Trouble Ahead???

[haha]

Most of the academic gurus that I have read accept that equities are a good building block to a portfolio. But not to the exclusion of cash, fixed income investments, longevity insurance, annuities, etc.

No doubt that is true, but you have pretty well included the kitchen sink, and either a very stable portfolio or a very variable one could be made out of these ingredients.

Moshe Milievsky has this take- it you have high and stable human capital go ahead and take risks. A retiree with little or no pension is not in this position.

Indeed, I believe that your equity allocation should depend much less on your so-called time horizon, hard-to-measure risk aversion or fickle confidence in the stock market, and much more on the composition and structure of your personal balance sheet. If your job is reasonably secure, your pension is protected and your income is predictable, then go ahead and take some stock market risk with the non-essential funds.
Thus, I personally am still very heavily allocated to equities and stocks because I have a secure job with a Defined Benefit (DB) pension from a university. Economists call this general asset class “human capital,” which is likely more valuable than financial capital.
So, here is the bottom line. The long run can be very long indeed. The financial planning theories we have used to quantify the “probability of regret” from equity investing must be revised after the new statistical evidence we have uncovered during the past year. The potential rewards must be tempered. To loosely paraphrase one of the greatest economists of our time, Professor Paul Samuelson, the long-run case for equities shouldn’t be oversold.

Oversold equities - FP Comment

Most of the analysis I have seen says the longer the period of retirement, the higher the equities proportion needs to be to have optimal survivability (holding portfolio size constant).

As in most things, it helps to think through the suppositions and the reality behind the study scenarios. I have had a roughly 25 year retirement, built mostly on equities and other speculations. However, most of this time has offered a cornucopia of a priori high return possibilities.

In an environment like today's, unless the 40 year old retiree is certain that he can go back to a good job, his position is weaker than an older retired person. Whle it may seem that he has no choice other than to go full speed ahead, that also increases his risk of hitting the wall.

Many ERs have never actually experienced the behavior of stocks under inflation. They assume that inflation makes stocks go up. This was certainly not true during the marked inflation of the mid-seventies, and this was a time of increasing business profits.

If one experts an inflation like the Weimar Republic, then of course own stocks. Own Cuban cigars or chamber pots, or anything other than cash or bonds.

IMO, if a person retires in circumstances like today's feeling that he must own a fairly high allocation of stocks he has retired too soon.

I also do not feel that one has to pick an allocation for all seasons, any more than he has to pick clothing for all seasons. In the summer wear a bathing suit, in the winter a parka. Same with investments.

Ha

 

[LARS]

I use threads like this one as a great contrarian indicator. It looks like it's time to up my percentage of equities based on all the thoughts in this thread.

Go for it and let us know how it turns out for you

 

[LARS]

No doubt that is true, but you have pretty well included the kitchen sink, and either a very stable portfolio or a very variable one could be made out of these ingredients.

Moshe Milievsky has this take- it you have high and stable human capital go ahead and take risks. A retiree with little or no pension is not in this position.

Indeed, I believe that your equity allocation should depend much less on your so-called time horizon, hard-to-measure risk aversion or fickle confidence in the stock market, and much more on the composition and structure of your personal balance sheet. If your job is reasonably secure, your pension is protected and your income is predictable, then go ahead and take some stock market risk with the non-essential funds.
Thus, I personally am still very heavily allocated to equities and stocks because I have a secure job with a Defined Benefit (DB) pension from a university. Economists call this general asset class “human capital,” which is likely more valuable than financial capital.
So, here is the bottom line. The long run can be very long indeed. The financial planning theories we have used to quantify the “probability of regret” from equity investing must be revised after the new statistical evidence we have uncovered during the past year. The potential rewards must be tempered. To loosely paraphrase one of the greatest economists of our time, Professor Paul Samuelson, the long-run case for equities shouldn’t be oversold.

Oversold equities - FP Comment



As in most things, it helps to think through the suppositions and the reality behind the study scenarios. I have had a roughly 25 year retirement, built mostly on equities and other speculations. However, most of this time has offered a cornucopia of a priori high return possibilities.

In an environment like today's, unless the 40 year old retiree is certain that he can go back to a good job, his position is weaker than an older retired person. Whle it may seem that he has no choice other than to go full speed ahead, that also increases his risk of hitting the wall.

Many ERs have never actually experienced the behavior of stocks under inflation. They assume that inflation makes stocks go up. This was certainly not true during the marked inflation of the mid-seventies, and this was a time of increasing business profits.

