Recognizing an historic crash vs. correction or bear market.

[FIREd]

As I have said before, I float my AA between 30/70 and 70/30 based on market valuation in general. With this strategy, underperformance during periods of P/E expansions is to be expected. However, the inevitable reversion to the mean is also less painful. This strategy also had me doubling down on equities in 2009 when valuations reached generational lows. Honestly, I can't say whether this strategy creates value over the long term because the floating AA makes it difficult to benchmark. But I am happy with the results so far.

[ERD50]

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Originally Posted by clifp Just eyeballing the PE ratio with bias toward post WWII data (and higher PE/10) I think a wider range might have some validity. How about P/E 10 or below stocks 80% P/E 40+ stocks 20% and 2% per point . So in 2013 you have entered the year with 56% stocks in Jan 2014 you go down to 49% stock (which would still involve a decent amount of selling) In 1995 you start off with 60% stocks and get down to 20% by 1999 and also 2000,and start buying in 2002, 2003, you don't get out in 2008, but are 70% stock in 2009.

OK, but how would that back-test over historical 30 year periods?

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Originally Posted by FIREd As I have said before, I float my AA between 30/70 and 70/30 based on market valuation in general. ... Honestly, I can't say whether this strategy creates value over the long term because the floating AA makes it difficult to benchmark. But I am happy with the results so far.

The way I would benchmark this would be to determine what AA would have provided the same total return as your variable plan. Then compare volatility.

If a variable AA based on PE10 provided less volatility with the same total return (essentially a beta measurement), then it 'wins'. But then you also need to consider if the reduced volatility was worth any reduction in total return you may have seen.

Quote:

Expect a lot of naysaying. Ha

Is it really nay-saying to want to see some objective measurement of a proposal? I look at it just the opposite - to promote an idea w/o any objective information could be seen as 'cheer-leading'.

I'm skeptical because I always thought in my gut that re-balancing was very important. But the numbers don't bear that out. Sometimes our gut isn't true to us.

-ERD50

[Options]

Quote:

Originally Posted by Texas Proud Heck, I did not see the drop in 87.... I did not see the tech bubble in 2000.. or the drop after 9/11.... and I sure did not see the one in 2008/9.... But, I also did not see all of the run ups that happened after them.... I just kept investing in the ups and the downs and have done pretty well over the years... I don't think I will be changing any time soon....

Best post, IMHO. A book like Devil take the hindmost demonstrates how those who think they are the smartest of the smart have been misjudging bubbles, crashes, and manias to their own peril for more than a few hundred years (question: just how many bankruptcy-induced suicides does it take throughout history to convince people that they cannot outsmart the market?).

Create an ISP, set an AA you can live with in the worst of markets without panicking (single most important PF decision), manage costs and taxes (second most important), stay the course (third most important), tune out the noise and go out and have some fun.

[clifp]

Quote:

Originally Posted by Options Create an ISP, set an AA you can live with in the worst of markets without panicking (single most important PF decision), manage costs and taxes (second most important), stay the course (third most important), tune out the noise and go out and have some fun.

I mostly agree but... I don't think it is quite so cut and dry.

My opinion is you only need to make a few right calls in your lifetime to come out significantly better than just a buy and hold.

The 87 drop if you missed you were back to even in a couple of years. Rode out 9/11 (how could anybody have predicted that) 6 months.

Missed out on the bottom in 2002/2003, You had another opportunity 5 or 6 years later. Missed the 2007 top you were back to even 6 years later. Not great but not the end of the world.

On the other hand if you bought into tech stocks in 99 or early 2000 you still aren't back to even 14 years latter. I suspect the 2008 and 2009 lows won't be tested in my lifetime. You missed a double in less than 5 years.

I think it is also important to not only focus are stocks under or valued on a absolute basis but also on a relative basis.

In 2000, 10 year treasury were at 6.6% Ibonds over 3% and TIPs over 3.5%. You could justify moving from stocks to bonds not only because stocks were expensive, but because bonds provide sufficient income for a good retirements. In 2009, the S&P yield was 3.24% vs 10 year Treasury of 2.5%. Even if you didn't like stocks in many markets real estate prices had dropped 50-75% and and the cash on cash returns for real estate were well over 10%.

One of the big problems in the last few years is that while stocks have gone from fairly valued to over valued, bond have only dropped from bubble levels to over valued, while money markets are returning a negative 1.5% real return. As Ha has said it remains a particularly challenging investment environment.

