I believe that people are right that you should mostly be invested in the S&P 500, but totally wrong that you should maintain a consistent allocation like 80/20 or 50/50.
I said this on another thread, not quite realizing how
controversial it would be. Not wanting to take the thread further off-topic, I'm trying to spin it off here. The original thread:
https://forum.mrmoneymustache.com/investor-alley/advise-me-on-where-to-invest-100k/I actually feel pretty strongly about this after a lot of thought, and after discussing it with a (very clever) work colleague who recommended I use a particular system to re-allocate my TSP (gov't 401k) monthly. The general reasoning behind doing this is simple: Well-informed traders have historically been able to predict, with great accuracy, how much the S&P 500 will move. This is called the Volatility Index (VIX), or "fear & greed index." We can use this info.
MathWhen VIX is at 12 (right now), that means that a 1 standard deviation monthly move in the market would be 3.46%. I.e., it would be pretty normal for the market to go up or down 3.46%.
When VIX is at 50 (height of '08-'09), that means that a 1 standard deviation monthly move in the market would be 14.43%.
I am
scared of a market where 14.43% moves are normal, because I do not have nerves of steel, and frankly, I do not want to be 100% invested when I can lose 14.43% or more in a month. To use some crude math, I believe that if I should be 100% invested when a 3.46% move is normal, then I should logically be much less invested when a 14%+ move is normal. Ex: 14.43 / 3.46 = 4.17, so 100% / 4.17 = 24% invested. This means that I will continue to only lose 3.46% from my portfolio, even when the market drops another 14.43%.
Good feelsI.e., if I do not want to accept that huge risk by being 100% invested all the time,
I do not have to.This makes me, personally, feel
infinitely better about contributing to my account through thick and thin, and I'm much less worried about doing something stupid when the market loses more than half its value again.
Bad for returns?The worry is that by having a lower stock AA at times, you're hampering your total returns. Now, personally, I'd accept this if it appeared to be true, but the service that I intend to follow has a history of returns going back to 2000, and the cumulative returns for the "Risk Profile" I've chosen (50%) are actually
greater than a constant 100% stock allocation. From the performance figures that they posted at this link:
https://safer401k.com/how-it-works/performance-since-2000/... the 50% Risk Profile returned 134.98% — quite a bit more than the S&P 500’s 97.5%.
While I do not exactly expect a reply from an $8/mo. service, I am emailing them right now to ask about what the exact inputs are for the risk numbers so I can act more informed about this. My colleague said it is probably the Volatility Index and the 10-year to 2-year bond spread (which is by far the most popular measure of incoming recession). I think that they should make this info available, but I don't see it on the site (it's kind of vague). Regardless, I think that the basic idea behind the approach is very sound, and I intend to follow it totally methodically (I actually stopped lurking and registered to this forum in order to start a journal to keep myself accountable in the beginning).
But really, the basic idea I want to get at here is that it makes sense -- if you
know that risk of loss is higher -- to have a bit less money in stocks, thereby protecting yourself from the possibility of large losses. As for myself, the idea has made me a lot more confident that I'm not going to screw up big-time by contributing to my 100% S&P 500 (C Fund) allocation right now, and I'm also not going to be wringing my hands or making stupid, emotional mistakes when the next recession hits. I'll have a plan that I like, and I'll stick to it.
YMMV, no question. But I'm really interested in the theory here, and I'm hoping to feel like less of an idiot than I did in the last thread for thinking this way. The impression I got from my colleague at work is that this is not a controversial idea at all within the professional investment community, and I was expecting (hoping?) to find some sympathizers here.
Thanks!