Portfolio Charts - The Golden Butterfly

[effigy98]

I am very happy with Tyler's golden butterfly and his backtesting charts gave me a new perspective on the way I was investing. I have changed up the asset allocation a little by splitting the large cap to include some international and also went for blend small cap as that has a stronger return. I have read many books on the subject and the lack of volatility with a little less returns is exactly what I want since I work in an industry that tends to do massive layoffs anytime the economy tanks, I cannot stomach my portfolio dropping like a rock at the time I may need to do some draw downs and I will trade a little potential gains so I will not stress out as much when SHTF. I am a flawed human and I sold at the dotcom crash and partially in the 2008 crash as seeing my portfolio drop by half or more at the time you get a layoff notice is a huge shock, I'm hoping the next crash I can re-balance, smile, and ignore it this next time around.

[Tyler]

Inspired by this conversation, I just published a new post to help outline the Golden Butterfly theory in a central spot.  You'll recognize some of the text from earlier in this thread, but I've also expanded on it a bit. 

https://portfoliocharts.com/2016/04/18/the-theory-behind-the-golden-butterfly/

Thanks again for the discussion.  I think the post best summarizes my thoughts on this topic, so I'll give other people space to also contribute.

[AdrianC]

I have no interest for Treasuries with current interest rates. Their superb performance over the last 40 years is simply due to ever-decreasing rates. Gold has similar circumstances.

Indeed. It makes all LTT heavy portfolios look good in a back-test. But what about the future?

For the PP and GB the combined investment returns of the underlying assets, left alone, is likely to be far less than a 4% real return going forward. Stocks, maybe 4%, long term treasuries 2%, cash 1% and gold 1% over the long term.

The investor hopes that three of the four assets will fluctuate in a non-correlated way and a yearly or twice yearly rebalance will capture enough of the fluctuation to make up for the low underlying returns. This is far from certain. I think it’s quite risky.

[Monkey Uncle]

I have no interest for Treasuries with current interest rates. Their superb performance over the last 40 years is simply due to ever-decreasing rates. Gold has similar circumstances.

Indeed. It makes all LTT heavy portfolios look good in a back-test. But what about the future?

For the PP and GB the combined investment returns of the underlying assets, left alone, is likely to be far less than a 4% real return going forward. Stocks, maybe 4%, long term treasuries 2%, cash 1% and gold 1% over the long term.

The investor hopes that three of the four assets will fluctuate in a non-correlated way and a yearly or twice yearly rebalance will capture enough of the fluctuation to make up for the low underlying returns. This is far from certain. I think it’s quite risky.

I encourage you to read the article that Tyler linked above.  He addressed the fact that each of the individual asset classes is likely to experience long periods of underperformance.  But during past periods of single asset underperformance, the portfolio continued to produce stable returns:

"But thinking this way misses the fact that it also did very well when treasuries were crushed as interest rates skyrocketed in the 70’s, when gold lost 80% of its value in the 80’s and 90’s, and when stocks lost money for more than a decade starting in 2000.  So clearly there’s something more fundamental backing the consistent returns than a few great years."

The assets did indeed fluctuate in a non-correlated way.  Will they continue to do so in the future?  Who knows?  But I think that assumption is just as valid as the widely held assumption that stocks always outperform other asset classes in the long run.  That conviction also is based largely on past performance.

Personally, I'm too squeamish to put 20% of my net worth in a single asset like gold.  To me that's akin to putting a huge chunk in a single stock.  Similarly, the huge weighting in treasuries gives me pause due to the concentration in debt from a single issuer, even if that issuer is one of the most stable governments in the developed world.  But the basic principle of dividing a portfolio among uncorrelated assets has great appeal.  Use the withdrawal rate calculator to play around with various divisions among stocks, bonds, commodities, and real estate.  No one knows if any particular portfolio is going to match the CAGR of 100% stocks over the long run.  Likewise, no one knows if 100% stocks will match the CAGR of a more balanced portfolio over the long run.  But I'd wager that the balanced portfolio will be more stable, and thus is likely to have a higher safe withdrawal rate.  Of course, you won't know for sure until you either die broke or bequeath a multi-million dollar estate to your heirs.  But to me, the probabilities seem to favor a more balanced approach.

[AdrianC]

I encourage you to read the article that Tyler linked above.  He addressed the fact that each of the individual asset classes is likely to experience long periods of underperformance.  But during past periods of single asset underperformance, the portfolio continued to produce stable returns...

Sure, it did.

Looking at the last 30 years, using Tyler's excellent heat map tool:
Total Stock Market 7.3%
Long Term Treasuries 5.5%
Short Term Treasuries 2.3%
Gold 0.94%

Average of returns 4%
Permanent Portfolio (25% of each) 4.7%

So rebalancing achieved an extra 0.7%. A free-lunch.

Now look at prospective real returns (and if you don't agree that's fine, but give your reasons why): Stocks 4%, long term treasuries 2%, cash 1% and gold 1%.

Average of returns 2%
Permanent Portfolio (25% of each) 2.7% ?

A 2.7% long term return does not give a 4% sustainable withdrawal rate.

Add small cap value to make the Golden Butterfly, 7.8%

Average of returns 4.8%
Golden Butterfly (20% of each) 5.5%

Same 0.7% rebalancing free-lunch.

Going forward:
Average of returns 2.4%
Golden Butterfly (20% of each) 3.1% ?

[arebelspy]

Even if all the rest is correct, this statement is overly broad:

A 2.7% long term return does not give a 4% sustainable withdrawal rate.

No?  It sure does for 30 years.

In fact, if you had a guaranteed 2.7% real return, you could take out an inflation-adjusted 4% for 40 years before running out of money.

That has a 100% success rate for 30-40 years, whereas a 4% WR with a 75/25 AA has a 90-95% success rate for 30-40 years.

Your 3.1% you mention for the GB would have lasted 45 years.  If you had waited one more year to FIRE, and then got a fixed 3.1% real return, it would have lasted 49 years.  If you're 40, thinking about ERing, and decide to wait one year, do the GB, to get low volatility, it could last you until you're 90.

Yes, you're guaranteed to be left with nothing, and yes, you better hope you don't live longer, but you have no volatility along the way.

It comes with a price, but if you're aware of that price.

We have to talk about timeframes when we talk about sustainable withdrawal rates.

And we have to talk about risk tolerance.  There are people that have hundreds of thousands in cash, because they're so uncomfortable with stock market gyrations.  They're guaranteed to lose, with that AA.  They know if they put it in the market, they'll sell low, because they've done it before, and can't handle the swings.

If the lower volatility of the GB gets them to invest, and they're aware of the drawbacks and lower return (and thus shoot for a lower WR), I'd rather that, than them just using cash.

The investor themselves matter quite a bit to deciding the AA.

One other thing:

Now look at prospective real returns (and if you don't agree that's fine, but give your reasons why): Stocks 4%, long term treasuries 2%, cash 1% and gold 1%.
...
A 2.7% long term return does not give a 4% sustainable withdrawal rate.

If this is the case, a 4% stock return won't offer a 4% sustainable withdrawal rate either, as you'll hit a sequence of returns risk somewhere along the way, depending on the timeframe of your ER, and without the higher returns that are typical to buffer your portfolio first, you'll hit ER fail.

You're talking valuations where a 4% WR isn't sustainable.  It may be MORE sustainable with a 3.1% real return of GB, and low volatility, than a 4% real return of stocks, and much higher volatility.

[Interest Compound]

I encourage you to read the article that Tyler linked above.  He addressed the fact that each of the individual asset classes is likely to experience long periods of underperformance.  But during past periods of single asset underperformance, the portfolio continued to produce stable returns:

"But thinking this way misses the fact that it also did very well when treasuries were crushed as interest rates skyrocketed in the 70’s, when gold lost 80% of its value in the 80’s and 90’s, and when stocks lost money for more than a decade starting in 2000.  So clearly there’s something more fundamental backing the consistent returns than a few great years."

