Sense of Uneasiness

[buddtholomew]

I am irrationally concerned with the performance of the HBPP over the last few days. Markets (as measured by the S&P500) trending downwards have had a negative impact on the portfolio as Gold and Long Treasuries have declined as well. Markets on the uptrend have not outpaced the returns of the declining Gold and Treasury holdings. Do 3/4 of the portfolio have to move up on a daily basis to recognize positive gains if we assume Cash is positive on the day?

Cash, GLD, LTT
Cash, VTI, GLD
Cash, VTI, LTT

Still not completely 100% committed to this investing approach.

Budd

[moda0306]

Budd,

I developed a tinkering idea for "volatility-sensitive" individuals (as one's first jump into the PP is too scary for some)...

It's pretty easy to tell that in order of volatility, the PP looks like this:

Gold
Stocks
LT Bonds
Cash

With that in mind, maybe consider a 40/30/20/10 (Cash, LTT, Stocks, Gold) portfolio to get yourself started.  Based on Craig's numbers with ST treasuries and Total Stock Market used, it has a 9.3% CAGR since 1972, and it's worst and only negative calendar year was -2.6% in 1993.  It did just fine in 1970-1981, returning an average (not compound average, sorry) 9.71%.  In 1981, it had 4.11% in gains.  In 2008, it had 5.65% in gains. In 2009 (when LTT's fell apart) it even had a 1.9% gain.

I know this might be blasphemy to some putting gold at 10%, but if volatility is truly what you're worried about, this is a pretty good way to tweak the PP... besides, we all know gold performs in very leveraged, exponential ways.  I think 10% isn't as scary as some might think.

Overall, the PP has had a Standard Deviation of 8.22, while my "VSPP" (Volatility-sensitive PP) has a Standard Deviation of 6.09.

Hope that helps, but keep in mind that the PP has performed very well thus far in 2011, and was maybe set for a bit of a pullback.  I still have a lot of faith in the 4x25.

[MediumTex]

Still not completely 100% committed to this investing approach.

Given that the PP has performed solidly for almost 40 years with no unpleasant surprises and has more or less done what it set out to do (i.e., provide reliable inflation adjusted returns), it may just be a matter of you getting some good experiences under your own belt to build a sense of confidence.

You have to let it do its thing, though.  It doesn't necessarily go up every single day.

In my own experience, the feelings you are describing really only go away as you begin to see the strategy work with your own money.

[Wonk]

Budd, I'm not sure if this will make you feel better or worse, but....in 2008 the PP experienced it's "max drawdown" event--about -25% if I remember correctly.  It's not always a smooth ride, but the losses are usually quickly recovered.  Within a few months the entire portfolio was in the green again.  By comparison, most stock/bond portfolios were down twice that during the same time frame.

[rickb]

If you're truly risk averse (in the sense that you're willing to forgo some upside potential to avoid seeing your assets decrease), increasing the cash allocation and keeping the others equal to each other lets you dial down the volatility to essentially whatever you'd like.  For example (all numbers using ST bonds for cash and assume yearly rebalancing, 1972 through 2008)


MixCAGRstddevmax and only loss (1984)
40/20/20/209.41%7.04-2.12%
50/16.7/16.7/16.79.13%6.19-1.87%
62.5/12.5/12.5/12.58.78%5.27-1.55%
70/10/10/108.56%4.83-1.36%


The problem with doing this is the yardstick is absolute return as opposed to "real" (after inflation) return.  Perhaps someone with inflation data (calling Clive!) could rerun these mixes and show inflation adjusted returns.  I'm not sure, but it seems like there might be more negative real return years as the cash allocation increases.

[rhymenocerous]

Try not to monitor the day to day movements of your portfolio, as this will only magnify your desire to tinker/make changes.  I have trouble with this as well, and in some ways my parents, who know little about investing, are far more disciplined than I am because they could go a whole year without even thinking about or looking at their portfolio.

[moda0306]

I didn't know it was a whole -25%, but even so, if one looks at all the single digit or negative return years of the PP, you'll notice that with the exception of 2000 and 2001, they're right next to a double-digit return year for the PP.  There really seem to be no 1-2 punches to the PP... if it gets wholloped, it comes firing back with a vengeance (not to get too enthusiastic).