If one experts an inflation like the Weimar Republic, then of course own stocks. Own Cuban cigars or chamber pots, or anything other than cash or bonds.

IMO, if a person retires in circumstances like today's feeling that he must own a fairly high allocation of stocks he has retired too soon.

I also do not feel that one has to pick an allocation for all seasons, any more than he has to pick clothing for all seasons. In the summer wear a bathing suit, in the winter a parka. Same with investments.

Ha

A very thoughtful response...

 

[smjsl]

Don't worry folks, markets will go. They won't crash. They can't..

Simple reason that seems to always work: I think they have to go down and I keep waiting for the next crash with under-allocated equities in my portfolio. Since I am always wrong on market direction, they must go up...

 

[semtex]

We may have a severe correction, like sp 900~950 around. No selling, no buying, but am itching... finally see some in the attractive range...

 

[Zathras]

If it worked that way, then everyone would be in cash. My point is, that you can feel just as much regret if the market doubles and you didn't participate as when your equity investments drop.

Actually, I read a study on that. It seems people in general are twice as depressed when they loose something as they are happy if they gain the same thing

 

[Zathras]

My long term plan is built on a 35-38% stock allocation with some TIPS and diversified bonds...

Crooked Fed and the PPT team that's been on vacation lately...

If you believe your second statement and don't trust the Fed (or government as a whole) why are you investing in Treasuries?

 

[Stevewc]

I think there may be gaps in your tinfoil headgear.

Hey can you guys settle down a little bit?
Me and my chemist(son)are trying to make a major decision here.
Like "Which beer are we going to brew now" ?
I mean somethings are priority you know?
Steve

 

[IBWino]

With another housing tsunami on the horizon (alt-A and option ARM), I'd say bad things are yet to come.

How do you know that these aren't already priced into the market?

 

[Steve O]

I haven't invested in treasuries yet, Im holding 22% in cash

 

[tmm99]

How do you know that these aren't already priced into the market?

Because the stock market is generally short-sighted.

 

[LARS]

The only real debate is the time frame over which the on-going credit deleveraging plays out and the itinerant policies employed to fight it. That is happening, and will NOT go away. To not understand that is to miss the big picture.

Figure out the answer to that question (which is trying to guess the actions of domestic and foreign central banks and politicians and how long they can persist in their actions despite being wrongheaded and how investors will react to those decisions) and you will know the near term (0 to 5 years) on the stock market.

Generally speaking it all comes down to which wins out: monetary deflation or inflation. All else is noise.

Me, I'm not sure, so I'm playing it very, very cautious. Like others have said on this thread, I hate losses a lot more than I like gains.

 

[Steve O]

I have begun a HUGE stockpile of staples like Beer, whisky, rum, wine, and Cigarettes

Also put some of that cash in my local bank and I have a few grand stashed here in the event of an emergency...

 

[FinanceDude]

Hey can you guys settle down a little bit?
Me and my chemist(son)are trying to make a major decision here.
Like "Which beer are we going to brew now" ?
I mean somethings are priority you know?
Steve

if you can figure out how to make a homemade version of Duvel, let me know the recipe..........

 

[FUEGO]

Moshe Milievsky has this take- it you have high and stable human capital go ahead and take risks. A retiree with little or no pension is not in this position.

I've read a few of Milevsky's papers and find the concept of income smoothing over a lifetime and including human capital in the asset allocation of Life interesting and persuasive. I just pulled up one of the articles I read from him that was discussed here a couple years ago. CFA Article

In there, he runs a number of different optimization routines showing what an optimized portfolio would look like. For willing risk takers, a portfolio at age 60 could have 50-100% equities, depending on your motivation for current income versus leaving a large bequest (desire to leave a large bequest = higher equities allocation). See tables 5.2-5.4. I would guess the equity percentages increase as the retiree gets younger and the benefits of annuitization decrease as the retiree gets younger.

Milevsky, apparently somewhat a shill for the annuity companies (look at who funds his research and where they get their money from ultimately), even lays out on pg 72-73 in the linked paper that there are two very good reasons not to go heavy into annuities. The first being illiquidity of principal and the second being inflation. You can get easy access to your money when you need it and it may not keep up with inflation.

Now Haha, I'm assuming you're not a huge fan of annuities, so I'm not trying to put those words in your mouth. Just trying to show that even Milevsky has to be intellectually honest and put some disclaimers into his work to show that what the computer model indicates is optimal still has extrinsic considerations (I call "life") to deal with.

