Black Monday

[Xan]

It sounds to me like he's okay with those big gyrations and (hopefully) higher returns in his longer-term stash, but he's very conservative for his in-case-of-job-loss stash.  Budd, you might just want to go to cash for the job-loss money, and stick with Boglehead for the longer-term.  Toss in some gold for diversification (which you already have a bit of in your long-term stash) and then you're approaching PP/Desert overall.

[buddtholomew]

Thank you for all your comments and I realize it is difficult to understand my personal perspective.

Perhaps I should add this to my tag line.
Retirement portfolio invested 65/35/5 and 100% taxable invested in the PP with additional cash to reduce fixed income duration.
I am comfortable re-balancing in tax-deferred accounts as I have 20+ years before retirement.
My emergency fund and PP is held in taxable for short to intermediate term needs (2-3 years expenses). I am far less comfortable re-balancing in this account.
I have problems reconciling how a conservative allocation like the permanent portfolio + cash can experience losses when the DOW declines 1500 points. Now that we have a rebound, gold and treasuries are getting slammed (as usual). Damned if you do and damned if you don't.

[dragoncar]

Yup, just as I figured. PP down on a down day and down on an up day. What a joke!

the bolded above may be the problem.. the PP was not made to be successful with a day to day investment horizon, it is only going to start looking good in the 5 year time range and only really hit its stride with a ten year horizon.. a day trader outlook and a PP portfolio are oil and water and will never mix.. 

if i hear "PP down on a down decade and down on an up decade. What a joke!" i am going to that think it and i have failed, but i don't expect that to come to pass..  (check back with me in ten years...)

This is ridiculous.  I recently tried an extended period of "looking away" and did find that my PP angst also went away (even though it's down quite a bit since I first started ignoring my investments).  But if I am going to "look away" for decades at a time, I might as well be in 100% stocks.  The reason I wanted the PP is for lower short-term volatility, not for it's lagging crappy long term returns.  Yes, it does have lower short-term volatility, but I find it's still too much to look at daily (personally).

[l82start]

its not so much that you look away for 10 years at a time (you need to look for yearly and for broken band re-balances), its more a question of having a five to ten year expectations set/horizon vs a day traders expectation to be up today and up tomorrow and to be making the big killing regardless of what the market does each day..

[Pointedstick]

But if I am going to "look away" for decades at a time, I might as well be in 100% stocks.  The reason I wanted the PP is for lower short-term volatility, not for it's lagging crappy long term returns.  Yes, it does have lower short-term volatility, but I find it's still too much to look at daily (personally).

For money you don't need for 20 years, and when you're still accumulating, I think I would agree with you that a more stock-heavy portfolio can make sense. However, for money you might need in the next, say, 3-5 years, I think the PP is ideal, and yes, it does have lower short-term volatility than stocks or a Boglehead portfolio. But "lower" is not "none."

I think a lot of people seem to have been under the impression that the PP is a way to get stock returns with cash volatility, and are disappointed because the too-good-to-be-true portfolio turned out to be just that. If you want a return, you have to take some risk, and risk means accepting the possibility of drawdowns and weird day-to-day fluctuations. How much of this you're comfortable with determines the magnitude of the gains you can make. There's no free lunch. I think the PP offers a better risk/reward ratio than many other portfolios, but it's certainly not going to beat a bull stock market or be as nominally stable as cash.

[sophie]

I think the problem is your definition of "long term" vs "short term".

For stocks, "long term" means 15 years at minimum.  If you think you want to access your money in less than 15 years, you might want to rethink a stock heavy portfolio.

If you look at Tyler's PP performance charts, you'll see that "long term" for the PP means more than 3 years.  For rolling 3 year periods, the PP has a nearly perfect score at generating a real return.  and no, I never expected it to match the return of a 100% stock portfolio.

For me, getting "long term" down from 15 years to 3 years is where the PP's magic comes in.  The Boglehead forum will tell you that to reduce volatility, you increase the percentage of short or medium term bonds.  Since those bond funds contain corporates that track the stock market, they only dampen the volatility, instead of providing true diversification.  Thus, all that strategy will do is lessen the pain of stock market dips/crashes.  The PP, on the other hand, is capable of neutralizing them - but like any man-made system, it is not perfect and will not provide 100% day to day protection.  You really do have to give it 3 years, and also consider real - not nominal - returns.

[iwealth]

I have problems reconciling how a conservative allocation like the permanent portfolio + cash can experience losses when the DOW declines 1500 points. Now that we have a rebound, gold and treasuries are getting slammed (as usual). Damned if you do and damned if you don't.

Equities aren't your issue and I can wrap my head around your hatred of gold.

