Simple volatile uncorrelated VP

[BearBones]

As a small satellite holding, I have a Roth IRA that I would like to set up as a high stakes variable portfolio.  I would like to put together 2-4 asset classes that are highly volatile and roughly uncorrelated. Similar in principle to the HB PP, gains would be captured by rebalancing. For one asset I was thinking of a miners etf, such as GDXJ. For the others, perhaps TLT or EDV and a small cash reserve? Any ideas anyone?

[MediumTex]

GDXJ and EDV sounds like a great VP setup to me.

[Gumby]

And the 1 year performance (including dividends from both ETFs, and no rebalancing) is....

[MediumTex]

Thanks for the chart Gumby.

That's what my intuition was telling me.

[AdamA]

GDXJ and EDV sounds like a great VP setup to me.

How would you guys do it?  50%/50% with bands? 

[BearBones]

Thanks MT and Gumby. Your chart shows the wild ride with 2 volatile asset classes. My gut tells me that it might be best to have a cash reserve too, perhaps 20-25%, since there could be times when both primary asset classes drop, leaving me with little money to buy at the lows. So something like 40% GGXJ, 40% EDV and 20% SHV may be what I will do. Or perhaps I will make a more heavy bet on the miners, doing something like 50% GDXJ, 30% EDV, and 20% SHV. I could lose my shirt (or at least all but the sleeves), but I guess that is the role of a VP.

[AdamA]

Thanks MT and Gumby. Your chart shows the wild ride with 2 volatile asset classes. My gut tells me that it might be best to have a cash reserve too, perhaps 20-25%, since there could be times when both primary asset classes drop, leaving me with little money to buy at the lows. So something like 40% GGXJ, 40% EDV and 20% SHV may be what I will do. Or perhaps I will make a more heavy bet on the miners, doing something like 50% GDXJ, 30% EDV, and 20% SHV. I could lose my shirt (or at least all but the sleeves), but I guess that is the role of a VP.

It seems like  a very good idea for a VP.  When would you get out?  Or would you?

[BearBones]

When all of the money is gone. It would be a long term bet on the days of economic prosperity being largely behind us (see discussion on population growth and peak oil).

[EM2]

Please, what am I missing?  After a year all three end up at the same place.  How has the volatility helped?

thanks!

Maggie

[AdamA]

After a year all three end up at the same place.  How has the volatility helped?
Maggie

That's exactly the point.  When miners are through the roof, you sell some of them and buy zeros, and vice versa. The amount you buy/sell depends your what your rebalancing bands are.

For example, if you're 50%/50%, you could rebalance every time one of the assets got to 75%, so you'd be selling the winner to buy the loser. 

[AdamA]

When all of the money is gone.

That's a good plan to get out if things go bad, but what if they go well?  Would you just keep juggling the two assets back and forth, or would you eventually sell out of the strategy and take profits at some point?

[BearBones]

You are way ahead of me, Adam. Thanks for the questions.

In theory, I would stay in unless one of the asset classes did not look like it was a good long term bet or a good diversifier. In reality, this would be difficult to predict. I would probably get out of EDV if it looked imminent that the dollar was no longer going to be the world's reserve currency. But I think that mining, metals, and energy are going to be good investments throughout our lifetime. Problem is, they can be very volatile, as seen in 2008. In this VP model, however, I would have hit a rebalancing band and bought at a low, as you indicated in your last post. I think that this is a good way to hold volatile investments, especially in tax deferred accounts.

[BearBones]

Please, what am I missing?  After a year all three end up at the same place.  How has the volatility helped?

To add to Adams comment, in picking relatively non-corellated assets, it would be the exception rather than the rule that all are up or down at the same time. So EDV and GDXJ are picked because should be relatively non-correlated (just not as much as the classes in HB's PP).

[AdamA]

You are way ahead of me, Adam. Thanks for the questions.

In theory, I would stay in unless one of the asset classes did not look like it was a good long term bet or a good diversifier. In reality, this would be difficult to predict. I would probably get out of EDV if it looked imminent that the dollar was no longer going to be the world's reserve currency. But I think that mining, metals, and energy are going to be good investments throughout our lifetime. Problem is, they can be very volatile, as seen in 2008. In this VP model, however, I would have hit a rebalancing band and bought at a low, as you indicated in your last post. I think that this is a good way to hold volatile investments, especially in tax deferred accounts.

So you would basically treat it with the same respect as your PP.  ie, you believe in the underlying principles and are willing to hold it for a long time (even decades) to see it perform. 

Do you think you'll put a fixed dollar amount in all at once, or do you plan to contribute regularly?

Seems like psychologically the easiest thing would be to put a fixed amount in and then forget about it (outside of rebalancing).  May be tough to actually add new money, especially if you start to have periodic doubts about its ability to perform. 

I'm intrigued.  It seems like a good idea.

For the record, I have a no VP myself, so don't put too much stock in what I think about it.

 

[KevD]

And the 1 year performance (including dividends from both ETFs, and no rebalancing) is....

Hi Gumby,

Fascinating chart!

Do you use a special software program to generate those results?

Thanks,
KevD

[BearBones]

So you would basically treat it with the same respect as your PP.  ie, you believe in the underlying principles and are willing to hold it for a long time (even decades) to see it perform. 

Yes. That's what I am planning.

