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Old 04-17-2009, 10:28 AM   #21
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One thing I had done during the 2000s - after the market recovery in 2003 - was let my equity allocation drift higher. Not much, just very gradually 55% to 58%. The main motivation for this was tax efficiency. After 2004 our portfolio seemed to start throwing out a LOT more in distributions and the tax bite was higher percentage wise. I didn't like that! Another thing subtly encouraging this AA creep was knowing that a 60% equity portfolio had a slightly better portfolio survival than 55%.

Well, we sure got punished for letting our AA drift up slightly! I would have been rebalancing slightly more aggressively during the run-up otherwise. I'm sure it didn't really make that much difference. But, do I regret letting the equity AA drift higher (even though so tiny) - yes!

In fact, now that I am 10 years into retirement I am thinking that before long I should be adopting a different type of AA creep. At some point as we get older I think it makes sense to reduce equity exposure by 1% a year because the portfolio survival time period is shrinking, and gradually reducing short term volatility makes sense as long-term inflation concerns become less of an issue.

Tax consequences be damned! Well - they won't be an issue for a few years now - funds have large capital gains losses that can be offset against future capital gains; interest rates are low so interest income/dividends are much reduced.

Just some more thoughts on adapting/tweaking investment philosophies.

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Old 04-17-2009, 10:48 AM   #22
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My net worth reached an all time high this week (thanks to strong inflows of new money in the past 6 months and the nice market run up in the past month). XIRR says I'm still down about 25% from the 10/2007 top though. In the meantime AA has shifted from 65/35 to just below 60/40. I intend to keep it there so I consider myself fully rebalanced at this point. I am still buying stocks and bonds. I think that we are probably going to retest the lows at some point, but I'm too chicken to do anything about it, so I'll ride it and maybe rebalance if the DOW dips below 7,000 again.
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Old 04-17-2009, 11:06 AM   #23
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...I have small positions (both formerly at least 2X) in REIT (VGSIX) and Comm/Energy (VGENX) in tax sheltered accounts that I wonder about in terms of relative upside right about now. I believe VGENX does have a lot of upside, but it's hard to imagine any REIT coming back strong any time soon. I also have all my bond exposure (34%) in an intermediate bond fund, and keep asking myself if I should have part of it in a TIPS fund. Comments are welcome. Good thread.

FWIW...
I have been very aggressive with my VGSIX position. I loaded up on VGSIX when it dipped below $8/share and the 38% run up from the bottom has helped cut my losses in half. The dividend has held up surprising well too. I think that, looking forward, REITs will go back to be primarily an income play rather than a growth play. That's fine by me... As for bonds, I am slowly increasing my exposure to TIPS and I-bonds and lowering my bond funds' average duration as I believe that inflation is a bigger risk than deflation in the next 5 years.
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Old 04-17-2009, 12:16 PM   #24
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FWIW...
I have been very aggressive with my VGSIX position. I loaded up on VGSIX when it dipped below $8/share and the 38% run up from the bottom has helped cut my losses in half.
I also did this, as well as having increased my positions in Small Cap Value and Emerging Markets. All three have done well during the past month.

I expect to hold VGSIX (in tax-advantaged) for a while, if only for the dividends. I'm not hopeful for a continued rush higher in NAV, however, especially given recent rumblings in the commercial real-estate sector (e.g., General Growth's bankruptcy), and I wouldn't be too surprised if it collapsed again.

Psychologically, it would feel nice to cash in some of the profits off of the recent lows. But of course I've got a raft of underwater equities to think about, too.

Plenty has been written about buying, and relatively little about strategies for selling (perhaps this is the selfish bias of Wall Street in action). One thought is to follow Audrey's example and value average down by reducing my exposure by say 2% per year (larger than her 1% since I'm starting from a higher equity allocation).
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Old 04-17-2009, 01:28 PM   #25
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On "cashing in profits": I rebalanced to my target AA (55% equities) on Jan 15 of this year when the S&P was 840 or so.

As of yesterday, the portfolio was already at 56.5% equities. If the S&P makes it back to 1000 anytime soon, this should be enough to trigger my out-of-balance even with my new wider "tolerance band".

