What would you advise I do?

[RockOn]

That "positive thinking" comes from all the dozens of books & websites that I've been reading over the last decade and from having our ER portfolio nearly double since 2001.

I've been reading the same stuff for a long time too, nearly 30 years. The more I read the less reassured I become in trying to know how to invest for the next 30 years. One can go with the odds, that doesn't guarantee a good outcome for the next "short" 30 year span that will make all the difference to me.

I think the black swan is important, we seem to get caught up in thinking that what happened in the last xx number of years means things will stay the same. Even if xx=100 years of history. Even the AA studies are only based on a slice of past history. The possibilities going forward are infinite.

Anyway, we are all different. How I see it is likely not very similar to how you see it. In 30 years we will know what happened.

Great job on that double in the last 7 years, that is outstanding.

 

[Notmuchlonger]

I've been reading the same stuff for a long time too, nearly 30 years. The more I read the less reassured I become in trying to know how to invest for the next 30 years. One can go with the odds, that doesn't guarantee a good outcome for the next "short" 30 year span that will make all the difference to me.

I think the black swan is important, we seem to get caught up in thinking that what happened in the last xx number of years means things will stay the same. Even if xx=100 years of history. Even the AA studies are only based on a slice of past history. The possibilities going forward are infinite.

Anyway, we are all different. How I see it is likely not very similar to how you see it. In 30 years we will know what happened.

Great job on that double in the last 7 years, that is outstanding.

Rockon have you made a decent buck in the past 30 years?

 

[Alan]

I've been reading the same stuff for a long time too, nearly 30 years. The more I read the less reassured I become in trying to know how to invest for the next 30 years. One can go with the odds, that doesn't guarantee a good outcome for the next "short" 30 year span that will make all the difference to me.

I think the black swan is important, we seem to get caught up in thinking that what happened in the last xx number of years means things will stay the same. Even if xx=100 years of history. Even the AA studies are only based on a slice of past history. The possibilities going forward are infinite.

Anyway, we are all different. How I see it is likely not very similar to how you see it. In 30 years we will know what happened.

Great job on that double in the last 7 years, that is outstanding.

The point that Nords is making I think is not just reading and research but actual experience in doing it and building confidence in his own ability in this area.

It's true that history is not any surety of the future. I consider myself a conservative investor and a conservative driver. I drive 30 minutes each way to work every week day and expect to get there but past history is no guarantee of future success but if I still do it and have confidence that I will get there and not be one of the 30 - 60K killed every year on the roads or the countless more badly injured.

 

[RockOn]

Rockon have you made a decent buck in the past 30 years?

Sorry to dissapoint you but more than you probably think. I was hungry poor in 1974, then started to read and learn about investing. I never made more than a middle class income, never won the lottery, or was given any free money. I did not plan on any gains in real estate and only made a few hundred thousand on the houses I owned. I don't need to work anymore and plan on surviving on about $125k/year in retirement in a few years, COLA adjusted at around 3%. I think I've made a buck or two.

There is more than one way to get there. Besides savings, most of my cash was made by being fully aboard several of those once in a lifetime bubbles. I traded trends, it wasn't hard. It doesn't work anymore. Those bubbles will still be skewing a lot of attitudes and studies for a long time.

I must say I have been cautious lately. freddyw is seeing some of the same things we are all seeing. I wouldn't say he is wrong to be concerned, nor would I advise him on what he should do. That's how I see things differently, there is not an absolute right or wrong way to be investing. To each their own, nobody knows for sure. There is not an easy recipe in a book.

 

[Notmuchlonger]

Sorry to dissapoint you but more than you probably think. I was hungry poor in 1974, then started to read and learn about investing. I never made more than a middle class income, never won the lottery, or was given any free money. I did not plan on any gains in real estate and only made a few hundred thousand on the houses I owned. I don't need to work anymore and plan on surviving on about $125k/year in retirement in a few years, COLA adjusted at around 3%. I think I've made a buck or two.

There is more than one way to get there. Besides savings, most of my cash was made by being fully aboard several of those once in a lifetime bubbles. I traded trends, it wasn't hard. It doesn't work anymore. Those bubbles will still be skewing a lot of attitudes and studies for a long time.

I must say I have been cautious lately. freddyw is seeing some of the same things we are all seeing. I wouldn't say he is wrong to be concerned, nor would I advise him on what he should do. That's how I see things differently, there is not an absolute right or wrong way to be investing. To each their own, nobody knows for sure. There is not an easy recipe in a book.

I think you are just finding stuff to worry about then with all due respect. And why would it disappoint me you made good money. Good for you! Less you need to worry about

 

[samclem]

There is not an easy recipe in a book.

Exactly. Not "a" book, but maybe 20 of them.

