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Old 04-16-2016, 08:06 AM   #41
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Ok and point taken. But how about that old enemy: inflation? If you adjust your risk to only your WR needs, inflation will eventually eat you up. No?
The returns used in that calculation are real returns (i.e. after inflation). The fixed income return I used of 0.56%, for example, was the yield on Vanguard's Total Bond Market Fund of 2.11% less the 10-yr TIPS breakeven spread (i.e. market inflation expectation) of 1.55%.
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Old 04-16-2016, 08:14 AM   #42
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The returns used in that calculation are real returns (i.e. after inflation). The fixed income return I used of 0.56%, for example, was the yield on Vanguard's Total Bond Market Fund of 2.11% less the 10-yr TIPS breakeven spread (i.e. market inflation expectation) of 1.55%.
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Old 04-16-2016, 08:27 AM   #43
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Here's one more thought:

A retiree plans to draw 4% for the rest of their life. If equities return 10% annually the retiree is sitting pretty. She doesn't need to beat the market or even keep pace with the market to have a successful retirement plan.

However, if the same retiree faces a much worse equity market, say -3% annually, her plan is heading toward ruin if all she does is earn market returns.

Now it's not possible to know which future we face. But it looks like catching 100% of the potential upside in retirement isn't nearly as important as avoiding the worst of the potential downside.

With that in mind, does it not make sense for retirees to reduce equity allocations after a period of strong returns? And is simply aiming to earn the market return really the right goal?
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Old 04-16-2016, 09:25 AM   #44
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I'm not sure that it is clear at all that that would be 'smart'.

Holding that cash is a drag on performance. Since markets generally go up over the longer term, and a retiree is also getting much (most?) of their income from dividends, and probably some from pension/SS, the amount of equities that they need to sell each year is small.

So holding cash to avoid the occasional small amount of selling in a down market could do more harm than good.

-ERD50
In a sense, we agree. Until this year, I was pretty much 100% invested in equities, since as you say, the trend is up. Now, with retirement looming,and SS still years away for me, I've gone 3 years basic expenses in cash. That's about 10-15% of my money, so I'm still way more weighted in equities then the "experts" recommend. But I'm not worried, because I have 3 years to recover from a down market, should it happen before I have to sell any holdings. To me, that's smart.
Pensions are mostly a thing of the past. Most people going forward are going to have to save what they have for retirement. SS? Who knows what's going to happen there, but I'm willing to bet eventually the full retirement age is going to 70. You're going to need quite the nest egg to receive enough dividends to pay your expenses, and most people don't have that. We've all seen the numbers, most people aren't/can't save for retirement. They will be tapping whatever they have for income.
Now, people on this board are obviously a different breed and probably don't have the problems I've outlined, but we're far from the majority.
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Old 04-16-2016, 09:29 AM   #45
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With that in mind, does it not make sense for retirees to reduce equity allocations after a period of strong returns? And is simply aiming to earn the market return really the right goal?
It make some sense, but how do you decide when to pull back, and how much? Unless there is some mechanical strategy that enforces a defined discipline, this becomes subject to human emotions which often torpedo investment returns through the twin portfolio-killers, greed and fear.

When someone does a rebalancing, they are doing this to a small degree, but in most rebalancings you are just restoring to a baseline target AA by selling some of the best performers in order to buy some weaker asset classes, relying on long-term reversion to the mean to goose return a little bit. But how can one adopt (let alone back test) a strategy that has some defined change to asset allocation based on how the market has been doing or based on your assets becoming unbalanced in a certain way?
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Old 04-16-2016, 09:53 AM   #46
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It make some sense, but how do you decide when to pull back, and how much?
Previously I posted my approach to thinking about this. And basically it comes down to allocating for an expected rate of return on your portfolio, which you'd want to be greater than your WR. So based on current market conditions, I came up with the following . . .


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Withdrawal Rate Stock Allocation Bond Allocation
4% 63% 37%
3% 45% 55%
2% 26% 74%
1% 8% 92%

If I started with a 4% WR and market conditions drive that number down to 3%, I now expect I can hit my target return with a minimum allocation to equities of 45% instead of a minimum of 63%.
It's not scientific. It has an element of subjectivity to it (as will any AA decision). But it has the overwhelming virtue (IMHO) of at least attempting to target the thing I care most about: earning my WR.

In an extreme example, say I have a 3% WR and 30-yr TIPS yield 3%. Do I really still need a 60% equity allocation? I may have reasons to hold that much in equities, but I can more safely secure my 30-year retirement with a much smaller equity allocation given those market conditions.

