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Learning, Sharing, and Teaching => Investor Alley => Topic started by: wheezle on October 03, 2018, 02:29:23 PM

Title: Risk-adjusted exposure to S&P 500
Post by: wheezle on October 03, 2018, 02:29:23 PM
Quote
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.

Math
When 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 feels
I.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/

Quote
...  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!
Title: Re: Risk-adjusted exposure to S&P 500
Post by: jacoavluha on October 03, 2018, 02:44:36 PM
Why do you suppose they have chosen to compare the return of their service to the S&P 500 since 2000? I have an idea. Curious what you think.

Well-informed traders have historically been able to predict, with great accuracy, how much the S&P 500 will move.

Supporting data?
Title: Re: Risk-adjusted exposure to S&P 500
Post by: wheezle on October 03, 2018, 02:58:32 PM
Why do you suppose they have chosen to compare the return of their service to the S&P 500 since 2000? I have an idea. Curious what you think.
To show a long enough timeframe to seem relevant? To show what happened in two separate recessionary periods?

Supporting data?
I was taking my friend's word for this one. I assume it to be true because it makes sense if you look at a chart of S&P500 and VIX on Yahoo.

But OK, I Googled. This came up: https://361capital.com/blog-posts/equity-returns-and-the-vix/

Quote
But, what you can say from Graph 7 is that it appears there is a relationship between the current VIX level (the expected future volatility) and the range (or width of the distribution) of future S&P 500 returns, providing more evidence that current expected volatility is predictive of future volatility.

(https://361capital.com/wp-content/uploads/VIX-Graph-7.jpg)

So, there's that.
Title: Re: Risk-adjusted exposure to S&P 500
Post by: jacoavluha on October 03, 2018, 03:07:34 PM
The "data" you have shown (can you explain it?), which of course is from a service trying to sell you something, does not prove your statement of, "Well-informed traders have historically been able to predict, with great accuracy, how much the S&P 500 will move." Unless you think it does. If so, explain how.

I think they may have chosen the year 2000 because that just happens to coincide with a peak in the S&P 500. And I suspect their data is derived, and not actual. Did "safer401k" exist as an entity in 2000? How about you ask them for returns data from 1997, or 2002.

I do really enjoy the disclaimer on the bottom of their home page though: "Although Safer 401(k) is a very sophisticated tool capable of providing useful calculations it is not designed to replace the advice of a professional investment counselor or your own independent investment research and independent calculations. To rely solely upon the Safer 401(k) tool for investment decisions would be extremely unwise."
Title: Re: Risk-adjusted exposure to S&P 500
Post by: marty998 on October 03, 2018, 03:15:46 PM
Looks to me based on that funky VIX graph that there are more dots above 0% than below?

Which makes sense - the market goes up more months than down, and VIX is a lagging indicator - you can only calculate VIX based on events that have already happened.... how often have you see a bounce after a fall? All the time...
Title: Re: Risk-adjusted exposure to S&P 500
Post by: ILikeDividends on October 03, 2018, 03:23:10 PM
<Moved here from the other thread>

In all sincerity, here's a little gift for you:

https://jlcollinsnh.com/stock-series/

Don't read it now, but do bookmark it, and don't lose it.  I would have given my left arm for this link when I was your age.  Of course, I would have had to wait a couple of decades for the internet to be invented before I could read it, but that's kind of beside the point.

You'll know when it's time for you to read it.  Your future self will thank me. 
Title: Re: Risk-adjusted exposure to S&P 500
Post by: erutio on October 03, 2018, 03:31:57 PM
Unfortunately, I don't think you're going to get a lot of sympathizers here.  What you are talking about is basically market timing, dressed up to sound smart and better than the other "financial advisers" out there.

You don't lose any money as long as you don't sell off when your accounts lose half their value.  The idea is to actually keep buying stocks (ie total stock market fund) at that time to bring your stock AA% back up to your target.  Of course, if you sell off your stocks at the top of the market, then buy all the stocks again a few months later at the bottom of the market, you will be better than the S&P 500 index, but this is attempting to time to market 101.

When you adjust you AA% semi regularly, like one to a handful of times per year, you in essence are already selling a little when the markets are high and buying a little when the markets are low. 

Look, I can come up with a pitch too.  My uncle went to harvard.  He came up with a model to predict how much stock market fund to hold, we call it the Zero to 100% plan.  Base on our model, going back to the year 2000, the model predicted that we would hold 100% total stock market fund until Aug 2000, where it recommends selling all of it, holding cash, then buying 100% total stock market again in March 2003, hold this until Sept 2008, at which time, sell all of it, and buy all of it back in March 2019.  It would have returned >1600% I believe.  Want to buy into our fund?
Title: Re: Risk-adjusted exposure to S&P 500
Post by: Telecaster on October 03, 2018, 03:52:23 PM

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!

You are doing it wrong.  The first thing you should do before considering any investment strategy is see what the haters are saying.   Cheerleaders are not your friends.  You want people to poke holes in it, tell you what you don't know.   I don't know how their black box model works (should be a big red flag right there), but I do know it is dead-ass simple to backtest a strategy that beats the S&P over the last 10 or 20 years.  Create one that beats it over the 30 years is really hard.  I'm willing to bet a bottle of beer that this strategy doesn't work if you backtest it farther.   

One thing that seems scary to me is they somehow seem to think that volatility is equal to risk.  That's not true, and I strongly suspect that's why they decided to start their return sequence at 2000.  Because in the 1990s the market was very volatile--in an upward direction.   Capping volatility means capping returns.  Since the stock market generally goes up, you want to be careful tamping down the volatility because you are mostly tamping down your gains. 

Another thing that should give you pause is the R2 in chart you posted shows there is almost no (maybe no) correlation between volatility and stock market returns.  So why is it in the model? 
Title: Re: Risk-adjusted exposure to S&P 500
Post by: wheezle on October 03, 2018, 03:58:46 PM
The "data" you have shown (can you explain it?), which of course is from a service trying to sell you something, does not prove your statement of, "Well-informed traders have historically been able to predict, with great accuracy, how much the S&P 500 will move." Unless you think it does. If so, explain how.
Look at the chart. When VIX is higher, the market moves more. The market has never lost more than 3% when VIX is 10. The market has lost 17% when VIX is 40. Big difference.