There are a lot of really dumb ways to invest, ways that are 90% sure to leave you poor. There are two ways to avoid this:

1) Faith: A young investor picks up a book, or runs into an advisor, and they believe what the author/advisor says. It sounds reasonable, and the case studies in the book/seminar/advisor's illustrations sound very good. So, the investor starts saving and investing according to this plan. He doesn't understand it, hasn't listened to other approaches, and doesn't have the foundation needed to sense BS. Sometimes this guy becomes a zealot and tels everyone about the one, true way.
Probably 80% of the faith-based investors do poorly, because the picked a bad guru. The ones who succeed lucked out by somehow picking a guru who gave good info. Still, an investor who bases his plan on the charisma of a guru is a juicy target for the next charming guru. And most of the gurus are hucksters.

2) Reason: A young investor picks up a book with a skeptical eye, and reads a lot of things. After reading and listening to a lot, if he has some mix of attributes (logical reasoning, some math skills, and an interest in learning about this stuff) he's likely to figure out which "experts" are putting out worthwhile advice. This investor will have a lot more persistence in investing overall and in style of investing.

I think most people here want to help folks become investors who are guided by reason, not by faith. That's what I took from Nords's earlier posts in this thread.

Rockon wrote:
"I've been reading the same stuff for a long time too, nearly 30 years. The more I read the less reassured I become in trying to know how to invest for the next 30 years. "

If the more you read, the less comfortable you feel about investing, I can suggest two possibilities:
1) It's possible you were a "faith based" investor before, and "sure of things". If you are now reading materials that are illuminating the fact that markets are uncertain (but providing ways you can mreduce volatility while increasing growth) then I'd say that things are moving in the right direction
2) If you are taking in more information but remain uncertain and frustrated because you are looking for the "next big bubble" to ride, then it's possible you remain a faith-based investor, with all the pitfalls that entails.

Provided in a spirit of camaraderie, and knowing I don't have all the answers . .

 

[RockOn]

Exactly. (but providing ways you can reduce volatility while increasing growth) . .

I'm probably some of both types. Thanks for the thoughful response.

Let me nitpick, a little, the sentence I quoted. I understand reducing volatility and how that works. When you say reducing volatility increases growth, that is tough for me. The main proof I can find for saying this is true is citing past history. If we can agree that past history isn't really predictive of the future, it really doesn't make sense to me that you can reduce risk (volatility according to many) and increase gain (growth). Typically the lower the risk the lower the return. How can you have your cake and eat it too? Or am I looking at this incorrectly?

 

[RockOn]

I think you are just finding stuff to worry about then with all due respect. And why would it disappoint me you made good money. Good for you! Less you need to worry about

To tell the truth, if that can true, I got involved in this thread because I thought freddyw was treated a little gruffly, the guy was just looking for some advice....

 

[samclem]

I'm probably some of both types. Thanks for the thoughful response.

Let me nitpick, a little, the sentence I quoted. I understand reducing volatility and how that works. When you say reducing volatility increases growth, that is tough for me. The main proof I can find for saying this is true is citing past history. If we can agree that past history isn't really predictive of the future, it really doesn't make sense to me that you can reduce risk (volatility according to many) and increase gain (growth). Or am I looking at this incorrectly?

No, I probably wasn't very clear. I didn't mean that reducing volatility increases growth. But the two things are certainly related.

As you probably know, reducing volatility while increasing growth is the "Holy Grail" of modern portfolio theory. Normally, higher risk (higher volatility) assets produce higher returns over time--this is just because investors won't put their money into risky assets unless they are rewarded with higher payoffs--over time. As you likely know, the way most people optimize their portfolio is by choosing a lot of different asset types that are each highly volatile (i.e. they will go up and down a lot, but will also produce high returns over time), but with returns that are poorly correlated with each other (when one asset type is down, another tends to be unaffected or even tends to increase in value). Thus, their entire portfolio stays relatively stable, but they get the advantages (higher return) of holding all these risky asset types.

Now, what I read in your posts is that you don't believe the assets will behave the same way in the future. I agree that we can't know for certain exactly how each will perform, or even how they'll correlate with each other over very long periods, but this approach still offers the best chance of long-term success. The investor doesn't have to pick one horse and be right. Nobody can reliably pick the next big winner (real estate? Foreign Stocks? Oil? Japanese Yen? Big US companies?), but by owning a well-chosen mix, I think I optimize my chances of coming out well (and minimize my chances of an Alpo diet at age 75). Anyway, most of us aren't swinging for the fences--we want to get on base consistently.

FWIW.

 

[RockOn]

I agree with that.