So I think it makes sense to find a range of AA that you comfortable with and adjust based on my factors including P/E 10. If for some people the band is very narrow (i.e. your rebalancing band that is great.) I personally would never be comfortable having only 20% of my money in the market so for me my AA is between 50/50 and 90/10.

[rbmrtn]

Here's a site that has some modeling/timing tools. One of the models is a PE10 allocation model, it has a backtest simulator to play with

Market Timing Models

[ItDontMeanAThing]

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Originally Posted by Snidely Whiplash Were there any indicators that anyone here recognized just prior to or during the 2008-2009 market crash that led them to believe that it would be as historic as it was?

Maybe. Moved to Vegas in 2005, then heard about the red hot housing market. I'd seen this before as an outsider, watching the Southern Cal. real estate bubble and crash in the 80s. To me, Vegas looked like a bubble. BUT I was clueless about prices elsewhere in the country and, more importantly, the bubble's potential effects on the economy.

Lucky for me, in early 2008 I moved a big chunk of monies from stocks and existing bond funds into high quality bond funds. Didn't do it because of the bubble, did it because I'd read how difficult, financially and emotionally, it is to recover from a big loss early in retirement. As planned, I retired in fall of 08. Did knowing about the bubble influence my AA and timing? Maybe.

First started studying AA after the time I realized the dot com market was a bubble. Made substantial changes to my portfolio by selling growth stocks and buying value stocks about a year before the bubble burst. Did it because I believed in AA. Did knowing about the bubble influence my timing? Maybe.

[ERD50]

Quote:

Originally Posted by rbmrtn Here's a site that has some modeling/timing tools. One of the models is a PE10 allocation model, it has a backtest simulator to play with Market Timing Models

Hey, that looks pretty interesting.

I'll need to dig in some more, but their PE10 timing adjustment does seem to provide some significant return/risk advantage (they use the Sharpe Ratio for comparison, which compares gains to std dev).

They make big jumps in AA - 80, 60, or 20% stocks based on PE10 bands. I think it would be easier to evaluate this with something more linear, but this is a start.

From what I saw there, the rebalancing of a 60/40 portfolio really hurt using the 1950-2013 default settings. Stocks grew from $10K to $9.4M, but a 60/40 rebalance only grew to $3.3M? Heck, stocks alone should have provided $5.6M (60% of their total).

-ERD50

[Running_Man]

My early analysis, which is just using the very simple rule of no more than 75% stocks and no less than 25% stocks, adjusting the stock percentage on 1/1 of each year based on 25% stocks at Schiller PE25 and 75% @ PE10 and adjusting by 3.33 percent for each 1 point move in PE10 ratio , using the Barclays aggregate Bond Index for the bond component are showing some interesting results over the past 34 years. The main advantage I see, especially for anyone in withdrawal mode is the ability to avoid any years with double digit losses. The years with losses are:

2008 -6.59%
1994 -1.35%
1980 -2.20%

The overall average position in stocks from 1980 to present would have been 44%
The overall average position in stocks from Y2K to present is 31%
$100,000 invested on 1/1/1980 would have $3,047,115 on 12/31/2013 -- 10.55% annual return
$100,000 invested on 1/1/1990 would have $ 672,008 on 12/31/2013 -- 8.27% annual return
$100,000 invested on 1/1/2000 would have $ 239,584 on 12/31/2013 -- 6.40% annual return
$100,000 invested on 1/1/2007 would have $ 163,556 on 12/31/2013 -- 7.30% annual return


Returns for the recent years and % stocks are: (would have sold off about one third of the stocks owned on 1/1/14 to get to 25% net stocks)

2013 10.02%__ 35%
2012 8.70% __ 38%
2011 6.01% __ 32%
2010 9.95% __ 40%
2009 17.84%__ 58%
2008 -6.59%__ 28%
2007 6.60%__ 25%
2006 7.20%__ 25%
2005 3.05%__ 25%
2004 5.98%__ 25%
2003 11.33%__ 32%
2002 2.17%__ 25%
2001 3.35%__ 25%
2000 6.45%__ 25%
1999 4.65%__ 25%
1998 13.67%__ 25%
1997 15.57%__25%
1996 8.66% __26%
1995 26.30%__41%
1994 -1.35%__37%
1993 9.89%__ 41%
1992 7.49% __ 42%
1991 24.10% __56%
1990 2.81%__ 51%
1989 24.48%__ 58%
1988 13.30%__ 62%
1987 4.23% __ 59%
1986 17.63% __ 69%
1985 29.33% __ 75%
1984 8.49% __75%
1983 19.87% __ 75%
1982 26.28% __ 75%
1981 -2.22% __75%
1980 26.29% __75%

Where does the value of this simple model come? From avoiding the declines, and having lots of funds to invest at stock market bottoms. Look at 2009 you would be more than doubling your allocation to stocks based on this model. Data for the 1960's and 1970's will be interesting to see how this holds up.

