Gyroscopic Investing

I'm having trouble with the thought of holding so much cash, especially since my annual contributions (currently about 5% of total) will be going into cash.  I'm only 46 and don't plan to retire until 60 or older, so I can handle a little extra risk.  In the new PP book, Figure 5.4 shows the 1972-2011 performance of the 4 asset classes.  Pretty much all the profits/volatility are in non-cash.  The only economic condition where cash alone saves you is recession, but recessions are normally short-lived.  I understand that I need cash on hand for re-balancing and buying the worst performing asset(s) at the end of the year.

So, here's my idea:  30/30/25/15 in stocks/bonds/gold/cash.  As I said, my annual contributions will go into cash.  Cash above 15% will go into the worst-performing asset(s) at the annual checkup.  I'll re-balance if any asset gets more than 8% away from target.  As I get closer to retirement, I'll probably increase the cash portion until I get up to 25%.

Please let me know what you think of this idea.  I don't want to do a separate VP.  I'm trying to set up a simple plan that I don't have to watch much.  If you think I'm making a mistake, please let me know.  All input is gratefully received.

Underweighting cash during accumulation has been discussed a few times. The takeaway: the portfolio basically still works, is significantly more volatile, and has a slightly higher return. IMO it's OK if you understand the risks. However tampering with the portfolio is a slippery slope, and psychologically I think it works better to run a pure PP. FWIW I am also accumulating and probably 15-20 years from retirement but I choose to use a stock 4x25 allocation with the stock 15/35 rebalance bands.

For the most part cash simply acts to delever the portfolio. Of all the tweaks I think removing cash or adding more does the least to disturb the balance. Changing the cash allocation should be thought of as dialing in your level of return/risk.

However, it is important to keep in mind that sometimes that Fed explicitly tries to hurt leveraged players by raising interest rates beyond what the asset markets can bear. They usually don't keep up this activity for long, but you are at their mercy.

Melveyr,

Regarding changing the cash allocation to dial in your return/risk level, that's exactly how I see it also.

I see myself as a middle-aged guy still pretty far from retirement, who doesn't want to get too risky, but also wants to see good returns on average (understanding that won't happen in a straight upward line every year).

I know it's very hard or impossible for anyone else to judge an acceptable risk level for some else, but from what I've said so far, would you think that 15% cash is in the right ballpark for me?

Thanks!

stuper1 wrote:from what I've said so far, would you think that 15% cash is in the right ballpark for me?

It seems reasonable to me, but being right at the recommended lower bound it will be a good thing you are adding contributions as cash if stocks keep going up.

Are you certain you are not doing this because you are attracted by the recent stock run up?  What happens if we get a 20% correction?  What about if it is 20% in stocks, bonds and gold?

Are you counting all your cash reserves as the cash portion of the PP?  Or do you actually have more cash (e.g. emergency fund) that you aren't counting?  I count everything but my checking account as part of my portfolio so overall I'm about 17% cash.  However in my PP account I'm actually 26.2% cash right now.

Rather than unbalancing the PP to the proposed extent, consider tracking a "normal" PP, supplemented by a VP with more of those assets you want to overweight.  In other words, instead of a 100% of assets in an unbalanced PP of 30/30/25/15, consider having 60% of assets in a 25/25/25/25 PP (or 15/15/15/15 of the whole), with 40% of assets in a VP of 37.5/37.5/25/0 (or 15/15/10/0 of the whole).

It's just accounting, but doing the accounting this way separates the behavior of the PP from the behavior of how you tweaked it.  It allows you to answer, "how did my PP do compared to my VP?"  It's easier if the PP is in its own account(s) rather than commingled, but the important thing is how you look at it.

You said it yourself.....you're 46 and not retiring until 60. Drop the cash. If stocks sell off and gold drops and interest rates rise at the same time at least you won't be all in on the worst asset. My God if you've got 14 until retirement and half your money is in cash and half in bonds with 30 years to go at 3.25%........you're really selling yourself short on returns out of fear of an immediate crash in the other 3.

Better yet drop the bonds. All that interest rate risk alongside inflation risk.............

Kshartle wrote: You said it yourself.....you're 46 and not retiring until 60. Drop the cash. If stocks sell off and gold drops and interest rates rise at the same time at least you won't be all in on the worst asset. My God if you've got 14 until retirement and half your money is in cash and half in bonds with 30 years to go at 3.25%........you're really selling yourself short on returns out of fear of an immediate crash in the other 3.

Better yet drop the bonds. All that interest rate risk alongside inflation risk.............

That's a pretty volatile portfolio. It experienced pretty nasty negative real returns from 2002-2002 and had a 28% real drop in 1981. You're pretty well primed for hyperinflation or a fiat collapse, though... whenever it comes... sometime... one of these days... right around the corner... 