Just wanted to throw that out there. Even the very pro-annuity Milevsky indicates that an equities heavy portfolio is optimal for willing risk takers at a traditional retirement age.

In an environment like today's, unless the 40 year old retiree is certain that he can go back to a good job, his position is weaker than an older retired person. Whle it may seem that he has no choice other than to go full speed ahead, that also increases his risk of hitting the wall.

....

If one experts an inflation like the Weimar Republic, then of course own stocks. Own Cuban cigars or chamber pots, or anything other than cash or bonds.

Realistically, what 40 year old can't return to the labor force and earn a reasonable living? Maybe those worst off would be very high tech oriented careers. It obviously may not be possible to return to your old salary and benefits immediately, but ERing at age 40 doesn't mean you are hanging it up forever and raising the white flag. Spin it as a sabbatical or "mid life crisis" or need to live life, spend time with kids, find yourself, do something crazy, etc.

Live the ER life while it is good, then if the $hit hits the fan and your portfolio tanks, crank up that resume machine and talk about how you found yourself, had life enriching experiences, and gained much perspective, and really recharged your batteries to make a second go at a career (blah blah blah). That's the bet-hedging middle ground approach I plan to take at least. Plenty of stay at home mom's leave the work force for 5-10+ years and somehow manage to transition back into a working life. It may be a little harder sell for a man, but not unheard of.

In terms of how the human capital element would look for a very early retiree, I assume it would be best modeled by a time decay function where the first few years the human capital remains relatively stable, dropping a little in value each year as the remaining years available to work decreases, and slightly dropping due to skills getting rusty and losing one's professional network over time. After a certain period (10 years??) I think the rate of the decay due to technical skills and professional network deteriorating would decrease and the further decay of human capital would be mostly related to losing years available to exploit your human capital.

My point is, human capital is still there even for the 40 year old very early retiree, much as it is for the 50 year old early retiree or 60 year old standard retiree (less so in each case). So one who retires with an equities heavy portfolio still has the human capital to balance things out, more so for the younger retiree, for whom an equity heavy portfolio incidentally also has the highest survival rates.

From the research I have done on FIREcalc runs (and posted about here a couple years ago), most of the ultimate failure scenarios from a portfolio holding significant equities would be known in the initial 5-10 years of a retirement. This 5-10 year period is probably an early enough point in time where the human capital is still large enough that one can exploit it to replenish the investment portfolio. Hence relying on equities and being flexible enough to consider exploiting your human capital should you hit hard times is still a valid approach. Otherwise you will be stuck with working a number of extra years to have a more secure, albeit shortened retirement (ie each year you work you consume some of your "retirement capital" ).

 

[bbbamI]

if you can figure out how to make a homemade version of Duvel, let me know the recipe..........

Ummm....Duvel....

 

[Steve O]

"From the research I have done on FIREcalc runs (and posted about here a couple years ago), most of the ultimate failure scenarios from a portfolio holding significant equities would be known in the initial 5-10 years of a retirement. This 5-10 year period is probably an early enough point in time where the human capital is still large enough that one can exploit it to replenish the investment portfolio."


Firecalc is a great tool, but it's not so easy in the real world...

1 1/2 years into ER here...

I don't put much faith in running numbers based on the past...

The future is likely to be a very different world for a lot of reasons...

All of my work experience is in manufacturing, I don't see much of that happening in the US anymore

 

[Steve O]

Markets up again today on low volume...

Keep that $$$ for nothing coming

 

[FUEGO]

The future is likely to be a very different world for a lot of reasons...

All of my work experience is in manufacturing, I don't see much of that happening in the US anymore

It will be different all right. Not sure how exactly - we'll find out!

Looking back to the 1980's, the Japanese were eating our lunch, stealing manufacturing jobs like crazy. For the 30 year period from 1980-2010, the US stock market still returned roughly 10% on average per year. For some that stuck with manufacturing in certain parts of the country, their income and job prospects withered (ie they didn't diversify their human capital). This story will repeat itself in the next 30 years.

 

[Stevewc]

if you can figure out how to make a homemade version of Duvel, let me know the recipe..........

