Exiting the PP

[melveyr]

Budd,

There is no perfect investment portfolio, so I wouldn't worry too much.  Additionally, I don't think the PP has to be some cult or religion. It works and so I use it. If something better comes along with an easy explanation I would jump ship in a heart beat. I am always trying to tear it down! Thus far, I haven't in my mind.

I totally agree with the other posters about cash. Adding more reduces the portfolios risk, and decreasing it or taking a negative amount (through leverage) increases risk. There is nothing magical about the 25% weighting. I do think the other three assets are carefully balanced, but not cash. When you look at portfolio theory or the actual return data itself you will likely agree with these statements. I think of it as a dial. How much risk/return do you want to dial in?

[Pointedstick]

Don't get me wrong Budd, the PP is an excellent portfolio, and far, far better than 99% of anything else, IMHO. The PP offers great performance and excellent protection in all major economic climates plus a bit of "catastrophe insurance" in the form of physical bullion. But one thing it's not is a no-to-low volatility portfolio. It will avoid crushing multi-year drawdowns, but you gotta be prepared for the day-to-day fluctuation to sometimes include big drops. That's true of anything that's not 100% cash, including a 60/40 portfolio--even more so, in fact.

There is nothing sacred about the PP, and I don't think there's anything wrong with taking the PP framework and asking yourself how it works, then tweaking it to match your psychology better while preserving its core insights. Adding more cash to dampen volatility, for example, or even removing cash and accepting higher volatility and vulnerability in a tight money recession. Either of those portfolios are certainly "PP-like."

In the end, I think the most important thing is to implement a portfolio that matches your psychology, not adopt something and then rigidly stick to it no matter what, regardless of how it makes you feel. If your investment portfolio doesn't match your personal psychological risk profile, eventually you'll break and sell at the worst time. Ask me how I know this… 

[buddtholomew]

I appreciate all of your perspectives and truth be told, I hold a substantial portion of my portfolio in TE Munis and CD's to dampen PP volatility. I'm just not so sure that the additional cash position reduces risk in the event that inflation increases.

I'm not married to the PP, but I think it is important to maintain a constant allocation (in my case 4x25) irrespective of the current economic climate. We only see posts of this nature when there is a strong belief that one or more of the components will under-perform moving forward. This is a slippery slope and can often lead to excessive trading and AA changes at the wrong time (strategic as they may appear at first sight).

[Pointedstick]

I appreciate all of your perspectives and truth be told, I hold a substantial portion of my portfolio in TE Munis and CD's to dampen PP volatility. I'm just not so sure that the additional cash position reduces risk in the event that inflation increases.

I think it absolutely does. Rising inflation will be accompanied by rising interest rates unless something is very wrong, in which case gold will go bonkers and you'll be able to buy a car for a Krug. Rising interest rates will be kind to your short-duration fixed-income products and cash because they will adjust to the new, rising rates. This will offset the positive volatility in your gold and the negative volatility in your 30-year bonds.

[iwealth]

I appreciate all of your perspectives and truth be told, I hold a substantial portion of my portfolio in TE Munis and CD's to dampen PP volatility. I'm just not so sure that the additional cash position reduces risk in the event that inflation increases.

I think it absolutely does. Rising inflation will be accompanied by rising interest rates unless something is very wrong, in which case gold will go bonkers and you'll be able to buy a car for a Krug. Rising interest rates will be kind to your short-duration fixed-income products and cash because they will adjust to the new, rising rates. This will offset the positive volatility in your gold and the negative volatility in your 30-year bonds.

Right, cash doesn't literally mean you are hiding cash under your mattress in which case sure, inflation is screwing you big time.

[melveyr]

We only see posts of this nature when there is a strong belief that one or more of the components will under-perform moving forward. This is a slippery slope and can often lead to excessive trading and AA changes at the wrong time (strategic as they may appear at first sight).

This is a great insight. When do constant changes in "strategic" asset allocation become tactical? 

[dualstow]

This is a great insight. When do constant changes in "strategic" asset allocation become tactical? 

