Morningstar's Bucket Stress Test

[Ed_The_Gypsy]

Some may remember that Christine Benz of Morningstar published an interesting set of articles in Aug 2013 on a Bucket Stress Test. The last article was on 22 Aug 2013, titled "We put the Bucket System Through a Longer Stress Test", for a period from 1 Jan 2000 to 1 Jan 2013. The plan was for a 4% draw on Jan 1 of each year, increased by 3% every year. The portfolio started with $1.5MM, with $120k (2 years of withdrawals) in cash and the balance in a collection of mutual funds providing 60/40 mix of equities and bonds, rebalanced using a rule. The long stress test had a final balance of $2,029,138.

I did a comparison using Wellington (VWELX, also 60/40) and also Wellesley (VWINX, 40/60) but no cash bucket. VWELX ended up with a final balance of $2,207,649, about 10% more than the Bucket Stress Test portfolio. (!) (VWINX had $2,329,993 left, which was surprising, and is that difference repeatable in the next 12 years? Still, it did not have the low bottoms as VWELX did.)

It looks like either fund would be a lot simpler and better than managing the Buckets portfolio.

With an eye on my coming de-cumulation phase, I tried to make a comparison between my portfolio performance (basically 100% equities) and VWELX and VWINX over comparable periods (I don't have data readily on hand for performance before 2004 for me). Over 8 years from 2004 through 2014, VWELX provided 5.4% return, VWINX provided a 5.8% return and my portfolio returned 5.2% (if I did not make any arithmetic mistakes). Although I use mostly index funds, I have been slicing-and-dicing and also collecting a few oil and gas and pipeline stocks, trying to fill up my pot. It looks like in de-cumulation, I would be better off with simply one fund instead of my collection (as would the Bucket portfolio!). This would unburden us of managing a portfolio in our dotage and simplify life for the survivor.

Whadaya say, Uncle Mick?

 

[unclemick]

I dunno - my general theory of chickenheartness caused me to throw in the towel and defer to Vanguard after forty years of investing(1966-2006). Jan 2006 (age 62) I consolidated into Target Retirement 2015 (then ballpark 60/40 stocks/bonds). Note in 2006 expense targets were 40% early social security and non cola pension with 60% (variable) from investments at a nominal 4%. The idea was I could vary expenses if a big market drop occurred - which actually happened.

So I hung tough with the single retirement fund thru the market dip and my lowest withdrawal was 2% with hindsight.

Back to 1993 when I first ER'd my mental view leaned to dividends/interest ala pssst Wellesley, REIT's, individual stocks (Handbook of Dividend Achievers with DRIP Plans) and rental RE (a single duplex). Handgrenade wise my mish mash stayed roughly 60/40 equity fixed. Over time age 50 to 70 I simplified in bits and pieces going from ? 20 positions , including a dozen widows and orphans utes, big oil, big pharma, food and some REIT's plus mutuals like pssst Wellesley, S&P Index, Trustee's International, Intermediate Treasuries, High Yield Corp. Age 55 a non cola pension kicked in and I took SS at 62.

heh heh heh - hindsight says I should have bought Bogle's Folly S&P 500 and let it ride cutting withdrawal % as much as possible during downturns. However my sphincter muscle staying the course was tested enough as it was.

P.S. I had some big chunks of VG Lifestrategy Moderate, 60/40 index type and Conservative 40/60 (his and hers) in the age 55 to 62 stretch.

 

[LOL!]

Are you the one who linked Michael Kitces article about buckets earlier this month? I guess not, so here is the thread:
http://www.early-retirement.org/for...ucket-strategies-vs-a-total-return-74448.html

Conclusion: Buckets hurt.

 

[pb4uski]

The difference in ending values is principally due to the lack of a cash bucket. If you assume that cash earned nothing you can get a sense of the impact by multiplying each result by .92 (1-.04*2) and comparing to the results of the M* study. However, if you assume that cash earns a little something, they you can use .92 + the earnings rate assumed for cash. So if I assume that cash earns 0.85% (what my online savings account pays) then your test results would be $2,050k for Wellington and $2,163k for Wellesley, compared to $2,029k in the M* study.

Also, while I like the idea of a more simple portfolio, slicing and dicing allows one to construct a more tax efficient portfolio in many cases by putting ordinary income generating investments in tax deferred accounts and tax preferable investments in taxable accounts.

 

[Ed_The_Gypsy]

The difference in ending values is principally due to the lack of a cash bucket. If you assume that cash earned nothing you can get a sense of the impact by multiplying each result by .92 (1-.04*2) and comparing to the results of the M* study. However, if you assume that cash earns a little something, they you can use .92 + the earnings rate assumed for cash. So if I assume that cash earns 0.85% (what my online savings account pays) then your test results would be $2,050k for Wellington and $2,163k for Wellesley, compared to $2,029k in the M* study.