VIX is a lagging indicator
No, VIX is not a lagging indicator. It's derived from current option prices. So it's the combined opinion of option traders on how much the S&P 500 might move.

Unfortunately, I don't think you're going to get a lot of sympathizers here.  What you are talking about is basically market timing, dressed up to sound smart and better than the other "financial advisers" out there.

You don't lose any money as long as you don't sell off when your accounts lose half their value.  The idea is to actually keep buying stocks (ie total stock market fund) at that time to bring your stock AA% back up to your target.  Of course, if you sell off your stocks at the top of the market, then buy all the stocks again a few months later at the bottom of the market, you will be better than the S&P 500 index, but this is attempting to time to market 101.
I get that you don't like things that sound like market-timing, but this approach is literally doing the opposite of your example. This portfolio would sell when the market goes down. It has nothing to do with "calling the top" or "catching a falling knife" or any of that garbage. What I'm talking about is seeing a reliable indicator that says "you can lose 14%" and choosing to NOT lose 14% by re-allocating.

You are doing it wrong.  The first thing you should do before considering any investment strategy is see what the haters are saying.
I guess that's why I'm here, huh? This place is apparently pretty dogmatic.

One thing that seems scary to me is they somehow seem to think that volatility is equal to risk.
If you're 100% invested in the S&P 500 and you stand to lose 14% this month based on volatility estimates, then I think it's fair to at least call volatility a type of risk, no?
Title: Re: Risk-adjusted exposure to S&P 500
Post by: MDM on October 03, 2018, 04:25:43 PM
If you're 100% invested in the S&P 500 and you stand to lose 14% this month based on volatility estimates, then I think it's fair to at least call volatility a type of risk, no?
Why are you focused on the "stand to lose" component, when per the chart you showed when the VIX is ~40-50, next month gains outnumbered losses 6 to 3?
Title: Re: Risk-adjusted exposure to S&P 500
Post by: jacoavluha on October 03, 2018, 05:07:59 PM
The "data" you have shown (can you explain it?), which of course is from a service trying to sell you something, does not prove your statement of, "Well-informed traders have historically been able to predict, with great accuracy, how much the S&P 500 will move." Unless you think it does. If so, explain how.
Look at the chart. When VIX is higher, the market moves more. The market has never lost more than 3% when VIX is 10. The market has lost 17% when VIX is 40. Big difference.

I still don’t see the “predict with great accuracy” part.

And where are all the actively managed funds using this strategy and outperforming?

Title: Re: Risk-adjusted exposure to S&P 500
Post by: wheezle on October 03, 2018, 05:28:16 PM
Why are you focused on the "stand to lose" component, when per the chart you showed when the VIX is ~40-50, next month gains outnumbered losses 6 to 3?
That's a really good question, and I think that this demonstrates exactly why a buy-and-hold strategy works so well -- volatility doesn't change the fact that the market, in the long run, is going to work in your favor. There's no question that by reducing exposure when there's a lot of volatility, you're missing out on those +10% months and turning them into +4% months instead.

I still don’t see the “predict with great accuracy” part.

And where are all the actively managed funds using this strategy and outperforming?
Standard deviation of monthly returns goes up in nearly-perfect linear fashion with VIX. Current volatility predicts future volatility, regardless of whether that means "up" or "down." I don't know how else to explain that. I guess I can try running some numbers myself to demonstrate, but...

And I mentioned this in the last thread, but again, no large fund is interested in absolute returns alone. Risk-management is first and foremost. The reason a fund would use a volatility-targeting approach is to reduce the volatility of the portfolio, which is considered a good thing in its own right, since it means you end up compounding returns more reliably -- no huge drawdowns in portfolio value. (Rule #1, don't lose money.)
Title: Re: Risk-adjusted exposure to S&P 500
Post by: PizzaSteve on October 03, 2018, 05:33:26 PM
The "data" you have shown (can you explain it?), which of course is from a service trying to sell you something, does not prove your statement of, "Well-informed traders have historically been able to predict, with great accuracy, how much the S&P 500 will move." Unless you think it does. If so, explain how.
Look at the chart. When VIX is higher, the market moves more. The market has never lost more than 3% when VIX is 10. The market has lost 17% when VIX is 40. Big difference.

I still don’t see the “predict with great accuracy” part.

And where are all the actively managed funds using this strategy and outperforming?
The VIX is a backwards looking measure.  It has no predictive value.  It is also skewed by large market drops, so most of the differences in trends are attributable to a few big drops. 

So you are saying that in the months with big corrections, volatility was high. So basically you uncovered the acxion that markets fall quickly, grow more steadily.  This is absolutely useless as a forward looking tool.  Yes, after black Friday is over VIX is suddenly high.  What do you do? You dont know if the market will fall further (it did), nor when it will recover.  All you can do is get out of the market and limit gains or losses, but time out of the market is lower returns overall, on average.  It is an old approach, but not a winning one.  Buy and hold beats it.

<removing content and withdrawing from the dialog...dont appretiate tone of OP...peace and good luck>
Title: Re: Risk-adjusted exposure to S&P 500
Post by: wheezle on October 03, 2018, 05:40:47 PM
I am interested in the qualifications of your `smart friend.'  Have some pretty strong credentials myself and am curious how this idea was developed and vetted.  I am a pretty big fan if the efficient market hypothesis and dont read anything convincing so far.
My colleague is a programmer. He trades index options with an automated strategy. Some of his friends ended up in the finance industry. We get lunch and talk a lot. If you have questions for him, I'll be sure to ask. He knows a lot more than the rest of us.

The VIX is a backwards looking measure.  It has no predictive value.
This is demonstrably false. Which makes me question your "strong credentials." VIX is derived from options that expire in one month. One month in the future.

You could conceivably argue that VIX is only predictive of future volatility to the extent that current volatility is predictive of future volatility -- but that's not even up for debate. Quoting the linked study again...