It happened around the time "horrible" became "horrific" and "substantial" yielded to "substantive." 
I'll have to check google N-grams in a few years.

[rocketdog]

I'm not married to the PP, but I think it is important to maintain a constant allocation (in my case 4x25) irrespective of the current economic climate.

I think it's important to keep the PP at 4x25, and if you want to tweak it then do that by using a VP.  That way the PP will protect you from yourself if you're wrong. 

In other words, let's say you think you'd be better off with a 15/30/20/35 PP.  What you'd do is this:

PP = 4x15
VP = 0/15/5/20

In a $100K portfolio it would look like this:

PP              VP
Cash  = $15K  Cash  = $0K
Bonds  = $15K  Bonds  = $15K
Gold  = $15K  Gold  = $5K
Stocks = $15K  Stocks = $20K

The only trouble is in keeping them separate in your mind.  It might be helpful to do that by purchasing one fund to represent the PP holding and a different fund to represent the VP holding.  Something like this:

PP              VP
Cash  = SHY    Cash  = SCHO
Bonds  = TLT    Bonds  = EDV
Gold  = SGOL  Gold  = IAU
Stocks = VTI    Stocks = SPY

[buddtholomew]

Thanks for the comments, but I am a staunch advocate of 4x25. The balance of my portfolio (VP) is 60/40. I am arguing against modifying the vanilla PP percentages as some have suggested if it was not clear from previous posts in this thread.

How can you be a staunch advocate of 4x25 if some of your portfolio is in a 60/40?  At the end of the day, your volatility, max drawdown and return are going to be a function of your overall allocation, without regard for some mental separation between VP and PP. 

Do you even know what your overall allocation is?

No, how do I calculate my overall allocation? 

PP is taxable for short to medium term expenses and VP is 60/40 earmarked for retirement. Thanks for the insight oh wise one.

[escafandro]

There's nothing magical about the 25x4 -- it was a simplified portfolio thrown together in 1987 by HB for mainstream investors.  His great contribution is correlation of asset classes to economic conditions, not equal weighting a portfolio.

Is there any available historical statistics to see how frequently and how long it has been occurring every economic condition?
Perhaps it would help to work with weights in each asset.

[iwealth]

So I'm not knocking anyone here, but since the VP came up in this thread and then someone asked about overall allocation, I just had to ask.

I still don't understand VP's. Are these intended to purely ease emotional issues with the PP and/or "conventional" portfolios? Why aren't we just choosing an overall allocation and calling it what it is? For instance, I say that I have half my money in the PP and half in a 50/50 conventional portfolio. But really I don't have a PP or a conventional portfolio. What I have is 37.5% stocks, 12.5% LTTs, 12.5% cash, 25% ITTs, and 12.5% gold.

I've read the VP FAQ, but having read that it seems the intent of the VP as it relates to a PP holder versus how some people use it are very different. The FAQ reads like it's a lottery ticket, and that's fine. But others seem to use it to hold long-term funds in a non-PP allocation. To which I have to ask why not just call your allocation what it is?

To each their own I guess.

[melveyr]

So I'm not knocking anyone here, but since the VP came up in this thread and then someone asked about overall allocation, I just had to ask.

I still don't understand VP's. Are these intended to purely ease emotional issues with the PP and/or "conventional" portfolios? Why aren't we just choosing an overall allocation and calling it what it is? For instance, I say that I have half my money in the PP and half in a 50/50 conventional portfolio. But really I don't have a PP or a conventional portfolio. What I have is 37.5% stocks, 12.5% LTTs, 12.5% cash, 25% ITTs, and 12.5% gold.

Granted I've not read the book, maybe the explanation is in there.

The rebalancing mechanism is what separates them. If you are really doing a VP as HB talked about, you wouldn't ever be selling PP assets to buy the VP assets.

So if I have a 50/50 stock/bond portfolio and a PP, their rebalancing bands are entirely separate from each other. They are run separately as two different portfolios.

One way of approaching the VP is like taking money to the casino. You give yourself a set amount and you don't drain your ATM when you feel like gambling more.