[Running_Man]

What I also find interesting is that if you had a million dollars invested this way for 2013 you would have had 350K in the S&P500 at 1/1/2013 and it would have been 463K by the end of the year and rebalancing would mean taking 188K out of stocks on 1/1/2014 and into bonds. Look at the talk on the boards at the start of this year, that would be an extremely unpopular move, yet at this point it would look extremely timely.

[haha]

Quote:

Originally Posted by Running_Man What I also find interesting is that if you had a million dollars invested this way for 2013 you would have had 350K in the S&P500 at 1/1/2013 and it would have been 463K by the end of the year and rebalancing would mean taking 188K out of stocks on 1/1/2014 and into bonds. Look at the talk on the boards at the start of this year, that would be an extremely unpopular move, yet at this point it would look extremely timely.

Internet opinions tend to be either uncorrelated or negatively correlated with what happens.

Ha

[ERD50]

Quote:

Originally Posted by Running_Man ... Where does the value of this simple model come? From avoiding the declines, and having lots of funds to invest at stock market bottoms. Look at 2009 you would be more than doubling your allocation to stocks based on this model. Data for the 1960's and 1970's will be interesting to see how this holds up.

Can you run the same data to show how a 60/40 or 75/25 with and w/o rebalancing would have compared? Or share your spreadsheet so we could take a shot at it with the same data?

Sometimes, the % declines are less because the run up was less.

edit/add: For example, your (simple, not weighted) average stock allocation during the raging bull of the 1990's was only 36.9%. That would have left an awful lot on the table compared to 75%.

-ERD50

[karluk]

Running_Man, thank you very much for posting your results. As far as changing my mind, though, your numbers don't move me much at all. I'm not certain I set up my spreadsheet correctly, so forgive me if my results are in error. However, I find that your PE10 market timing significantly underperforms buy and hold with annual rebalancing for the periods 1980-2013 and 1990-2013, but outperforms over the shorter periods 2000-2013 and 2007-2013. It's as I said earlier, if you get lucky and sell right before a market bottom, you win, but if you get stuck repeatedly selling into a big rally, you lose.

My results for 1980-2013 are calculated by maintaining the initial 75-25 asset allocation, rebalanced at the end of each year. My calculations indicate that a $100,000 investment on 1/1/1980 would grow to $3,677,960 on 12/31/2013. You are giving up a little over $630,000 in returns by employing your PE10 timing system, since you say you would have only $3,047,115 over the same time period with your system.

I do concede, however, that in exchange for inferior performance, you have significantly reduced volatility. Whether that's worth the sacrifice in returns strikes me as a matter of taste. I personally prefer to pick an asset allocation I'm comfortable with and stick with it, rather than obligate myself to make really large stock purchases at low valuations, when it's likely that the market has been tanking and no bottom is in sight. History has shown that this is the best time to buy, and your timing system takes advantage of this fact. It still doesn't make in psychologically any easier to do so in the real world, when the wisdom of buying stock depends on the complete unknown of relying on good future performance.

[Lsbcal]

Hi Running Man, you did your analysis starting in 1980 and that whole period basically was a bond bull market with declining rates. So we would expect a bond heavy portfolio to do well. Back in 1980 that was not a popular view. Very few would have predicted such a sustained period of declining rates.

What is the constant AA that gives the same results? How did this compare to using Wellesley for the period (since Wellesley is a bond rich portfolio)?

I actually like to do this timing stuff. You may be on to something. I bet it could be optimized further.

P.S. I personally feel a cold wind blowing for bond heavy portfolios. But then I've always been a stock guy and came to fixed income kicking and screaming all the way.

[Texas Proud]

One of the problems with the testing is taxes... not all people have a big amount in tax exempt accounts.... selling the big amount as indicated on 1/1/14 would be a big tax bill... over the years that adds up....

