jlcollinsnh hypotheical allocation scenario - thoughts?

[yandz]

I will preface this with a couple things:
-my risk tolerance is generally pretty high
-I lean toward simple portfolios (total stock / total bond splits) relying on total stock to provide some international (multinational businesses) and some real estate (intrinsic)

I have read through the jlcollinsnh stock series.  The scenario that just keeps sticking in my mind is from this post: http://jlcollinsnh.com/2012/05/12/stocks-part-vi-portfolio-ideas-to-build-and-keep-your-wealth/
It makes a lot of sense to me. And I am so curious what others think about it.  I kind of what to try it...and I kind of don't want to experiment with FIRE (I usually do intend any puns).

He says:
"Since most financial storms last less than three years, maybe there’s a better way.  What if we did this:
•88% of our dollars working full tilt in the hot sun.  880k
•12% napping in the sun on the cash beach. 120k

Since most of the time the market goes up, this portfolio will have a far stronger ability to build wealth.  We can draw our 40k from the dividends and capital gains our stocks in VTSAX throw off.

When times get tough and stocks slide, we leave VTSAX alone and let it heal.  With a 120k/three year cushion in cash we can pull those dollars off the beach to spend in the meantime.

When times improve we go back to tapping VTSAX and we rebuild our cash position for the next cycle.
Mmmm.  I haven’t convinced myself just yet.  What do you think?"

[matchewed]

It all depends on your risk tolerance. There are going to be many ways to skin the cat here. You could go for an annuity (I think brewer mentions this frequently when people talk about safe positions), I haven't brushed up on those.

You could go for the cash position like you outline.

I'd approach my FIRE like I approach saving for FIRE. Outline a plan that fits well with your risk tolerance and your lifestyle.

[foobar]

VTASX isn't through off 40k. More like 20k And if you don't reinvest those dividends in bad years, it take a lot longer to recover.

I am not a huge fan of going super conservative but there is no need to go to the other extreme. 75/25 (i.e. about 6 years in bonds)  or even 60/40(10 years in bonds) gets about the same return and you don't have to lose sleep about hitting a 10 year patch when stocks performance sucks.

[LuckyMe]

I saw that jlcollinsnh article too and was intrigued by the idea of 100% stock allocation.  But after reading the bogleheads forum, this idea became less appealing to me.  For one, the returns on an all-stock portfolio aren't always as impressive as you would think.  If you look at this chart (http://www.youngresearch.com/wp-content/uploads/2012/08/Efficient-Frontier.jpg), you'll see that a 64/40 stock/bond mix returned only about 1.5% less than 100% equities over a 34 year period.  You can see from this chart that having bonds greatly reduces risk with only small impact on overall returns. 

The other reason for having bonds is when the market does go south, you can sell your bonds to pick up stock shares at discounted prices.

[foobar]

I saw that jlcollinsnh article too and was intrigued by the idea of 100% stock allocation.  But after reading the bogleheads forum, this idea became less appealing to me.  For one, the returns on an all-stock portfolio aren't always as impressive as you would think.  If you look at this chart (http://www.youngresearch.com/wp-content/uploads/2012/08/Efficient-Frontier.jpg), you'll see that a 64/40 stock/bond mix returned only about 1.5% less than 100% equities over a 34 year period.  You can see from this chart that having bonds greatly reduces risk with only small impact on overall returns. 

The other reason for having bonds is when the market does go south, you can sell your bonds to pick up stock shares at discounted prices.

That chart is a bit deceptive in that it occurred during  bull market for bonds. Other time periods show a greater gap. And you are not buying your shares at a discount. You are buying them at a lower price. There is a big difference between the two.

Pretty much anything from the 40/60 to 80/20 can be justified pretty easily. When you start getting out of that range, you really need to think about why. Stretching for return tends not to be a good one.

[yandz]

VTASX isn't through off 40k. More like 20k And if you don't reinvest those dividends in bad years, it take a lot longer to recover.

I think what he is saying is that during bad years, you live off the cash only (don't touch the stocks, do reinvest dividends), but yes, I can appreciate what you are saying.
Because we plan to have a 'stache that provides almost twice what our yearly needs+some wants budget is at the 4%SWR, it might work anyway as we would naturally cut down on spending (and have plenty of room to do so) when the markets are down. We are market risk tolerant, but overall situation conservative if that makes sense. That said, why put ourselves through it? And realistically we won't.  Except the experimenter in me wants to see how it works...  Interesting theory at least.

[livingthedream]

People seem to put a lot of stock in his opinions around here and I like his articles also but don't completely buy the concept of putting all your eggs into the VTSAX basket. This will weigh your portfolio heavily with large cap US stocks.  Maybe it's a safe bet but not inline with most of what I have read about portfolio theory and diversification.

