rebalancing using the money market/cash allocation

[SanMiguel]

In a recent post: http://gyroscopicinvesting.com/forum/in ... 5#msg11005
It was mentioned that in an asset selloff scenario, the tbills/money market/cash allocation should be used to rebuy assets on the cheap - think 2007-2008 scenario.

There's 2 main scenarios I can think of here:
1/ Let's assume, you would only rebalance when one of the assets came down to 15% of the allocation. Doesn't using the cash part of the allocation make the entire portfolio out of balance again?
2/ All assets apart from the cash drop in value such that everything is down 20% or so but nothing is out of balance. You use the cash to rebuy at the lows, doesn't this then make the portfolio a 33:33:33 allocation. How do you rebalance that and when?

[AdamA]

You'd just take the total dollar amount of everything that's in your PP and divide by 4.  That's the dollar amount you'd want in each position when you rebalanced. 

[SanMiguel]

You'd just take the total dollar amount of everything that's in your PP and divide by 4.  That's the dollar amount you'd want in each position when you rebalanced.  

I think that works out to be something like adding 8% to each asset if all assets dropped by 25% except the cash part.
In a simple £1,000 per asset portfolio:
1000 gold 75.00% £750 new value
1000 equities 75.00% 750
1000 bonds 75.00% 750
1000 cash

That's adding an extra £62.50 to each asset - that's not going to give a mind blowing return from buying the lows.
Wouldn't it be better to take all of the cash and rebuy?


In fact if you do this, equities, bonds and gold would have to drop by over 70% before they trigger the 15% rebalancing of the portfolio. Most of the portfolio would have been wiped out by that stage.

[AdamA]

You'd just take the total dollar amount of everything that's in your PP and divide by 4.  That's the dollar amount you'd want in each position when you rebalanced.  

That's adding an extra £62.50 to each asset - that's not going to give a mind blowing return from buying the lows.

It's not really supposed to give a "mind blowing" return, although it does occasionally.  It's supposed to protect your wealth and yield a moderate return.  

Wouldn't it be better to take all of the cash and rebuy?

No, because you won't know it's a low at the time.  The other assets may drop more, and then you'd use your cash to rebalance again.  

In fact if you do this, equities, bonds and gold would have to drop by over 70% before they trigger the 15% rebalancing of the portfolio. Most of the portfolio would have been wiped out by that stage.

No.  Equities, bonds, and gold would each have to drop 10% (from 25% to 15%) to trigger a rebalance.

But...even if they each dropped by 50%, it would only cause a 42.5% (50% of 25% is 12.5%, multiply by 3 positions) drop in your PP.  Keep in mind that this is a highly unlikely scenario.  More likely is that one, or maybe two asset classes take a large hit.  Then you're in the 20-30% zone.

[SanMiguel]

No.  Equities, bonds, and gold would each have to drop 10% (from 25% to 15%) to trigger a rebalance.

But...even if they each dropped by 50%, it would only cause a 42.5% (50% of 25% is 12.5%, multiply by 3 positions) drop in your PP.  Keep in mind that this is a highly unlikely scenario.  More likely is that one, or maybe two asset classes take a large hit.  Then you're in the 20-30% zone.

a 10% drop in the portfolio allocation is a 70% drop in the actual asset.
Take a £4,000 portfolio, £1,000 in each asset.
EQUITIES: 1,000 -70% = £300
BONDS: 1,000 -70% = £300
GOLD: 1,000 -70% = £300
CASH: £1,000 - 0% = £1,000
Total value at that point = £1,900.
300/1900 = 15% of the portfolio.

[SanMiguel]

The PP rebalances at 40% bands.  25% core weightings in each of the four assets, rebalance the set back to 25% equal weightings whenever any one declines to 15% weight or rises above 35% weight.

Most rebalances will arise out of either stocks or gold having risen/fallen (but not always). Typically whichever has fallen sees the other having risen (gold up/stocks down or gold down/stocks up).

Has anyone worked out the minimum investment to make this worthwhile?
At £10 per trade and a small spread that means I am losing about 1% in commission everytime I trade £1,000 and losing much much more just for a small rebalance.