[iwealth]

The rebalancing mechanism is what separates them. If you are really doing a VP as HB talked about, you wouldn't ever be selling PP assets to buy the VP assets.

So if I have a 50/50 stock/bond portfolio and a PP, their rebalancing bands are entirely separate from each other. They are run separately as two different portfolios.

One way of approaching the VP is like taking money to the casino. You give yourself a set amount and you don't drain your ATM when you feel like gambling more.

Where I'm getting lost is that I see people purchasing identical assets in their VP as they already hold in the PP. And that makes sense to me I suppose if you are wheelin and dealin in there trading moving averages, gut feelings, felt like holding a few random stocks, whatever - but even holding true to what you mentioned about rebalancing, if you are holding long term funds in an allocation separate from the PP .. and you are using identical funds owned in your PP .. have you gone beyond the scope of the appropriate intent of having a VP in the first place?

[AgAuMoney]

So I'm not knocking anyone here, but since the VP came up in this thread and then someone asked about overall allocation, I just had to ask.

I still don't understand VP's. Are these intended to purely ease emotional issues with the PP and/or "conventional" portfolios? Why aren't we just choosing an overall allocation and calling it what it is? For instance, I say that I have half my money in the PP and half in a 50/50 conventional portfolio. But really I don't have a PP or a conventional portfolio. What I have is 37.5% stocks, 12.5% LTTs, 12.5% cash, 25% ITTs, and 12.5% gold.

I've read the VP FAQ, but having read that it seems the intent of the VP as it relates to a PP holder versus how some people use it are very different. The FAQ reads like it's a lottery ticket, and that's fine. But others seem to use it to hold long-term funds in a non-PP allocation. To which I have to ask why not just call your allocation what it is?

I do both.  It is really just an accounting and management distinction.

I have 40% of my assets I manage as a PP.  I do not expect to add  to this, and in fact as I add to (and hopefully experience better returns) in what is currently my 60% VP, I expect the percentages to shift so that more and more is VP.

That's what I want.  I feel the amount I have in the PP is a sufficient "safety net" to keep for the purposes of safety and security.

The rest of my portfolio can be invested in such a way that it experiences more volatility and hopefully higher returns.

So when someone talks about adding cash or in other ways structurally alternating the 4x25 so it is no longer in the HB ranges, in reality they are creating a VP and explicitly deciding to keep moving funds between the PP and the VP.  That's the part I don't like.

[dualstow]

I think it's pretty clear. The vp is money that you are willing to possibly lose. You can do whatever you want in there.
Desert said

At the end of the day, your volatility, max drawdown and return are going to be a function of your overall allocation, without regard for some mental separation between VP and PP.

and that's true. But when you say

Your overall allocation is what's important.

it's a little less true. What's important is subjective. Mathematically, the overall allocation is what counts. But for the human behind all this, that mental separation counts for something, too! (Note to doodle: this is not an invitation to turn this into a thread about why the Borg is so wonderful. J/K.    )

I have a vp with assets that I would never put in the pp. My pp is "pure". It is also growing as a % of {pp+vp}.

iwealth, you mentioned that things get trickier when people start putting the same assets in their vp, but the vp allows market timing just as it allows non-pp assets. In short, there are no rules in the vp. The golden rule is that you don't mess with your pp. As long as you don't leech your pp to fund your vp, all should be well.

[rocketdog]

I think it's important to keep the PP at 4x25, and if you want to tweak it then do that by using a VP.  That way the PP will protect you from yourself if you're wrong. 

I don't agree with this at all.  Your portfolio doesn't know that you are somehow mentally separating your investments into two buckets.  Your overall allocation is what's important.  The volatility and return of your investments will depend on your overall allocation, so it's important to know what it is and why you have it set up that way.  That's one thing the Bogleheads and others figured out correctly a long time ago.

