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time to increase allocation to illiquid assets?
Old 09-21-2008, 12:27 PM   #1
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time to increase allocation to illiquid assets?

OK I realize I may get crucified for not being a diehard buy & hold type here, but last week's events on Wall Street on top of a couple of years of mad swings have made me wonder if a higher allocation to illiquid investments (e.g. commercial/rental properties, oil & gas line partnerships, etc.) might not be prudent.

I'm already about as broadly diversified as I can imagine being - a la Bob Clyatt's excellent Rational Portfolio. I find the 500 point swings and domino-like (or is that lemming-like?) correlation of supposedly un-correlated markets and asset classes gut wrenching but what really worries me is the obvious collusion of gov't. regulators with the investment bankers and others, and the totally reactive, un-strategic fixes coming from our ostensible leaders. Everything I hear lately intended to reassure me makes me want to put my money under a mattress. Anyone else?

Kevin
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Old 09-21-2008, 12:34 PM   #2
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Originally Posted by kevink View Post
OK I realize I may get crucified for not being a diehard buy & hold type here, but last week's events on Wall Street on top of a couple of years of mad swings have made me wonder if a higher allocation to illiquid investments (e.g. commercial/rental properties, oil & gas line partnerships, etc.) might not be prudent.

I'm already about as broadly diversified as I can imagine being - a la Bob Clyatt's excellent Rational Portfolio. I find the 500 point swings and domino-like (or is that lemming-like?) correlation of supposedly un-correlated markets and asset classes gut wrenching but what really worries me is the obvious collusion of gov't. regulators with the investment bankers and others, and the totally reactive, un-strategic fixes coming from our ostensible leaders. Everything I hear lately intended to reassure me makes me want to put my money under a mattress. Anyone else?

Kevin
I don't see how chossing illiquidity would help.

Could you explain your idea on this?

Ha
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Old 09-21-2008, 12:37 PM   #3
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Sounds like you need a much more conservative asset allocation. But, naturally it is best to wait until the market has recovered to do something about it.

Once you have an asset allocation you can live with, create a diversified financial plan which can include the types of investment you mention, but shouldn't exclude other types either. Follow your plan and stay the course.

Putting cash under your mattress makes no sense. It could be lost in a fire, stolen, or inflation could rob you of much of it.
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Old 09-21-2008, 02:53 PM   #4
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I've been thinking this weekend about what adjustments (if any) I should make due to the government bailout. The first step is to think about what effects it will have--

1. We are likely to see higher inflation as the government fires up the printing presses to pay for all of this. There is a small possibility that taxes will go up to pay for it instead, but since that would be politically hard, I think inflation is much more likely.

2. Badly run financial companies are likely to be worth a lot more, at least in the short term, since the government will be taking bad loans off their books, and shorting them is no longer allowed.

So I think a good strategy is as follows--

1. Avoid any long term bonds, since inflation will make real returns negative.

2. Buy up some of the larger bad banks/financials. Maybe Citigroup, WaMu, Wacovia, etc. Maybe E-trade. Actually, maybe AIG, since they may weasel out of the deal with the government, since they probably won't need it anymore, since they can just dump their problems on the taxpayer. These went up an awful lot on Friday, since other people think quicker than me, but I think they will go up a lot more.

3. Buy companies that can raise prices with inflation. Coke, Pepsi, General Mills, Kraft, Kellog, etc. Maybe Microsoft.

4. Buy real estate. It's time to buy some distressed real estate with borrowed money, if you can get it at decent rates. With the printing presses running full bore, I think having something tangible sounds a lot better than dollars.
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Old 09-21-2008, 03:11 PM   #5
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Thanks for the thoughts.

Ha- to your question:

Clyatt's Rational Investing Portfolio calls for 4% Commodities, 5% Real Estate and 5% Private Equity. The commodities could be a fund like PCRIX or actualy holdings of gold; Real Estate would preferably be private investment in rental property but could be REITS (in which case you get stock market volatility); private equity's illiquid by definition. So, potentially, 14% of one's total could be in illiquid vehicles, provided (a major stumbling block for many, including myself) you have the size of nest egg and expertise to invest directly in these areas and have it be meaningful.

The reason to do it is to reduce overall volatility, as, for example, returns on rental properties or pipeline partnerships tend to be quite stable over time. I think the issue for some of us ER's is if you're looking for as stable an ~8-9% average return as possible with the intention of living on 4% of it might not moving a significant part of your portfolio in this direction be more likely to yield those returns than investing in the stock and bond markets? Surely there must be folks -even on this board - who have most of their net worth tied up in rental properties or a business rather than the markets. Meanwhile we have unprecedented "opacity" in the stock and bond markets due to these massive, complex leverage schemes no one seems to be able to get to the bottom of.

Want 2, to your point - I didn't mean the mattress thing, literally (maybe a big cash position though, w. a good chunk of it in Indian ruppees and Chinese yuan(
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Old 09-21-2008, 04:01 PM   #6
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Originally Posted by kevink View Post
OK I realize I may get crucified for not being a diehard buy & hold type here, but last week's events on Wall Street on top of a couple of years of mad swings have made me wonder if a higher allocation to illiquid investments (e.g. commercial/rental properties, oil & gas line partnerships, etc.) might not be prudent.

I'm already about as broadly diversified as I can imagine being - a la Bob Clyatt's excellent Rational Portfolio. I find the 500 point swings and domino-like (or is that lemming-like?) correlation of supposedly un-correlated markets and asset classes gut wrenching but what really worries me is the obvious collusion of gov't. regulators with the investment bankers and others, and the totally reactive, un-strategic fixes coming from our ostensible leaders. Everything I hear lately intended to reassure me makes me want to put my money under a mattress. Anyone else?

Kevin

I have a rational portfolio similar to the one proposed by Clyatt's in his book Live More Work Less. My rational portfolio's volatility has been very reasonable in the past week even in the face of extreme market gyrations. Consider this: on Monday my portfolio was down 2.2% on a day when the S&P was down 4.7%. On Wednesday it was down only 1.2% when the S&P was again down 4.7% (thanks to the abrupt rise in Gold and Silver prices).

I think it would be a mistake to start tweaking it now one way or the other. The purpose of a highly diversified portfolio like the one proposed by Clyatt is to weather all kinds of markets. If you start to make changes based on market conditions, then you become a market timer and that's fine with me too. But by doing so you are defeating the purpose of the rational portfolio.
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Old 09-21-2008, 04:05 PM   #7
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We don't have "most of our net worth" tied up in rental real estate but we sure have a sizable chunk of our cash flow coming from the tenants. Hawaii land is expensive (compared to places like the Heartland) so we have about a 4-5% cash-on-cash return. However the occasional downside of landlording can wipe out months of upside.

You could always join an angel-investor group or a stock-picker's club. Your investments (or your share of the group's investments) will be fairly illiquid.

Better yet, ideally your exposure to the process and the analysis will make you a much more experienced investor and much less prone to wrenched guts...
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