Kind of hard to guesstimate because it also depends on what my bond funds do at the same time. If they rally as well (they contain plenty of corporate bonds), then it might take longer to rebalance.

Well, we'll just wait and see. No action taken unless the portfolio gets sufficiently out of balance.

Audrey
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Old 04-17-2009, 01:37 PM   #26
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Audrey , I am always impressed with your knowledge of managing your portfolio especially the tax consequences . Were you a CPA before you retired ? If not how did you get accumulate your knowledge ?
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Old 04-17-2009, 02:13 PM   #27
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Audrey , I am always impressed with your knowledge of managing your portfolio especially the tax consequences . Were you a CPA before you retired ? If not how did you get accumulate your knowledge ?
Nope! Engineer (computer hardware and software). My husband became somewhat of a tax expert when he started his own consulting business (also an engineer). He was willing to crack the books and figure out Turbotax in detail. He still does the annual taxes, but since I manage all our investments I took over the estimated taxes when I retired. That required me to learn what I needed to know. The IRS publications pretty much spell things out so it's more a matter of reading them than anything. Reading and doing!

In terms of tax consequences of the portfolio - that's simple. 95% of our investments are in taxable accounts. Every year since retirement I have tracked the % of the portfolio that was paid in taxes that year since it comes out of our withdrawal. This has allowed me to observe and learn from the various trends. Morningstar also rates the tax efficiency for mutual funds and that can provide some insight. That helps somewhat.

Unfortunately it's the riskier (most volatile) investments (equities with no dividends - growth stocks and small caps) that are the most tax efficient.

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Old 04-17-2009, 02:35 PM   #28
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...I have small positions (both formerly at least 2X) in REIT (VGSIX) and Comm/Energy (VGENX) in tax sheltered accounts that I wonder about in terms of relative upside right about now. I believe VGENX does have a lot of upside, but it's hard to imagine any REIT coming back strong any time soon.
I also have small stakes in both, tucked away in a Roth IRA.
I knew they were going to be "bucking broncos", but never anticipated this bad a result. Live and learn.
I can't contribute any more to the Roth until a) I have earned income...no way , or b) get married...not until 2013.
So I am just letting them simmer.
I do like the dividends VGSIX is pumping out , only as a small consolation to 2008's damage. Ouch!
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Old 04-17-2009, 02:44 PM   #29
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Originally Posted by audreyh1 View Post
Nope! Engineer (computer hardware and software). My husband became somewhat of a tax expert when he started his own consulting business (also an engineer). He was willing to crack the books and figure out Turbotax in detail. He still does the annual taxes, but since I manage all our investments I took over the estimated taxes when I retired. That required me to learn what I needed to know. The IRS publications pretty much spell things out so it's more a matter of reading them than anything. Reading and doing!

In terms of tax consequences of the portfolio - that's simple. 95% of our investments are in taxable accounts. Every year since retirement I have tracked the % of the portfolio that was paid in taxes that year since it comes out of our withdrawal. This has allowed me to observe and learn from the various trends. Morningstar also rates the tax efficiency for mutual funds and that can provide some insight. That helps somewhat.

Unfortunately it's the riskier (most volatile) investments (equities with no dividends - growth stocks and small caps) that are the most tax efficient.

Audrey

Thanks Audrey ! This is one subject I really need to learn more about so I will hit the books .
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Old 04-17-2009, 02:52 PM   #30
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Thanks Haha. This is a wonderful thread, one of the best I've read here in awhile (IMO of course). I'm primarily a lurker, but I'm delurking in this case, since this touches on many points I've been thinking about. And it looks like I'm not the only one...

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Market timing doesn't work for those who do not have inside information. This is not new information on this board, or I would provide links.

Decide on your asset allocation, diversify, and hang on for the ride.

(If you have money to invest, dollar cost average, dollar value average, or don't. I like to DCA because it is easy and because that way I don't kick myself quite so much.)
I wonder about this. What if you chose to change your allocation based on the valuation of an individual fund, using PE? For example, let's say you want to have 25% Total Market at PE 15. For each change in PE, change by a specified %, let's say 1%. So at PE 10, you'd be at 30% and at PE 20 you'd be at 20%.