Perhaps, in that case, I'd want to swing for the fences and hold a lot of equities in the hopes of leaving a larger inheritance. But I could just as easily say I'd rather lock in my WR and accept minimal equity risk to my retirement.

Both are reasonable answers to the same question. But they are questions I'd prefer to actively answer based on current market conditions rather than leaving them on a default setting regardless of what the market is giving me.
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Old 04-16-2016, 10:19 AM   #47
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People lose more money trying to avoid stock market corrections than they do just going through the correction. Some auto rebalancing goes a long way towards selling high/buying low in a properly diversified portfolio.
Actually, studies show that the upside of auto-rebalancing my be more than offset by the downside. The downside is selling off equities each year during a multi-year bull market.

As you sell off, you have less invested to take advantage of the remaining bull cycle. It might 'feel good', but it does not 'go a long way' towards improving your performance, and may hurt it.

Be careful with those broad brushes, someone may get hurt!

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Old 04-16-2016, 10:27 AM   #48
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Actually, studies show that the upside of auto-rebalancing my be more than offset by the downside. The downside is selling off equities each year during a multi-year bull market.
That said it still is a risk reduction tool in that it takes a little money off the table when prices are starting to get high. And as has been said before, maximizing returns isn't the only goal of retirement investing; reducing or minimizing chances of disaster and falling short of your retirement needs is also a consideration.

Sure, you are selling some during a multi-year bull market, but you have also sold some before the eventual correction/bear market/market crash. Whether it's the optimal way to increase returns is debatable, but if you don't perform that rebalance once in a while, your portfolio will, in the long term, become more and more imbalanced with more and more equities at a time when you are probably prudent to ratchet it back a little bit. So if you eventually *do* need to take some equity exposure off the table because of a growing imbalance -- say a 60/40 AA became 80/20 over a decade or two of mostly bull markets -- when do you scale back, how much do you scale back, and what triggers it? That is, to me, one of the main benefits of fixed, *mechanical* rebalancing -- it eliminates the human emotions and constant second guessing yourself about whether you should "sell some now", or wait and hope the bulls keep running.
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Old 04-16-2016, 11:19 AM   #49
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That said it still is a risk reduction tool in that it takes a little money off the table when prices are starting to get high. And as has been said before, maximizing returns isn't the only goal of retirement investing; reducing or minimizing chances of disaster and falling short of your retirement needs is also a consideration.
That's my view.

It's true that when you have a history of consistently rising equity prices holding more equities will result in better returns than holding fewer.

But history is just a guide. And the map isn't the terrain, as they say.

As a retiree it won't terribly bother me if stocks keep going up and up and up. And that's true regardless of how I invested. But in the case where stocks go into a long winter my investment decisions today will have quite a significant impact on how well my retirement plan fares.

There's no law of nature that requires equities to earn a positive rate of return, even over long periods (see Japan). I don't have to expect that to happen in the U.S. to recognize that it could. So I'll store some nuts while the weather is nice in the off chance that when winter comes it lasts longer than we imagined it could.
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Old 04-16-2016, 11:32 AM   #50
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That said it still is a risk reduction tool in that it takes a little money off the table when prices are starting to get high. And as has been said before, maximizing returns isn't the only goal of retirement investing; reducing or minimizing chances of disaster and falling short of your retirement needs is also a consideration. ...
And that's fine. I'm certainly not arguing against re-balancing, I just think people should realize that there is a potential downside - it's not a panacea. If after reviewing the pros/cons, they decide on a rebalancing approach, I don't see anything wrong with that at all (not that my opinion counts for anything anyway).

But let's also take the case where an initial 70/30 AA choice rose to 90/10 over the years. Sure, the investor will take a deeper decline in a correction, but... if that deeper decline is from a peak they would not have experienced had they remained 70/30, is that a bad thing?

That's the point that almost always gets missed in these AA discussions. The lower AA fans point out the big drops, but often ignore that the drop is from a point that would not have been realized at the lower AA. If you are still higher after that drop, you are better off, no?

Now, if you just can't stomach that volatility (loss aversion being stronger than the benefit of gains in many people), and it might lead you to sleepless nights, or a knee-jerk sell off at the wrong time, then a lower AA is probably appropriate. But it might come at other costs, and these should be taken into account.