Further the two negative years for the PP (1981 and 1994), you had surrounding years of 13.4%, 23.3%, 12.9% and 18%.

So the PP not only seems to undo losses relatively quickly, but it snaps back in excess to get it back on track... the only extended period of "lagging" performance is 1999-2002 where it went 4.2%, 3.2%, .9% and 7% in a 4-year period.

Personally, if I'd been invested at that time, I'd have been very happy with those returns.

[KevinW]

You need give investments a certain amount of slack to do their thing.  It's unrealistic to expect constant progress without any setbacks.

This is analogous to supervising other people.  You can't expect someone to make tangible forward progress every minute of every day.  There are inevitable dead spaces and minor setbacks.  Micro-managing someone like that will distract them and lead to acrimony.  You can, however expect to see progress on a weekly or monthly basis, say.

There are no guarantees, but if you check on a PP once or twice a year, you will very rarely be disappointed.  While this isn't as reassuring as daily appreciation would be, many investing strategies can go years or even decades without forward motion, so the PP is exemplary in this regard.

[buddtholomew]

I appreciate what everyone is saying and recognize the futility in expecting positive returns on a daily basis. There is some frustration when the portfolio declines on both positive and negative market days (as defined by the S&P500).

[craigr]

Budd,

Don't take this as facetious but the answer to your problem is simple:

Stop checking your portfolio so often.

I know it sounds like I'm kidding, but I'm really not. You'll drive yourself bonkers checking too often and you will constantly second guess yourself.

[AdamA]

Budd,

Don't take this as facetious but the answer to your problem is simple:

Stop checking your portfolio so often.

I know it sounds like I'm kidding, but I'm really not. You'll drive yourself bonkers checking too often and you will constantly second guess yourself.

Or...learn to be more masochistic. 

I like to see one or two asset classes take a big hit, b/c I know that the PP tends to do well in volatile markets.  Any time an asset class has a major loss, it's a chance for you to buy it on the cheap. 

[Tortoise]

I like to see one or two asset classes take a big hit, b/c I know that the PP tends to do well in volatile markets.  Any time an asset class has a major loss, it's a chance for you to buy it on the cheap. 

Indeed. Whenever a chunk of cash gets deposited into my account, I always enjoy looking at the three volatile asset classes (stocks, LT bonds, and gold) and looking to see what's "on sale" that week

I think that's the right way to look at it, since a temporarily low price for a PP asset is just as much of a "sale" as a low price for a pair of jeans or a TV set.

[julian]

The worst drawdown I saw was 10% in 2008.  Where r u guys seeing 25%?

[Pkg Man]

I think I previously calculated 15%.  I suppose it all depends on exactly which assets you are using to build the PP and maybe when you started it.  I think I used VTI, TLT, GDL, and SHY to come up the the 15% max intra-year drawdown.

[Gumby]

The max drawdown was definitely NOT greater than -15% if your PP was maintained (rebalancing occasionally, etc). I've looked into this extensively.

Budd, I believe you need to extend your horizon by a factor of, well, 50x or more. You really can't expect any investment to always trend upwards over a period of a few days. I think that's asking a bit too much.

HB believed that the longest downtrend you'd ever see with the PP would be 18 months. If you can't stomach an 18 month decline, I'm not sure what kind of advice to offer other than to turn off your computer and stop looking at PP returns!

Also, the PP has to go down in order to go up. It's like breathing. You have to exhale (people go to cash) in order to inhale (people take their cash and go buy asset x).

I am irrationally concerned with the performance of the HBPP over the last few days.

Which is kind of like saying, "I'm irrationally concerned about the performance of my breathing over the course of the last half a breath that I just took."

[KevinW]

If you can't stomach an 18 month decline, I'm not sure what kind of advice to offer other than to turn off your computer and stop looking at PP returns!

If someone truly can't stomach any volatility they could put everything in short term treasuries, or even a treasury MMF.

A portfolio of 100% short term treasuries has its own risks and won't see much in the way of real growth.  But it's better than no portfolio at all.

[buddtholomew]

I'm not really an unreasonable person and have come to realize that the portfolio needs time to produce positive returns. I have a pre-conception that the 4 assets should ALWAYS respond in the manner HB outlined in his radio shows (e.g. any signs of inflation, gold should move higher and long term yields too.).