Using a highly diversified and uncorrelated AA tends to reduce risk and reduce return verses a highy correlated portfolio. The idea that a highly diversified and uncorrelated AA should increase return, as I have read more than once, is not a valid premise. (even though it might have happened in the past history)

 

[lswswein]

A post by Larry Swedroe on the morningstar boards from a while back(11-02-98 to be exact). Posted without any addln comments other than highlighting by me

-h

On similar topic thought the following might be of interest.A study published in the Fall 1998 issue of the Journal of Investing sought to determine whether international equity diversification actually provided risk reduction benefits.The study covered the period 1970-1996. The author examined the performance of portfolios with varying allocations to the S & P 500 Index (representing large-cap domestic equities) and the EAFE Index (representing large-cap equities of Europe, Australia and the Far East). For example, the study looked at portfolios that were 10% S & P 500 and 90% EAFE, 20% S & P 500 and 80% EAFE, etc. At the end of each year a portfolio would be rebalanced, correcting for market movements, to its designated allocations. Using a statistical method called bootstrapping (basically creating a series of monthly returns using randomly selecting periods) the study was able to effectively examine far more data points (the study chose to look at 5-year holding periods) than just the 27-year period provided. Before reviewing the results of the study it is important to note that during this period the S & P 500 Index outperformed the EAFE Index by 12.29% to 12.03% per annum.
The study concluded the following:
· A combination of the S & P 500 Index and the EAFE Index outperformed either index individually-a result of the low correlation.
· Increasing the international allocation to as much as 40% raised returns and reduced risk as measured by volatility, or standard deviation.
· An allocation of 40% international produced the highest Sharpe ratio- a measure of the amount of return for a given level of risk.
· Moving the international allocation from 0% to just 20% reduced the probability of negative returns by one-third.
· Investors with a 10% international allocation could be 98% certain that they would reduce risk by raising the international allocation.
· Even investors with a 20% international allocation reduced risk in over 90% of the 5-year periods studied by increasing their international exposure.

 

[bssc]

Interesting discussion. While I have been tempted to do the same recently and I know of at least one other cow-orker who has moved all their 401(k) money into cash. From experience, in the past this happens at the market bottom.

 

[innova]

RockOn,

We've talked a few times before and you still don't believe

I understand reducing volatility and how that works. When you say reducing volatility increases growth, that is tough for me. The main proof I can find for saying this is true is citing past history. If we can agree that past history isn't really predictive of the future, it really doesn't make sense to me that you can reduce risk (volatility according to many) and increase gain (growth). Typically the lower the risk the lower the return. How can you have your cake and eat it too? Or am I looking at this incorrectly?

There is no proof, as we know. We have no proof the sun will rise tomorrow either. We do have strong correlations though, and we can easily show that when two high-returning, uncorrelated assets are combined the result is a higher overall CAGR with a lower std. deviation of returns.

The idea that a highly diversified and uncorrelated AA should increase return, as I have read more than once, is not a valid premise. (even though it might have happened in the past history)

It is indeed valid, and has been reproduced over and over throughout different time periods. That does not prove its validity, but as an investor you must ask yourself: What is the PRUDENT strategy? Can there be any other?

The problem I think you're having is you don't want to rely on history. So, we can devise a simple math model to prove it, but I doubt you would like that because it doesn't model any 'investable' scenarios. So whats left?

The key here is that correlations of returns for different asset classes do change over time. However, for a long-term investor, 5-year correlations data is not that meaningful. What is much more meaningful is average or median correlations over several 10 year or 20 year periods. We expect that bonds will continue to have a low correlation to stocks for fundamental reasons - the numbers may vary from year to year, but by holding the right mix of stocks/bonds we can 'hedge' our bets.

 

[samclem]

I agree with that.

Using a highly diversified and uncorrelated AA tends to reduce risk and reduce return verses a highy correlated portfolio. The idea that a highly diversified and uncorrelated AA should increase return, as I have read more than once, is not a valid premise. (even though it might have happened in the past history)

I don't think you are agreeing with what I meant to say.

 

[RockOn]

RockOn,

We've talked a few times before and you still don't believe

No, sorry but I still don't believe. You seem to want it both ways, lower risk= lower return is a basic rule. If lower risk did = higher return in the past, that was just the luck of the selected history.

 

[RockOn]

A post by Larry Swedroe on the morningstar boards from a while back(11-02-98 to be exact). Posted without any addln comments other than highlighting by me

Sorry but I'm not sure I get the point of that. Fill me in. For one thing you are only looking at 26 years of data, a very small sample size. For another, how much did it beat the indexes by? I didn't see that in the post. I also do not think the investments in that article are uncorrelated.

 

[RockOn]

I don't think you are agreeing with what I meant to say.

I'm not sure what you mean, I thought we did agree for the most part.

 

[RockOn]

RockOn,

The problem I think you're having is you don't want to rely on history. So, we can devise a simple math model to prove it, but I doubt you would like that because it doesn't model any 'investable' scenarios. So whats left?