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Old 04-16-2016, 11:55 AM   #51
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That's the point that almost always gets missed in these AA discussions. The lower AA fans point out the big drops, but often ignore that the drop is from a point that would not have been realized at the lower AA. If you are still higher after that drop, you are better off, no?
That will certainly be true in a case where markets rise, drop, and rise to new highs. That's the history on which everyone's retirement plan is based.

And if history simply repeats, I don't have anything to worry about regardless of whether my stock allocation is 50%, 60, 70, 80, 90, or 100. It's all just a question of how much gravy I get served.

My retirement concern isn't that history will repeat. It's that it won't.
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Old 04-16-2016, 12:28 PM   #52
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That will certainly be true in a case where markets rise, drop, and rise to new highs. That's the history on which everyone's retirement plan is based. ...
It could also be true if the market rises, drops, and just stays there, with no real recovery.

The drop from the high with an aggressive AA might still leave you higher than the smaller drop from a lower high with the less aggressive AA.


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My retirement concern isn't that history will repeat. It's that it won't.
Yep, we could get all sorts of scenarios where one AA will radically out perform another. We can guess, but I think I'll use history as a guide.

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Old 04-16-2016, 12:57 PM   #53
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Yep, we could get all sorts of scenarios where one AA will radically out perform another. We can guess, but I think I'll use history as a guide.

-ERD50
I use history as a guide too. And what it tells me now is that a bunch of things like equity and bond valuations & corporate earning's share of national income are all off the map. Here be Dragons.

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Anyone Taking Money Off the Table?
Old 04-16-2016, 01:09 PM   #54
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Anyone Taking Money Off the Table?

Getting back to the OP's question: it looks as if this guy is taking money off the table.

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Old 04-16-2016, 02:04 PM   #55
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I'm close to taking some profits. Maybe $10-20k, which is 3-6 months worth of expenses roughly.

I'm trying to maintain 1-2 years as a cash buffer and have around a year right now (maybe 1.5-1.75 years including the brokerage account dividends I'll be receiving over the next 1.5-1.75 years).

I'm virtually 100% invested in equities other than my small cash buffer, so I will still have plenty of "skin in the game" even if I sell off a couple $10k of stocks.
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Old 04-16-2016, 02:12 PM   #56
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I think that equities are still looking good here. My reasoning with the most important first:

1) The yield curve is steep i.e. the Fed is in accommodative mode.
2) PE10's are at reasonable levels. I use an accounting adjusted number and compare that to the last 30 years. The rank is right now is at 60% and 90% would have me worried a bit.
3) Unemployment is heading down.
4) Equity returns over the last 12 months have been mildly positive (SP500 up about 0.8%). Certainly not signaling wild abandon.
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Old 04-16-2016, 03:02 PM   #57
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I took a rough cut at calculating 10-year real returns for the S&P 500 by starting CAPE value (a.k.a. Shiller's PE-10, unadjusted). Here's the results sorted by CAPE quintile (where the highest 20% of staring PE values are grouped in the 5th quintile and the lowest 20% are in the 1st quintile).

CAPE Quintile 10-yr Average Real Return
1st 11.60%
2nd 7.46%
3rd 6.27%
4th 5.02%
5th 1.79%

The current CAPE of 26.2x is at the 93.7 percentile, which puts it at the very top end of that 5th quintile and at the very bottom of the chart above.

So if past is prolog, we'll be lucky to get 2% real from stocks over the next 10 years. Of course we can expect to do only a quarter as well in bonds.
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Old 04-16-2016, 03:16 PM   #58
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...
The current CAPE of 26.2x is at the 93.7 percentile, which puts it at the very top end of that 5th quintile.
...
I think one has to adjust the current CAPE for accounting changes that have occurred since about 2002. That would make it something like CAPE=22. Here is one reference about this: Morningstar Free Smartpage | News

Even if one is right on roughing out the next 10 years estimate with CAPE, it doesn't say anything about the next 12 month market direction. So I personally assign valuations (except in the extremes like the late 1990's) to be not very helpful in judging near term market dangers.

From my research the yield curve steepness is a better predictor of market dangers for the near term. There was a Fed paper about this some years ago.
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Old 04-16-2016, 03:40 PM   #59
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Getting back to the OP's question: it looks as if this guy is taking money off the table.



OK, everybody, I did it. I moved some money from Vanguard Prime Money Market, to the savings account that I have at my bricks and mortar bank. Surely that counts as taking money off the table.
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Old 04-16-2016, 03:45 PM   #60
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A shockingly bold move W2R.
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