[Lone Wolf]

I don't believe that's been specifically calculated since everyone's got such a different fee structure.  The larger the portfolio, the smaller the effect obviously, but what problem isn't solved by "make sure your Permanent Portfolio is as big as possible"? 

There are various ways to trade Treasury securities at no cost, so this half of the Portfolio can be done with low costs.  I've got no knowledge of how well the equivalents in the UK work, though.

With stocks, there are often ETFs through your brokerage that you can buy with no fees as well.

Gold is the final slice and with that you're down to either buying an ETF or buying physical.  There are always going to be costs involved with that but I imagine you can find a brokerage that'll let you trade that for under £10.

Those would be my suggestions.

[SanMiguel]

I don't believe that's been specifically calculated since everyone's got such a different fee structure.  The larger the portfolio, the smaller the effect obviously, but what problem isn't solved by "make sure your Permanent Portfolio is as big as possible"?  :)

There are various ways to trade Treasury securities at no cost, so this half of the Portfolio can be done with low costs.  I've got no knowledge of how well the equivalents in the UK work, though.

With stocks, there are often ETFs through your brokerage that you can buy with no fees as well.

Gold is the final slice and with that you're down to either buying an ETF or buying physical.  There are always going to be costs involved with that but I imagine you can find a brokerage that'll let you trade that for under £10.

Those would be my suggestions.

Hmm..not sure but in my experience there is no way to do anything in the UK for free.
All ETFs cost money and everything has to be held in an ISA or SIPP (tax free) or it will get capital gains tax.
If I could keep commissions to 1% per year then that would be fine except it's 1% commissions to trade + all the TER fees of the ETFs and the spreads.
It sounds more like the minimum amount to invest should be in the £2,000 range per asset (£10/£2000 = 0.5%) and there should be no rebalancing at all unless the rebalancing amount is going to be more than £2,000 which means waiting many years. In fact during accumulation, it would be better just to add money to the pension every year and rebalance that way rather than to rebalance in the actual portfolio due to performance changes of the assets.

[Lone Wolf]

Yes, you're right about accumulation.  There was a discussion earlier about rebalancing during accumulation that hit on this.  Furthermore, while you're in accumulation, it's often the cash "rebalance band" that will be crossed first, which typically means you don't sell very often (barring some wild swing in the market.)

The good news in accumulation is that since you're selling less often, you face capital gains consequences less often as well.  When you are faced with needing to create a "capital gain" via sale, it's worth trying to find some loss against which to offset it.  (This assumes that UK tax law is at all similar to US law, which may not be the case!) 

What you hope to find is some brokerage with a broad mutual funds that indexes UK stocks that you could buy into without fees.  At Vanguard, Fidelity or Schwab they have mutual funds or ETFs that you can trade without fees (although you must watch for early redemption charges on some of these if you sell too close to when you buy.)  Unfortunately, these are all based on the US stock market.

MediumTex devised a PP with expenses of less than two basis points (yes, <.02%!)  It involved using free trades of actual US Treasury securities, physical gold, and a very low ER ETF for the US stock market.  (Is there a free or very low cost \ ER way to trade UK gilts?)  I don't know how many of its ideas apply to the UK but perhaps it can give you some ideas.

[AdamA]

a 10% drop in the portfolio allocation is a 70% drop in the actual asset.
Take a £4,000 portfolio, £1,000 in each asset.
EQUITIES: 1,000 -70% = £300
BONDS: 1,000 -70% = £300
GOLD: 1,000 -70% = £300
CASH: £1,000 - 0% = £1,000
Total value at that point = £1,900.
300/1900 = 15% of the portfolio.

You lost me...

[SanMiguel]

Yes, you're right about accumulation.  There was a discussion earlier about rebalancing during accumulation that hit on this.  Furthermore, while you're in accumulation, it's often the cash "rebalance band" that will be crossed first, which typically means you don't sell very often (barring some wild swing in the market.)

The good news in accumulation is that since you're selling less often, you face capital gains consequences less often as well.  When you are faced with needing to create a "capital gain" via sale, it's worth trying to find some loss against which to offset it.  (This assumes that UK tax law is at all similar to US law, which may not be the case!) 