Of course. When you base your selection on backtesting, you always end up with a portfolio that continues to produce stable returns during periods of single asset underperformance. The Golden Butterfly is weighted towards assets which performed well during the specified time period. Looking at these results, then declaring there must be a fundamental backing for it, is illogical. It's one of the worst investing mistakes you can make. As discussed earlier in the thread, Tyler's posts indicate this is the selection process:

• Theorize about possible portfolios which you believe have a fundamental backing (a story for why they make sense).
• Do backtesting with data from 1972-today.
• Did your theorized portfolio outperform? If not, keep theorizing.

The more I look at it, the less surprising the results are.





Digging deeper into the "fundamentals", let's look at the evolution of this. It started with the Permanent Portfolio, which is made to perform well in these 4 conditions:
 
Prosperity
Recession
Inflation
Deflation

Great idea! Now let's fill it out with assets:

Prosperity: Stocks
Recession: Cash (or commonly short term treasuries)
Inflation: Gold
Deflation: Long term treasuries

Wait what? Gold? Why not TIPS? The one and only asset guaranteed to track inflation, by the same entity that prints the money? Looking at the data, which one seems to track inflation better?



Hmm, let's fact-check that. Here's 1980-2001:



Here's 2001-2012:



Tips, unsurprisingly, track inflation much better than gold. Hmm, now I'm starting to doubt the whole story! Let's do this analysis over, but this time following the story as-stated:




This is more along the lines of what I'd expect from a portfolio like The Golden Butterfly. It's the price you pay for stability. Again, if you aren't comfortable with a portfolio with an expected return in this range (inflation-adjusted 3.99%), you should not use The Golden Butterfly. Comparing this against a commonly recommended standard portfolio, gives you a good idea of the risks here:




When you take a portfolio based on actual fundamentals, then swap in assets which did well during the specified time period, you end up with The Golden Butterfly. The Golden Butterfly portfolio page says (direct quote):

"match or beat the total stock market in long-term real CAGR with fewer stocks and lower volatility"

Perhaps the real lesson is:

"If you're looking for performance like this, weight your portfolio towards assets which are about to outperform."

[Monkey Uncle]

I agree with you that gold isn't really an inflation hedge.  It's more of a "crap hitting the fan, what do I do now, better find a hard asset" type of play.  Or at least that's how some investors use it.  Hence the big spikes when stocks were underperforming in the 1970s and 2000s.  So the creator of the permanent portfolio got a piece of the story wrong, and Tyler perpetuated that error in the fundamental explanation when he created the golden butterfly.

In light of that, your pure story portfolio that substitutes TIPS for gold is not really equivalent.  You've transformed it from a 60% volatile asset portfolio to a 25% volatile asset portfolio.  So I disagree that the pure story portfolio represents the expected return of the golden butterfly and permanent portfolios going forward.  But it's worth noting that your pure story portfolio and a total stock market portfolio produced the exact same 3.8% safe withdrawal rate for a 40 year period (using Tyler's safe withdrawal rate calculator).

As I said before, I'm not a big fan of the golden butterfly because of the high concentration in single assets like gold and treasuries.  But I think the basic idea of dividing a portfolio among volatile, uncorrelated assets has an appeal that is more than just the lucky result of data mining.

[Monkey Uncle]

Now look at prospective real returns (and if you don't agree that's fine, but give your reasons why): Stocks 4%, long term treasuries 2%, cash 1% and gold 1%.

What's the source of your prospective real returns?

[steveo]

This is a great thread. I'm a big fan of at least thinking about asset allocation. I think in Jim Collins terms "smoothing out the ride" makes a lot of sense. At the same time I really think that it is inherently risky to use the tools that Tyler provides with the corresponding data to work out your asset allocation.

This is a dangerous game to play

This is my thought on the subject. I think that you are playing with fire trying to micro-manage your asset allocation.

Personally, I'm too squeamish to put 20% of my net worth in a single asset like gold.  To me that's akin to putting a huge chunk in a single stock.

This really comes back to my point regarding using the data and tools that state that the golden butterfly or the PP will work in the future.

My take is that the tools and data that Tyler provides are fantastic but they just show that a diversified portfolio can hold up a lot better than a single asset class portfolio. They do also provide some pointers.

So there are some broad asset classes:-

1. Stocks
2. Commodities
3. Bonds (& I will include cash in this bucket)
4. Real estate

I think if you then work out where you stand on these asset classes and then get a really broad index fund within that asset class and pay the minimal fees with regards to managing your assets then that gives you the diversification that you require.

Some people though don't want diversification. IC I think goes 100% into stocks via an index fund. That should work. Tyler goes into the PP (or now modified golden butterfly) and I think it should work although I personally wouldn't put that much money into gold (I'd go a broad commodity fund) and I wouldn't split my stock index or bond/cash portfolio as per those recommendations. I think you'd be better off just buying the entire market. I don't put any money into real estate but I own my house and it will for a while be at least 50% of my portfolio. I don't think that is ideal but it's my personal situation. I won't put a cent into real estate other than indirectly via the stock market. I also don't put a cent into commodities however the stock index that I own will own commodity companies. I also think commodities will tend to underperform stocks over the long term and I intend to FIRE on greater than a 4% WR so I personally don't want to take the risk of purchasing a commodity index. If though everything turns out well for me and I have too much money I would definitely think about purchasing commodities.

[Monkey Uncle]

This really comes back to my point regarding using the data and tools that state that the golden butterfly or the PP will work in the future.

My take is that the tools and data that Tyler provides are fantastic but they just show that a diversified portfolio can hold up a lot better than a single asset class portfolio. They do also provide some pointers.

So there are some broad asset classes:-

1. Stocks
2. Commodities
3. Bonds (& I will include cash in this bucket)
4. Real estate

I think if you then work out where you stand on these asset classes and then get a really broad index fund within that asset class and pay the minimal fees with regards to managing your assets then that gives you the diversification that you require.

Good summary, Steveo.  That's the basic concept I've been trying to get at, but you said it more clearly.

[AdrianC]

Now look at prospective real returns (and if you don't agree that's fine, but give your reasons why): Stocks 4%, long term treasuries 2%, cash 1% and gold 1%.

What's the source of your prospective real returns?

They were from memory. Looking up specifics:

Total Stock Market ETF VTI Yield 2% plus assumed 2% corporate growth, or CAPE of about 25 giving earnings yield of 4%, or listen to Bogle (but don't listen to Rob Arnott)
Long-Term Government Bond ETF VGLT Yield 2.4%
Short-Term Government Bond ETF VGSH Yield 0.66%
Gold 0.94% for the last 30 years.

So I was a bit low on LTT and high on STT, it's a wash.

[AdrianC]

Even if all the rest is correct, this statement is overly broad:

A 2.7% long term return does not give a 4% sustainable withdrawal rate.

No?  It sure does for 30 years.

In fact, if you had a guaranteed 2.7% real return, you could take out an inflation-adjusted 4% for 40 years before running out of money.

Sure, but that's not a sustainable withdrawal rate.

I'm using Tyler's definition of sustainable withdrawal rate: "Max WR that sustained initial principal in worst case".

You're talking about a safe withdrawal rate: "Max WR that did not run out of money in worst case".

https://portfoliocharts.com/portfolio/withdrawal-rates/

[arebelspy]

Sure.  With that definition, it's not sustainable.

It is a safe withdrawal rate for many timeframes, with much lower volatility, which is what some may be looking for.

[Monkey Uncle]

Now look at prospective real returns (and if you don't agree that's fine, but give your reasons why): Stocks 4%, long term treasuries 2%, cash 1% and gold 1%.

What's the source of your prospective real returns?

They were from memory. Looking up specifics:

Total Stock Market ETF VTI Yield 2% plus assumed 2% corporate growth, or CAPE of about 25 giving earnings yield of 4%, or listen to Bogle (but don't listen to Rob Arnott)
Long-Term Government Bond ETF VGLT Yield 2.4%
Short-Term Government Bond ETF VGSH Yield 0.66%
Gold 0.94% for the last 30 years.

So I was a bit low on LTT and high on STT, it's a wash.

I suppose your crystal ball is as good as anyone else's, but I wouldn't necessarily assume that it's predictions are going to come true.

[steveo]

I suppose your crystal ball is as good as anyone else's, but I wouldn't necessarily assume that it's predictions are going to come true.