Also, while I like the idea of a more simple portfolio, slicing and dicing allows one to construct a more tax efficient portfolio in many cases by putting ordinary income generating investments in tax deferred accounts and tax preferable investments in taxable accounts.

I agree, pee,

The differences are most likely the cash element.

In my case, I do not need a tax-efficient element. Everything I have is in a t-IRA and will soon be in a Roth. There is my tax efficiency.

My problem is that for all my fancy tap-dancing with slice-and-dice and my imagined advantage with O&G knowledge, I have not done as well as I had hoped.

Perhaps I should have started earlier or been born smarter. I have to look at going forward and while I am not as smart as I thought, perhaps I can learn something. I need to protect myself and my family.

 

[GrayHare]

This is another example of insurance (the cash bucket) always being expensive, until you need it.

 

[pb4uski]

Well Ed, don't beat yourself up to much because while you may have underperformed the bright minds at Wellington and Wellesley, you have likely beat the pants off the average investor.

 

[Ed_The_Gypsy]

This is another example of insurance (the cash bucket) always being expensive, until you need it.

Exactomento!

One needs to consider one's risk tolerance. It is different for everyone. I am hanging-ten, I know that. My wife knows that. We have Plan A and Plan B and a Plan C (but we have disagreements on Plan C).

In the accumulation phase (which I stopped years ago--my bad), the rules are different from the de-accumulation phase (harvesting the benefits).

If someone can afford the security of idle funds, go for it. In my case, it involves 'Case C', which is up in the air for now.

 

[growing_older]

Quote:
Originally Posted by GrayHare
This is another example of insurance (the cash bucket) always being expensive, until you need it.

But a good question to ask should be: Do you need that expensive insurance. If you have a reasonable SWR, then you shouldn't need the insurance. If you do not have a Safe Withdrawal Rate, then holding some of your portfolio in cash will only make your withdrawal rate on the remaining portion higher. Either way, the "insurance" seems only useful for making the owner feel better, not for actually improving portfolio performance except to the extent it stops the owner from panicking into mistakes like selling all equities in a downturn.

 

[utrecht]

How is 2004-2014 an 8 yr period? Sorry, but you did say "if i didn't make any arithmetic mistakes"

 

[teejayevans]

This is another example of insurance (the cash bucket) always being expensive, until you need it.

Exactly, it's not how much you can earn in normal times, it's how much you keep during worst of times, I sleep better knowing I have 5 years of cash (actually short term bonds), just in case....



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[ERD50]

Exactly, it's not how much you can earn in normal times, it's how much you keep during worst of times, I sleep better knowing I have 5 years of cash (actually short term bonds), just in case....

I just don't buy this line of thinking.

In a deep downturn, someone, even with an aggressive 80/20 AA will first be getting most of their WR from the divs. The rest can come from selling fixed income, which would be part of re-balancing in a downturn.

So you hold a bunch of cash, making near zero, for what?

I sleep better at night knowing that my money is working for me.

-ERD50

 

[pb4uski]

+1 ........... I carry 2 years (6% given my 3% WR) in cash earning 0.85% and I'm not even sure of the wisdom of doing that... I can't imagine carrying 5 years (15%) of my portfolio in cash.. just shoot me. Over 2 years in cash seems very sub-optimal to me.

 

[teejayevans]

I just don't buy this line of thinking.



In a deep downturn, someone, even with an aggressive 80/20 AA will first be getting most of their WR from the divs. The rest can come from selling fixed income, which would be part of re-balancing in a downturn.



So you hold a bunch of cash, making near zero, for what?



I sleep better at night knowing that my money is working for me.



-ERD50

Let me put it another way...
Stocks are a long term investment, money I need next year I don't want in stocks, I want in a nonvolatile investments
And it's not a bunch, about 10%, it allows the other 90% the time to work for me


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[pb4uski]

Your WR is only 2%?

 

[teejayevans]

+1 ........... I carry 2 years (6% given my 3% WR) in cash earning 0.85% and I'm not even sure of the wisdom of doing that... I can't imagine carrying 5 years (15%) of my portfolio in cash.. just shoot me. Over 2 years in cash seems very sub-optimal to me.

I use dividends, say 2% as one piece of the income pie, 2% as the other, coming from cash bucket which I replenish when market is up, so now it's full since I recently skimmed off some profits, so 5 years is only 10%, if 90% of rest of my portfolio isn't enough, then I shouldn't have retired.


