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Old 02-19-2015, 08:59 AM   #21
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I also tried a mix of 20% LT Treasuries and 20% LT Corporates and the success rate was the same. I actually prefer investment grade corporates over government bonds.

I suspect no matter what bonds you use it probably doesn't have a big effect.
On bond funds in general: What about a broadly diversified bond fund? Government and corporate aren't the only choices.

It depends on WHY you are owning those bond funds. If it is for diversification against stocks, just look at 2002 and 2008 to see that corporate bonds don't appreciate nearly as much, and sometimes drop, just when stocks are taken out and shot and/or there is a whiff of financial crisis in the air. Those are the periods where bond and cash diversification is usually most appreciated.

On the model: Long-term bonds is probably not the right asset class to be using in your tests. Use some type of intermediate bond index in your model. And if you still get the same results, it will be interesting.

It could well be that the cash position really helps when you have long bonds, but doesn't help so much when you have intermediate bonds.
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Old 02-19-2015, 09:00 AM   #22
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I know VCSH is yielding a lot more than a high quality short-term bond fund like VBISX or BSV. But I hope folks realize that using a corporate bond fund as a cash substitute is pretty risky compared to other options. Along with stocks, corporate bond funds can be slammed due to weak ecomonic conditions or financial concerns - just when bond funds holding higher quality paper tend to appreciate.
I guess my point was that I don't use VCSH as a cash substitute. It is a bond fund. I guess one could say in a stretch that it is a substitute for an intermediate-term bond fund, but one needs to know that its average duration according to vanguard.com is 2.7 years which is slightly longer than the averag duration of VBIRX (short-term bond index fund) which is listed as 2.6 years.

The CSH in VCSH does not stand for CaSH; it stands for Corporate SHort-term.
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Old 02-19-2015, 09:03 AM   #23
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On bond funds in general: What about a broadly diversified bond fund? Government and corporate aren't the only choices.
Certainly, Rick Ferri has argued for a broadly diversified intermediate bond fund instead of a short-term bond fund for intermediate needs.
The Risk Of Short-Term Bond Funds
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Old 02-19-2015, 09:23 AM   #24
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I guess my point was that I don't use VCSH as a cash substitute. It is a bond fund. I guess one could say in a stretch that it is a substitute for an intermediate-term bond fund, but one needs to know that its average duration according to vanguard.com is 2.7 years which is slightly longer than the averag duration of VBIRX (short-term bond index fund) which is listed as 2.6 years.

The CSH in VCSH does not stand for CaSH; it stands for Corporate SHort-term.
I actually wasn't responding to you, I know you know what you are holding. I was responding to the OP's choices of using VCSH a to hold 6 years of cash, and to Sunset.
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Old 02-19-2015, 09:25 AM   #25
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Besides, I have VCSH and its real rate of return for me over the past 12 months has been about 1.35 % if I sold it from a taxable account (accounting for declared Capital gain and lower stock value).

Not much better than a 1% FDIC insured savings account and lots more risk.
I am not sure about the real rate of return, but in 2014 my VCSH+VSCSX had a nominal rate of return of 1.84% including all transactions, dividends, taxes (I didn't pay any on these assets), etc. according to an XIRR() calculation.

In contrast, my total US bond index fund had about 6% return, but don't forget that the previous year (2013) was not as good, so annualized returns over the past 2 years (2013-2014) were:
1.81% FSITX
1.60% VCSH/VSCSX

Perhaps, cash did even better? I know my guaranteed TIAA traditional annuity performed at a 3.81% clip.
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Old 02-19-2015, 09:27 AM   #26
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On bond funds in general: What about a broadly diversified bond fund? Government and corporate aren't the only choices.

It depends on WHY you are owning those bond funds. If it is for diversification against stocks, just look at 2002 and 2008 to see that corporate bonds don't appreciate nearly as much, and sometimes drop, just when stocks are taken out and shot and/or there is a whiff of financial crisis in the air. Those are the periods where bond and cash diversification is usually most appreciated.