This is the whole point. I'd state it's extremely unlikely that past returns and volatility parameters will be repeated in the future.

[Indexer]

It has been beaten to death, but just to kick the dead horse a few more times...  it needs to be dead. I don't want new investors actually thinking this is a magical portfolio that defies the normal rules of risk and return.

This portfolio relies heavily on treasury bond and gold performance which have been good much of the past 30 years. The problem is that you don't see that trend really anywhere else in history. With interest rates where they are bonds don't have a lot of room to appreciate thanks to rates dropping like they did most of the past 30 years. The opposite is actually more likely, and bonds probably won't have high performance the next 30 years. I'm not saying they will be BAD. I'm just saying bond returns in the 1-3% range are probably more likely than bond returns in the 4-6% range like we have seen in the past.

[effigy98]

The back and forth is so confusing. So what is the consensus? What provides the best, safest 4% withdrawal rate and is still good for accumulation? Having total stock market 100% and scared of gold, real estate, 5% in each asset class and every country? What? There are so many crazy opinions here a new investor and even an old school one feels like they have a lottery ticket when it comes to these portfolios and they just have to gamble. Bonds are bad, stocks are bad, small value was good, probably now bad, interest rates going to negative 10% so fed can keep steeling from us... bad. Schiller PE bad, however, staying in cash bad. What is good? Is anything good. The only thing I get from this thread is it is probably better to stay working for 1 more year (every year) because the future is so bleak and uncertain.

[Interest Compound]

The back and forth is so confusing. So what is the consensus? What provides the best, safest 4% withdrawal rate and is still good for accumulation? Having total stock market 100% and scared of gold, real estate, 5% in each asset class and every country? What? There are so many crazy opinions here a new investor and even an old school one feels like they have a lottery ticket when it comes to these portfolios and they just have to gamble. Bonds are bad, stocks are bad, small value was good, probably now bad, interest rates going to negative 10% so fed can keep steeling from us... bad. Schiller PE bad, however, staying in cash bad. What is good? Is anything good. The only thing I get from this thread is it is probably better to stay working for 1 more year (every year) because the future is so bleak and uncertain.

That's why the majority of people on this forum, and the majority of people over at Bogleheads, are in the 3-fund portfolio. You ignore the noise, and accept market returns.

Jack Bogle, Vanguard founder: "The beauty of owning the market is that you eliminate individual stock risk, you eliminate market sector risk, and you eliminate manager risk. -- There may be better investment strategies than owning just three broad-based index funds but the number of strategies that are worse is infinite."

Bill Bernstein, author of The Four Pillars of Investing: "Does this (three fund) portfolio seem overly simplistic, even amateurish? Get over it. Over the next few decades, the overwhelming majority of all professional investors will not be able to beat it."

Mark Balasa, CPA, CFP: "That three-pronged approach is going to beat the vast majority of the individual stock and bond portfolio that most people have at brokerage firms. There is a certain elegance in the simplicity of it."

Christine Benz, Morningstar Director of Personal Finance: "By buying total-market index funds--one for U.S. stocks, one for foreign stocks, and one for bonds--investors can gain exposure to a huge swath of securities in three highly economical packages."

Rick Ferri, Forbes columnist and author of six investment books: "The older I get, the more I believe the 3-fund portfolio is an excellent choice for most people. It's simple, cheap, easy to maintain, and has no tracking error that would cause emotional abandonment to the strategy."

Kiplinger's Retirement Report: "You'll beat most investors with just three funds that cover the vast majority of global stock and bond markets: Vanguard Total Stock Market; Vanguard Total International Stock Index and Vanguard Total Bond Market Index."

Prof. Burton Malkiel, author of Random Walk Down Wall Street: "I recommend a total-maket index fund--one that follows the entire U.S. stock market. And I recommend the same approach for the U.S. bond market and international stocks."

Anna Pryor Wall Street Journal writer: "A simple portfolio of 3 funds. It may sound counter-intuitive, but for the average individual investor, less is actually more."

Dan Solin, author of The Smartest Portfolio You'll Ever Own: "You can get as simple or as complicated as you'd like. You can keep it very simple by owning just three mutual funds that invests in domestic stocks, foreign stocks, and bonds. That's precisely what I recommend in my model portfolios."

Prof. Meir Statman, author of What Investors Really Want: "It makes sense to have those three funds. What makes it hard is that it seems too simple to actually be a winner."

John Woerth, Vanguard director of public relations: "We would agree that this three-fund approach offers most investors a prudent, well-balanced, diversified portfolio at a low cost."

Warren Buffett, famed investor: "There seems to be some perverse human characteristic that likes to make easy things difficult."

https://www.bogleheads.org/forum/viewtopic.php?t=88005

[Seppia]

Also do not forget there is a lot of nitpicking here.
PERSONALLY I prefer the idea of total world stock market and not only USA for example.
Others have a preference for total USA.

But reality is if you buy very broad indexes you are still doing infinitely better compared to those who do not invest at all, or even worse spend all available income.

So go 80-20, 60-40, 60-20-20, 50-30-20, whatever.

This is to say: don't let the search for the absolute best prevent you from action, because that would be the only disastrous choice.

You're much better off going 100% "total stock Europe" than keeping all your money in cash (hyperbolic but not false)

[Interest Compound]

Also do not forget there is a lot of nitpicking here.
PERSONALLY I prefer the idea of total world stock market and not only USA for example.
Others have a preference for total USA.

But reality is if you buy very broad indexes you are still doing infinitely better compared to those who do not invest at all, or even worse spend all available income.

So go 80-20, 60-40, 60-20-20, 50-30-20, whatever.

This is to say: don't let the search for the absolute best prevent you from action, because that would be the only disastrous choice.

You're much better off going 100% "total stock Europe" than keeping all your money in cash (hyperbolic but not false)

Agreed. After speaking with hundreds of people about investing, I've come to the same conclusion. I recommend Vanguard's automatic accounts:



You have two amazing options:

1. "I want Vanguard's experts to do everything for me. I'll just tell them my age and they'll put it in the appropriate Target Retirement Fund"



2. "I want Vanguard's experts to do everything for me. I'll just tell them how much risk I want, and they'll put it in the appropriate LifeStrategy Fund"



Then forget about it.

[Tyler]

That's why the majority of people on this forum, and the majority of people over at Bogleheads, are in the 3-fund portfolio. You ignore the noise, and accept market returns.

Of course Bernstein, Ferri, and Buffett all discuss their own alternative portfolios as well and have written books on the matter.  While all of them agree that the three-fund portfolio is an excellent option (as do I), I don't believe any of them uses the three-fund portfolio themselves. 

Malkiel recently said that the 60/40 portfolio he pioneered is "downright dangerous" and is now suggesting REITs, dividend growth stocks, and emerging market bonds.  His direct quote -- "Investors who let go of oversimplification and embrace a slightly more complex but still low-cost portfolio will be better prepared to meet changes in their lives and the economy."

Bogleheads (including me) all agree that low-cost index investing is the way to go, but opinions differ greatly on exactly which indices to buy.  Heck -- even their namesake Jack Bogle doesn't see the point of international stocks in a three-fund portfolio.   Larry Swedroe is one of the most prolific contributors there and a staunch advocate for small cap value stocks.

So what is an individual investor to make of it all? 

The most important takeaway is that there's no such thing as a single perfect portfolio that works best for everybody.  That includes the Golden Butterfly.  There are many good ways to invest and even more opinions on the matter, and to expect consensus is not realistic, necessary, or productive.  "Best" means different things to different people. 

That's why the Golden Butterfly is only one of fourteen portfolios on my site spanning many different good ideas including a 100% Total Stock Market portfolio and the Three-Fund portfolio.  All use the Bogleheads approach of buying low-cost index funds and rebalancing once a year while ignoring the markets.  Rather than waste too much energy debating universal superiority, the far more productive activity is to find the method that works for you, tune out the noise, and enjoy your life!

[Interest Compound]

That's why the majority of people on this forum, and the majority of people over at Bogleheads, are in the 3-fund portfolio. You ignore the noise, and accept market returns.