What you hope to find is some brokerage with a broad mutual funds that indexes UK stocks that you could buy into without fees.  At Vanguard, Fidelity or Schwab they have mutual funds or ETFs that you can trade without fees (although you must watch for early redemption charges on some of these if you sell too close to when you buy.)  Unfortunately, these are all based on the US stock market.

MediumTex devised a PP with expenses of less than two basis points (yes, <.02%!)  It involved using free trades of actual US Treasury securities, physical gold, and a very low ER ETF for the US stock market.  (Is there a free or very low cost \ ER way to trade UK gilts?)  I don't know how many of its ideas apply to the UK but perhaps it can give you some ideas.

In accumulation, I'm not sure I would count adding the money into any band, I would probably just wait until the end of the year and buy 25:25:25:"5 again regardless of the price.

[MediumTex]

It would also be very unusual for all three volatile PP assets to be falling at the same time for more than a short period (as they did for a few weeks in the second half of 2008).

It could happen, but I would think that there are far more likely bad things to worry about.

[SanMiguel]

a 10% drop in the portfolio allocation is a 70% drop in the actual asset.
Take a £4,000 portfolio, £1,000 in each asset.
EQUITIES: 1,000 -70% = £300
BONDS: 1,000 -70% = £300
GOLD: 1,000 -70% = £300
CASH: £1,000 - 0% = £1,000
Total value at that point = £1,900.
300/1900 = 15% of the portfolio.

You lost me...

Assume that in a risk off world equities, bonds and cash all lost 70% so that their value went down to £300 each. As a percentage of the total portfolio at that time each asset would be worth 15% so I wa sarguing that if every asset dropped together, you still wouldn't hit the rebalancing zone (15%) until they had all dropped 70%.
300:300:300:1000
15:15:15:52%

[SanMiguel]

It would also be very unusual for all three volatile PP assets to be falling at the same time for more than a short period (as they did for a few weeks in the second half of 2008).

It could happen, but I would think that there are far more likely bad things to worry about.

No, I agree but I was just demonstrating from a mathematical perspective that a rebalancoing doesn't occur when an asset has moved down by 10% it is when an asset has moved down but also relative to all the other assets. If they are all moving down together then no rebalancing can happen because although their value is diminished, they are still in balance with respect to the overall portfolio.

[MediumTex]

If they are all moving down together then no rebalancing can happen because although their value is diminished, they are still in balance with respect to the overall portfolio.

In that case you would hit a rebalancing band when the cash hit 35% as a result of the other three assets falling in value, in which case you would probably be buying at least one of the falling assets (and perhaps two or even three) very cheaply.

If you look at historical periods when all three volatile assets were falling in tandem, normally the returns following these plunges are very impressive, with the most recent example being gold and stocks in the 2008-2009 period, where both of these assets basically doubled in value in the two years following their 2008 and 2009 bottoms.

[upside]

In a recent post: http://gyroscopicinvesting.com/forum/in ... 5#msg11005
It was mentioned that in an asset selloff scenario, the tbills/money market/cash allocation should be used to rebuy assets on the cheap - think 2007-2008 scenario.

There's 2 main scenarios I can think of here:
1/ Let's assume, you would only rebalance when one of the assets came down to 15% of the allocation. Doesn't using the cash part of the allocation make the entire portfolio out of balance again?
2/ All assets apart from the cash drop in value such that everything is down 20% or so but nothing is out of balance. You use the cash to rebuy at the lows, doesn't this then make the portfolio a 33:33:33 allocation. How do you rebalance that and when?

LOL

Math...how does it work?

[MediumTex]

In a recent post: http://gyroscopicinvesting.com/forum/in ... 5#msg11005
It was mentioned that in an asset selloff scenario, the tbills/money market/cash allocation should be used to rebuy assets on the cheap - think 2007-2008 scenario.

There's 2 main scenarios I can think of here:
1/ Let's assume, you would only rebalance when one of the assets came down to 15% of the allocation. Doesn't using the cash part of the allocation make the entire portfolio out of balance again?
2/ All assets apart from the cash drop in value such that everything is down 20% or so but nothing is out of balance. You use the cash to rebuy at the lows, doesn't this then make the portfolio a 33:33:33 allocation. How do you rebalance that and when?