I wouldn't underestimate the emotional effects of such a volatile portfolio. Are you able to stomach large drops and several consecutive years of negative real growth for the bulk of your savings? Everybody's different, but I know I'm not. Sounds like a fine VP play, but I think the PP works just fine for someone retiring within 15 years. Otherwise, what's to say you don't hit that 28% drop the year before you call it quits?

What do you mean by call it quits? You mean after you die? It won't matter then. If you mean at the end of 14 years? Well....you should have a lot more money before gold and stocks tank because you owned more of them throughout the run-up.

If you drop 28% you still have 72%, hopefully nobody calls it quits then.

A portfolio of 1/3cash 1/3gold and 1/3stocks was down 6.1% in 1981. A gold bubble popped in 1981. I imagine your 28% drop assumes someone buying right at the tippy top of a bubble, it doesn't mater much if something gets blown up into a bubble after we buy it. That's what I'm hoping for! Please let everything I buy skyrocket into a bubble.

That incidently wasn't the worst performing year. 2008 return was the worst at minus 8.4. Kicking out LTTs doesn't give you a volitile portfolio. The standard div is still only 10.4

stuper1 your instincts are right. 50% of your savings is too much to commit right now to cash and treasuries. You shouldnt sacrifice so much of the future for a little less fluctuation in your retirement accounts now regarless of what might happen in the short run. You're going to need that money for many many decades to come probably 3-4

Kshartle,

I'm not quite clear on what mix you're recommending.  Are you saying my 30/30/25/15 mix is about right, or are you suggesting something else?

Stuart

Well personally I don't think it makes sense to be holding any government paper at this point besides a little cash for liquidity. If you want less volatility then keep adding cash. Don't hold any more cash than you're willing to take a 100% loss on though because inflation is really the doomsday scenario, not any deflation in the money supply we see temporarily until the presses get rolling again.

Look I disagree with many people on this board about the bonds and cash right now. They might prove to be right in the long run. I doubt it but we'll see. I think bondholders are going to get fleeced very badly. I think it's safer to hold multiple currencies as cash and not just USD (many will disagree there too). Some will point to the reserve currency status and say that makes the dollar different and safer. To me it's more vulnerable because now there are trillions of dollars floating that could make their way back here to bid up prices. If the USD gets knocked off the reserve currency pedastel the demand will have to reflect what can be purchased here with them. We don't have enough production to export for the dollars, prices will have to go up.

I do think if stocks sell off we'll see money crowding into bonds though. That has been the pattern and will continue to work until it doesn't anymore.

stuper1 wrote: So, here's my idea:  30/30/25/15 in stocks/bonds/gold/cash.  As I said, my annual contributions will go into cash.  Cash above 15% will go into the worst-performing asset(s) at the annual checkup.  I'll re-balance if any asset gets more than 8% away from target.  As I get closer to retirement, I'll probably increase the cash portion until I get up to 25%.

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9.45% CAR, -19.10% MaxDD[/align]

I wonder what everyone thinks about a slightly different tweak. The basic idea is to be a little heavier in some areas like REITS, Timber, and maybe a little MOO and/or MLPs. Right now, I am doing this via my VP, but it seems like it could work in the PP if you did something like 20% stock index funds plus 5% of these or possibly considering current market conditions the normal 25% stock index funds, but maybe only 20% LTTs and 5% of these. Can anyone model it using something like 5% made up of MOO, CUT/WOOD, some REIT ETF and say LINE/CQP?

TLT still comprises 25% of my portfolio. All the pundits and a few devout members of this board seem to believe that government bonds have no where to go but down. Should I consider reducing my exposure since I cannot afford to lose a substantial portion of my investment? I realize that no one can predict the future, but am I increasing risk by having too much exposure to this asset class? I'm not inclined to chase equity returns since I already have a 60/40 VP. What is the minimum percent in LTT that an investor would feel comfortable with without abandoning the PP strategy and the protection it offers in a deflationary environment?

Assuming 40K in TLT, would a PP investor feel comfortable with 15K in EDV, 10K in TLT?

buddtholomew wrote: All the pundits and a few devout members of this board seem to believe that government bonds have no where to go but down. Should I consider reducing my exposure since I cannot afford to lose a substantial portion of my investment?

All of the asset classes can cause a loss, can't they? IMO, the most risky assets right now are LTTs, gold, and equities. 

BearBones wrote:

buddtholomew wrote: All the pundits and a few devout members of this board seem to believe that government bonds have no where to go but down. Should I consider reducing my exposure since I cannot afford to lose a substantial portion of my investment?

All of the asset classes can cause a loss, can't they? IMO, the most risky assets right now are LTTs, gold, and equities. 