Of course Bernstein, Ferri, and Buffett all discuss their own alternative portfolios as well and have written books on the matter.  While all of them agree that the three-fund portfolio is an excellent option (as do I), I don't believe any of them uses the three-fund portfolio themselves. 

Malkiel recently said that the 60/40 portfolio he pioneered is "downright dangerous" and is now suggesting REITs, dividend growth stocks, and emerging market bonds.  His direct quote -- "Investors who let go of oversimplification and embrace a slightly more complex but still low-cost portfolio will be better prepared to meet changes in their lives and the economy."

Bogleheads (including me) all agree that low-cost index investing is the way to go, but opinions differ greatly on exactly which indices to buy.  Heck -- even their namesake Jack Bogle doesn't see the point of international stocks in a three-fund portfolio.   Larry Swedroe is one of the most prolific contributors there and a staunch advocate for small cap value stocks.

So what is an individual investor to make of it all? 

The most important takeaway is that there's no such thing as a single perfect portfolio that works best for everybody.  That includes the Golden Butterfly.  There are many good ways to invest and even more opinions on the matter, and to expect consensus is not realistic, necessary, or productive.  "Best" means different things to different people. 

That's why the Golden Butterfly is only one of fourteen portfolios on my site spanning many different good ideas including a 100% Total Stock Market portfolio and the Three-Fund portfolio.  All use the Bogleheads approach of buying low-cost index funds and rebalancing once a year while ignoring the markets.  Rather than waste too much energy debating universal superiority, the far more productive activity is to find the method that works for you, tune out the noise, and enjoy your life!

You're still operating under the assumption that newbie investors know what's best for them. They don't. Effigy98's post is evidence of that. He/She read the thread, presumably read your article on The Golden Butterfly, and seems more confused than ever. This is why MrMoneyMustache recommends an automatic portfolio for his readers. Psychologically it makes sense. It takes the newbie's decision making out of the equation, as they put their portfolio in the hands of an expert. And what better expert than Vanguard? The only investment firm that's legally obligated to act in our best interests? You'll have the most diverse portfolio possible, with 21,600+ individual holdings across the world, and Vanguard takes care of everything for you.

Yes, for a newbie, this single portfolio objectively works best.

Telling newbies "there is no best, just look at my 14 options and make a decision for your life's savings that will impact you and your family's well-being for generations to come", just doesn't work. As I said in the beginning of the thread, I just don't think your readers can responsibly handle the information you're giving them.

[dandypandys]

Actually, this thread is beyond helpful.. I love hearing the debate on it and it helps me see it from all angles.
I decided to go with a 3 fund portfolio and keep it simple- this was after reading and reading and reading over the last 2 months- ..I rec all newbs to do the same if you can.  Tyler's site is really cool and i like how he shows a ton of great options.

[Tyler]

Yes, for a newbie, this single portfolio objectively works best.

...

As I said in the beginning of the thread, I just don't think your readers can responsibly handle the information you're giving them.

I respectfully disagree on both points.  Investing is more diverse and interesting than an easy one-size-fits-all solution implies, and people deserve to hear multiple perspectives and opinions. 

[Interest Compound]

Actually, this thread is beyond helpful.. I love hearing the debate on it and it helps me see it from all angles.
I decided to go with a 3 fund portfolio and keep it simple- this was after reading and reading and reading over the last 2 months- ..I rec all newbs to do the same if you can.  Tyler's site is really cool and i like how he shows a ton of great options.

Great choice! After months of "reading and reading and reading" you are no longer a newbie :)

For those of you who still are, choosing a Vanguard automatic account is effectively like saying, "Hey Vanguard. Will you manage that 3-fund portfolio for me that I keep hearing so much about?" These accounts:

• Don't require advanced knowledge of the market to invest (anybody can do it with a few button pushes)
• Are professionally managed automatically, by the only company which generates just enough profit to cover its costs, and with no outside owners (they are owned by people like you who invest with them) truly operates with your best interests in mind.
• Relieve you of the burden of choosing your own asset allocation, and does so with no tracking error. Reducing behavioral mistakes and possible emotional abandonment to the strategy, the biggest risk to your portfolio.
  
• Automatically rebalance.
• Gradually get less risky as you age (TargetRetirement).
• Keep you from tinkering with your portfolio.
• Let you easily schedule automatic contributions while keeping your allocation balanced ($500 a paycheck automatically invested for example).
• Let you easily schedule automatic distributions while keeping your allocation balanced ($4000 a month automatically deposited to your bank account for example).
• Let you "Set it and forget it". You can literally login once, schedule automatic contributions, and come back 30 years later knowing everything has been taken care of for you.
• Reinvest dividends automatically.
• Don't try to beat the market by adding 10% of this and 5% of that. The aim is not to separate winners from losers, but rather to hold the entire market.
• Give you the most diverse portfolio possible, with 21,600+ individual holdings across the world.
• Allow you to easily invest money separately based on goals. Short-term money vs long-term money vs retirement money, for example.

The 3 fund portfolio is the manual version of Vanguard's automatic accounts. Either way your investments are the same, you just have more control. Both are great choices.

[steveo]

That's why the majority of people on this forum, and the majority of people over at Bogleheads, are in the 3-fund portfolio. You ignore the noise, and accept market returns.

Of course Bernstein, Ferri, and Buffett all discuss their own alternative portfolios as well and have written books on the matter.  While all of them agree that the three-fund portfolio is an excellent option (as do I), I don't believe any of them uses the three-fund portfolio themselves. 

Malkiel recently said that the 60/40 portfolio he pioneered is "downright dangerous" and is now suggesting REITs, dividend growth stocks, and emerging market bonds.  His direct quote -- "Investors who let go of oversimplification and embrace a slightly more complex but still low-cost portfolio will be better prepared to meet changes in their lives and the economy."

Bogleheads (including me) all agree that low-cost index investing is the way to go, but opinions differ greatly on exactly which indices to buy.  Heck -- even their namesake Jack Bogle doesn't see the point of international stocks in a three-fund portfolio.   Larry Swedroe is one of the most prolific contributors there and a staunch advocate for small cap value stocks.

So what is an individual investor to make of it all? 

The most important takeaway is that there's no such thing as a single perfect portfolio that works best for everybody.  That includes the Golden Butterfly.  There are many good ways to invest and even more opinions on the matter, and to expect consensus is not realistic, necessary, or productive.  "Best" means different things to different people. 

That's why the Golden Butterfly is only one of fourteen portfolios on my site spanning many different good ideas including a 100% Total Stock Market portfolio and the Three-Fund portfolio.  All use the Bogleheads approach of buying low-cost index funds and rebalancing once a year while ignoring the markets.  Rather than waste too much energy debating universal superiority, the far more productive activity is to find the method that works for you, tune out the noise, and enjoy your life!

You're still operating under the assumption that newbie investors know what's best for them. They don't. Effigy98's post is evidence of that. He/She read the thread, presumably read your article on The Golden Butterfly, and seems more confused than ever. This is why MrMoneyMustache recommends an automatic portfolio for his readers. Psychologically it makes sense. It takes the newbie's decision making out of the equation, as they put their portfolio in the hands of an expert. And what better expert than Vanguard? The only investment firm that's legally obligated to act in our best interests? You'll have the most diverse portfolio possible, with 21,600+ individual holdings across the world, and Vanguard takes care of everything for you.

Yes, for a newbie, this single portfolio objectively works best.

Telling newbies "there is no best, just look at my 14 options and make a decision for your life's savings that will impact you and your family's well-being for generations to come", just doesn't work. As I said in the beginning of the thread, I just don't think your readers can responsibly handle the information you're giving them.

I'd make a couple of points:-

1. The information that Tyler provides is great. I think that it can be part of an investing education.
2. I think a simple portfolio has the best chance to work over the longer term. So I completely disagree with Malkiel's ideas within Tylers earlier post.
3. I think people in general (and maybe this applies to Malkiel) tend to value their investing knowledge too highly. So they look at Tyler's information (or any other information on investing) and then think I'm smart and I can look at this information and come up with a better than average portfolio. They forget that part of this whole investing field is about predicting the future which you simply can't do.