Do you think you'll put a fixed dollar amount in all at once, or do you plan to contribute regularly?

I would move all of my Roth into this portfolio allocation (currently in cash waiting for an investment decision). If I can continue to fund a backdoor Roth (fund nondeductible IRA, then transfer to Roth the next day), I will add the full amount each year. No tax advantage at the onset, but I will use the tax advantaged vehicle going forward for a volatile VP in which there may be a lot of selling and buying at rebalancing bands.

[Gumby]

Hi Gumby,

Fascinating chart!

Do you use a special software program to generate those results?

Thanks,
KevD

Google Finance!

http://googlefinanceblog.blogspot.com/2 ... rolls.html

[KevD]

Cool!  I guess I'm going to have to break down and try some of these new Google tools. 

Thanks Gumby. 

[escafandro]

In order to learn, Why choose specifically GDXJ and EDV?
What other assets class are highly volatile and uncorrelated?
regards

[AdamA]

In order to learn, Why choose specifically GDXJ and EDV?
What other assets class are highly volatile and uncorrelated?
regards

It's not easy to find these pairs, and there's a fine line between a choice like GDXJ and EDV (good) and monkey-dart-parlor (as MT likes to discuss) selections (bad).

One thing I have thought might work okay would be SPY vs. the VIX, probably like 80%/20%.  I don't really understand the VIX, though, so this is nothing more than an idea.  Also, I wouldn't feel real good about having such a stock heavy investment right now, although in the long run it shouldn't really matter. 

[BearBones]

In order to learn, Why choose specifically GDXJ and EDV?
What other assets class are highly volatile and uncorrelated?
regards

Nothing particularly special about these 2 except that they are volatile, rather uncorrelated, and I was interested in GDXJ. In term of asset classes there are primarily those 4 in the HB PP, right? However, the array of specific choices are vast (e.g, a small cap value fund or SLV and TLT).

I'm interested in exploring this more too. What other 2-4 specific investments might others choose?

[clacy]

Even though Harry Browne advocated using 4 asset classes (US stocks, Gold, Cash, LTT), there is certainly more than that to chose from.  Here is a quick, off the top of my head list of asset classes and sub-classes:

-US Stocks: many sub classes and sectors here obviously
-Foreign Stocks:  emerging, developed, individual countries and large/small cap, etc
-Gold:  I, like Harry Browne would consider gold separate from other commodities
-Real Estate:  REITs (international, US, residential, etc), residential home, rental properties, vacation properties, farm land
-Commodities:  Ag sector (grains, livestock, agribusiness, softs), Precious metals, Industrial metals, Energy sector (crude, natty, heating oil, etc)
-Cash/Currencies:  $USD, and a wide variety of foreign currencies
-Bonds:  many choices here.....treasuries of many different maturities, foreign government, inflation protected, corporate high quality, corp low quality, muni, mortgage backed, etc

I'm sure I've forgotten many.  I know there are correlation charts that I've seen in the past that detail how correlated many asset classes are to one another.  It would be great if someone could link such a chart.

[moda0306]

Options are "an option." (sorry)

Futures as well, but those are extremely dangerous.  I don't like things where I can be on the hook for more than my principal.

[Gumby]

Even though Harry Browne advocated using 4 asset classes (US stocks, Gold, Cash, LTT), there is certainly more than that to chose from.  Here is a quick, off the top of my head list of asset classes and sub-classes:

-US Stocks: many sub classes and sectors here obviously
-Foreign Stocks:  emerging, developed, individual countries and large/small cap, etc
-Gold:  I, like Harry Browne would consider gold separate from other commodities
-Real Estate:  REITs (international, US, residential, etc), residential home, rental properties, vacation properties, farm land
-Commodities:  Ag sector (grains, livestock, agribusiness, softs), Precious metals, Industrial metals, Energy sector (crude, natty, heating oil, etc)
-Cash/Currencies:  $USD, and a wide variety of foreign currencies
-Bonds:  many choices here.....treasuries of many different maturities, foreign government, inflation protected, corporate high quality, corp low quality, muni, mortgage backed, etc

I'm sure I've forgotten many.  I know there are correlation charts that I've seen in the past that detail how correlated many asset classes are to one another.  It would be great if someone could link such a chart.

Browne chose those four assets because they are directly tied to the four economic environments. The problem is that those other assets can become less correlated in some economic environments — which is what has happened over the past few years. Real Estate can go down during moderate inflation, bonds with credit risk can go down during deflation, many commodities are influenced by random changes in supply and demand, foreign assets can fall or rise due to exchange rates and other factors, etc., etc.

You can't just choose random assets because some of them have shown negative correlation over one or two decades. Gold and Gold Mining Stocks do extremely well during inflationary conditions and Long Term Treasuries do extremely well during deflationary conditions. It would be difficult to find two assets that are more negatively correlated from an economic standpoint.

Besides, why make it more complicated? The title of this thread is, "Simple volatile uncorrelated VP"

[clacy]

Besides, why make it more complicated? The title of this thread is, "Simple volatile uncorrelated VP"

I was just responding to his question about "other 2-4 assets that one might chose".  Frankly, there are many negatively correlated assets besides just LTT/gold miners.  If he's going to just revert back to making sure he's covered under any economic phenomenon, then he might as well just stick to the HBPP, IMO. On the other hand, that isn't what the VP is necessarily intended to do.