Author Topic: If you really believe in passive investing...  (Read 8779 times)

milesdividendmd

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If you really believe in passive investing...
« on: September 07, 2014, 01:43:59 AM »
This is an excellent article that looks at simulating the actual makeup of the world economy using a basket of ETFs.

http://gestaltu.com/2014/08/global-passive-benchmark-etf-factor-tilt.html

(It also shows a modified portfolio with tilts towards value, momentum, and low beta)

I think this is really interesting for two reasons.

1.  This shows investors what the capitalized world actually looks like. (Spoiler alert: it looks nothing like a Vanguard life strategy fund, A lazy portfolio, or the Betterment portfolio.).

2.  I love the idea of almost never having to rebalance the portfolio because as different pieces of the pie grow or shrink this will be reflected in the portfolios composition.

I'm not interested in adopting such a portfolio, but I like the idea of justifying my moves away from this baseline portfolio because when ones portfolio does not reflect the actual composition of the world economy one makes a step (be it conscious or unconscious) towards active management.

Better to be conscious of my own decisions I figure.
« Last Edit: September 07, 2014, 09:26:58 PM by milesdividendmd »

Middlesbrough

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Re: If you really believe in passive investing...
« Reply #1 on: September 07, 2014, 01:58:33 AM »
Did you forget to link?

GGNoob

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Re: If you really believe in passive investing...
« Reply #2 on: September 07, 2014, 10:37:26 AM »

Did you forget to link?

Lol ya, where's the link?


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milesdividendmd

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Re: If you really believe in passive investing...
« Reply #3 on: September 07, 2014, 11:44:50 AM »
Embarrassing late night oversight!

Link added to original post.

Bonus link:

http://gestaltu.com/2014/08/global-passive-benchmark-etf-factor-tilt.html

Sorry!

Middlesbrough

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Re: If you really believe in passive investing...
« Reply #4 on: September 07, 2014, 04:00:24 PM »
I don't have time to finish right now, but this is an awesome article. Thanks!

BattlaP

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Re: If you really believe in passive investing...
« Reply #5 on: September 07, 2014, 06:01:27 PM »
Countdown to "ETF Proxy Global Market Portfolio with Factor Tilts" ETF

.. And then the countdown to ""ETF Proxy Global Market Portfolio with Factor Tilts" ETFs" ETF.

It's turtles all the way down..
« Last Edit: September 07, 2014, 06:04:29 PM by BattlaP »

arebelspy

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Re: If you really believe in passive investing...
« Reply #6 on: September 08, 2014, 03:22:50 PM »
Heh.  An amusing idea.  Not sure how the thread title "If you really believe in passive investing..." fits in?

Thanks for the links!
I am a former teacher who accumulated a bunch of real estate, retired at 29, spent some time traveling the world full time and am now settled with three kids.
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milesdividendmd

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Re: If you really believe in passive investing...
« Reply #7 on: September 08, 2014, 03:36:11 PM »
Heh.  An amusing idea.  Not sure how the thread title "If you really believe in passive investing..." fits in?

Thanks for the links!

My pleasure.

The point I was trying (and failing?) to make is that most people do not hold portfolios that actually reflect the Allocation of capital in the world.

Most of us own far too much domestic stock, far too little international stock, and far too little fixed income, to truly call ourselves passive investors. (I.e. we don't really own the whole market.)

I am certainly making active bets on The US stock market, value and small size tilts, momentum, the future returns of stocks versus bonds. I say these are active because they move me away from "owning the whole market."  in a sense I am making a bet that past is prologue.

And my bet is that almost everyone reading this is too.


arebelspy

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Re: If you really believe in passive investing...
« Reply #8 on: September 08, 2014, 03:53:50 PM »
Yeah, I definitely think most of us have a home bias when it comes to stocks.

I guess I just didn't get the title due to your definition of passive investing.

Most of us own far too much domestic stock, far too little international stock, and far too little fixed income, to truly call ourselves passive investors. (I.e. we don't really own the whole market.)

I wouldn't define "passive investor" as "owning the whole market, based on the actual makeup of the world economy".

I think a permanent portfolio investor could be considered a passive investor.

Or someone owning 100% VTI.

Just had never heard that definition of passive investor.

My definition I was working with in my schema was "as opposed to active" and would have to do with how much and often they trade (i.e. "buy and hold" is passive, to me).

I didn't think passive has much, if anything, to do with your AA.

Your passive definition allows for someone to buy and trade every day, as long as they're modeling the whole market (as defined as the world's economy), which I'm not sure I agree with.

But given that definition, yes, now the title makes sense.
I am a former teacher who accumulated a bunch of real estate, retired at 29, spent some time traveling the world full time and am now settled with three kids.
If you want to know more about me, this Business Insider profile tells the story pretty well.
I (rarely) blog at AdventuringAlong.com. Check out the Now page to see what I'm up to currently.

milesdividendmd

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Re: If you really believe in passive investing...
« Reply #9 on: September 08, 2014, 04:36:36 PM »

Yeah, I definitely think most of us have a home bias when it comes to stocks.