Summing all of this up I use a simple 3 fund portfolio. I recommend to my parents (people with no idea regarding investing) that they use a Vanguard all in one fund. I reckon over time very few people will beat these options and I doubt my 3 fund portfolio will beat the Vanguard all in one portfolio. I just choose the 3 fund portfolio because I use ETF's and I'm Australian and this provides the lowest fee options.

[steveo]

Yes, for a newbie, this single portfolio objectively works best.

...

As I said in the beginning of the thread, I just don't think your readers can responsibly handle the information you're giving them.

I respectfully disagree on both points.  Investing is more diverse and interesting than an easy one-size-fits-all solution implies, and people deserve to hear multiple perspectives and opinions.

Honestly I don't think so or maybe better put a simple 3 fund portfolio can cater for most investing needs. So if you are risk averse increase the amount of bonds in your portfolio. That is the first question to ask yourself and I don't think it's easy but it's not hard from a technical perspective. Then you need to look at the domestic/international split. If you are from the US I think going 100% US would be fine. You can though choose whatever you are comfortable with. As I'm from Australia I use 50% domestic and 25% international however over time I may increase my international.

The concern I have with all these different portfolios is that people may think that a portfolio like "The Golden Butterfly" can insulate them from the the risk/reward or better put maximum possible returns/volatility trade off. I don't think it can. By choosing a portfolio like "The Golden Butterfly" you are assuming risk in the form of assuming that the future performance of that portfolio as a whole will approximate historical returns. I personally think that is extremely unlikely.

[steveo]

Actually, this thread is beyond helpful.. I love hearing the debate on it and it helps me see it from all angles.
I decided to go with a 3 fund portfolio and keep it simple- this was after reading and reading and reading over the last 2 months- ..I rec all newbs to do the same if you can.  Tyler's site is really cool and i like how he shows a ton of great options.

Great choice! After months of "reading and reading and reading" you are no longer a newbie :)

For those of you who still are, choosing a Vanguard automatic account is effectively like saying, "Hey Vanguard. Will you manage that 3-fund portfolio for me that I keep hearing so much about?" These accounts:

• Don't require advanced knowledge of the market to invest (anybody can do it with a few button pushes)
• Are professionally managed automatically, by the only company which generates just enough profit to cover its costs, and with no outside owners (they are owned by people like you who invest with them) truly operates with your best interests in mind.
• Relieve you of the burden of choosing your own asset allocation, and does so with no tracking error. Reducing behavioral mistakes and possible emotional abandonment to the strategy, the biggest risk to your portfolio.
  
• Automatically rebalance.
• Gradually get less risky as you age (TargetRetirement).
• Keep you from tinkering with your portfolio.
• Let you easily schedule automatic contributions while keeping your allocation balanced ($500 a paycheck automatically invested for example).
• Let you easily schedule automatic distributions while keeping your allocation balanced ($4000 a month automatically deposited to your bank account for example).
• Let you "Set it and forget it". You can literally login once, schedule automatic contributions, and come back 30 years later knowing everything has been taken care of for you.
• Reinvest dividends automatically.
• Don't try to beat the market by adding 10% of this and 5% of that. The aim is not to separate winners from losers, but rather to hold the entire market.
• Give you the most diverse portfolio possible, with 21,600+ individual holdings across the world.
• Allow you to easily invest money separately based on goals. Short-term money vs long-term money vs retirement money, for example.

The 3 fund portfolio is the manual version of Vanguard's automatic accounts. Either way your investments are the same, you just have more control. Both are great choices.

I love Vanguard. It just takes all the stress or drama out of investing.

[arebelspy]

The back and forth is so confusing. So what is the consensus? What provides the best, safest 4% withdrawal rate and is still good for accumulation? Having total stock market 100% and scared of gold, real estate, 5% in each asset class and every country? What? There are so many crazy opinions here a new investor and even an old school one feels like they have a lottery ticket when it comes to these portfolios and they just have to gamble. Bonds are bad, stocks are bad, small value was good, probably now bad, interest rates going to negative 10% so fed can keep steeling from us... bad. Schiller PE bad, however, staying in cash bad. What is good? Is anything good. The only thing I get from this thread is it is probably better to stay working for 1 more year (every year) because the future is so bleak and uncertain.

(Emphasis added.)

The only we we can answer that is with a crystal ball.

Tyler's site provides a lot of information, but as IC points out, it's probably not the place to start learning.  It's a place to go to become more sophisticated, specifically around the asset allocation selection part of investing.

If you aren't there yet, something simple and straightforward is probably best.  But there will never be a consensus on what's "best," because:
1) We don't know the future, and
2) Different investors have different criteria

If the Golden Butterfly worked as well for the next 45 years as the last 45, it would be a great option, IMO.  It's debatable (obviously) if it will.

You have to choose to either educate yourself, and choose what's right for you, or not bother, and go with something simple/straightforward where someone else does the thinking for you (this is not necessarily a bad thing), like a target date fund.

And there's always Wellington/Wellesley.

[Seppia]

I reckon over time very few people will beat these options and I doubt my 3 fund portfolio will beat the Vanguard all in one portfolio. I just choose the 3 fund portfolio because I use ETF's and I'm Australian

I visualized you in front of the screen trying to buy the all in one fund.

*click*

Pop up appears

"We are sorry, you cannot purchase the selected fund: you're Australian"

Some sort of racist bias by vanguard :D

That said, I love Tyler's work and one day I will probably contact him to ask authorization to translate his posts in Italian, but I do understand why IC fears the info could backfire to the superficial newbie.

Counter point to consider: the info provided is not super simple to process.
If I fed the site to my wife (she doesn't touch anything about investing) she would not understand a single thing.
So I guess Tyler's readers are on average knowledgeable enough to handle the provided info with care.

[jpeizie]

Hi all,

I almost never post here, but I just can't resist. I have a GB-style portfolio and I feel like folks are missing its key benefits specifically for early retirees. So let me take you through some of my own thought process and you can decide for yourself. This is basically a defense of the ideas behind the GB and the Harry Brown Permanent Portfolio its based on; you can play with the specific allocations to your hearts content. What convinced me to use a GB-style portfolio as opposed to a classic 3 fund portfolio is that it significantly reduces real-world risks during accumulation and during withdrawal phases. As someone looking to FIRE, you need to be concerned with finding a balance between volatility and returns. You cannot focus only on long term returns. Here's a look at the FIRE time charts from portfoliocharts.com:

Classic 3 Fund:


GB:


Notice how in the best case scenario, you've got about 12 or 13 years of working until you retire using either portfolio at a 50% savings rate. Maybe you think returns will be lower in the future, so maybe that pushes it out to 15 years. But because of GB's lower volatility, you have a far smaller risk that a stock market crash during your accumulation phase will force you to work for 18 or 20 years until you're ready to FIRE. Thats a huge risk you're taking if you choose to use the classic 3 fund portfolio. The lower volatility of the GB directly supports retiring earlier. Same applies to the Permanent Portfolio, it just doesn't have as much juice as the GB because it has a lower stock allocation.

Next, look at expected withdrawal rates:

Three fund:


GB:


Notice that across all timeframes, the GB supports a higher sustainable withdrawal rate. Don't worry about the actual rates here, my point is that in any time frame you like, the GB supports a higher rate than the classic 3 Fund. Again, this is directly because of the 3 Fund's higher volatility. With the 3 Fund, you are running the risk of knee-capping your portfolio by being forced to withdraw from it during a severe market crash, and that may cause your portfolio to fail before you die. GB significantly reduces this risk.

Lets step through each asset:

20% TSM and 20% SCV: I'm not going to specifically defend Small Cap Value here because I don't want to get sidetracked with it. The reason the GB works is because it devotes a significant portion of its assets to indexing the stock market. Maybe you decide to slice and dice it the way Tyler has with the GB, maybe you just do 40% TSM. Whatever. The point of this portion is to participate in the gains of all the value-producing goodness of the stock market. There's really nothing controversial about that.