There's some info at their web site.
Duvel
Put mouse over ingredients & brewing

Looks like a pretty involved fermenting process. Also some temperature control with several changes during the process. Ends up with 8.5% alcohol.
Very interesting !!!
Lets see what Brewer has to say about it?
He's the board Pro
Steve

PS. Hey SteveO
Don't mind us, we've just got a side line conversation going.
Don't mean to be rude or steal the thread

 

[FinanceDude]

I've read a few of Milevsky's papers and find the concept of income smoothing over a lifetime and including human capital in the asset allocation of Life interesting and persuasive. I just pulled up one of the articles I read from him that was discussed here a couple years ago. CFA Article

He's an interesting guy. I have seen him speak a couple times, and got to talk to him one on one for about an hour at a conference. Also, we have traded emails on a few things..........

Milevsky, apparently somewhat a shill for the annuity companies (look at who funds his research and where they get their money from ultimately), even lays out on pg 72-73 in the linked paper that there are two very good reasons not to go heavy into annuities. The first being illiquidity of principal and the second being inflation. You can get easy access to your money when you need it and it may not keep up with inflation.

Interestingly enough, back a few years, Milevsky was an very outspoken critic of the VA industry, even received a few death threats. The reason he changed his stance (according to him) was the fact that defined benefit plans have gone the way of the dinosaurs, and most baby boomers need some sort of guranteed income in retirement. Milevsky is a fan of using a combination of SPIA for immediate needs and VAs as PART of an investment allocation strategy. He thinks most VA companies are UNDERPRICING the cost of guaranteed income, and recommends using a silo approach when allocating money (if you do) to VAs.

Just wanted to throw that out there. Even the very pro-annuity Milevsky indicates that an equities heavy portfolio is optimal for willing risk takers at a traditional retirement age.

Further, he recommends very aggressive investing inside the VAs, even while taking income..........

He does say he thiks the M&E expenses and subaccount mgmt fees are too high in most VAs, and sees a day where everything is customizable with a menu of choices. Increased regulation is coming and may change the landcape dramatically..........

From the research I have done on FIREcalc runs (and posted about here a couple years ago), most of the ultimate failure scenarios from a portfolio holding significant equities would be known in the initial 5-10 years of a retirement. This 5-10 year period is probably an early enough point in time where the human capital is still large enough that one can exploit it to replenish the investment portfolio. Hence relying on equities and being flexible enough to consider exploiting your human capital should you hit hard times is still a valid approach. Otherwise you will be stuck with working a number of extra years to have a more secure, albeit shortened retirement (ie each year you work you consume some of your "retirement capital" ).

Milevsky uses a graph, showing the difference between a 25% drop in the retirement porfolio in Year ONE versus a normal market year one and a 25% drop in Year TWO..........maybe I can dig up the chart, but in the latter scenario, your money lasted 9 years longer.............quite an eye-opener..........

 

[FinanceDude]

There's some info at their web site.
Duvel
Put mouse over ingredients & brewing

Looks like a pretty involved fermenting process. Also some temperature control with several changes during the process. Ends up with 8.5% alcohol.
Very interesting !!!
Lets see what Brewer has to say about it?
He's the board Pro
Steve

PS. Hey SteveO
Don't mind us, we've just got a side line conversation going.
Don't mean to be rude or steal the thread

Its the best beer I've ever had, and my favorite by a LONG shot!!

 

[brewer12345]

Its the best beer I've ever had, and my favorite by a LONG shot!!

Wold be challenging to replicate Duvel at home, although you could get into the ballpark I daresay. I am generally a lot happier to let good commercial examples inform my efforts rather than trying to copy specific commercial beers. Having said that, if you want to try there is a book out there called "Clone Brews" that has recipes intended to reproduce many highly regarded commercial beers at home.

 

[Nords]

All Im saying is Id rather sit here wishing I had more invested, than be sitting here wishing I wasn't so invested

I have begun a HUGE stockpile of staples like Beer, whisky, rum, wine, and Cigarettes
Also put some of that cash in my local bank and I have a few grand stashed here in the event of an emergency...

I see a lot of doom & gloom, but is this all there is of your asset allocation plan? Or do you just drop by here to dump your angst on the rest of the board?

If this is your plan for what you're going to do all day then I'd recommend returning to the workforce before the stress of ER kills you.

 

[Steve O]

Well it is January in Chicago, the weather here kinda sucks

I don't plan on "dumping my angst" here forever

No cola'd pension here, I live off of my investments...

I made $$$ during the last crash due to incredibly lucky timing... I made even more during this last run up...

My strategy right now is to not lose a lot of $$$

Returning to the workforce is out of the question

This is a forum on ER right FIRE and $$$...

I figured Id try to gauge sentiment among those who are ER'd on their outlook on the future?

Id love to hear what the bulls reasoning is