On the model: Long-term bonds is probably not the right asset class to be using in your tests. Use some type of intermediate bond index in your model. And if you still get the same results, it will be interesting.

It could well be that the cash position really helps when you have long bonds, but doesn't help so much when you have intermediate bonds.
I guess if Firecalc had such an option (intermediate term bonds) I would have used it but alas, it does not.

As I recall, government and corporates make up a large part of the bond market, at least Vanguard seems to think so. Unless you are differentiating government bonds from agencies, et al which is not a particularly useful distinction.

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This fund is designed to provide broad exposure to U.S. investment grade bonds. Reflecting this goal, the fund invests about 30% in corporate bonds and 70% in U.S. government bonds of all maturities (short-, intermediate-, and long-term issues).
I'm not sure I agree with your last statement, but we'll agree to disagree.

The second test I did is probably more relevant to our discussion as the assets are a mix of a stock index and bond funds which is in line with your thinking, but still seems to have a minimal impact on the success rate, particularly if one makes some sort of mental adjustment for 1% interest on cash vs 0%.
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Old 02-19-2015, 09:58 AM   #27
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What is interesting is that I tried to test the notion that a cash buffer is suboptimal with Firecalc. Default assumptions except $1m portfolio, $40k withdrawals (4% WR).

Tried a run with a mixed portfolio of 5% US Small, 55% S&P 500 and 40% LT corporate bonds gets an 85.7% success rate. If I change the LT corporate bond to 34% and add 6% in cash (1 month Treasury) then the success rate INCREASES to 89.8%.

Surprised me and seems inconsistent with the paper's hypothesis.

I then did a run using the total market with 60% equities and the success rate was 95.6%. Then I reduced the $1m to $940k as if one had 6% in cash earning nothing and it reduced the success rate to 91.2%. This is probably too conservative as the cash would earn something (say 1% +/-).
This might be easier to model with cFIREsim, which has a cash category. I ran the same scenario as you... all default, $1M portfolio, $40K/yr spend, and 2 scenarios:

60/40/0... 90.43% success
60/34/6... 89.57% success

This seems more intuitive to me. It says you give up almost 1% success rate to "sleep better at night." I'm slowly coming around, and starting to question why I'm holding 5% cash.
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Old 02-19-2015, 09:59 AM   #28
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I have 2 years in cash (which might get partially switched to CDs or bonds if rates ever dictate that's a sensible move).

That cash plus the dividends from my taxable account would get me through 2 years of ugly markets. Maybe it's psychological, but I feel more secure that way.

The other 97% of my portfolio is in equities, so any cash drag is minimal.

Looking back at the last three decades, I only see one occurrence of 3 years of consecutive annual losses (2000-2002). I'll have the flexibility to deplete my cash reserves during bad or flat markets (or keep the selling of shares to a minimum at least), except in those rare instances of down markets lasting 3+ years.

7 years of a very stable asset like short term bonds seems excessive and seems to represent 20% of the OP's assets that will produce inflation or inflation+1% each year. But hey, I'm not the one sleeping at night for him. Although as others indicate, he's possibly losing real security at the expense of false security.
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Old 02-19-2015, 10:23 AM   #29
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The other 97% of my portfolio is in equities, so any cash drag is minimal.

Looking back at the last three decades, I only see one occurrence of 3 years of consecutive annual losses (2000-2002). I'll have the flexibility to deplete my cash reserves during bad or flat markets (or keep the selling of shares to a minimum at least), except in those rare instances of down markets lasting 3+ years.

7 years of a very stable asset like short term bonds seems excessive and seems to represent 20% of the OP's assets that will produce inflation or inflation+1% each year. But hey, I'm not the one sleeping at night for him. Although as others indicate, he's possibly losing real security at the expense of false security.
Yes, you can draw on cash or other fixed income to live off of. But you can also use it to buy more equities. People who rebalance their portfolios also use their cash and bonds to buy more equities when equities get hit hard.

And FWIW, we don't have to worry about the bond portion keeping up with inflation - it may not. That's why most of us hold equities in portfolios. And you don't have to hold a large portion in equities to keep up with inflation-adjusted withdrawals. As low as 40% equities does just fine over long periods.