But I can't understand why you care about what LTT's do considering you've already taken steps long ago to fix that problem by holding more cash. You like the barbell but you also feel tortured by one of its components. Do you really think you'd feel this way if you just held IEI or some other intermediate duration ETF? That's essentially what you've built, and on purpose, right? Why do you care at all what TLT does when you only own it as part of a synthetic IEI?

[Tyler]

You really do have to give it 3 years, and also consider real - not nominal - returns.

+1 to everything Sophie said, and I want to build on that last statement.  You need to look at real returns and not nominal returns.  You also need to look at compound returns and not average returns.  Average returns are closer to what you feel in the moment even if they are less accurate for your actual account balance. 

Depending on the numbers you look at, the return on your additional risk may not be nearly as high as you may think. Volatility is not simply an emotional drag but a financial one as well.  http://portfoliocharts.com/2015/08/24/a ... trap/ 

As an example, the average real return of the PP since 1972 is about 1% less per year than a 60-40 portfolio.  But the compound real return that you'd actually experience in real-life dollars is virtually identical (within the range of fund expense ratio differences).  The 40% less volatility in the PP makes up the difference mathematically.  People like to say "higher risk, higher reward" but that isn't always the case. 

I acknowledge keeping an eye on the big picture can be really hard at times.  Investing isn't easy or everyone would have it all figured out by now. 

[mathjak107]

if you want to know about the past you want cagr returns as they account for sequence risk .

if you are projecting forward you want  to use average returns since sequences are unknown .

vanguard gives returna as average , morningstar is cagr .

for those who want to know the difference :

if you are have 10k and are  up year 1 by  100% and down year 2  by  50% you made 0% cagr but your average return is 25% .

depending what you are projecting , forward or backward which you want to use is  determined by what you want to see .

[Jack Jones]

Depending on the numbers you look at, the return on your additional risk may not be nearly as high as you may think. Volatility is not simply an emotional drag but a financial one as well.  http://portfoliocharts.com/2015/08/24/a ... trap/ 

Hey, great article, Tyler! Thanks for writing it!

[dualstow]

From Tyler’s article:

Recently, a 100% stock market investor starting in 2000 experienced 13 years of negative real returns before finally breaking even.

I wish there were a tool out there — and maybe there is — that lets you add in ongoing cash infusions. I didn’t start really investing until 2004. However, I was able to put a significant amount into stocks on really bad days in 2009. Not the absolute bottom, but really bad days.

I have seen tools that let you input regular, automatic investments. Buys at specific prices, though- it gets complicated.

[Tyler]

if you want to know about the past you want cagr returns as they account for sequence risk .

if you are projecting forward you want  to use average returns since sequences are unknown .

IMHO, switching measures to the more rosy one looking forward is exactly what gets many investors in trouble and sets them up for disappointment. Years later they'll look back at their returns and say the portfolio no longer works as it was sold to them, when in reality they were using unrealistic projections to begin with.

Since 1900, the compound real return of the S&P500 trails the average real return by 22% per year (6.6% vs. 8.5%).  http://www.moneychimp.com/features/market_cagr.htm  Those choosing to invest in stocks based on average returns would have accumulated (on average) 41% less money than they expected 30 years later.  Most investors would agree that's a big difference but are completely unaware of that fact.  Invest however you please, but ignore the effect of volatility in your own future projections at your own risk.

@Jack Jones -- Thanks!  If you find it helpful, please spread the word.

[mathjak107]

it is so important to understand i will say it again    lol .for looking at things in the past you use cagr returns . projecting in to the future you use average since sequence risk can be big .

vanguard quotes average returns  on their site while morningstar is cagr .

think about it ,  if you go 100%  the first year and down  50% the second year your cagr is zero % return but that could be expressed as a 25% average return .

a sly advisor could get away saying that was a 25% average return even though you got zero

[AnotherSwede]

it is so important to understand i will say it again    lol .for looking at things in the past you use cagr returns . projecting in to the future you use average since sequence risk can be big .

Say it again. Louder and slower. I still don't understand what use I have for average returns.

[Tyler]

Those choosing to invest in stocks based on average returns would have accumulated (on average) 41% less money than they expected 30 years later. 

Following up, I wanted to point out that after more research this part of my previous statement is likely incorrect.  Volatility drag is absolutely real, but that particular factoid is from an inappropriately simplified calculation. 

Also, Mathjak's point about future returns and averages is not unfounded but does require a caveat.  Long story short:  Looking at history (where the order of returns is certain) compound returns always trail the average and are the more useful measure of performance.  Projecting into the future (where order of returns is unknown), averages are helpful because they are order of returns neutral.  However, volatility still matters.  Volatility does not mean you will always earn less than the historic average (you could get lucky and hit a hot run), but higher volatility does lower the median endpoint, reducing your odds of an enjoyable outcome.

Ain't math fun? 