The question I haven't answered: is this better or worse than just riding it out with a fixed allocation? But even if it was a wash in dollars, I think you'd almost certainly have less downside risk since you're decreasing your total exposure.

Again, this is a just a thought at this point. I haven't had the time to fully investigate this idea. But maybe somebody on the board is already aware of the outcome.

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Plenty has been written about buying, and relatively little about strategies for selling (perhaps this is the selfish bias of Wall Street in action). One thought is to follow Audrey's example and value average down by reducing my exposure by say 2% per year (larger than her 1% since I'm starting from a higher equity allocation).
When the downturn occurred, I started putting more thought in how to achieve a more conservative allocation. I always planned on a 60/40 allocation at retirement, but never had a concrete plan on how to get there.

I've been holding at 90/10 throughout the downturn, even though the feeling of buying funds that are going down is difficult. On another thread, I read it makes you feel downright dumb. I believe that's an accurate description.

What I came up with is to decrease my equity holdings every year by 2%. This results in having a 60/40 allocation at 50 and 40/60 at 60. A bit more conservative than I originally planned for, but at that point, I really don't need the extra risk.

Over the last week, I've dollar value averaged to 88/12.

I'm still intrigued by the idea of changing allocation based on valuation, but until I come up with a concrete plan on how it would work, I'm sticking with my original plan...
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Old 04-17-2009, 03:03 PM   #31
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Thanks Audrey ! This is one subject I really need to learn more about so I will hit the books .
Pretty much Instructions for Form 1040ES and Publication 505 covers what you need to know about estimated taxes. All available as downloads from irs.gov

Audrey
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Old 04-17-2009, 03:08 PM   #32
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Nope! Engineer (computer hardware and software). My husband became somewhat of a tax expert when he started his own consulting business (also an engineer).
Nice to know at least some software engineers got an early-out. I thought mine was coming until last year....
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Old 04-17-2009, 03:19 PM   #33
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Well a few of us engineer types got real lucky in the late 1990s even though we had some severe market events in 1997 and 1998!

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Old 04-17-2009, 03:32 PM   #34
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I wonder about this. What if you chose to change your allocation based on the valuation of an individual fund, using PE? For example, let's say you want to have 25% Total Market at PE 15. For each change in PE, change by a specified %, let's say 1%. So at PE 10, you'd be at 30% and at PE 20 you'd be at 20%.
I would think this is what you accomplish when you rebalance.
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Old 04-17-2009, 03:49 PM   #35
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I would think this is what you accomplish when you rebalance.
It's actually a little bit more aggressive than a standard rebalance.

For example, let's say you 50% in TSM and 50% in FI. TSM has PE15. TSM/FI goes to 55/45 and the TSM PE increases to 20. With standard rebalancing, you'd go to 50/50, but now your TSM has PE20.

With what I'm thinking, you'd take one more step. If you decided on a +/- 1% allocation change per equivalent change in PE, you would have changed your allocation from 50/50 to 45/55, taking into account a +5 change in PE.

As I said, this is an idea that I've recently been thinking about. I have no idea if it's practical, makes no sense, etc. But I know I'd appreciate some method I can use to take valuations into account.
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Old 04-17-2009, 05:51 PM   #36
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...As I said, this is an idea that I've recently been thinking about. I have no idea if it's practical, makes no sense, etc. But I know I'd appreciate some method I can use to take valuations into account.
If I understand correctly what it is you are trying to do...are you trying to figure out how to rebalance your portfolio to a certain AA based on its current price per share or NAV?
If I am misunderstanding, then disregard what follows.

Warning...techno-babble alert!