[Gumby]

I'm not really an unreasonable person and have come to realize that the portfolio needs time to produce positive returns. I have a pre-conception that the 4 assets should ALWAYS respond in the manner HB outlined in his radio shows (e.g. any signs of inflation, gold should move higher and long term yields too.).

Yes. ALWAYS, over time. It doesn't mean every day or every week, or every month. You need to give the markets more time to figure out which signs to follow. Sometimes it takes 18 months before the signs are apparent.

Investors are moving to cash right now before they decide what to invest in next (and when). If you hold the PP, this shouldn't bother you because you will eventually be right about what the next hot investment is.

[Wonk]

Sorry, didn't mean to freak anyone out (especially budd).  I couldn't remember the drawdown exactly, but I thought it was 25%.  Turns out it was half that:

http://gyroscopicinvesting.com/forum/in ... opic=452.0

Here's the original post by Paul Boyer:

http://madmoneymachine.com/2010/10/22/m ... 2001-2009/

In retrospect, 12-15% doesn't look too bad after all, does it?  Especially when compared to my buddy Rick Ferri's "Core Four" Portfolio, about -45%.  Hope you have some Tums for that one.

[buddtholomew]

It is difficult to watch your investments tread water when the market (S&P500) has such a wonderful week (+5.5%). I am reluctant to allocate additional funds to an investment approach that does not participate in such robust equity moves.

[AdamA]

I am reluctant to allocate additional funds to an investment approach that does not participate in such robust equity moves.

Would you be less reluctant if this robust move were in the downward direction?

[MediumTex]

It is difficult to watch your investments tread water when the market (S&P500) has such a wonderful week (+5.5%). I am reluctant to allocate additional funds to an investment approach that does not participate in such robust equity moves.

Watching the market that closely and drawing conclusions based on weekly moves is very dangerous.

Be careful.

[Exocet]

I've read a lot of rubbish on the net regarding the concept of 'max drawdown.'  It's an excellent concept, easy to understand, but sometimes hard to calculate.  The best way to determine the max drawdown is by multiplying the standard deviation of a security by 3.  There is a statistical reason for this: from stats 101, we now that 3 x STDDEV encompases 99.6% of the instances below a normal distribution curve.  Translating this to investment terms, 99.6% of all of the possible performance outcomes (including the maximum loss) would be within 3 x STD DEV.

The PRPFX has a 10-year STD DEV of around 10% or so.  Therefore, the max drawdown for it would be -30%, give or take.  Many sites (e.g., Google Finance, Yahoo Finance, Morningstar) report STD DEV for different periods.  The longer the std dev you can get, the better. 

[buddtholomew]

It is difficult to watch your investments tread water when the market (S&P500) has such a wonderful week (+5.5%). I am reluctant to allocate additional funds to an investment approach that does not participate in such robust equity moves.

Watching the market that closely and drawing conclusions based on weekly moves is very dangerous.

Be careful.

I don't intend to act on my observations, but are merely highlighting the fact that the PP may lag in times of a robust equity market. Of course, these periods are temporary and are followed by downturns as well.

[melveyr]

I've read a lot of rubbish on the net regarding the concept of 'max drawdown.'  It's an excellent concept, easy to understand, but sometimes hard to calculate.  The best way to determine the max drawdown is by multiplying the standard deviation of a security by 3.  There is a statistical reason for this: from stats 101, we now that 3 x STDDEV encompases 99.6% of the instances below a normal distribution curve.  Translating this to investment terms, 99.6% of all of the possible performance outcomes (including the maximum loss) would be within 3 x STD DEV.

The PRPFX has a 10-year STD DEV of around 10% or so.  Therefore, the max drawdown for it would be -30%, give or take.   Many sites (e.g., Google Finance, Yahoo Finance, Morningstar) report STD DEV for different periods.  The longer the std dev you can get, the better. 

What makes you think that returns follow a normal distribution?

What if the tails are fatter than a normal distribution would suggest?

What if they are skinnier?

I am more tempted to just look at what draw-downs a portfolio has ACTUALLY had, given that the testing period has a diversity of crises and economic conditions.