I always wonder why using history is good for justifying some ideas but not others. For instance, you are using historic returns to claim a highly diversified uncorrelated AA portfolio will produce excess returns. But if I were to use market history to devise a market timing method of investing I suspect you would argue it isn't valid. For instance if I were to show you with 50 years of historic data that "only holding stocks for a few days at the end of a month and then again at the beginning a month (commonly known as seasonality)" generates far superior risk adjusted returns, would you support that as a valid investment method?

Another example of this is when we think nobody can predict short term moves in stocks. We all agree nobody can make a profit by short term trading but then we go out and buy mutual funds with turnover rates of 100% or more a year. Some things just don't make sense to me.

On the math model, I would be interested if it actually represented what we are talking about. I think if you can mathematically prove that you can lower risk and increase return with a highly diversified uncorrelated portfolio, you should be Chief Economist at the Fed.

 

[Lsbcal]

Is it my imagination or is this thread experiencing extreme main subject drift?

 

[RockOn]

drifting, sorry. But somewhat on track, investment advice is what he was looking for, we're looking at some options on what is the best advice. I think.

 

[Nords]

On the math model, I would be interested if it actually represented what we are talking about.

Whatever it is that you're searching for, I think you're gonna be [-]working[/-] seeking it for a long time.

Good luck with that.

 

[RockOn]

Whatever it is that you're searching for, I think you're gonna be [-]working[/-] seeking it for a long time.

Good luck with that.

Just the backup (other than proof based on a small slice of market history) to some claims I read, that's all.

 

[samclem]

I agree with that.

Using a highly diversified and uncorrelated AA tends to reduce risk and reduce return verses a highy correlated portfolio. The idea that a highly diversified and uncorrelated AA should increase return, as I have read more than once, is not a valid premise. (even though it might have happened in the past history)

Sorry, another long post coming . . .
The restatement that you made is not what I intended to communicate. Here's what I believe:
-1) In general, each asset class has a return that is proportional to its risk. (i.e. Highly risky asset classes provide higher returns, if we look at a very long time period.)
-2) Many people are trying to pick the next "hot" asset, and information that might affect the future performance of these assets and the means to analyze this information are easily available to everyone. As a result, it is very unlikely that an individual can consistently pick the next asset class that will significantly outperform the others.

Now, here are the conclusions that follow from this:
To get maximum return over time, an investor needs to invest in risky (i.e. volatile) assets (by rule 1 above). By rule 2, there's no reliable way to decide which particular asset class will do best in the near future. But, I know that, historically, some of these highly volatile (that are, by rule one, also the ones that produce the best payoff over time) increase and decrease in value in ways that are unrelated to, or even opposite of, the ways other asset classes perform. So, I divide up my money and I put a little of it in each of these asset classes.
Result: If I follow this, I've invested all my money in the highly volatile asset classes (the only ones that can produce high returns), but my overall portfolio will have low volatility. High return, low volatility. That's what we're after. And I didn't have to try to guess winners and losers.
I think it's obvious how this approach reduces volatility compared to plunking all your dough into whatever asset class I "predict" will do best. Does this approach reduce returns? Well, if you accept rule 1 than this approach will certainly produce better results over time than putting all the money on a single low-volatility (low return) pot (e.g. money-market funds). If an investor rejects rule two, then he's likely believe he can pick the winners (consistently, over many years), and will want to concentrate his money on his bets. This investor is likely to believe that spreading assets among many high-risk, high return classes will lower overall returns.

I think he's wrong. The research indicates he's wrong. The firsthand experience of many investors indicates he's wrong. And I'm fairly sure I'll end up supporting many of these people through my taxes, which makes me grumpy.

 

[RockOn]

I agree with that as you describe it. No arguement that it is a reasonable process. (Especially if you are 25)

The only part I question is that you are assuming you will pick some outperforming assets in your limited investing time frame (actually not really long term if you are older). If 50% of your assets have a reasonably good future return and 50% of your assets have a reasonably poor future return, you would have little risk, but also likely low returns. The assets returns will tend to cancel each other out. If there continues to be asset bubbles as we go forward, you will likely make out fine. If there are limited market dramatics, you are investing in a very low risk manner and you may have a better return in a CD ladder. Your method has risk, a CD ladder has almost no risk.

What I am saying is you are reducing your risk with your method, that's a given, how much you could pay for it in lower returns, is unknown.

I'm not saying it is a bad plan, only that it is not the only way to do it. Going with more correlated assets and taking more risk with those assets, could easily turn out to be a better way to go. For example, instead of going 75risky/25fixed (or even 100% risky) in your AA method you might be better off going 25risky/75fixed but put the 25 all in value stocks (or whatever you like) with no hedge. Which method has a higher potential reward verses risk taken? Only time will tell. Hedging can be a double edged sword.

Telling someone how to invest when they are approaching retirement with their nest egg on the line is risky business.