I guess I just didn't get the title due to your definition of passive investing.

Most of us own far too much domestic stock, far too little international stock, and far too little fixed income, to truly call ourselves passive investors. (I.e. we don't really own the whole market.)

I wouldn't define "passive investor" as "owning the whole market, based on the actual makeup of the world economy".

I think a permanent portfolio investor could be considered a passive investor.

Or someone owning 100% VTI.

Just had never heard that definition of passive investor.

My definition I was working with in my schema was "as opposed to active" and would have to do with how much and often they trade (i.e. "buy and hold" is passive, to me).

I didn't think passive has much, if anything, to do with your AA.

Your passive definition allows for someone to buy and trade every day, as long as they're modeling the whole market (as defined as the world's economy), which I'm not sure I agree with.

But given that definition, yes, now the title makes sense.

Jack

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Re: If you really believe in passive investing...
« Reply #10 on: September 08, 2014, 04:39:10 PM »
Most of us own far too much domestic stock, far too little international stock, and far too little fixed income, to truly call ourselves passive investors. (I.e. we don't really own the whole market.)

I don't understand why bonds count as part of "the market." I would have figured "owning the whole (worldwide) market" would simply be 100% VT.

How would you even determine the total "value" (market cap) of the world stock market vs. the total "value" (???) of the world bond market so that you'd know what percentage to assign to VT and what percentage to assign to (BND + BNDX)? I've never heard of anybody even trying to determine some kind of "natural, passive" of stocks vs. bonds -- I've only ever heard of choosing that kind of asset allocation as a function of your personal risk tolerance. I'm not at all sure they're even comparable.

And why bonds, anyway? Wouldn't you need to construct a portfolio with a cap-weighted (whatever that means) mix of every asset class, including real estate and commodities? (And how do you deal with the fact that you might not be allowed to own them in certain countries?)

Passively owning the world's economy sounds like an interesting idea, but it seems like it would be impossible to implement (unless you decided that only equities count and bought VT).

milesdividendmd

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Re: If you really believe in passive investing...
« Reply #11 on: September 08, 2014, 04:49:33 PM »
ARS

Passive investing is one of those terms that gets thrown around without much thought by all of us.

I think you are right that it is often used interchangeably with buy and hold.

But passivity can't have to do with only trading frequency. After all is someone who continuously rebalances their dividends or new contributions less active than someone who holds it in a pot till the end of the year and puts new money in only once a year?

Are there a certain number of rebalances you can do in a certain timeframe and still be  passive?

I have seen it said that a buy and hold strategy tilting towards small and value is active investing. And that does not make sense to me.

Logically there is no difference in my eyes between tilting towards small or value when compared to tilting towards or away from Stocks based on your risk tolerance.

And one final point. In general (and theoretically) someone would only have to invest in the total world portfolio only once in order to maintain a consistent asset allocation. The relative value of the different asset classes within the portfolio would perfectly mirror changes in capital allocation of the world wide economy! So such an investor would never have to rebalance let alone trade every day.

As always defining our terms is a messy business. But I will admit that your definition of passive investing is probably closer to the common usage of the term.




matchewed

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Re: If you really believe in passive investing...
« Reply #12 on: September 09, 2014, 06:15:31 AM »
I think the difference between active and passive investing is just intrinsically linked to how much you as an individual investor believe in the efficiency of the market you're investing in. You could be passive in one market and allow yourself to have market level returns or you could be actively pursuing what you think is exploitable inefficiencies and well be active...

The market itself is rather irrelevant to whether it is active or passive. It is the level which you are trying to take advantage of perceived inefficiencies.

Now in the article the claim is being made that the global index is the "only true passive benchmark" which is further reinforced with the conclusion -
Quote
In summary, investors are starting to acknowledge the overwhelming evidence that active security selection is a loserís game. This realization has caused a massive exodus from traditional mutual funds and Separately Managed Accounts and into passive Exchange Traded Funds. Investors who choose to follow this trend face a new set of challenges related to the expression of a passive view in their asset allocation. The Global Market Portfolio represents the most coherent expression of this view, and any deviation from this portfolio represents an active bet. Thus most investors who think they are passive are actually active; worse, they are making large concentrated bets unintentionally.

Now I think the difference is that the conclusion is assuming I don't know that using VTSAX tilts in a particular asset class and ignores other asset classes. And this somehow means I'm "active". The thing is I don't think there is some mysterious inefficiency I'm exploiting. I'm just comfortable with the level of risk and anticipated (conservatively) return. That doesn't make me an active investor and I'm no more active than someone who would be buying into that global market ETF strategy that the author is proposing.