OK, point well taken. Do you currently have 25% in each asset class? Better yet, if nearing a LTT rebalancing band, will you rebalance into treauries?

buddtholomew wrote:

BearBones wrote:

buddtholomew wrote: All the pundits and a few devout members of this board seem to believe that government bonds have no where to go but down. Should I consider reducing my exposure since I cannot afford to lose a substantial portion of my investment?

All of the asset classes can cause a loss, can't they? IMO, the most risky assets right now are LTTs, gold, and equities. 

OK, point well taken. Do you currently have 25% in each asset class? Better yet, if nearing a LTT rebalancing band, will you rebalance into treauries?

I would, and if things keep going this way, I soon will. they've taken quite a beating as people have greedily piled into stocks, but there are very strong macro fundamentals that will keep interest rates low for at least several more years, IMHO. Just ask the Fed.

Pointedstick wrote:

buddtholomew wrote: OK, point well taken. Do you currently have 25% in each asset class? Better yet, if nearing a LTT rebalancing band, will you rebalance into treauries?

I would, and if things keep going this way, I soon will. they've taken quite a beating as people have greedily piled into stocks, but there are very strong macro fundamentals that will keep interest rates low for at least several more years, IMHO. Just ask the Fed.

I intend to limit money into treasuries to the extent the normal PP model allows.

I have normally rebalanced at 20/30 instead of 15/35.  Last fall I rebalanced out of Treasuries at nearly 28, taking them down to 22.  Now my treasuries are just over 20.  I don't intend to rebalance more into them until they get down to 15.

Cash and stocks are a bit heavy now, gold is right around 25%.

buddtholomew wrote: OK, point well taken. Do you currently have 25% in each asset class? Better yet, if nearing a LTT rebalancing band, will you rebalance into treauries?

As of February, yes (but my VP has no LTTs). See one of my many threads agonizing over the same thing.
http://gyroscopicinvesting.com/forum/ht ... 0#msg57740

My feeling is that, if you are not going to rebalance at defined bands established in advance, the PP is the wrong investment vehicle. That is the beauty of its design. It makes us different than the rest of the lemmings.

It's been interesting the last week or so reading about which asset of the PP folks are most worried about. With MachineGhost I think it was stocks - while I expressed my positive feelings about all my new money going into that asset. With you it's cash but MG wants to hold more cash. For me it's LT's. I don't recall hearing anything about gold but since it's the asset most in decline YTD I suspect there are plenty of worries about it too.

Just convinces me more and more to stick with the 25/25/25/25 split and be done with it.

Does it make sense to substitute a portion of TLT for EDV? The end result is less dollars at risk with the same amount of downward protection? For example:

14K in EDV*1.5x volatility for an equivalent amount of 21K TLT exposure. An additional 19K in TLT (held in taxable) for a total of 40k. Does this make sense or am I completely off target?

buddtholomew wrote: Does it make sense to substitute a portion of TLT for EDV? The end result is less dollars at risk with the same amount of downward protection?

I think you are off target.

It may be fewer dollars in that sector, but since EDV is more volatile and you are adjusting the dollars to account for that volatility, the losses (or gains) will be the same.  That is the same as saying "the same amount of downward protection."

Personally I have 25% (OK, actually only 20% right now) of my account in a combination of TLT and EDV, with roughly 1/3 of it in EDV.  I'm quicker to take profits off of EDV, and slower to add more in.  In the past two years (since I opened this account) I now have less than 1/2 of my own money left in EDV.  (in - out  is less than  current value/2)

This is my tweak.  This year, I expect to add 25% to my portfolio.  So I rebalanced down to 15% cash, and will likely be at 35% cash in a year, time to rebalance again.

buddtholomew wrote: Does it make sense to substitute a portion of TLT for EDV? The end result is less dollars at risk with the same

I think that makes perfect sense. It's the same logic as using 30 year treasuries as opposed to 10-20 year treasuries. With the increased volatility you should get similar protection from a down move in stocks and rates. You should get the same risk out of increasing rates from a larger amount of TLT.

Where you're better off is if there is a lot of money printed to keep rates low. This should keep pushing stocks and gold up and since you own more of them....you're better protected against inflation (fewer dollars losing value).

Less TLT and more EDV means similar interest rate risk and less inflation risk to me.

Excuse my ignorance, but how do i reconcile Kshartle and AgAuMoney responses? I have sufficient TE space to hold 14K EDV and have 19K in TLT within in a taxable account. I am trying to maximize tax efficiency and have less total dollars at risk in long term treasuries. Currently, I have 14K in TLT (IRA) and 26K in TLT taxable.

buddtholomew wrote: Excuse my ignorance, but how do i reconcile Kshartle and AgAuMoney responses?

Looks like it's up to you. :-)