[foobar]

VTASX isn't through off 40k. More like 20k And if you don't reinvest those dividends in bad years, it take a lot longer to recover.

I think what he is saying is that during bad years, you live off the cash only (don't touch the stocks, do reinvest dividends), but yes, I can appreciate what you are saying.
Because we plan to have a 'stache that provides almost twice what our yearly needs+some wants budget is at the 4%SWR, it might work anyway as we would naturally cut down on spending (and have plenty of room to do so) when the markets are down. We are market risk tolerant, but overall situation conservative if that makes sense. That said, why put ourselves through it? And realistically we won't.  Except the experimenter in me wants to see how it works...  Interesting theory at least.

The point was you can't count on the dividends during down periods. If you have 3 years of expenses in FI, you will spend through them in 3 years.  Take March of 2000 to March of 2003. If you only had 3 years of FI, you would have sold at the bottom of the market to meet that years expenses.  Change it from 90/10 to 80/20 and you have enough years to ride it back up a few more years.  You could not reinvest the divs and then you would have enough cash(well depending how bad the div cuts are during your particular crash)  to ride the wave back up but you would also not be buying low so your overall return might be lower than just going 80/20 to start with. You are taking on risk, and you not  getting rewarded for it.

Obviously if you planning on a 2% SWR, none of this really matters. If you have 2x the cash, you can get away with being inefficient allover the place and you will still make it. At that point you can debate between sleeping at night (50/50 would have as much stock as the 4% at 100%) or getting a huge pile of cash when you die. Personally I would go for the huge pile of cash.

[Ambition89]

I too am very intrigued by jcollinsnh allocation idea. But I believe you did not include this part of his allocation plan.
Phase 1:  The Wealth Building Portfolio

100% = Stocks held in VTSAX

0-5% = Cash held in VMMXX (for upcoming expenses)

Phase 2:  The Wealth Preservation and Building Portfolio.

50% = Stocks held in VTSAX (growth)

25% = REIT  held in VGSLX  (inflation hedge)

25% = Bonds  held in VBTLX (deflation hedge)

0-5% = Cash held in VMMXX (for upcoming expenses)


Phase 1 is obviously when you are starting working. He states that he would like his daughter to have her allocation like this until 30.
Phase 2 is when you already have "F-U Money"

[yandz]

But I believe you did not include this part of his allocation plan.

Right, what I included was something he just puts out there as a hypothetical that he toys with in his own head and he plainly states it is not what he is doing.  I know he has his daughter in 100% equities right now.  And his previous allocation was 50/25/25 as you state, although recently he has sold off all his REIT and is now 75/25 equities/bonds.

I was just curious what others thought of the hypothetical because it is an interesting thought. I am the first one to agree it is risky, unproven, etc.  His actual 75/25 split is much more established.

[arebelspy]

I like the hypothetical, but my question is: what do you hope to gain from using that allocation versus a more typical one?  And what do you see as the potential downsides, and probability of those downsides?

[RyanAtTanagra]

There was a similar thread recently on keeping a cash buffer.  I don't remember if it was totally conclusive (I think there might have been a limitation of the simulators, but might be confusing another discussion), but what I gained from it was:

- Yes a cash buffer will let you ride out the downturns a little more smoothly
- However, most of the time the stock market goes up.  By planning for the slides you're forgoing appreciation by not having those 3 years of expenses in stocks during the bull markets.  Over a long time line you come out behind with the cash buffer.

[Frankies Girl]

I too am very intrigued by jcollinsnh allocation idea. But I believe you did not include this part of his allocation plan.
Phase 1:  The Wealth Building Portfolio

100% = Stocks held in VTSAX

0-5% = Cash held in VMMXX (for upcoming expenses)

Phase 2:  The Wealth Preservation and Building Portfolio.

50% = Stocks held in VTSAX (growth)

25% = REIT  held in VGSLX  (inflation hedge)

25% = Bonds  held in VBTLX (deflation hedge)

0-5% = Cash held in VMMXX (for upcoming expenses)


Phase 1 is obviously when you are starting working. He states that he would like his daughter to have her allocation like this until 30.
Phase 2 is when you already have "F-U Money"

I think Jim has actually gotten rid of his REIT funds. He'd mentioned that they are for all intents and purposes acting like stocks as far as an inflation hedge goes, so he sold them off and went into VTSAX.

http://jlcollinsnh.com/2014/05/27/stocks-part-xxii-stepping-away-from-reits/



And to answer the OP's pondering...

I also thought it was an intriguing idea, but it just made more sense to me in practice to hold a percentage of bonds and much smaller amount of cash. I'll still be keeping a cash buffer, but the bonds should perform okay during the down times for stocks, and as long as I have balance I think it would make for a much less worrisome journey over the long haul.