To not agree with my example is to not agree with holding a VP in addition to a PP.  Which is fine, but many (most?) of us like having a little more control by implementing a VP on the side.  My example was meant to show how you can have an "overall allocation" while still building a PP within that allocation.  You just have to build the VP on top of the PP.  Think of it as an extension of it, where the various parts don't equal one another. 

I hope that makes sense?

[buddtholomew]

rocketdog and dualstow:

I see your point(s) regarding the VP.  I can see how it could be useful to have the mental firewall between one constant allocation and one variable/risky allocation. 

I think I still struggle to understand why one would separate two fixed allocations (like a PP and a Bogle portfolio, for example) into a VP and PP, but perhaps Melveyr's point about the rebalancing separation is the reason there. 

Now, if we can just expand the VP notion to include negative allocations, I can claim to be holding a PP and VP! 

Personally, I could not allocate 100% of capital to any investment philosophy and believe that I have greater diversification by investing in a BH portfolio as well. I have significantly shortened FI duration in this portfolio to counterbalance LTT exposure in the PP (AVG duration 5.18 years) and also hold international, emerging markets, REIT, SC, extended market, a mining ETF and TIPS. As mentioned previously, the PP is primarily held in taxable along with CD's and TE munis. All percentages are managed closely with re-balancing bands and I'm not overly concerned with any overlap in holdings (primarily with VINIX and SPY (S&P500). I may be overweight in cash and cash-like instruments for my age, but am comfortable with the volatility and am on target to achieve my goals.

[AdamA]

I may be overweight in cash and cash-like instruments for my age...

I doubt it.  Cash keeps the ride smooth.  If you're going to be "overweight" any asset, that's the one to do it with, IMO.

[buddtholomew]

I may be overweight in cash and cash-like instruments for my age...

I doubt it.  Cash keeps the ride smooth.  If you're going to be "overweight" any asset, that's the one to do it with, IMO.

I'm 39 and thats comforting to hear. I recently completed a rollover IRA and and established a position in GDX with approximately 2.5% of overall portfolio. The rest of the rollover is in cash to rebalance this position. I was reluctant to increase my equity percentage but rationalized the move after looking at the recent underperformance of the mining sector. This is money earmarked for retirement held in a VP.

[AdamA]

Just a quick update on this topic. I exited the PP and went to the following allocation in March:

60% 5-year Treasuries
10% Total Stock Market
10% Small Cap Value
10% Physical Gold
10% Cash (all I Bonds)

My hope was that this allocation would provide PP-like returns with reduced risk.

The last few months have been tough for many of us.  This portfolio has declined, though the draw-down to date is roughly half the PP draw down.  So I think the allocation is delivering reduced risk so far, which is good to see. 

I still believe the PP is a bit too risky for some very risk-averse investors, including myself.

I'm glad to see exited into something safe.

You should post your returns quarterly.

[koekebakker]

I like your allocation a lot. It's more conservative than the traditional PP and better diversified than a standard 25/75 stock/bond portfolio.

I still believe the PP is a bit too risky for some very risk-averse investors, including myself.

Agree. Your portfolio is probably a better idea for very risk-averse investors!

[doodle]

I think it might be less important what strategy you use, and more important that you just stick by one. Constantly second guessing your strategy when it starts to have a few down months is bound for failure. Havent we all learned from the past that constantly adjusting things is a recipe for disaster? The PP is a strategy as sound as any other with more protection against ctastrophes. Sometime sooner or later things will reverse and the PP will outperform your present strategy and then you will wonder why you didnt go all in to the PP. Im staying the course. Ive had enough experience with playing around to know that Im no good at it.

[frugal]

I think it might be less important what strategy you use, and more important that you just stick by one. Constantly second guessing your strategy when it starts to have a few down months is bound for failure. Havent we all learned from the past that constantly adjusting things is a recipe for disaster? The PP is a strategy as sound as any other with more protection against ctastrophes. Sometime sooner or later things will reverse and the PP will outperform your present strategy and then you will wonder why you didnt go all in to the PP. Im staying the course. Ive had enough experience with playing around to know that Im no good at it.

good!

PERMANENT strategy, this is for our sons to spend not for us.


rdgs