least because it is timely updated each year. Wanted you to know how valuable I have found it to be.

Now to your point about the relevance of costs and / or the best way to apply costs to long ago index returns.

No question but that academics prefer to ignore costs. It simplifies things. The justification will be that costs are hard to estimate, may vary across investors, and may not be stable over time, thus obscuring the phenomenon of interest, which is typically the return on a risk asset versus the return on a risk-free or riskless asset, or the return on risk assets under one macroeconomic circumstance rather than another, or the return on one risk asset versus another (small, large). In this context, costs are like a variable that occurs on both sides of the equals sign, hence can be removed without loss of information.

Ignoring costs leads to certain absurdities, of course. Consider a small stock trading on the NYSE near the bottom in 1932; quite a few of these were quoted at 1/8 bid, 1/4 ask, while not trading very often. No problem if you are an academic: you can always buy and sell arbitrary amounts at the midpoint of the bid-ask spread, even if the stock hasn’t traded for weeks. To paraphrase an old Mel Brooks movie, it’s good to be the professor.

In this example, an academic might record a purchase at 3/16, say 100 shares, for a cost of $18.75; next month, if the market bounced and the quote moved to 1/4 bid, 3/8 asked, you’d value the position at $31.25 (5/16), showing a 67% gain on that part of your, ahem, small value portfolio.

The actual investor would have had to pay the ask quote, opening the position at $25 + $7.50 commission, or $32.50; then had to sell at the bid, realizing $25 – $7.50, or $17.50, booking a loss of 46%. Costs matter, as Mr. Bogle used to say.

The other absurdity comes about when trading costs are different across assets. For the paper I estimated intermediate Treasury returns assuming purchase at the ask and sale at the bid; that reduced the returns in Bengen/SBBI, but not by much compared to that 158 bp reduction for purchasing a stock mutual fund rather than assuming stock index returns.

Returning to your dilemma as steward of the SIMBA spreadsheets, currently I believe you apply the most recent expense ratio on an index mutual fund to the index, for each year prior to the availability of the fund. Admiral fund expenses have stabilized at 4-5 bp, so results don’t change much on the yearly update.

If not an onerous burden, I would do it differently:
1. Actual with-expense fund return each year the fund exists (as now)
2. Before the fund exists (1977 for the V S&P 500 fund), a drop down list allows the user to see returns with 5, 10, 20, or 50 bp deducted.* The default in the downloaded copy would be 5 bp, close to current values. The user can then apply a larger expense to older data, copy for pasting into their own spreadsheet, and restore the default.

Worth your time? Probably not, but worth my time to mention😊

*50 bp was a a typical management fee for decades. The 158 bp shortfall reflects in addition trading costs, failed market timing efforts, failed stock selection, drag of holding cash, and everything else that differentiates a fund in the world from an index in the lab.
You can take the academic out of the classroom by retirement, but you can't ever take the classroom out of his tone, style, and manner of approach.
seajay
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Re: Before Bogle: How much could the ordinary investor have got?

Post by seajay »

psteinx wrote: Wed Jun 07, 2023 3:49 pm If someone has a link to the pre-1975 ~standard commission rates on stocks, I'd be interested.

That said, my memory is that it was around 2%, and didn't vary much with $ size. i.e. Buy 100 shares at $30 and pay ~2%, but also (nearly) the same 2% if you bought 1000 shares.

$30 was probably a typical stock price, and IIRC, it was more common to trade in quarters than eighths.

So, on a $30 stock, crossing a $0.25 spread is 0.83%. Sometimes the spreads were bigger than a quarter, and many stocks traded < $30, so lets round up the bid/ask spread to 1.00%. Since you only pay ~half that to buy (and the other half to sell), then the rough price to buy stocks is 2.5%, and a further 2.5% when you sell. Kinda wild that it cost nearly as much, %-wise, to trade a liquid stock such as GM or IBM as it would to trade (buy/sell) a house. As much as folks fuss about 5-6% commissions on houses today, there's a lot of work involved in doing so. Imagine paying a similar spread to buy a stock!

Anyways, even if a mutual fund charges 8%, they generally charged ~nothing to sell. And I think a lot of mutual funds were "low-load", i.e. 4.5% or less.

So, pre-1975, buying a loaded mutual fund was not necessarily much more expensive than buying a stock (or a basket of stocks). Both were much more expensive than today.

Dividend re-investment was likely cheaper - big corporations encouraged it - I suspect often offering it for free, and my guess is loaded mutual funds may have commonly done the same. But that said, you still had to get your money out sooner or later.

Also note that tax-deferred accounts were rare (non-existent?) and taxes were often high. So if you buy that blue-chip paying a 4% dividend, how much do you really keep in your pocket?
A common suggestion for stock investing of the 1970's was to pick 10 or so stocks from the Dow 30. The 1985 Dow change including the addition of MCD, if a investor with $200,000 at the start of 1986, around $550,000 present day money, picked that as one of their 10, investing $20,000, then with dividends accumulated that share alone would have yielded a total portfolio real return of 3.86%, assuming all of the other nine returned nothing (went broke). PG as another example, 3.13% real. Someone having invested $20,000 in each of those increased the portfolio return to 5.5% real. combined $20,000 in each accumulated rose to $3.9M, whilst $200,000 original total investment in real terms increased to $543,000 at the end of 2022. And those figures are based on discounting the initial investment amount by 5%, $19,000 net actual initial investment ($1000 cost to buy $20,000 of stock) assumed. By comparison a $200,000 1986 investment into VFINX (S&P500) saw that increase to $7.83M (total return) at the end of 2022.