You talk about "real" security, but models show that 100% stocks portfolios have poorer survival statistics over long periods than at least 20% fixed income. Just sayin'.....

Of course, if someone is close to 100% stocks because they are living off the stocks dividends and otherwise not selling investments in their portfolio, and they can survive a little dividend shrinkage during rough times, than the point is moot.
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Old 02-19-2015, 10:37 AM   #30
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This might be easier to model with cFIREsim, which has a cash category. I ran the same scenario as you... all default, $1M portfolio, $40K/yr spend, and 2 scenarios:

60/40/0... 90.43% success
60/34/6... 89.57% success

This seems more intuitive to me. It says you give up almost 1% success rate to "sleep better at night." I'm slowly coming around, and starting to question why I'm holding 5% cash.
That seems more sensible to me and the sleeping better at night is well worth giving up 0.86% success rate.

Are you questioning holding 5% cash because the success rates are so similar? If so, I would flip it around.
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Old 02-19-2015, 10:44 AM   #31
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That seems more sensible to me and the sleeping better at night is well worth giving up 0.86% success rate.

Are you questioning holding 5% cash because the success rates are so similar? If so, I would flip it around.
Yeah, that's the same way I viewed it, too. I'd feel more comfortable with a cash cushion than getting a tiny bit better success rate percentage.
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Old 02-19-2015, 10:52 AM   #32
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I guess if Firecalc had such an option (intermediate term bonds) I would have used it but alas, it does not.
OK - I see what you are saying about Firecalc options, and it's too bad because many safe withdrawal rate models like Bengen's used "intermediate government bonds". And there is a huge difference in historical behavior between intermediate and long duration bonds.
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Old 02-19-2015, 10:52 AM   #33
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Old 02-19-2015, 11:06 AM   #34
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Okay, given that things here in the off*ce are accelerating as I race to get tasks done in time for my departure at the end of this month, and based in part on the wisdom above, I sold a chunk of VCSH. Now I own: 1 years' living expenses in cash (earning 1%), plus 6 years of living expenses evenly divided into VCSH (2 years' worth of short term corp bond ETF); BSV (2 years' worth of short term bond ETF); and BIV (2 years' worth of intermediate term bond ETF).

In the end, as the cited articles (including Kitces) often point out, and as the posters above have often said or implied, my "bucket" of living expenses is a mirage/imaginary security blanket.

I'm fine with mirages and imaginary ways of seeing things -- -- if they help me feel secure, and are also rooted in reality when looked at dispassionately. My bucket/blanket of cash and bonds is really just a ~23% slice of my portfolio. The balance of my holdings are in equities. So I am essentially a couch potato 75/25 investor. As long as I aim to stick at that allocation, then bucket or not, I am going to be rebalancing periodically as my 75/25 gets out of whack. If times get hard, I can cut my living expenses by probably one-third, and I can always work part-time. But with 35 years of expenses in a 75/25 portfolio, I should be okay.

Thanks for the insights!
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Old 02-19-2015, 11:15 AM   #35
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Yeah - with only 25% in fixed income, you don't have to worry about "drag" at all IMO. You just have to be able to stomach the occasional roller coaster! LOL!

Congrats on reading all that material and absorbing it so quickly!
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Old 02-19-2015, 11:23 AM   #36
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One thing that must be considered is the human emotional element.

If one's ability to act rationally in the face of a relentless bear market is strong, then keeping a big cash buffer is not necessarily useful.

If one is going to panic and sell low, then having the extra cash security blanket that will reduce or eliminate panicky selling, is a good idea.

Know thyself. Just my 2 cents.
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Old 02-19-2015, 11:33 AM   #37
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That seems more sensible to me and the sleeping better at night is well worth giving up 0.86% success rate.

Are you questioning holding 5% cash because the success rates are so similar? If so, I would flip it around.
I've been questioning my 5% cash allocation for some time, mainly due to the drag on performance. My total return in 2014 was 9.3%. But excluding cash, it was 9.8%.