Sent from my iPad using Early Retirement Forum

 

[ERD50]

Let me put it another way...
Stocks are a long term investment, money I need next year I don't want in stocks, I want in a nonvolatile investments
And it's not a bunch, about 10%, it allows the other 90% the time to work for me


Sent from my iPad using Early Retirement Forum

And that's why there are only a few here at 100% equities. Like I said, even a 20% holding in fixed (80/20 AA) would provide something to sell in a downturn.

Even if fixed was down along with equities at that time, it would be extremely likely that the years of higher returns over cash would more than make up the difference. You might be selling a few percent a year. Easily made up over time.

-ERD50

 

[pb4uski]

I use dividends, say 2% as one piece of the income pie, 2% as the other, coming from cash bucket which I replenish when market is up, so now it's full since I recently skimmed off some profits, so 5 years is only 10%, if 90% of rest of my portfolio isn't enough, then I shouldn't have retired.


Sent from my iPad using Early Retirement Forum

Good point on the dividends, I'll have to look at that as I might be carrying more cash than I need to at 6%.

 

[teejayevans]

And that's why there are only a few here at 100% equities. Like I said, even a 20% holding in fixed (80/20 AA) would provide something to sell in a downturn.



Even if fixed was down along with equities at that time, it would be extremely likely that the years of higher returns over cash would more than make up the difference. You might be selling a few percent a year. Easily made up over time.



-ERD50

2008 only treasuries went unscathed, my cash is in short term bonds, which is part of my fixed, so it's not like I have 60/20/20 with 20% under my mattress



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[unclemick]

Hmmm - whether cash, div.'s, or interest - early in ER being nervous and gerky I wanted the money coming in to cover expenses to be'steady' - Hence some RE rental/for sale by owner, cash, bonds, div.s. Note that the return in the 90's was higher on these items. Also hard core frugal/cheap expense wise until time in the market and early pension at 55 and SS were taken to provide cover 'if the stock market totally tanked.'

Did I get smarter as time/education went on? Or was I the kid who took twenty years to get thru high school.

heh heh heh - Anyway since age 62, I'm happy with a single big dog at Vanguard.

 

[Gazingus]

Okay, I'm following most of this, so help me. I've never owned a bond, always 100% equities. I'm two years from ER, so recently pulled 15% into cash. I figure I can use this two ways: take advantage of a big bear while working or use to limit withdrawals during bear after FIRE.

When I read the preference of others for short-term vehicles other than cash, I agree, but I'm afraid to buy bonds when interest rates are this low.

Am I missing something about the bonds that makes it a safe play at this time?

 

[ERD50]

Okay, I'm following most of this, so help me. I've never owned a bond, always 100% equities. I'm two years from ER, so recently pulled 15% into cash. I figure I can use this two ways: take advantage of a big bear while working or use to limit withdrawals during bear after FIRE.

When I read the preference of others for short-term vehicles other than cash, I agree, but I'm afraid to buy bonds when interest rates are this low.

Am I missing something about the bonds that makes it a safe play at this time?

I don't think you are missing anything. But cash is paying near zero, and you can get short term bond funds with little interest rate risk that pay ~ .7%. Worth the risk, IMO - you have to decide for yourself.

Here's one, duration ~ 2.5 years:

https://fundresearch.fidelity.com/mutual-funds/summary/315911859

-ERD50

 

[audreyh1]

I don't think you are missing anything. But cash is paying near zero, and you can get short term bond funds with little interest rate risk that pay ~ .7%. Worth the risk, IMO - you have to decide for yourself.

Here's one, duration ~ 2.5 years:

https://fundresearch.fidelity.com/mutual-funds/summary/315911859

-ERD50

Consider that cash is paying at least 0.85%, and I don't see the point in risking such money in short-term bond finds that IMO have higher relative interest rate risk than intermediate bond funds over the next few years. The rate curve is most likely to flatten when Fed rates start to rise, hurting shorter-term the most, and intermediate rates might hardly budge.

 

[unclemick]

I don't want to be the guy to frame the argument on this thread. All I'm saying for my particular ER - whether a bucket of cash, dividends rental/RE income, pension, Social Security, bond interest, etc., I wanted a 'safe' cover for for my 'core' expenses so I wouldn't have take so much out of my 'main portfolio' during a downturn as to disable my long term retirement.

There is a lot of wiggle room per individual here. Previous threads on this forum and others have converted income streams into faux bond lump sums and done single portfolio safe withdrawal calculations.

heh heh heh - I've done both calculations over the years but emotionally and physically I did the first - show me the money to cover current expenses and let my long term portfolio build for the future.

 

[Gazingus]

Is this what you mean by "next to zero"?

A dividend of 0.000009 per share, declared on 11/28/2014, is pending on this position

Thanks for helping a lazy investor today. I just transferred my dry powder to FSBAX. Every little bit helps.