Investors were aware of the costs, and invested accordingly. Traded infrequently, avoided high load/cost holdings and even with 5% type entry costs often saw satisfactory overall portfolio outcomes.
psteinx
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Re: Before Bogle: How much could the ordinary investor have got?

Post by psteinx »

Hmm, maybe I overestimated.

The graph here suggests pre-1975 one-way frictions (commission + half-spread) of ~1.1%:

https://www.businessinsider.com/histori ... 014-3?op=1
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Re: Before Bogle: How much could the ordinary investor have got?

Post by seajay »

For reference, using McQ's stock data and for a UK investor/taxation rates I see a 1.1% average dividend taxation drag factor since 1930, 1.3% since WW2 (thereafter taxation was broader/more common, pre-WW2 and only a relatively small proportion of families actually paid any tax).

Based on basic rate tax (most common rate). Which at times typically spiked as/when interest rates spiked (high stress and higher taxation correlated).

For my preference of gold instead of bonds, along with a primary home ownership, that figure declined to around 0.45%. More recently and with greater tax exempt/efficient choices the figure is more around 0.15%. But where more recent economic/financial stresses are tending to see a upward transition/motion.

More options such as BRK, MKL ... would be nice, no-dividend stocks
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McQ
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Re: Before Bogle: How much could the ordinary investor have got?

Post by McQ »

psteinx wrote: Wed Jun 07, 2023 3:49 pm See my post a couple down from this. Actual pre-1975 one-way total costs probably closer to 1.1%. Leaving the rest of my post, below, but please regard it as likely inaccurate.

=====================================================

If someone has a link to the pre-1975 ~standard commission rates on stocks, I'd be interested.

That said, my memory is that it was around 2%, and didn't vary much with $ size. i.e. Buy 100 shares at $30 and pay ~2%, but also (nearly) the same 2% if you bought 1000 shares.

$30 was probably a typical stock price, and IIRC, it was more common to trade in quarters than eighths.

So, on a $30 stock, crossing a $0.25 spread is 0.83%. Sometimes the spreads were bigger than a quarter, and many stocks traded < $30, so lets round up the bid/ask spread to 1.00%. Since you only pay ~half that to buy (and the other half to sell), then the rough price to buy stocks is 2.5%, and a further 2.5% when you sell. Kinda wild that it cost nearly as much, %-wise, to trade a liquid stock such as GM or IBM as it would to trade (buy/sell) a house. As much as folks fuss about 5-6% commissions on houses today, there's a lot of work involved in being a real estate agent. Imagine paying a similar spread to buy a stock!

Anyways, even if a mutual fund charges 8%, they generally charged ~nothing to sell. And I think a lot of mutual funds were "low-load", i.e. 4.5% or less.

So, pre-1975, buying a loaded mutual fund was not necessarily much more expensive than buying a stock (or a basket of stocks). Both were much more expensive than today.

Dividend re-investment was likely cheaper - big corporations encouraged it - I suspect often offering it for free, and my guess is loaded mutual funds may have commonly done the same. But that said, you still had to get your money out sooner or later.

Also note that tax-deferred accounts were rare (non-existent?) and taxes were often high. So if you buy that blue-chip paying a 4% dividend, how much do you really keep in your pocket?
Hello psteinx: thanks for this very thoughtful post. The paper you are looking for is by Charles Jones: https://www0.gsb.columbia.edu/mygsb/fac ... 0Costs.pdf. It has trading costs decade by decade from 1900.

If that link doesn't work try Jones trading costs on scholar.google.com

Trading costs were not level. They were low before the Depression, and then rose to a peak in the 1960s and 1970s. So your original estimate would have been right in some decades and wrong in others.

Your point about load funds is spot on. In the 1960s, an individual investor might have been able to buy 10 stocks, with commissions at 2%, and no ability to invest dividends cost-free or in fractional shares. A load of 8.5%, to own 100+ stocks, with free reinvestment of dividends, and no cost to redeem portions at will, was not a bad deal. (Open-end funds got that label because you could withdraw amounts cost-free at any time).

Today, post-Bogle, everything is much cheaper. We all have leave to hope that the radical reduction in cost is not in any way entangled with returns to be expected going forward.
You can take the academic out of the classroom by retirement, but you can't ever take the classroom out of his tone, style, and manner of approach.
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Re: Before Bogle: How much could the ordinary investor have got?

Post by jeffyscott »

Where you test a lower stock allocation, the paper says: The Vanguard Retirement Income fund, intended to provide a fixed allocation to be held for life by retirees age 72 and older, stands in opposition to this view, adding interest to the investigation of how a stock-light blend would historically have performed for actual investors.

But at 72, average life expectancy is only about 12-15 years (using the SS table) and a 30 year withdrawal rate would only be needed by about 0.7% of the population. About 95% of the population would have a remaining withdrawal period of 25 years or less.

I wonder if your data could be applied to the whole life cycle of target retirement funds? It would be interesting to see (but not interesting enough for me to do the work :mrgreen: ) how a constant 60/40 or 50/50 would compare to accumulating and then withdrawing assets with a gradually declining asset allocation. (Though not that gradual in the 7 years after the target date in Vanguard's case, where they go from 50% to 30% in just that 7 year period).
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