LOL

Math...how does it work?

I think that the whole PP concept hasn't "clicked" with SanMiguel yet.  When it does, he will probably have an "aha" moment.

The PP has the strange quality of being initially respulsive to many due to its simplicity and then a little intimidating when one begins to fathom the amount of thinking in the strategy that is "below the waterline" and very hard to articulate.

[SanMiguel]

If they are all moving down together then no rebalancing can happen because although their value is diminished, they are still in balance with respect to the overall portfolio.

In that case you would hit a rebalancing band when the cash hit 35% as a result of the other three assets falling in value, in which case you would probably be buying at least one of the falling assets (and perhaps two or even three) very cheaply.

If you look at historical periods when all three volatile assets were falling in tandem, normally the returns following these plunges are very impressive, with the most recent example being gold and stocks in the 2008-2009 period, where both of these assets basically doubled in value in the two years following their 2008 and 2009 bottoms.

I think the thing that hasn't clicked is the rebalancing.
I hadn;t realised that the entire portfolio was rebalanced whenever any 1 of the assets reached  aband. I had just assumed it was each asset in it's own band.

[MediumTex]

If they are all moving down together then no rebalancing can happen because although their value is diminished, they are still in balance with respect to the overall portfolio.

In that case you would hit a rebalancing band when the cash hit 35% as a result of the other three assets falling in value, in which case you would probably be buying at least one of the falling assets (and perhaps two or even three) very cheaply.

If you look at historical periods when all three volatile assets were falling in tandem, normally the returns following these plunges are very impressive, with the most recent example being gold and stocks in the 2008-2009 period, where both of these assets basically doubled in value in the two years following their 2008 and 2009 bottoms.

I think the thing that hasn't clicked is the rebalancing.
I hadn;t realised that the entire portfolio was rebalanced whenever any 1 of the assets reached  aband. I had just assumed it was each asset in it's own band.

Any asset that touches 15% or 35% triggers a rebalancing of the whole thing.

As it comes into focus, you may think to yourself "that just sounds stupid."  Let that thought pass and continue looking into it.

[SanMiguel]

In that case you would hit a rebalancing band when the cash hit 35% as a result of the other three assets falling in value, in which case you would probably be buying at least one of the falling assets (and perhaps two or even three) very cheaply.

If you look at historical periods when all three volatile assets were falling in tandem, normally the returns following these plunges are very impressive, with the most recent example being gold and stocks in the 2008-2009 period, where both of these assets basically doubled in value in the two years following their 2008 and 2009 bottoms.

I think the thing that hasn't clicked is the rebalancing.
I hadn;t realised that the entire portfolio was rebalanced whenever any 1 of the assets reached  aband. I had just assumed it was each asset in it's own band.

Any asset that touches 15% or 35% triggers a rebalancing of the whole thing.

As it comes into focus, you may think to yourself "that just sounds stupid."  Let that thought pass and continue looking into it.

Just to go back to the accumulation phase briefly...
"In fact during accumulation, it would be better just to add money to the pension every year and rebalance that way rather than to rebalance in the actual portfolio due to performance changes of the assets."

Does that sound reasonable? I think even at the moment, I am only saving at max £2,000 per year.
Do I just have to accept that the commission costs are going to be a fairly high percentage at this stage of my portfolio? For tax purposes, it really does all have to be in an ISA/SIPP and that's £10 to buy and £10 to sell for each asset and then add on TER fees for ETFs.

For example, if I add £2,000 and rebalance all assets this year that will cost me £40, which is 2% of the amount added.

[Pkg Man]

I think the thing that hasn't clicked is the rebalancing.
I hadn;t realised that the entire portfolio was rebalanced whenever any 1 of the assets reached  aband. I had just assumed it was each asset in it's own band.

Any asset that touches 15% or 35% triggers a rebalancing of the whole thing.

As it comes into focus, you may think to yourself "that just sounds stupid."  Let that thought pass and continue looking into it.