I essentially use a simple raw numerical reduction method by varying one or more concurrent variables (investments) to reach a desired end state (target AA). The deltas are the number of shares and/or addition (buy) or reduction/removal (sell) of a given investment.
My algorithm is exercised using an online portfolio modeler tool. I use M* to cover stocks, bonds, cash, and mutual funds.
I enter all ticker symbols & number of shares actually owned, run the XRay tool analyzer on it to get the current AA as well as other measures of interest to me.
Next step is to make a copy of that portfolio (store the baseline) and play around with the share numbers and holdings in the copy.
I use a share number = 1 if I am modelling a complete sell off but don't want to keep typing in the ticker symbol over and over...
Rerunning the AA analyzer on the copy tells me which holdings to buy or sell to achieve the new and improved AA as well as a measure of the diversification across sectors. The M* Stock Intersection tool is invaluable here.
Having the original stored gives me a look-back for comparisons or return point for individual holdings.

I do this at Morningstar all the time to model planned changes. Then I track it for a while before I actually make a move to exchange/sell/buy.

It is not an exact science, since the datum (price per share or NAV) are constantly moving with daily market fluctuations, but it is my best approximation.
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Old 04-17-2009, 08:48 PM   #37
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It's actually a little bit more aggressive than a standard rebalance.

For example, let's say you 50% in TSM and 50% in FI. TSM has PE15. TSM/FI goes to 55/45 and the TSM PE increases to 20. With standard rebalancing, you'd go to 50/50, but now your TSM has PE20.

With what I'm thinking, you'd take one more step. If you decided on a +/- 1% allocation change per equivalent change in PE, you would have changed your allocation from 50/50 to 45/55, taking into account a +5 change in PE.

As I said, this is an idea that I've recently been thinking about. I have no idea if it's practical, makes no sense, etc. But I know I'd appreciate some method I can use to take valuations into account.
What makes you think PE has any predictive power and/or should be used as an asset allocation tool? Why not dividend yield equivalent or Tobin's q?

How do you define PE? Using past earnings, future earnings, etc.?

-CC
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Old 04-18-2009, 10:12 AM   #38
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What makes you think PE has any predictive power and/or should be used as an asset allocation tool? Why not dividend yield equivalent or Tobin's q?

How do you define PE? Using past earnings, future earnings, etc.?

-CC
I don't know if it has predictive power and I don't know if it should be used as a tool to determine AA. But I am thinking about how I might be able to use this in my AA.

Now that I had a little bit more time, I searched on dividend yield equivalent, Tobin's q and read a little about Shiller's PE10.

Not surprisingly, others have also thought about this idea.

I'd say what I'm proposing probably aligns closest to Shiller's PE10 in terms of determing valuations.

In searching, I've found articles such as this:

Is P/E ratio a useful stock valuation measure? « The Investment Scientist

Quote:
To answer this question, I examined the whole stock market data for the past 50 years from 1958 to 2007. For each year, I separated stocks into three portfolios: the top 30% P/E portfolio, the middle 40% P/E portfolio and the bottom 30% P/E portfolio. (Stocks with negative earnings are all in the top 30% P/E portfolio.)
If I had invested $1 in each of the three portfolios at the beginning of 1958, by the end of 2007, the top 30% P/E portfolio would have grown to $91; the middle 40% P/E portfolio would have grown to $322 and the bottom 30% P/E portfolio would have grown to $1698!
That leads me to believe there are merits to integrating some type of valuation within an AA.

Keep in mind, although the quoted text above shows a $ gain investing in lower PE assets, that's not my goal. My goal is reduce risk (volatility) by investing in assets with lower valuations and selling assets with high valuations.

At some point (hopefully soon) I'll model this method and see if it makes any sense within my AA...
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Old 04-19-2009, 10:03 AM   #39
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If the S&P makes it back to 1000 anytime soon, this should be enough to trigger my out-of-balance even with my new wider "tolerance band".
Audrey,

I'm curious about your strategy for rebalancing in taxable at that point. I'd assume that you would have some shares underwater, some about even, and some up, plus potentially some substantial paper losses due to tax-loss-harvesting. So what would you sell, in what order, and with what rationale?

(Others should feel free to chip in too.)

Thank you.
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Old 04-19-2009, 11:11 AM   #40
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I can't speak for Audrey but in my own case I have TSM in both a taxable account and in tax deferred so I am able to rebalance without creating a taxable event.

DD
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