Quote
But, what you can say from Graph 7 is that it appears there is a relationship between the current VIX level (the expected future volatility) and the range (or width of the distribution) of future S&P 500 returns, providing more evidence that current expected volatility is predictive of future volatility.
Title: Re: Risk-adjusted exposure to S&P 500
Post by: ILikeDividends on October 03, 2018, 05:46:50 PM

And I mentioned this in the last thread, but again, no large fund is interested in absolute returns alone. Risk-management is first and foremost. The reason a fund would use a volatility-targeting approach is to reduce the volatility of the portfolio, . . .

You're confusing the method for the reason. The reason fund managers need to manage volatility is that their investors could pull their money out of the fund at any time.  A run on the fund could force them to liquidate a large chunk of their fund at market lows if they didn't do that.  Managing volatility is the method they employ to do that, not the reason that they do that.

Are you managing other people's money?  Or are you managing your own money?  If the latter, then the only one who can initiate a run on your fund is you.

. . . no huge drawdowns in portfolio value. (Rule #1, don't lose money.)

You keep repeating that apparently without understanding what it means, fundamentally.

Temporary draw downs in value does not equal losing money.  Selling off part of a position that has a capital gain is a taxable event.  The capital gains taxes you pay will never be compounding for you again.  That's a permanent future pay cut.  That's losing money.   The more often you do it, the more money you will lose.

You cite Buffet's rule #1, as if it were somehow an argument in favor of your programmer buddy's approach, apparently without understanding what it means.

Fund managers have a much bigger set of problems to deal with than you, as an individual investor has.  That gives you an advantage over them.  But if the only tool you pull out of the fund manager's toolbox is a hammer, then every problem you face will look like a nail; even when it's not a nail.

I'll repeat this, because it bears repeating: a temporary loss of value does not equal losing money.
Title: Re: Risk-adjusted exposure to S&P 500
Post by: PizzaSteve on October 03, 2018, 05:46:58 PM
For the curious, VIX is a volatility index measure.  People create derivative financial products and trade them based on it.  Its like the S&P 500 index has futures derivative products that can be traded, but the S&P500 index itself measures the weighted price of a basket of specific stocks.

https://www.investopedia.com/terms/v/vix.asp (https://www.investopedia.com/terms/v/vix.asp)  It attempts to be forward looking using data.

About 2 weeks ago I attended a small meeting with this guy at Charles Schwab https://www.schwab.com/resource-center/author/jeffrey-kleintop (https://www.schwab.com/resource-center/author/jeffrey-kleintop).  He is the one who explained how average VIX is less useful than median VIX, because a few days skew the average high, and also how it is not predictive.  So if you dont believe me (I do go out there and stay educated still, ask him, as he was my source for the comment).

<edited down to useful content>
Title: Re: Risk-adjusted exposure to S&P 500
Post by: markbike528CBX on October 03, 2018, 05:48:26 PM
Per the "Top is IN" thread. First post.

Fear is back, VIX above 15, XIV breaking down. SPY to follow, earnings will be a reality check.

Note that the S&P and most US indices are WAY up 25% since April 2017

If thorstach our Beloved Leader is this far off, how can mere mortals such as us have hope of doing better.

Sounds like someone is selling snake oil.
Title: Re: Risk-adjusted exposure to S&P 500
Post by: wheezle on October 03, 2018, 06:02:21 PM
You cite Buffet's rule #1, as if it were somehow an argument in favor of your planned approach, apparently without understanding what it means.

I'll repeat this, because it bears repeating: losing value does not equal losing money.
Fine, but "losing value" is still the opposite of compounding, and I want to compound.

So my 30 plus years working at high levels in finance (advised Fortune 50 CEOs, CFOs for real money) and business degrees from the top US finance b school doesn't count vs a programmer for a trading firm?

Please read this. [...]

https://www.investopedia.com/terms/v/vix.asp (https://www.investopedia.com/terms/v/vix.asp)

Do what you like though.  I will delete my replies, since you are sensitive.
From the article you linked:

Quote
The Volatility Index, or VIX, is an index created by the Chicago Board Options Exchange (CBOE), which shows the market's expectation of 30-day volatility. It is constructed using the implied volatilities on S&P 500 index options. This volatility is meant to be forward looking, is calculated from both calls and puts, and is a widely used measure of market risk.

I said my colleague knows more than us because I think he does -- not to offend you or your degrees. VIX is forward-looking, though.
Title: Re: Risk-adjusted exposure to S&P 500
Post by: jacoavluha on October 03, 2018, 06:07:00 PM
If it’s forward looking then let’s see the outperformance compared vs SP500, not starting from a market peak like 2000
Title: Re: Risk-adjusted exposure to S&P 500
Post by: PizzaSteve on October 03, 2018, 06:08:34 PM
<edited down to useful content>

The words 'meant to be (based on futures and options pricing)' are the key words.  The superbowl winner is meant to be predictive of a bull or bear stock market as well.  Are you going to bet your future on that?

I am the first to admit I dont know everything and might missuse a term, but please...your challenging tone is not helpful.
Title: Re: Risk-adjusted exposure to S&P 500
Post by: ILikeDividends on October 03, 2018, 06:13:45 PM
You cite Buffet's rule #1, as if it were somehow an argument in favor of your planned approach, apparently without understanding what it means.

I'll repeat this, because it bears repeating: losing value does not equal losing money.
Fine, but "losing value" is still the opposite of compounding, and I want to compound.
Wow.  How do you come up with these through-the-looking-glass conclusions?  Of course you're still compounding during a market melt down.  It's temporary.  You'll still have more of those shares when the market recovers.

While the market is low, your dividends will still be paid and reinvested at a more attractive price.  And for the next 30 years, those shares you bought with those dividends will pay dividends, and so on.  That's how compounding works.  And at your age, while you're still working, you'll still be shoveling money from every paycheck into a more attractively priced market.  At least you should be.

As a side note: I'm glad you got that link I gave you.  However, I suggested that you not read it right now for a reason.  I don't think you're open enough to new ideas that conflict with your programmer pal's way of thinking; not yet.  Heck, I wasn't very open to opposing viewpoints when I was your age.  The cockiness of youth, and all that.  I get it.