20% Long Term Treasuries: These are here specifically because they are the most volatile type of bond, and specifically because they tend to spike in value when the stock market crashes. It happens almost like clockwork because there are fundamental economic reasons that there is a flight to safety during a market crash. The fact that long term treasuries tend to spike in value during market crashes is not particularly controversial according to anything that I've read, and no one is claiming it's a mirage based on backtesting. The point of this portion is to dampen the volatility of your stock market allocation. I personally like a ratio of 2 parts stock market to 1 part LTT, but your mileage may vary. Now, I will grant you that GB historical returns are juiced a little bit because of the famous 30 year bond tailwind that long term treasuries have experienced. That has meant that this portion was contributing something meaningful to the portfolio returns during the long stretches between market crashes. And I'll grant you that its not going to repeat itself going forward, and if you want to project the GB's returns going forward you should probably knock a little off the top for this reason (same applies to any other portfolio that holds Government bonds). But that's not the point of holding them in the GB. Its a defensive asset that reduces downside volatility, and remember, as an early retiree, no matter if you're accumulating or FIRE'd, volatility is not your friend.

20% Gold: This is also controversial. People say it doesn't produce any value, doesn't "really" track inflation, whatever. The point of holding gold is that its a highly volatile asset that doesn't correlate with either of the two above assets. So sometimes, regardless of what the other two are doing, gold will shoot through the roof and you'll get to reap some of that benefit. Other times it will tank for long periods of time. Thats ok. It allows you to buy lots of gold cheaply and reap even greater benefits the next time it shoots through the roof. It's a wild card and that's the point. As for the keeping-up-with-inflation argument, eh... I don't know. Over long enough time periods it looks like it roughly keeps up with inflation, but maybe you don't think it does. That's ok. The point is the wild swings that you get to take advantage of. Additionally, this portion should give you a little peace of mind during those SHTF times when people are losing faith in the stock market and the US Government at the same time. When that happens, gold is virtually guaranteed to turn into a gusher and this portion will be the key thing that is able to reduce your downside volatility while everyone else's portfolio is in the toilet. I invite you to look at any backtesting tool you like using any non-gold portfolio you like. Then modify that portfolio to add a 10%, 15%, or 20% slice of gold. The portfolio that adds the "non-performing" asset virtually always outperforms the one that leaves it out. That's because its highly volatile and doesn't correlate with the others. Its counter-intuitive, but that helps boost your portfolio returns while making it less volatile.

20% Cash (or short term treasuries): You have an emergency fund, right? The point of your emergency fund is to help you ride out the bad times without having to sell other assets at a disadvantageous time. The only thing the GB and PP do is include your emergency fund as part of your overall portfolio and give you some guidelines for when to balance into and out of it to the benefit of your overall portfolio. I fail to see anything controversial about that, in fact it makes a lot of sense to me. If you don't like 20% of your portfolio sitting in cash, that's fine, feel free to reduce it to a level you like and put the rest to work. But that's all the GB is doing here.

Hope this helps add to the debate. I think if you're reading this forum and have enough interest in your portfolio to poke around on Tyler's site and consider different allocations, then you are by definition not a newbie (or at any rate, you won't be for long) and are capable of understanding these points and making a choice based on what's best for you and your own temperament. But as a site dedicated to FIRE'ing, you've got to understand the risks volatility brings concretely to your life in the form of potential longer working career and potential portfolio failure in retirement, and the GB is just one of many options to reduce those risks.

[arebelspy]

As someone looking to FIRE, you need to be concerned with finding a balance between volatility and returns.

I personally think volatility is not the main concern for an early retiree.  Or rather, it is, but it shouldn't be.  It's flashy and scary, but inflation is the silent, deadly killer.  The best way to beat inflation is high real returns.  Not a single commodity that you hope hedges against it, but in actuality tends to have a 0% real return.

Next, look at expected withdrawal rates

The issue with your whole post is encapsulated in this one sentence.  Those are not expected withdrawal rates.  Those are historical withdrawal rates.  The people arguing against the GB are saying that it had those withdrawal rates, historically, as a matter of coincidence.  Data mining found the portfolio, but if the GB hadn't performed that well over the last 45 years, the same process would have found a different portfolio that did perform that well.  And you would be posting, arguing that THAT AA was really good, and here's why, and take a look at these "expected" withdrawal rates.

It's a potential survivorship bias problem.

I haven't yet decided if I believe this, or not, but there is the fundamental disconnect between your post and the arguments against: all of your posts were historically true for the last 45 years (but not before it), but won't necessarily hold true for the next 45 years.

[steveo]

I reckon over time very few people will beat these options and I doubt my 3 fund portfolio will beat the Vanguard all in one portfolio. I just choose the 3 fund portfolio because I use ETF's and I'm Australian

I visualized you in front of the screen trying to buy the all in one fund.

*click*

Pop up appears

"We are sorry, you cannot purchase the selected fund: you're Australian"

Some sort of racist bias by vanguard :D

That said, I love Tyler's work and one day I will probably contact him to ask authorization to translate his posts in Italian, but I do understand why IC fears the info could backfire to the superficial newbie.

Counter point to consider: the info provided is not super simple to process.
If I fed the site to my wife (she doesn't touch anything about investing) she would not understand a single thing.
So I guess Tyler's readers are on average knowledgeable enough to handle the provided info with care.

There is Vanguard Australia. I don't have enough money to use the all in one fund at a lower fee so I went the ETF route. I really like the all in one option though. I just tried to minimise the fees. The Australian thread goes into this discussion a bit and I don't think anyone can say which option is the right way.

I don't think people using Tyler's site are the type to think that there is a perfect portfolio and be beginner investors. I do think though that people that are educated are more likely to deceive themselves that their portfolio will hold up pretty similarly in the future to what it has in the past. I see asset allocation as being similar to picking individual stocks in that going for a simple approach is more likely to ensure you get average returns and therefore outperform most people over time.

[steveo]

I have a GB-style portfolio and I feel like folks are missing its key benefits specifically for early retirees. So let me take you through some of my own thought process and you can decide for yourself. This is basically a defense of the ideas behind the GB and the Harry Brown Permanent Portfolio its based on; you can play with the specific allocations to your hearts content. What convinced me to use a GB-style portfolio as opposed to a classic 3 fund portfolio is that it significantly reduces real-world risks during accumulation and during withdrawal phases. As someone looking to FIRE, you need to be concerned with finding a balance between volatility and returns. You cannot focus only on long term returns.

This is exactly the type of approach that concerns me. I'm not stating that your logic or reasoning is incorrect but I think that you are at risk of choosing an asset allocation that works well via back-testing but the future will be different to the past and the performance achieved in the past won't be anything like future performance.

My concern with this approach is:-

1. Gold may end up a dud asset over time. It will have a couple of up moments but overall it will probably have a high holding cost and underperform most asset classes over time. I do think it will decrease your volatility because it's up periods will probably happen when the world is in a crisis and stocks will tank but will that help you over the longer period. I'm honestly not sure.
2. Treasuries may suffer from an extended period of low returns.
3. The combination of the above 2 points may mean that 60% of your portfolio delivers poor returns over time and therefore your WR will need to be lower.

I think most lower volatility portfolios suffer from the need for a lower safe WR. Personally I would put more money into asset classes that are not correlated to the stock market if I had a lower WR because I think the the performance hit is probably worth the decreased volatility.

In stating all of that no one can predict the future and we might lurch from one economic problem to the next and everyone will run for gold for the next 30 years.

The issue with your whole post is encapsulated in this one sentence.  Those are not expected withdrawal rates.  Those are historical withdrawal rates.  The people arguing against the GB are saying that it had those withdrawal rates, historically, as a matter of coincidence.  Data mining found the portfolio, but if the GB hadn't performed that well over the last 45 years, the same process would have found a different portfolio that did perform that well.  And you would be posting, arguing that THAT AA was really good, and here's why, and take a look at these "expected" withdrawal rates.

It's a potential survivorship bias problem.

I just quoted this because it's the same issue that I am concerned with.

Personally I'm not willing to take the risk that the historical performance will be the same or really similar to the future returns.

[Seppia]

I see asset allocation as being similar to picking individual stocks in that going for a simple approach is more likely to ensure you get average returns and therefore outperform most people over time.

In fact, I tend to agree as I hold a very simple 100% stocks allocation, plus some cash.
I just think Tyler's work is amazingly interesting and very useful.
To me, it proved what I suspected already and what I really, really think is the important message to be sent to the non-investing, non-mustachian masses:

Invest!