[mathjak107]

also the less volatile the asset the less the spread . the spread between cagr and average  is greater for the s&p 500 vs a balanced fund , vs bonds vs cash .

even the mix of the portfolio matters so like the pp volatile assets can be tempered down to a point the spread is reduced  far more than the assets reflect .

that is why it is hard to use cagr for projecting out .

[dualstow]

Tyler, as I wrote in my PM reply, I am really taken with the Hurricane calculator at portfoliocharts. Thanks for mentioning it!
The Max and Min are good enough, so forget about the wrestling Really Bad Days data.
Also....from the results of the hurricane calc, it looks like I'm going to be rich when I'm old. Huzzah!

[lordmetroid]

It would be cool if the hurricane calculator could show how many paths ended up as positive and how many ended up negative relative to the starting value

[mukramesh]

it is so important to understand i will say it again    lol .for looking at things in the past you use cagr returns . projecting in to the future you use average since sequence risk can be big .

Say it again. Louder and slower. I still don't understand what use I have for average returns.

Actually I have the same question. What is the point of using average returns at all? In the Year 1 100%, Year 2 -50% case, isn't it somewhat irrelevant that the average return is 25%? I don't see why average returns would be useful for projecting forward.

[Tyler]

I don't see why average returns would be useful for projecting forward.

I lost many hours of my life reading about this last night that I'll never get back.  It's boring and confusing.  Let me see if I can summarize so you don't suffer the same fate.

Let's look at an extreme example of playing roulette and always betting on black. You have a 50% chance of doubling your money and a 50% chance of losing everything with every spin (for the gamblers looking at me funny, let's ignore the zeros for now).  That's about as volatile as you can get.  Now let's say you spin twice. There's a 25% chance you have quadrupled your money, and a 75% chance you lost everything.  Plan to do it ten times in a row, and there's a 0.1% chance you will increase your original bet by 1024x but I can pretty much guarantee that won't happen.  Because of that small chance of a big gain, the average return for trying the same methodology repeatedly is not zero even if you will almost assuredly never achieve it. 

Now let's say someone has an insane run and you watch them do it.  Looking at their end wheelbarrow of chips and counting the spins, you calculate that their CAGR is 100%.  Pretty great!  But that's for something that already happened and ignores the low odds of that exact pattern repeating.

When trying to decide whether putting it all on black is a good retirement strategy for yourself and 10k of your closest friends, the average return is technically more accurate for projecting future average balances than a single (potentially anomalous) CAGR.  However, it is still deceptive in that it does not convey your personal odds of achieving that average.  Depending on how diverse your data set is, a long term CAGR can be a decent estimate for median return looking forward, and for conservative planning I personally prefer it to average returns if you insist on using one number. Watch the wheel spin 30 times after the lucky winner is long since gone (scooped up by suspicious casino personnel, probably), you would have figured that the CAGR/median for the future is most likely zero and stayed far away.

If that's all exhausting and confusing, I totally understand.  Basically, predicting the future is hard and both average returns and CAGRs are imperfect for returns projections as neither tell the whole story.  A math-free alternative is to ignore both numbers and play with the Hurricane calculator at PortfolioCharts (or Firecalc if you only care about broad stocks and bonds but want more history).  It will help you see the full range of account balances using annual contributions or withdrawals and real-life historic returns that cover all kinds of economic conditions.  Look at the max and min for your timeframe, and realize that the returns in the future will likely be somewhere in between. 

[mathjak107]

it is so important to understand i will say it again    lol .for looking at things in the past you use cagr returns . projecting in to the future you use average since sequence risk can be big .

Say it again. Louder and slower. I still don't understand what use I have for average returns.

Actually I have the same question. What is the point of using average returns at all? In the Year 1 100%, Year 2 -50% case, isn't it somewhat irrelevant that the average return is 25%? I don't see why average returns would be useful for projecting forward.

the answer is average returns should never be used to judge the past .

sequence risk is a bigger risk than market return risk is especially if retired and spending down .

trying to project forward can't really use sequence risk (cagr ) since results can be way skewed compared to outcome .

[Cortopassi]

Are these swings the new normal for a while?  -500, -500, -200, +600?

This is insane. 

[buddtholomew]

Are these swings the new normal for a while?  -500, -500, -200, +600?

This is insane.

Is the PP positive on any of those days?

[mathjak107]

nope but it was a whole lot less volatile and did have less losses although the pp lost ground from that point the last 2 days . but it still did not lose as much .

of course when the recovery happens in equity's  i  will guess and say i do expect  it will happen before my hypothetical  pp shows a profit again since it is hard to come back from that 44k loss with the assets fighting each other . retracements in equitys tend to happen fairly quicker .

[Tortoise]

Are these swings the new normal for a while?  -500, -500, -200, +600?

This is insane.

In finance, it's known that volatility tends to cluster in time rather than being nice and spread out over time. The term they use is volatility clustering.