Like me, you're probably going to have to make every market blunder known to man a couple of times, at least, before you mellow enough to accept new ideas.  So go do that.  I had to.  You're on the right track to learn what not to do all on your own.  So is your programmer buddy.  I can tell you from personal experience, that is very valuable experience to have; expensive, but truly valuable. Set that link aside and revisit it in about 10 years.  You'll still have time to grow a nice little nest-egg before you retire.

For what it's worth, I was a very well paid programmer for 20 years.  Machine language (PDP-8/Assembly), COBOL, Fortran, Pascal, Prolog, Basic, C, C++, C sharp, Java, HTML, PHP, CS, PL/SQL; you name it, I've been paid as a professional to write all of those languages on a plethora of different operating systems, most of which are now obsolete. 

I'm sure I've left off a few languages from the list, but you get my point, eh?  I can learn a new language tomorrow and code circles around just about anyone else in about a week, and still have time to help them debug their own code in my spare time.  My talent for programming, however--and unfortunately--didn't cross over into an inherent talent for finances.  I had to learn that the hard way.  Word to the wise.
Title: Re: Risk-adjusted exposure to S&P 500
Post by: wheezle on October 03, 2018, 06:50:25 PM
OK.

I have, on this thread and in PMs, been advised to exercise caution.

Since my plan is currently to use this system as a long-term solution to my retirement savings, I probably owe it to myself to understand it better than I do. Fortunately, I am certain that my colleague understands it, and I am hopeful that I will receive more information from the people at Safer 401(k).

I will update as I learn more.

You can't get rid of me that quickly.
Title: Re: Risk-adjusted exposure to S&P 500
Post by: ILikeDividends on October 03, 2018, 06:53:23 PM
You can't get rid of me that quickly.

No one's trying to get rid of you.  Hang around for awhile.  You might just get to retire early after all.  Then it will be your turn to help someone younger retire early too.

;)
Title: Re: Risk-adjusted exposure to S&P 500
Post by: wheezle on October 03, 2018, 07:59:13 PM
No one's trying to get rid of you.  Hang around for awhile.  You might just get to retire early after all.

;)
I'm optimistic!
Title: Re: Risk-adjusted exposure to S&P 500
Post by: Radagast on October 03, 2018, 08:02:22 PM
I said my colleague knows more than us because I think he does -- not to offend you or your degrees. VIX is forward-looking, though.
WOW YOUR COLLEAGUE PROGRAMMED A TIME MACHINE!!!!!!!1 hE must be very smart and rich. You should definitely do what he says.
Title: Re: Risk-adjusted exposure to S&P 500
Post by: Radagast on October 03, 2018, 08:02:38 PM
But seriously, if it was a great idea, every hedge fund and trading desk would do it. Then there would be trillions of dollars pursuing the strategy. Then it would fail epically because trillions of dollars were following it. So most likely, it either 1) does not work, or 2) is about to fail epically.
Title: Re: Risk-adjusted exposure to S&P 500
Post by: wheezle on October 03, 2018, 08:10:22 PM
WOW YOUR COLLEAGUE PROGRAMMED A TIME MACHINE!!!!!!!1

But seriously, if it was a great idea, every hedge fund and trading desk would do it. [...] So most likely, it either 1) does not work, or 2) is about to fail epically.

Thanks. Very helpful.

If anyone else is interested, the basic concept that I'm talking about here is a lot like "risk-parity," which has been around for a long time as part of Modern Portfolio Theory. Some people think it's good, some people don't.

From a Forbes article (https://www.forbes.com/forbes/2012/0507/investing-risk-stocks-wealth-wringing-volatility-out-of-returns.html):
Quote
Partridge's solution is a strategy called risk parity, a fancy name for selecting investments based not on their returns but on their volatility. Imagine two simple portfolios, one with 2% volatility and the other with 4% volatility. Both have 8% expected returns, but the more volatile portfolio is twice as likely to fall hard and dig itself into a hole it can't get back out of.

Hopefully this helps you guys realize that I'm either not taking crazy pills -- or at least I'm not the only one taking crazy pills out there.
Title: Re: Risk-adjusted exposure to S&P 500
Post by: ILikeDividends on October 03, 2018, 08:21:37 PM
Forbes is only one of many drug dealers peddling crazy pills.  That's how they make their money.  They can be entertaining, and fairly safe to ingest, but only if you understand that one key point.

If you're prone to actually acting on their publications or broadcasts, then it would be safer to just avoid them altogether.  They are the primary source of any "feels" panic you might be likely to act on in a panic.  They get paid to add fuel to the fire.

A steady diet of them is kind of like overdosing on recreational paranoia; legal in all fifty states, but not necessarily good for you.
Title: Re: Risk-adjusted exposure to S&P 500
Post by: wheezle on October 03, 2018, 08:33:47 PM
Forbes is only one of many drug dealers peddling crazy pills.  That's how they make their money.  They can be entertaining, and fairly safe to ingest, but only if you understand that one key point.

If you're prone to actually acting on their publications or broadcasts, then it would be safer to just avoid them altogether.
Geez.

OK. Bridgewater, quite possibly the world's most influential hedge fund, with $160bn AUM, closed to new investment, 25% yoy returns in 2001 - 2010, etc... does a lot of risk-parity.

Ray Dalio is not crazy. Neither is risk-parity.

https://www.bridgewater.com/research-library/risk-parity/
Title: Re: Risk-adjusted exposure to S&P 500
Post by: ILikeDividends on October 03, 2018, 08:41:48 PM
Good for Bridgewater.  What are their YOY returns over the last 100 years?

Dale Earnhardt Jr. also became rich racing (I just knew I'd find a way to make him relevant to this thread).

Both approaches are perfectly reasonable for the few people who have the aptitude and skill set to do it.

I can name names of basketball players who became filthy rich playing that game.  That doesn't mean I can.

This forum is populated by people that don't want to (or more likely are unable) to excel at any of those professions, but who still want to retire early; some who have already, and others who are already on a glide path to retire early, with the least effort possible. 

