Gyroscopic Investing

Hi. This is my first post here. I'm trying to decide how to rearrange my investments for the bumpy ride which might be coming up.

The concept of the PP is attractive. I like the idea of passive investing, of having a bulletproof portfolio for all seasons, and of not trying to outsmart the markets. However, I am skeptical about stocks for the next few years. I also run a small software business, so in a sense I already own "stocks".

What would be the downside of a PP-like portfolio, but without the stocks? For example, 33% gold, 33% cash and 33% bonds. Or maybe 50% gold, 25% cash and 25% bonds.

I do realize that this sort of tinkering goes against the core philosophy of the PP, as it breaks rule #4 ("nobody can predict the future"). My question is more about the practical risks. In what sort of economic environment are stocks needed to carry the portfolio? How big is the risk of leaving them out? And can I consider my own business as a stock substitute?

Is your company publicly traded? Probably not, which makes the comparison to broad market ETF a far stretch. A big part of the PP is rebalancing, and your private company is likely to be illiquid.

If I were you, I would hold onto my business and use the PP for my savings. This combination is still more conservative than most approaches.

melveyr wrote: Is your company publicly traded? Probably not, which makes the comparison to broad market ETF a far stretch. A big part of the PP is rebalancing, and your private company is likely to be illiquid.

I'm the only full-time "employee" and have no plans to sell. It's just that when stocks do well, my income will tend to be higher. Shouldn't this reduce my desire for real stocks?

Basically, I am trying to come up with an excuse to remove stocks from the PP, at least for the next few years.

If I were you, I would hold onto my business and use the PP for my savings. This combination is still more conservative than most approaches.

Yes, agreed.

You need stocks to counterweight the volatility from Long Term Treasuries (and vice versa).

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On most days, when inflation is low, the volatility from Stocks and Long Term Treasuries generally cancel each other out — providing a nice smooth ride. But, over time, the winning asset, between those two, will rise a bit faster than the loser will decline, as we see above. (While Gold is there to protect your purchasing power, of course).

If you eliminate stocks, you just end up with a very volatile bond and gold portfolio. It may do well when times are very bad, but it's also highly speculative. Whereas the PP is agnostic to the future — it doesn't speculate in any direction.

Furthermore, if you try that bond/gold approac — buying stocks again when you feel more comfortable — you likely will end up taking part in a "dumb money/sheeple" operation.

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Stocks can turn around at an instant, and finding the bottom can be tricky. We are hardwired to sell at the worst possible times and buy at the worst possible times. This means that if you're like most people, you will likely buy back into stocks after much of the gains have already been realized.

At any given time you're going to hate holding one of the four assets. If it's stocks today, it will be bonds or gold tomorrow. Better to just accept that one of them are always going to be doing poorly and get a smooth ride the entire time.

There's nothing wrong with skipping stocks. It's just that you won't have a permanent portfolio, or even a pp-like portfolio.
If you truly like the idea of passive investing, that means buying components even when you don't like them.

Even in a long term secular bear market for stocks like we are in right now, you will see very strong rallies like we have seen since March of 2009.  You need to be in stocks so you can participate in those moves, even if stocks overall are not doing much.

Buying stocks in March of 2009 did not feel like a smart thing to do, but it was.

Gumby wrote: You need stocks to counterweight the volatility from Long Term Treasuries (and vice versa).

[align=center][/align]

On most days, when inflation is low, the volatility from Stocks and Long Term Treasuries generally cancel each other out — providing a nice smooth ride. But, over time, the winning asset, between those two, will rise a bit faster than the loser will decline, as we see above. (While Gold is there to protect your purchasing power, of course).

If you eliminate stocks, you just end up with a very volatile bond and gold portfolio. It may do well when times are very bad, but it's also highly speculative. Whereas the PP is agnostic to the future — it doesn't speculate in any direction.

Thanks!

In an environment where stocks are climbing and LTTs are falling, how far might a 33% gold, 33% cash, 33% bond portfolio fall? Was there any historical period where this happened? How would this type of environment look macroeconomically?

Also, would 50% gold, 50% cash be better balanced (than the 33/33/33)?

Furthermore, if you try that bond/gold approac — buying stocks again when you feel more comfortable — you likely will end up taking part in a "dumb money/sheeple" operation.

[align=center][/align]

Stocks can turn around at an instant, and finding the bottom can be tricky. We are hardwired to sell at the worst possible times and buy at the worst possible times. This means that if you're like most people, you will likely buy back into stocks after much of the gains have already been realized.

At any given time you're going to hate holding one of the four assets. If it's stocks today, it will be bonds or gold tomorrow. Better to just accept that one of them are always going to be doing poorly and get a smooth ride the entire time.

Yes, I understand that this is the PP philosophy. I'm guess I'm still fighting with it a little bit.