Maybe the company behind the post have an interest in global ETF's?  :) Not that that is a bad thing. It just sounds a little silly to say "I'm more passive than you because I choose X asset class."

arebelspy

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Re: If you really believe in passive investing...
« Reply #13 on: September 09, 2014, 07:37:55 AM »
I like that matchewed.

I do think it's not just how much you think it's (in)efficient, but how much you try to take advantage of it - and that probably has to do with how much you trade (as I was mentioning above).

I think you could be passive (buy and hold) in a market you think is inefficient, because you can't/don't want to exploit that inefficiency. 
I am a former teacher who accumulated a bunch of real estate, retired at 29, spent some time traveling the world full time and am now settled with three kids.
If you want to know more about me, this Business Insider profile tells the story pretty well.
I (rarely) blog at AdventuringAlong.com. Check out the Now page to see what I'm up to currently.

matchewed

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Re: If you really believe in passive investing...
« Reply #14 on: September 09, 2014, 08:08:10 AM »
I like that matchewed.

I do think it's not just how much you think it's (in)efficient, but how much you try to take advantage of it - and that probably has to do with how much you trade (as I was mentioning above).

I think you could be passive (buy and hold) in a market you think is inefficient, because you can't/don't want to exploit that inefficiency.

Yeah I should have been more clear. You have to take the action on the perceived level of efficiency in order to be considered active. :)

devan 11

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Re: If you really believe in passive investing...
« Reply #15 on: September 13, 2014, 09:29:58 PM »
  Modern portfolio theory works....until it doesn't!!  Passive investing is based on the idea that the market is always correctly priced.  Daily rebalancing  by funds closely trail this.  If you have full exposure to all investments in direct daily relation to world capitalization, you will always do exactly as good as the world does.  This is not a bad thing. 

I think that there is a better way.  Rebalancing frequency can take advantage of volatility swings of various classes of investments to minimize selling at losses and increase profits.  It is a way of passively timing the markets, couch potato or margaritaville style.  The basic idea is that human nature will swing to various degrees between fear and greed.  If a person waits for a time before rebalancing, that person can ride an emotionally caused trend down and up, selling the high and buying the low.  With larger swings of volatility, larger profits are made.  In the acquisition stage, you can buy in the class that is lower, minimizing trading costs.  Yearly rebalancing can keep profits in long term capital gains, minimizing taxes.

What does this mean in the real world?  S&P is up in relation to emerging markets.  If I were to rebalance now, I would sell my S&P fund's excess profits and buy emerging markets fund shares. At some point in the future, the faith is that it will revert to mean.  Risks?  If there is some underlying reason that things have fundamentally changed, the market won't revert to mean and there will be some losses.  Think about Polaroid or Kodak film for examples.

kyleaaa

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Re: If you really believe in passive investing...
« Reply #16 on: September 14, 2014, 01:04:14 PM »
Passive investing is based on the idea that the market is always correctly priced. 

No it isn't. It's based on the arithmetic of active management, namely that low-cost passive funds on average must mathematically outperform the average higher-cost active fund. Passive investing doesn't care if the market is efficient: it works even if it isn't.

milesdividendmd

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Re: If you really believe in passive investing...
« Reply #17 on: September 14, 2014, 05:58:12 PM »
Great discussion. It seems that noone can agree on the true nature of "passive investing."

Take home:  passive investing is hard to define. So remind yourself of this before you smugly accuse others with (slightly) different indexing strategies of "timing the market."

But let's keep the argument going....

foobar

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Re: If you really believe in passive investing...
« Reply #18 on: September 14, 2014, 06:59:30 PM »
Passive investing is based on the idea that the market is always correctly priced. 

No it isn't. It's based on the arithmetic of active management, namely that low-cost passive funds on average must mathematically outperform the average higher-cost active fund. Passive investing doesn't care if the market is efficient: it works even if it isn't.

People are mixing up cap weighted indexing (i.e. own everything in market weights) with passive (i.e. more you buy and hold forever).

devan 11

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Re: If you really believe in passive investing...
« Reply #19 on: September 15, 2014, 07:56:38 AM »
  I've been letting this thread percolate in my mind.  This is a great discussion for me.  For years, I have tried to implement a similar global equity portioning in my own investments. (Because of expected windfalls of a small and diminishing pension and social security, I have avoided bonds. Streams from this portion is already high).  When I started trying to this, the vehicles for low cost indexing weren't available. Loaded funds were what I had to work with. Low cost indexing is a huge bonus from the 7% load funds.

  I veered away from these ratios during the last recovery, weighting to growth and stimulus rather than austerity. I grew tired of watching languishing returns from the austerity side. This turned out to be a one way street. Punishing taxes will prevent me from reverting until the economy goes in the toilet again and I quit working for the man and become the man. Tax load dwarfs fees. Because I followed market cap, as well as buy and hold investing, I have gotten both loose and fuzzy in definitions and thinking. Thank you for reminding me of that.