Yeah, I'm lazy.  Guilty as charged.  But I stopped working in 2010 just so that I could fully express my laziness to my heart's content.  I start collecting social security in about 6 months.  I won't even have to draw down my stash after that kicks in; which, by the way, is bigger now than it was in 2010.   I get my medical from the VA, so I couldn't care less what happens to Obama-care.  You haven't even begun to see lazy from me yet.  My best, and laziest days are still ahead of me.
Title: Re: Risk-adjusted exposure to S&P 500
Post by: Radagast on October 03, 2018, 09:00:54 PM
Recommended reading: William Bernstein "The Four Pillars of Investing" and "Skating Where the Puck Was"

Lets take Forbes as our gospel. There is really no such thing as an enduring low risk high return investment, especially not one that can be exploited indefinitely by somebody recreating at a computer. If an investment that has high returns, low volatility, and is poorly correlated with other financial assets is discovered, the very first person to discover it will make out like a bandit. Every other person will rush in to take advantage of it, further increasing the returns of the original investor and lowering the returns of all subsequent investors. High return cannot exist for long in combination with either low correlation or low volatility, or especially both. Promises of that are actually an investing warning sign. Dalio (and Swenson, and probable Harry Browne) was a pioneer who reaped massive profits when the herd followed and drove his assets up in price. People starting after 2010? A lot higher hill to climb. Further, hedge funds in aggregate have been showing continuously reduced performance, to the point they under perform a combination of stocks and treasury bonds.

...long discussion. Anyhow, do what's best for you. As long as you don't use leverage or certain options you shouldn't lose too much money...
Title: Re: Risk-adjusted exposure to S&P 500
Post by: Systems101 on October 03, 2018, 09:50:03 PM
I'm going to add to the chilly reception.  The data you refer to is narrow in time frame, and longer term testing doesn't support the investing style you are advocating.  You are also using terms in ways that indicate you haven't done your research.

Well-informed traders have historically been able to predict, with great accuracy, how much the S&P 500 will move.

Traders make financial bets as to how the market will move.  In the aggregate, buyers of options are losing money, so those that are fearful or trying to capture big moves are more wrong than right (see: https://www.investopedia.com/articles/optioninvestor/03/100103.asp )

"Great Accuracy" is a wild claim.  The R-squared of the VIX (implied volatility) predicting the absolute value of actual volatility (as a percentage) for the next month is in the 20% range.  It's higher than I expected, but it's certainly not "great".  Also (thinking out loud), how much of that is covariant with the momentum factor?

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.

Lots of people once held a belief that the world is flat. Logically, if you sailed to the end of the world, you would fall off.  However, beliefs are not always correct.  The response you are receiving may be from folks who actually do analyze data - some of us for a living - and we test the theories with real data to make sure our beliefs are correct.  Often, we find they aren't.

So, let's test your logic.  Let's follow a simple algorithm: Investment rate is min(100,115-VIX).  So if VIX is under 15, we are fully invested, then if it's above 15, we scale down in a linear fashion.  This should give a flavor of whether your belief is correct.  We invest for a month at a time.

If we select from the top of the market in 2000, then our return is about 2% above the S&P 500.  If I reset the start date to January 1993, then we are about 9% behind the S&P 500.

The average monthly return fully invested is 0.856%, with the modified logic it's 0.811%.  The standard deviation of return is 4.1% vs 3.7%.  So the volatility went down, but so did the return.  Since folks here are maximizing return and accepting the volatility, I don't know why anyone here would be interested in using the VIX as you describe.  You will note I don't use the word "risk" - because volatility is not a good proxy for risk in the real world (it's just used that way as a simplification in academic papers... to quote Radagast, this is a "long discussion"...)

You can pull up ^VIX and SPY and the monthly historical data on Yahoo to build your own data or reproduce what I have summarized.

The biggest criticism of my analysis here is that it *still* fails to include some significant historical periods (pre-1990s) which have very different market dynamics.  Unfortunately, the concept of VIX and options don't go back far enough, at least in data I used.

There's no question that by reducing exposure when there's a lot of volatility, you're missing out on those +10% months and turning them into +4% months instead.

The problem is that then you lose against staying fully invested as the summary data I showed above indicates.  You're failing to participate in needed upside.

VIX is forward-looking, though.

This is one of those statements that makes my hair stand up on end.  It's pedantically correct, but the statement doesn't actually address the issue or move the discussion forward.  Specifically, VIX is forward looking in that it represents *implied* volatility.  People have made real bets with real money... But that is a useless statement.  What matters is whether it's forward-looking *indicator of performance*.  It is not.

My saying a hurricane will strike Idaho tomorrow is forward-looking, but useless (since it's a fabrication).  What you see on CNBC is forward-looking, and I think it's useless, too.  As you can see in the article you linked, the VIX is *not* predictive of return.  It is actually a *coincident* indicator of stock performance based on that article.  So it is not useful for predicting return, and thus shouldn't be used for asset allocation.

Hopefully this helps you guys realize that I'm either not taking crazy pills -- or at least I'm not the only one taking crazy pills out there.

Except this only reinforces the problems I expressed above.  See Key Observations #9 and #11: http://orcamgroup.com/wp-content/uploads/2013/08/TheRiskParityApproachtoAssetAllocation2010.pdf

The reality is that risk parity outperformed since 2000, but massively underperformed in the 1990s.  Your Bridgewater example will suffer the same problem.

The folks here are playing a statistical long game based on decades of data and lots of analysis.  There is a massive dataset that shows passive investing is - statistically - the way to go.
Title: Re: Risk-adjusted exposure to S&P 500
Post by: ILikeDividends on October 03, 2018, 10:57:19 PM
The folks here are playing a statistical long game based on decades of data and lots of analysis.  There is a massive dataset that shows passive investing is - statistically - the way to go.
I actually understood this part of your post.  ;)

+100

Great post!

(I understood more than that; I just wanted to express my appreciation)
Title: Re: Risk-adjusted exposure to S&P 500
Post by: wheezle on October 04, 2018, 12:04:48 AM
So, let's test your logic.  Let's follow a simple algorithm: Investment rate is min(100,115-VIX).  So if VIX is under 15, we are fully invested, then if it's above 15, we scale down in a linear fashion.  This should give a flavor of whether your belief is correct.  We invest for a month at a time.