Sleeping at the Wheel wrote:
Yes, I understand that this is the PP philosophy. I'm guess I'm still fighting with it a little bit.

This is a normal part of the process.

It's like getting a horse to wear a saddle.

MediumTex wrote: Even in a long term secular bear market for stocks like we are in right now, you will see very strong rallies like we have seen since March of 2009.  You need to be in stocks so you can participate in those moves, even if stocks overall are not doing much.

Buying stocks in March of 2009 did not feel like a smart thing to do, but it was.

Sure. The PP forces you to make investments which might seem counterintuitive but often pay off.

I'm basically trying to understand the effect of making bets within the PP framework. For example, let's say that I want to use the PP framework, while mixing in a bet against today's stock market. What is the best way to do this? How much does the volatility rise if I simply remove the stock portion?

The PP/VP breakdown doesn't quite address this (and it's also not clear what is "essential money" and what isn't ).

Sleeping at the Wheel wrote:
The PP/VP breakdown doesn't quite address this (and it's also not clear what is "essential money" and what isn't ).

Don't make bets within the PP.  Leave it as is.  

Use your VP for speculation, and never take money from your PP to use in your VP.  

I also think it's a very good idea to keep your VP very small.

Sleeping at the Wheel wrote:The PP/VP breakdown doesn't quite address this (and it's also not clear what is "essential money" and what isn't ).

I think you're over thinking this. Figure how much money you'd be willing to lose at craps, in vegas. Now take that money and put it into a bear ETF...

http://etf.stock-encyclopedia.com/categ ... -etfs.html
http://www.tradermike.net/inverse-short ... etf-funds/

Now, put the rest of your money (i.e. the money you can't afford to lose) into a pure 4x25 PP. Maybe set a stop-loss order on your VP ETF(s) when the economy really tanks, to lock in your profit. That's all there is to it.

Also, keep in mind that the PP is self-regulating. As one asset tanks, it becomes a smaller and smaller portion of your PP each day. Conversely, the asset that's rising becomes a larger and larger portion of your PP each day. Very similar to the way an index fund works (i.e. passive investing).

I would treat your PP as your PP, which means you need to adhere to the plan.

Treat your company as your job/income.  Since you aren't planning on the business, you should look at it more in terms of income.  Say for instance you didn't have a software company, but you had multiple rental homes that provided your income..... In that situation, you would not want to count your RE as your stock portion would you?

Gumby wrote:

Sleeping at the Wheel wrote:The PP/VP breakdown doesn't quite address this (and it's also not clear what is "essential money" and what isn't ).

I think you're over thinking this.

Probably - but better now than later.

Figure how much money you'd be willing to lose at craps, in vegas. Now take that money and put it into a bear ETF...

http://etf.stock-encyclopedia.com/categ ... -etfs.html
http://www.tradermike.net/inverse-short ... etf-funds/

Now, put the rest of your money (i.e. the money you can't afford to lose) into a pure 4x25 PP. Maybe set a stop-loss order on your VP ETF(s) when the economy really tanks, to lock in your profit. That's all there is to it.

Indeed, this may be the best way to organize bets. The bets could even be highly leveraged, etc. Although it is kind of funny to buy stocks and short them at the same time.

Gumby wrote: Also, keep in mind that the PP is self-regulating. As one asset tanks, it becomes a smaller and smaller portion of your PP each day. Conversely, the asset that's rising becomes a larger and larger portion of your PP each day. Very similar to the way an index fund works (i.e. passive investing).

Isn't this avoided by balancing (ie. selling the rising assets and buying back dropping ones)?

Sleeping at the Wheel wrote:

Gumby wrote: Also, keep in mind that the PP is self-regulating. As one asset tanks, it becomes a smaller and smaller portion of your PP each day. Conversely, the asset that's rising becomes a larger and larger portion of your PP each day. Very similar to the way an index fund works (i.e. passive investing).

Isn't this avoided by balancing (ie. selling the rising assets and buying back dropping ones)?

Eventually, but rebalancing events typically only occur every 2-3 years.

I appreciate your desire to try to improve upon the PP, but there are a lot of us here who have been trying to improve upon it for years with little success.

Think of the PP as "preoptimized."  No user tweaking is necessary.

clacy wrote: I would treat your PP as your PP, which means you need to adhere to the plan.

Treat your company as your job/income.  Since you aren't planning on the business, you should look at it more in terms of income.  Say for instance you didn't have a software company, but you had multiple rental homes that provided your income..... In that situation, you would not want to count your RE as your stock portion would you?

Probably not. Let me try to explain my logic a little bit better.

I develop and sell entertainment software. My income is highly dependent on discretionary spending. If the economy does badly, my income will do badly. If the economy does well, my income will do well.

Basically, my idea is to have a portfolio which performs better in bad times, because my business will have the good times covered.