Also, we have a very low withdrawal rate. We have pensions and rentals that cover 70% of expenses. Cash dividends from the taxable account cover another 15%, with SS still to come. In a down year, we could cut travel and we're covered.

Many of my bond ETFs have significant cash positions, so my actual cash allocation is much higher than 5%.

Finally, I'm warming up to the concept that selling equities in a downturn is not the end of the world if you immediately rebalance and do it tax efficiently. You have to replenish the cash anyway and that means selling something. Why not just skip the cash and sell?

Yes, given the myriad uncertainties inherent in any 30-40 year retirement plan, a 1% reduction in success rate seems quite trivial. But just add it to the list. And the more I think about the list in its entirety, the less compensated I feel for the lower success rate and lower performance.

I'm still holding cash for now as I'm only 1.5 years into ER and still learning the ropes. But I'm definitely warming up to the arguments against holding cash.
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Old 02-19-2015, 11:39 AM   #38
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I've been questioning my 5% cash allocation for some time, mainly due to the drag on performance. My total return in 2014 was 9.3%. But excluding cash, it was 9.8%.

Also, we have a very low withdrawal rate. We have pensions and rentals that cover 70% of expenses. Cash dividends from the taxable account cover another 15%, with SS still to come. In a down year, we could cut travel and we're covered.

Many of my bond ETFs have significant cash positions, so my actual cash allocation is much higher than 5%.

Finally, I'm warming up to the concept that selling equities in a downturn is not the end of the world if you immediately rebalance and do it tax efficiently. You have to replenish the cash anyway and that means selling something. Why not just skip the cash and sell?

Yes, given the myriad uncertainties inherent in any 30-40 year retirement plan, a 1% reduction in success rate seems quite trivial. But just add it to the list. And the more I think about the list in its entirety, the less compensated I feel for the lower success rate and lower performance.

I'm still holding cash for now as I'm only 1.5 years into ER and still learning the ropes. But I'm definitely warming up to the arguments against holding cash.
Sounds like your goal is maximizing the size of the portfolio say 10 years down the road? Or maximizing what you leave to heirs?

For some folks, having a larger portfolio is their goal, so they are willing to make sacrifices - lower withdrawals today, belt tightening during market downturns, etc., to accomplish that goal.

Some of us are more interested in spending (and gifting) more in the early years and don't plan to leave a lot after we pass. We just want the portfolio to survive during our lifetime, and prefer to live with less year-to-year volatility.

It really depends on your goals.
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Old 02-19-2015, 11:41 AM   #39
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OK, I want to know how people who are doing this X years of expenses set aside actually handle this....

IOW, say you have 3 years of expenses set aside in a MM account or a CD ladder.... now we go one year into the future... do you now only have 2 years If so, does it not worry you that you have spent 1/3rd of your bucket If you have replenished it, then what benefit have you gained

It just does not make sense to me to hold so much out of the market... we just lived through probably the 2nd worse market decline in American history and the market was back in 5 years... so, you might say 'yes, but I did not have to sell when it was down'... but when did you make the decision to fill your bucket back to full

This seems like a backwards way of timing the market.... and that a rebalance would be better....
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Old 02-19-2015, 11:51 AM   #40
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OK, I want to know how people who are doing this X years of expenses set aside actually handle this....

IOW, say you have 3 years of expenses set aside in a MM account or a CD ladder.... now we go one year into the future... do you now only have 2 years If so, does it not worry you that you have spent 1/3rd of your bucket If you have replenished it, then what benefit have you gained
I'm holding cash in a money market at my credit union and in a single bond that matures soon.

I'm getting down to the level where I want to refill the cash bucket so I'm about to put in an order to sell $10000 or so of a particular ETF I want to get rid of.

In six months, I'll sell another $10,000 or so (or whatever I need to top off the cash reserve account) if the market is reasonably steady (flat to up). Otherwise hold off. I'll admit to muddling through this and that there are some market timing elements to this little experiment. I can't imagine market timing on under 1% of our portfolio having a statistically significant impact on our portfolio survival numbers.
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