This is the first, major hurdle that many, many people never overcome.
for these people, even a paltry 1% net annual return would be a massive improvement versus their current AA, which is
- cash
- sometimes an owned home

I feel this issue especially, because here in Italy where I live the financial illiteracy rate is through the roof

Only 2% of Italians responded correctly to these 5 questions

http://www.oecd.org/pisa/test/financialliteracytest/

TWO PERCENT!

[steveo]

I see asset allocation as being similar to picking individual stocks in that going for a simple approach is more likely to ensure you get average returns and therefore outperform most people over time.

In fact, I tend to agree as I hold a very simple 100% stocks allocation, plus some cash.
I just think Tyler's work is amazingly interesting and very useful.
To me, it proved what I suspected already and what I really, really think is the important message to be sent to the non-investing, non-mustachian masses:

Invest!

This is the first, major hurdle that many, many people never overcome.
for these people, even a paltry 1% net annual return would be a massive improvement versus their current AA, which is
- cash
- sometimes an owned home

I feel this issue especially, because here in Italy where I live the financial illiteracy rate is through the roof

Only 2% of Italians responded correctly to these 5 questions

http://www.oecd.org/pisa/test/financialliteracytest/

TWO PERCENT!

I think Tyler's work is great as well. I'm just not sure if basing your asset allocation on the tools and information available from Tyler is the right approach.

[jpeizie]

I personally think volatility is not the main concern for an early retiree.  Or rather, it is, but it shouldn't be.  It's flashy and scary, but inflation is the silent, deadly killer.

I think that's fair enough and inflation is a real concern. I think the GB is fairly well protected from inflation by having 40% in stocks but people are different and that might not be enough for others. I'm not living the ER life just yet, but I think what would keep me up at night is the volatility more so than the inflation.

The issue with your whole post is encapsulated in this one sentence. Those are not expected withdrawal rates.  Those are historical withdrawal rates.  The people arguing against the GB are saying that it had those withdrawal rates, historically, as a matter of coincidence.  Data mining found the portfolio, but if the GB hadn't performed that well over the last 45 years, the same process would have found a different portfolio that did perform that well.  And you would be posting, arguing that THAT AA was really good, and here's why, and take a look at these "expected" withdrawal rates.

OK, you got me on my bad word choice. My intent wasn't to draw your attention to the withdrawal rates themselves, but the fact that the GB's withdrawal rate has been consistently higher than the 3-Fund's and that much of that difference is due to similar returns combined with much lower volatility. Future returns probably won't match past returns, and of course that applies to the 3-Fund portfolio as well. What won't change is the systematic difference in volatility. The difference in volatility is a result of specific assets being chosen to complement each other. The specific proportions of the 20/20/20/20/20 allocation? Yeah, that's data mining to an extent. But you can play around with those and see what makes you feel comfortable. My point wasn't really to defend the GB per se, just the thinking behind it and the PP in general, which I find sound. I'm not sure how that is a result of data mining any more than the 3-Fund portfolio itself is.

1. Gold may end up a dud asset over time.

It might! In fact, you can look back at long periods of GB backtesting and see where gold sucked. But the GB was fine during those periods. Mostly because if people don't want to own gold, they probably have a lot of faith in the stock market and the US Government, so your other assets are doing well.

2. Treasuries may suffer from an extended period of low returns.

They might! In fact I'll even go farther and say that they will! But the point of holding the long term treasuries is not that they'll provide high returns in and of themselves. The point is that they'll spike when the stock market crashes. I agree with the criticisms that the GB probably won't have as high returns/withdrawal rates in the future as it had in the past for this reason.

Personally I'm not willing to take the risk that the historical performance will be the same or really similar to the future returns.

Honest question, and maybe I'm putting words in your mouth here, but why does this concern you about the GB but not the 3-Fund?

[steveo]

Honest question, and maybe I'm putting words in your mouth here, but why does this concern you about the GB but not the 3-Fund?

It's a good question.

My concerns with the PP or the GB are as follows:-

1. Gold and treasuries have had some periods of exceptional growth in the past that may not be replicated in the future. Stocks suffer from this as well however I would expect stocks to outperform gold and treasuries over time more consistently.
2. Assuming returns of gold and treasuries revert to a lower mean then I would expect that a lower WR would be required in retirement.
3. I think you are invested too much in specific assets i.e. gold instead of a broad commodity index and treasuries instead of a broad bond index. What if oil is the outperformer within the commodities pool or silver or coal or coffee. I would also prefer a broad stock index rather than the large cap and small cap blend. These are all examples in my opinion of over-optimisation that leads to a less robust model or in this case portfolio. You are basically over-fitting the data rather than taking from the data the key lessons that they are providing.

I do think that uncorrelated assets within a portfolio can really work well and if I was prepared to have a lower WR I would definitely purchase a commodity index. If my portfolio increases to a reasonable size I may even choose to do this.

The second question is why am I not concerned about a 3 fund portfolio. I suppose that this comes down in my opinion to not over-fitting the data and taking the key lessons from the past. So I use broad bond and stock indexes. I don't try and pick the specific sector that may outperform. I also think that the bond section of my portfolio is a good enough hedge against the stock market crashing or falling or going through an extended downturn.

I should add on this point that I am concerned about a 3 fund portfolio or maybe better put a stock heavy asset allocation. I'm taking that risk though because I can downsize my house to obtain additional cash (this is like a hidden part of my asset allocation), I still have some assets within bonds but mostly because I want to have a higher WR which I think is more likely to work out over the longer term with a stock heavy portfolio.

[Interest Compound]

Hope this helps add to the debate. I think if you're reading this forum and have enough interest in your portfolio to poke around on Tyler's site and consider different allocations, then you are by definition not a newbie (or at any rate, you won't be for long) and are capable of understanding these points and making a choice based on what's best for you and your own temperament.

I genuinely thank you for posting this, as it highlights the issue. Please spend some time digesting Arebelspy's response.

[Interest Compound]

Personally I'm not willing to take the risk that the historical performance will be the same or really similar to the future returns.

Honest question, and maybe I'm putting words in your mouth here, but why does this concern you about the GB but not the 3-Fund?

My answer is similar to Steveo's. This is why it's so hard to stay the course. During your investment horizon, you'll see a thousand and one different "Golden Butterfly's". Keep your head down, keep investing in Total Market Index Funds, and you'll be mathematically guaranteed to beat or match over half of all dollars invested in the market, with no worry of ever underperforming.

It's not:

"The 3-fund portfolio performed well in the past, therefore I expect it to perform well in the future."

Which is what you're basing the entirety of your analysis on. It's:

"Total Market Index Funds beat or matched half of all invested dollars in the past, I do not expect mathematical laws to change, so I expect it to beat or match half of all invested dollars in the future."

Passive investing has a deep humility at its core--the aim is not to separate winners from losers, but rather to hold the entire market.

[Interest Compound]

I haven't yet decided if I believe this, or not, but there is the fundamental disconnect between your post and the arguments against: all of your posts were historically true for the last 45 years (but not before it), but won't necessarily hold true for the next 45 years.

Just commenting to say I am appreciating this discussion.

I italicized ARB's statement as it he hit the nail on the fundamental divergence between proponents and opponents of GB. Here's the way I see it; keep in mind I don't follow GB, and tend to be merriman-ish (slice and dice the 3 fund to achieve a small cap and value tilt):
I've seen the comment made that data supporting the GB span only a 'few' years. Few meaning about at least a third of the entire stock market history. It hardly seems the product of recency bias. It spans ALL of the years that gold has been able to float. Tyler has discussed at length that GB has performed over a slew of market and economic conditions. Given that, the onus really is on opponents to make a very solid case against GB.
Consider this example: I sample some thing and get values of 0.5, 0.25, and 0.66. If someone says 'hey now, the real population of values going forward are much more likely to be different, say around either 0.1 or 1.0', they've got to prove beyond some doubt that the alternative should be accepted over the null. Given that the null hypothesis is informed by the only observations we have, the likelihood that the alternative is true without some very compelling evidence is lower. Hence the burden of proof is on the alternative.