In addition to this, I also happen to think that stocks are a bad investment right now. Not so much because we are in a bear market, but because I think that stocks are still in a Fed-and-foreign-capital-inflated bubble, and also because businesses face various economic headwinds.

I don't see how you could buy more of the "stock" portion when that segment is down... if you're using your business to replace the 25% in stocks?

MediumTex wrote:

Sleeping at the Wheel wrote:

Gumby wrote: Also, keep in mind that the PP is self-regulating. As one asset tanks, it becomes a smaller and smaller portion of your PP each day. Conversely, the asset that's rising becomes a larger and larger portion of your PP each day. Very similar to the way an index fund works (i.e. passive investing).

Isn't this avoided by balancing (ie. selling the rising assets and buying back dropping ones)?

Eventually, but rebalancing events typically only occur every 2-3 years.

Aha. I guess that has the advantage of not losing too much during a bear market and not missing out too much on a bull market.

I appreciate your desire to try to improve upon the PP, but there are a lot of us here who have been trying to improve upon it for years with little success.

Think of the PP as "preoptimized."  No user tweaking is necessary.

Sure, I realize that. I'm just trying to understand everything.

Coffee wrote: I don't see how you could buy more of the "stock" portion when that segment is down... if you're using your business to replace the 25% in stocks?

I couldn't. My business is worth much more than 25% of my investment portfolio anyway.

I am not claiming that the business directly replaces the stocks. I am just wondering if it can minimize the need for them.

Sleeping at the Wheel wrote:

I appreciate your desire to try to improve upon the PP, but there are a lot of us here who have been trying to improve upon it for years with little success.

Think of the PP as "preoptimized."  No user tweaking is necessary.

Sure, I realize that. I'm just trying to understand everything.

You came to the right place.

As far as hedging against your business not doing well, I would suggest a variable portfolio of EDV shares (zero coupon long dated treasuries). 

MediumTex wrote:

Sleeping at the Wheel wrote:

I appreciate your desire to try to improve upon the PP, but there are a lot of us here who have been trying to improve upon it for years with little success.

Think of the PP as "preoptimized."  No user tweaking is necessary.

Sure, I realize that. I'm just trying to understand everything.

You came to the right place.

As far as hedging against your business not doing well, I would suggest a variable portfolio of EDV shares (zero coupon long dated treasuries). 

This approach of hedging against income loss via the VP makes sense.

Wouldn't a VP of 50% gold, 50% EDV be a better hedge than 100% EDV? It seems that EDV would do well in a deflationary scenario but not an inflationary one.

Sleeping at the Wheel wrote: Wouldn't a VP of 50% gold, 50% EDV be a better hedge than 100% EDV? It seems that EDV would do well in a deflationary scenario but not an inflationary one.

An inflationary scenario suggests that prices would be rising.  Wouldn't rising prices be a good thing for your business?

MediumTex wrote:

Sleeping at the Wheel wrote: Wouldn't a VP of 50% gold, 50% EDV be a better hedge than 100% EDV? It seems that EDV would do well in a deflationary scenario but not an inflationary one.

An inflationary scenario suggests that prices would be rising.  Wouldn't rising prices be a good thing for your business?

Not if the dollar is worth less and nobody is buying. The US had both inflation and a recession in the 1970s. I think there's a pretty good chance we'll see it again.

Sleeping at the Wheel wrote:

MediumTex wrote:

Sleeping at the Wheel wrote: Wouldn't a VP of 50% gold, 50% EDV be a better hedge than 100% EDV? It seems that EDV would do well in a deflationary scenario but not an inflationary one.

An inflationary scenario suggests that prices would be rising.  Wouldn't rising prices be a good thing for your business?

Not if the dollar is worth less and nobody is buying. The US had both inflation and a recession in the 1970s. I think there's a pretty good chance we'll see it again.

Not likely.  In the 1970s there was upward wage pressure to accompany rising prices.  That's what facilitated the rising prices.  If wages hadn't also been growing (in nominal, not real terms, of course), price increases would have quickly triggered waves of demand destruction as people simply ran out of money to buy the higher priced goods.

This time around, we find an American work force that hasn't seen significant wage gains (in nominal OR real terms) in many years.  Going forward, any upward pressure on U.S. wages is likely to lead to more offshoring of jobs, as opposed to durable domestic wage gains.  Does that look like an environment in which sustained inflation would get any traction?  Where are consumers going to get the money to pay the higher prices?  Answer: they won't.  They will pay higher prices for gas and food, and they will make corresponding cuts in other areas, which on balance will translate into a weak macroeconomic demand picture, even though there will be pockets of inflation.

Remember, too, that we are in the midst of a generational deleveraging event right now, which also tends to place strong downward pressure on prices simply because of structural weakness in demand (households are paying off debt and not taking on more, which means less money for discretionary spending).

The 1930s are a much better analog than the 1970s, if you are looking for something in history as a guide to where we are right now.

Just my opinion, of course.