[karluk]

Quote:

Originally Posted by Running_Man What I also find interesting is that if you had a million dollars invested this way for 2013 you would have had 350K in the S&P500 at 1/1/2013 and it would have been 463K by the end of the year and rebalancing would mean taking 188K out of stocks on 1/1/2014 and into bonds. Look at the talk on the boards at the start of this year, that would be an extremely unpopular move, yet at this point it would look extremely timely.

I view this comment as cherry-picking data to highlight the strengths of your system. If I'm reading your numbers correctly, at the beginning of 2013 you would have been forced to sell off much of your stock gains from 2012 plus an additional 3% to get down to your target allocation for 2013. We all know how that turned out - your bond purchases lost 2% last year and the stocks you sold to generate this loss would have returned 32%.

So you lost big in 2013 but have the edge so far this year. What does that prove except that PE10 market timing is extremely unreliable in consistently outperforming buy-and-hold?

[Animorph]

Quote:

Originally Posted by Lsbcal Hi Running Man, you did your analysis starting in 1980 and that whole period basically was a bond bull market with declining rates. So we would expect a bond heavy portfolio to do well. Back in 1980 that was not a popular view. Very few would have predicted such a sustained period of declining rates. What is the constant AA that gives the same results? How did this compare to using Wellesley for the period (since Wellesley is a bond rich portfolio)? I actually like to do this timing stuff. You may be on to something. I bet it could be optimized further. P.S. I personally feel a cold wind blowing for bond heavy portfolios. But then I've always been a stock guy and came to fixed income kicking and screaming all the way.

Seems like it might be nice to combine a PE10 with a similar bond indicator, maybe just the interest rate. That might hit a better balance than just PE10.

I'm happy with equity price drops as a buy indicator. Perhaps that could be combined with PE10 sells for a little better precision?

[Turboslacker]

Excellent post!

I didn't react in time for avoid the 1999 dot com, new economy bust. Got out of the market right after 911, again late but avoided further declines. Got back in at the right time in 2002 and rode big gains. Moved from 100% equities to 100% a stable value fund in Aug 2008. Yep I timed the market perfectly this time. Just a few weeks before the big one. Got back into full equities in 2010 and rode big gains again.

Certainly I had no idea that 08 would turn out so ugly. But I did take action on how I felt at that moment. That is probably the biggest factor of all...taking action. That awareness or sense I attribute to having kept a close pulse on 3 key things since I was a kid in the early 80's: macro economics, the stock market behavior, and paying attention to what people are doing. In 2008 warning signs were going off all around me. Could not believe it when personally observed a 24 yr old espresso barista qualify for a $350k mortgage.

Yes I'm a market timer. I admit it. I like taking risks in life, but I'm not a big risk taker. There is a sweet spot.
I'm fortunate thus far that it has served me well.

[Running_Man]

Quote:

Originally Posted by karluk I view this comment as cherry-picking data to highlight the strengths of your system. If I'm reading your numbers correctly, at the beginning of 2013 you would have been forced to sell off much of your stock gains from 2012 plus an additional 3% to get down to your target allocation for 2013. We all know how that turned out - your bond purchases lost 2% last year and the stocks you sold to generate this loss would have returned 32%. So you lost big in 2013 but have the edge so far this year. What does that prove except that PE10 market timing is extremely unreliable in consistently outperforming buy-and-hold?

This is all true, I just find it interesting is the fact that the valuation is forcing you to sell in the middle of stock bull markets and buy at the end of bear markets. And not just small rebalancing positions, this is large changes to portfolio composition.

[Running_Man]

Quote:

Originally Posted by Lsbcal Hi Running Man, you did your analysis starting in 1980 and that whole period basically was a bond bull market with declining rates. So we would expect a bond heavy portfolio to do well. Back in 1980 that was not a popular view. Very few would have predicted such a sustained period of declining rates. What is the constant AA that gives the same results? How did this compare to using Wellesley for the period (since Wellesley is a bond rich portfolio)? I actually like to do this timing stuff. You may be on to something. I bet it could be optimized further. P.S. I personally feel a cold wind blowing for bond heavy portfolios. But then I've always been a stock guy and came to fixed income kicking and screaming all the way.

I will continue to work on this

[karluk]

Quote:

Originally Posted by Running_Man And not just small rebalancing positions, this is large changes to portfolio composition.

In this sense it is identical to any other market timing scheme - you end up making big bets on the future direction of the stock market. If you're lucky, you win big. If you're unlucky, you lose big. And as is also typical of market timing schemes, it fails to outperform buy and hold over the long run. If you want to make big bets that will probably backfire on you, then PE10 market timing is worth considering.