The average monthly return fully invested is 0.856%, with the modified logic it's 0.811%.  The standard deviation of return is 4.1% vs 3.7%.  So the volatility went down, but so did the return.
But this is exactly what I'm hoping to achieve. Less start-date sensitively, less liquidation/draw timing sensitivity, less worry. That's why I picked the 50% loss limit. The system optimizes for that level of risk tolerance. If I picked a 95% loss limit, I'd be 100% in all the time just like you said, even in the worst of times -- but I didn't do that.

So you're basically telling me that I'm stupid (I can't use terminology correctly, I believe that the "world is flat," I'm wrong about VIX), but then you're proving to me that a cursory analysis of adjusting positions using VIX actually lowers portfolio volatility. Meaning that VIX clearly has some predictive value, and the Safer 401(k) method of scaling risk up and down according to volatility is in fact likely to work.

Why, after that, are you still telling me that VIX is useless garbage?

Since folks here are maximizing return and accepting the volatility, I don't know why anyone here would be interested in using the VIX as you describe.
If everyone here literally has 100% of their liquid assets in stock indexes all the time, then sure, you're right. Is anyone here actually doing that in earnest? Because I'm not, and I need a smart portfolio-allocation solution for the fact that I'm not doing it.

What started this thread:
Quote
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.

You're making me more confident that this is all a good idea.
Title: Re: Risk-adjusted exposure to S&P 500
Post by: ILikeDividends on October 04, 2018, 12:14:47 AM
You can reduce volatility very simply by allocating a greater percentage to cash equivalents or fixed income.  No one is suggesting that you should take on more equity risk than you are comfortable in taking on.  You don't need to twist yourself into knots over unproven, and misunderstood schemes, in order to do that.

I'm not calling you stupid; at least no more stupid than I was at your age. And I don't think others are calling you stupid either.  Spectacularly misinformed or uninformed, hard-headed and stubborn, yeah, there's a bit of that kind of mockery going on in this thread.  You should admit, though, if you're going to be honest with yourself, the mockery is well deserved.  Man up.  Ultimately, it means nothing.

Genius flourishes by learning from mistakes--your mistakes and other's mistakes--not by what you think you might know in the moment.
Title: Re: Risk-adjusted exposure to S&P 500
Post by: PizzaSteve on October 04, 2018, 09:32:54 AM
You can reduce volatility very simply by allocating a greater percentage to cash equivalents or fixed income.  No one is suggesting that you should take on more equity risk than you are comfortable in taking on.  You don't need to twist yourself into knots over unproven, and misunderstood schemes, in order to do that.

I'm not calling you stupid; at least no more stupid than I was at your age. And I don't think others are calling you stupid either.  Spectacularly misinformed or uninformed, hard-headed and stubborn, yeah, there's a bit of that kind of mockery going on in this thread.  You should admit, though, if you're going to be honest with yourself, the mockery is well deserved.  Man up.  Ultimately, it means nothing.

Genius flourishes by learning from mistakes--your mistakes and other's mistakes--not by what you think you might know in the moment.
Well said.  When someone doubts and mocks people offering to help (for free), who are stated they are efficient market investors with a market timing plan, they will take some hits.

But again, its his life,  As you said, we are retired with our millions already.  On the plus side, this should only reduce returns by the percentage of time out of the market, less transaction and advisory costs.  If he saves well he should be fine.
Title: Re: Risk-adjusted exposure to S&P 500
Post by: jacoavluha on October 04, 2018, 09:57:52 AM
So the volatility went down, but so did the return.
But this is exactly what I'm hoping to achieve.
How about an apples to apples comparison then. Find the static SP500:Fixed income portfolio that matches that volatility. Then compare the returns to the variable allocation portfolio that you're advocating. I'm genuinely curious what the results show.
Title: Re: Risk-adjusted exposure to S&P 500
Post by: PizzaSteve on October 04, 2018, 10:04:34 AM
So the volatility went down, but so did the return.
But this is exactly what I'm hoping to achieve.
How about an apples to apples comparison then. Find the static SP500:Fixed income portfolio that matches that volatility. Then compare the returns to the variable allocation portfolio that you're advocating. I'm genuinely curious what the results show.
In theory, that is hard to do because the VIX based plan will have variable returns, depending on market volatility, so it would be a range of returns similar to a high of 100% stock (markets unusually calm like this year so far) to a low of 50% stock (using OP example), of course less transaction and advisory costs.  Your stock portfolio would earn avg time in market x market returns, your other chunk would earn average time in asset class x average returns for that asset (say bonds or cash), but its like having an unknown allocation and picking one at random (in theory).

If you believe VIX can predict the future, skys the limit.  Market timing works and you outperform.

One can back test, but that is only backwards looking.  As my Schwab guy said, VIX is highly skewed by a few single day and even intraday shock events.  Its numbers must be carefully considered since something like a terrorism scare and one day blip will bump it up for a while.

PS. Sorry to jump back in, cant help myself sometimes.  If you want to make money in trading and market timing I would advise researching less efficient markets. 
Title: Re: Risk-adjusted exposure to S&P 500
Post by: wheezle on October 04, 2018, 10:21:00 AM
You cannot logically think this ...

You can reduce volatility very simply by allocating a greater percentage to cash equivalents or fixed income.

... and this ...

Since folks here are maximizing return and accepting the volatility, I don't know why anyone here would be interested in using the VIX as you describe.
... at the same time. They are at odds.

Either @Systems101 is right that we should all be 100% invested in stock indexes and accepting all the blows all the time, or what I'm proposing is a completely legitimate way to lower portfolio volatility while maximizing stock exposure.

What I'm saying is that if you do want to lower your portfolio volatility, adjusting according to stock volatility is a much better way since it allows you to be 100% invested the majority of the time instead of 80/20 or 60/40 or whatever you might do to lower volatility otherwise. The 10-year performance of my 50% Risk Profile portfolio is nearly identical to a 100% buy-and-hold over the period, and so it will clearly beat a "more conservative allocation," which would have been dragged down by fixed-income for a whole decade.