In other words, as a casual reader of this discussion I do not view pro/op-onnets of opponents of GB equally a priori. I've been sitting back, eating popcorn waiting for opponents to tell me why GB will perform dramatically different going forward.

I'm not yet accepted the alternative hypothesis.

Survivorship Bias - the single greatest fallacy in investing

When we are pouring over the data to determine why a particular backtested strategy outperformed over a specific time period...we are implicitly making an assumption...that this strategy is special. After all, almost all of the other strategies failed, why did this one win? There must be some special property it exploited.

This assumption is a logical fallacy.

A Random Walk Down Wall Street has a relevant example. Take a large number of people, and ask them to flip a coin. If they flip heads they win, tails and they're eliminated from the game. After the first flip, about half the people will be eliminated. Then ask them to flip again, and again, and again. After 10 flips, only a select few people will be left. Are these people "lucky"? Are they "skilled". Would anything be gained by spending time studying their coin flipping strategy?

In other words, considering the large initial sample size, studying any one particular backtested strategy, and trying to peel out the "why" behind its results, is an effort in futility. This is especially silly with The Golden Butterfly, as even the stated story behind it's performance doesn't make sense, as highlighted earlier in the thread. Think about that for a moment. Even the person who discovered this portfolio can't explain it.

That said, I explained it pretty clearly in comment #57: When you take a portfolio based on actual fundamentals, then swap in assets which did well during the specified time period, you end up with The Golden Butterfly.

[Tyler]

Think about that for a moment. Even the person who discovered this portfolio can't explain it.

Just because the explanation doesn't make sense to you does not mean that a thorough one has not been offered or that it does not make sense to others.

[Interest Compound]

Think about that for a moment. Even the person who discovered this portfolio can't explain it.

Just because the explanation doesn't make sense to you does not mean that a thorough one has not been offered.

Sorry Tyler. I appreciate your work here as much as anyone, but you gave no explanation for why Gold fits in the "Inflation" field. You acknowledged the issue, then brought up correlation as a justification to keep it in the portfolio anyway. You know what other asset has a similar correlation, and does track inflation? TIPS.

Your explanation for the inclusion of Small Cap Value was similar. You acknowledged the issue, then said other options like Total International also work.

Let's do the investigation again:




This is more along the lines of what I'd expect from a portfolio like The Golden Butterfly. It's the price you pay for stability. Again, if you aren't comfortable with a portfolio with an expected return in this range (inflation-adjusted 4.5%), you should not use The Golden Butterfly. Comparing this against a commonly recommended standard portfolio, gives you a good idea of the risks here:




Inflation Adjusted Final Balance:

Pure Story 2: $547,471
Global Cap-Weighted Stocks: $3,086,771
Conservative 3-Fund Portfolio: $1,027,390

When you remove the ability to predict the future, this is what you end up with. In other words, when you take a portfolio based on actual fundamentals, then swap in assets which you already know did well during the specified time period, you end up with The Golden Butterfly. The Golden Butterfly portfolio page says (direct quote):

"match or beat the total stock market in long-term real CAGR with fewer stocks and lower volatility"

Perhaps the real lesson is:

"If you're looking for performance like this, weight your portfolio towards assets which are about to outperform."

[Interest Compound]

Why do you think GB, long-term, will perform much differently than it has? If I was a betting man, I would say that only .098% of people would be left after 10 coin flips. I would put my money on that every time. And I would put my money on GB having a 5.8% real return (+/- whatever standard deviation in the data set) unless I have compelling evidence to tell me that the future will be different than the past.

Don't you see?

The equivalent of:

"only .098% of people would be left after 10 coin flips"

Is not:

"GB having a 5.8% real return"

When you're betting on GB having a 5.8% real return, you're betting that GB will be one of the 0.098% of portfolios that are left.

[Tyler]

Whether or not you agree with the reasoning for why the GB works, Gold and TIPS are very different assets with wildly different behaviors.  To blindly substitute one for the other is misleading. 



I respect your conviction, and we all understand your position.  There's no need to filibuster or start repeating yourself.  It's ok to disagree! :)  I value this forum for the diverse perspectives.

[DrF]

The devil is in the details. If you are going to use an asset class that is supposed to hedge against inflation and you choose gold, why can't you substitute TIPS and get the exact same result? It's precisely because they do behave differently on backtesting which your software found. I think the crux of IC's arguement is that you contend that you chose all of your asset classes to hedge against a particular market cycle, where in fact what you really did was have the algorithm give you the equal weight of 5 asset classes that historically have given you low volatility and relatively high CAGR. It would possibly work in your favor, or at least appease pedantic types, to say simply "I have included asset classes which historically show some degree of uncorrelated behavior that backtest well". Which I think is what you've done.

[effigy98]

I have a GB-style portfolio and I feel like folks are missing its key benefits specifically for early retirees. So let me take you through some of my own thought process and you can decide for yourself. This is basically a defense of the ideas behind the GB and the Harry Brown Permanent Portfolio its based on; you can play with the specific allocations to your hearts content. What convinced me to use a GB-style portfolio as opposed to a classic 3 fund portfolio is that it significantly reduces real-world risks during accumulation and during withdrawal phases. As someone looking to FIRE, you need to be concerned with finding a balance between volatility and returns. You cannot focus only on long term returns. Here's a look at the FIRE time charts from portfoliocharts.com:

This is exactly the way I have interpreted it and one reason I like the idea of the Golden Butterfly. I am not new to investing, have been investing for over a decade, but I suck at it overall (5% return average), so I just want the safest, highest return possible. Every time I think I get it right, more information makes me doubt. This debate is one of those, I enjoy a debate about most things, however, this subject scares me as I hate work so very much that the possibility to retire early in just 6 more years is the only thing that keeps me going with this fake corporate smile. This is just one area in my life I would like to actually get right.

[Tyler]

This is exactly the way I have interpreted it and one reason I like the idea of the Golden Butterfly. I am not new to investing, have been investing for over a decade, but I suck at it overall (5% return average), so I just want the safest, highest return possible. Every time I think I get it right, more information makes me doubt. This debate is one of those, I enjoy a debate about most things, however, this subject scares me as I hate work so very much that the possibility to retire early in just 6 more years is the only thing that keeps me going with this fake corporate smile. This is just one area in my life I would like to actually get right.

Hi Effigy.  I understand your confusion and frustration. 

This is a point where I do agree with Interest Compound.  If anyone finds themselves confused by the details of this discussion and overwhelmed by all of the options, then IMHO the best first step is to invest in the Classic 60-40 portfolio (or something similar).  It has been around forever, and while it does have its tradeoffs (as all portfolios do) there are huge support communities to help you stay the course.  And if you choose to build on it later, those two funds will be the foundation of almost any future portfolio you'll grow into.  Don't let the search for the "perfect" portfolio stop you from getting off the starting line.  Investing is a journey, not a switch. 

If after getting comfortable you decide you want to learn more about alternative assets and how they might augment your portfolio performance in some way then that's great.  Research and learn, but don't act hastily -- take it one step at a time.  A common next step is to look at international stocks (like the three-fund portfolio).  After that, some people like Rick Ferri add a fourth uncorrelated asset like REITs.  Others like Bill Schultheis take it a step further and subdivide the stocks a bit.  You get the idea -- many portfolios that look very different on the surface are actually built on the same foundation and are easy steps from where you started.

But importantly, while some of the more sophisticated portfolio concepts are definitely interesting and have a lot of smart people backing them, none of those extra steps are required!  I'm a full believer that one should never invest in anything they do not understand.  Just sticking with the broad stock and bond markets is a perfectly valid investing method suitable for many people. 

Regarding your frustration with work, I also totally empathize.  I've been there.  In my experience, looking to the markets to make you happy will always let you down no matter how you invest.  The solution for that is a lot bigger than asset allocation.  That's what MMM is all about!

[jpeizie]

It's not:

"The 3-fund portfolio performed well in the past, therefore I expect it to perform well in the future."

Which is what you're basing the entirety of your analysis on.

Sorry for the misunderstanding, but that is not what I'm basing my analysis on. I'm basing it on lower volatility, which reduces sequence of return risks in accumulation phase and in retirement.