Just to go back to the accumulation phase briefly...
"In fact during accumulation, it would be better just to add money to the pension every year and rebalance that way rather than to rebalance in the actual portfolio due to performance changes of the assets."

Does that sound reasonable? I think even at the moment, I am only saving at max £2,000 per year.
Do I just have to accept that the commission costs are going to be a fairly high percentage at this stage of my portfolio? For tax purposes, it really does all have to be in an ISA/SIPP and that's £10 to buy and £10 to sell for each asset and then add on TER fees for ETFs.

For example, if I add £2,000 and rebalance all assets this year that will cost me £40, which is 2% of the amount added.

Some folks here do add to the lagging assets, and there is nothing inherently wrong with that.  But to minimize transactions costs you can add to cash until you hit a rebalance band.  That is what I would do in your case.  You might want to make the cash portion of the band 30%.

[SanMiguel]

Some folks here do add to the lagging assets, and there is nothing inherently wrong with that.  But to minimize transactions costs you can add to cash until you hit a rebalance band.  That is what I would do in your case.  You might want to make the cash portion of the band 30%.

This is the problem though.
With a small pension (to build up over time), any time I add cash, I almost immediately hit a rebalancing band on the cash portion.
A full rebalancing costs £10 purchase cost x 4 assets = £40.
To keep the costs to a max 1% per year, that means I should only be rebalancing when I have over £4,000.
It's just not workable at the beginning of a pension - is this something that I should just ignore at the beginning and accept that ion 10 years time the commissions won't make any difference.

[MediumTex]

Some folks here do add to the lagging assets, and there is nothing inherently wrong with that.  But to minimize transactions costs you can add to cash until you hit a rebalance band.  That is what I would do in your case.  You might want to make the cash portion of the band 30%.

This is the problem though.
With a small pension (to build up over time), any time I add cash, I almost immediately hit a rebalancing band on the cash portion.
A full rebalancing costs £10 purchase cost x 4 assets = £40.
To keep the costs to a max 1% per year, that means I should only be rebalancing when I have over £4,000.
It's just not workable at the beginning of a pension - is this something that I should just ignore at the beginning and accept that ion 10 years time the commissions won't make any difference.

You could set up your initial PP with 33x3 and put new money into the cash pot (which initially would have zero in it).  Then you could make several new contributions to cash before you hit the 35% rebalancing band with the cash.

It would be a short time before you would "grow out" of your frequent rebalancing problem due to new money making up a large percentage of the overall portfolio.

It's not a big deal to address the problem you are describing.

[Lone Wolf]

A full rebalancing costs £10 purchase cost x 4 assets = £40.
To keep the costs to a max 1% per year, that means I should only be rebalancing when I have over £4,000.

I wish I had some good advice for you on this.  I could suggest how to handle this with a US portfolio but I'm not sure how to get fees down for a UK PP.  I would say that it might be worth really looking for cheaper trading options.  10 GBP is more than $15 USD, an amount I'd struggle with as well.  I'd say spend some time hunting.

Clive might also know of some ways to reduce costs.

[rickb]

Another approach is to start with 100% PRPFX and put everything in PRPFX until you have a reasonable amount of money (say, £10,000) and then sell the PRPFX and establish your own 4x25 portfolio.  With this approach you're basically trading a lower transaction cost while you accumulate your initial 4x25 stake against a presumably higher expense ratio (and investing in PRPFX rather than a "pure" 4x25).

With a portfolio value of £10,000 if you contribute all new money to cash and rebalance at 15/35% bands your first rebalance should involve about £1,000, which at £10/trade is about 4% (do you pay a transaction fee for withdrawing cash?  if not, then this would be only 3%).  If you want to keep your transaction costs to 1% (and assuming you don't pay a transaction fee for withdrawing cash), you could also contribute all new money to cash and rebalance by transferring from cash to your "most lagging" asset whenever your cash balance is £1,000 higher than its nominal 25%.  When you get to an overall portfolio value of £40,000, you could switch to rebalancing at 15/35% bands - at that point each rebalance will involve at least £4,000 so the £30 (or £40) trading cost to rebalance would be less than 1%.