I guess here is the problem I am seeing with this (along with all the others people have pointed out).
...
You said yourself that you are only logging on once a month so you are stuck in your 100% stock allocation for the next 25 days until you reallocate on November 1st.
I don't really see this as a problem, though. I know a lot of folks are trying to characterize it this way, but I'm not trying to "time the market" -- I'm trying to use a practical system that's better than 80/20. Right now, I'm 100% invested in stocks, and that's not likely to change soon. When it does, I'll readjust, but I don't feel the need to monitor my account every day -- and I really don't want to.

If you believe VIX can predict the future, skys the limit.  Market timing works and you outperform.
I think this is a fairly reasonable characterization of the discussion so far, but I do want to add a caveat for @Systems101's sake because he was bothered by my not-too-professional "forward-looking" chatter: We can argue all day about whether VIX is itself some kind of direct predictor of future return distributions, or whether it's merely correlated due to the fact that volatility begets volatility, regardless of the existence of VIX. I suspect that the truth is really the latter, and that VIX is merely a good, convenient way to gauge where volatility, generally, is at, and thus where it's likely to go.

But for my purposes (which are not academic), I think that this is wonderful, and I don't really care if VIX is truly predictive or if it's merely coincidental, by nature, with the other factors that drive stock market volatility. All I care about is the potential for real, future volatility, and I think it's clear that VIX "predicts" that on the timeframe (a month) that I'm interested in.
Title: Re: Risk-adjusted exposure to S&P 500
Post by: talltexan on October 04, 2018, 12:34:52 PM
Wheezle-
I didn't see this addressed in any other replies, but you'll note the Low R-squared statistic in your model: this means that the VIX explains very little of the difference in returns over time. (maximum R-2 is 1)

It seems as though your agent may have other indicators that change the allocation as well (those would improve the R-2), the more you can learn about what those are, the better.

Honestly, having someone else do this management for you is sensible for market timing. A lot of the MMM crowd here is DIY, but I think having that commitment mechanism is a good thing.
Title: Re: Risk-adjusted exposure to S&P 500
Post by: Telecaster on October 04, 2018, 12:36:58 PM

What I'm saying is that if you do want to lower your portfolio volatility, adjusting according to stock volatility is a much better way since it allows you to be 100% invested the majority of the time instead of 80/20 or 60/40 or whatever you might do to lower volatility otherwise. The 10-year performance of my 50% Risk Profile portfolio is nearly identical to a 100% buy-and-hold over the period, and so it will clearly beat a "more conservative allocation," which would have been dragged down by fixed-income for a whole decade.

I understand what you are saying.  However, I'm skeptical if it actually works  over any reasonable length of time.   First, it should be stated clearly that in general people around here are buy and hold index investors, but there are lots and lots of sub-strategies in that universe, and lots of people also invest in individual stocks, and other instruments as well.    Some people are 100% stocks, but plenty of people aren't.  There is no one-size fits all.  That comment is more towards other posters than you. 

That said,  I mentioned above, it is easy to backtest a strategy for works great for 10 or 20 years, but it starts getting tough for time periods longer that.  The big real red flag in my mind though, is the S&P performance on the Safer (401)K website is wrong!  The price return for the time period was indeed 98%, but the total return including dividends was 175%!  That is one whole helluva big difference.

And if you want to tamp down some volatility you could stir in say, 30% bonds.  During the same period that would have improved the total return to 220%, and the max drawdown was only 20%.   Compare with the Safer (401)K 50% strategy claims of 134% returns with "less than 30%"  drawdown.   

From here, it looks like a lot of karate for no benefit especially if volatility is a primary concern. 

Title: Re: Risk-adjusted exposure to S&P 500
Post by: MDM on October 04, 2018, 12:47:23 PM
  The big real red flag in my mind though, is the S&P performance on the Safer (401)K website is wrong!  The price return for the time period was indeed 98%, but the total return including dividends was 175%!  That is one whole helluva big difference.
Oh dear...that puts Safer in the same league as indexed annuity sales.

See https://dqydj.com/sp-500-return-calculator/ if anyone would like to verify.
Title: Re: Risk-adjusted exposure to S&P 500
Post by: wheezle on October 04, 2018, 01:03:30 PM
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).

I asked about some specifics. The response:

Quote
Yes, that's correct. The only two inputs are VIX and the 10-2 Treasury yield spread, and then your own Risk Profile.

However, we believe that it is unwise to use VIX as you describe, since it partially ignores the positive bias inherent in the market as well as overstates some risks. What we're actually interested is not the VIX computation itself, but its historical "effects" on the S&P 500. So, e.g., a VIX of 12 has historically resulted in a distribution of returns with closer to 9% volatility (VIX tends to overstate real risks by incorporating a variance risk premium). This may appear troublesome because "real" VIX data can only be acquired from CBOE back to 1990, but it's made less so by the fact that VIX is not really doing anything too special, and correlates strongly to recent historical (past) volatility, much as a well-calibrated backward-looking GARCH model would. VIX could easily be replaced in this scenario -- it is only used for the sake of simplicity.

The precise distribution of historical returns at any given level of VIX is what we use to test programmatically against your 50% risk limit, so that in an enormous simulation with two million "possible universes," in no universe would you have lost 50%. This means that we're actually testing against far worse scenarios than occurred in 2008 to 2009. The true optimal allocation is that amount for which you cannot lose more than your risk limit, but for which your money grows maximally.

This is the idea behind "geometric mean optimization" as well as the more famous Kelly Criterion/Formula. Both seek to maximize the logarithm of wealth by finding that optimal allocation. In this case, however, we're maximizing the logarithm of wealth to match your bounded risk appetite. If your risk appetite "knew no bounds," you would be at the very least 100% invested, and often more, if possible (the basis for our Professional-grade data).

The 10-2 yield spread and Recession Risk is essentially laid on top of this optimal allocation, reducing it by the percentage of Recession Risk itself. So, e.g., if the optimal allocation is 70% and Recession Risk is 5%, "Your Allocation" is 65%. This means that Recession Risk ends up playing a large role only when that risk is very high, and that risk is only high when the yield curve has been flat or negative for a significant amount of time (the 10-2 spread is accurate at forecasting variance on a 3-year timeframe, so it needs to be factored in very slowly).

Regarding the performance data, yes, all of the data from 2000 is "point-in-time," meaning that there is no lookahead bias inherent in the data. If you had reallocated at market close on the last day of the month since 2000, your portfolio would have the exact same results as what we've posted (though your returns would be substantially higher owing to dividends paid -- look at the S&P 500 Total Return Index (SPXT) for a rough guide).

We hope that makes sense so far, and please don't hesitate to delve a bit deeper. We apologize for not having more detailed content just yet -- the service used to be essentially a small mailing list until only recently.

Regards,

The Safer 401(k) Team
support@safer401k.com

I may ask more about the Recession Risk metric, which they seem to have glossed over. Though tbh, I think the bulk of my questions were pretty much answered by this. I hope it answers some other questions, too (if there are details I can delve into a in a response, please let me know -- I can try to work them in).

Honestly, having someone else do this management for you is sensible for market timing. A lot of the MMM crowd here is DIY, but I think having that commitment mechanism is a good thing.
I will never, ever try to "time" the market using my gut. Having spent years trading individual stocks and options, I know my limitations... and I guess that's why I'm interested in letting go of the reins. My temperament is not suited to real "trading."

  The big real red flag in my mind though, is the S&P performance on the Safer (401)K website is wrong!
Yes, they make a point of this in the daily PDF docs. It talks about this in the performance section, that it doesn't include fees or dividends, and performance will be markedly higher over time.

@MDM, similar to your total return calculator, they're citing the "total return index." Which I assume takes into account dividend reinvestment.
Title: Re: Risk-adjusted exposure to S&P 500
Post by: ILikeDividends on October 04, 2018, 02:33:04 PM
You cannot logically think this ...

You can reduce volatility very simply by allocating a greater percentage to cash equivalents or fixed income.

... and this ...

Since folks here are maximizing return and accepting the volatility, I don't know why anyone here would be interested in using the VIX as you describe.
... at the same time. They are at odds.

Either @Systems101 is right that we should all be 100% invested in stock indexes and accepting all the blows all the time, or what I'm proposing is a completely legitimate way to lower portfolio volatility while maximizing stock exposure.

Sigh.  There is no way to maximize equity exposure and lower volatility at the same time.  Your proposal is neither legitimate or even founded in reality.

Systems101 never said a 100% equity position was right for everyone's risk tolerance.  Among other factors, age, i.e., time to retirement, is one of the primary considerations.  Not only is there no single equity allocation that is suitable for everyone, there isn't even an allocation that is suitable for any one individual for his entire life.

You are proposing a market timing scheme, but you insist on claiming it is something else, and you seem to take offense to anyone calling it what it is.  Hey, call it a bouncy red banana, if you want to.  It's your money, after all.  But you shouldn't be so surprised that no one else is going to call it a bouncy red banana.

Like I suggested up-thread, you should just take your little baby out on the road for a test drive, and learn for yourself.  I've got a hunch that's what you're going to do no matter what anyone else says anyway.  If your scheme goes belly up, missteps in the market can still teach you very valuable, even if expensive, lessons.

In the unlikely event that your scheme actually does outperform, the last thing you should do is plaster your method all over the internet for others to replicate.

If your scheme under performs the market, and you are comfortable with that under performance, then good for you.  Game, set, match.  Done and dusted. 

Personally, I think you are working way too hard to address a volatility concern that is trivially easy to address using more conventional methods.  But, hey, that's just my opinion.  It's worth exactly what you paid me for it.  Go ye forth, and time the market.  You have my blessing.

At this point I'm starting to doubt your grasp of the meaning of the word, "logically".
Title: Re: Risk-adjusted exposure to S&P 500
Post by: jacoavluha on October 04, 2018, 03:31:02 PM
And where are all the actively managed funds using this strategy and outperforming?
And I mentioned this in the last thread, but again, no large fund is interested in absolute returns alone.

this is kind of my favorite part, the assertion that there's a measure that can "predict, with great accuracy, how much the S&P 500 will move" but no large fund would be interested is forming a product built around said measure
Title: Re: Risk-adjusted exposure to S&P 500
Post by: wheezle on October 04, 2018, 03:35:24 PM
And I mentioned this in the last thread, but again, no large fund is interested in absolute returns alone.
this is kind of my favorite part, the assertion that there's a measure that can "predict, with great accuracy, how much the S&P 500 will move" but no large fund would be interested is forming a product built around said measure
Risk-parity funds do use VIX as a measure of variance. That was the whole point of the risk-parity discussion. Tons of people use VIX for that purpose. Which is why VIX futures are so enormously popular.

The fact that "no large fund is interested in absolute returns alone" is the reason that they use VIX.
Title: Re: Risk-adjusted exposure to S&P 500
Post by: ILikeDividends on October 04, 2018, 03:41:02 PM
The VIX went over 14 today.  Do you know where your money is?

(https://m5.paperblog.com/i/86/864685/when-your-hair-catch-fire-L-gIqLNE.jpeg)

I'm a bit perturbed that the VIX didn't predict today's market swoon yesterday.  I'm waiting for my psychic to call me to explain it.  And yes, she's that good.  I usually don't even have to call her to ask.

I hope she's ok, though.  She should have called me yesterday.

On a less whimsical note, if you want to deep dive into the role the VIX futures play for an Option Market Maker's short hedge method, and why the VIX came into existence in the first place, here's a PDF you can curl up with by the fire tonight: http://www.fin.ntu.edu.tw/~conference/conference2010/proceedings/proceeding/2/2-2(A223).pdf

Too deep for me, though.  I'm not an options market maker, so it's kind of irrelevant to me.
Title: Re: Risk-adjusted exposure to S&P 500
Post by: Telecaster on October 04, 2018, 04:45:36 PM
  The big real red flag in my mind though, is the S&P performance on the Safer (401)K website is wrong!
Yes, they make a point of this in the daily PDF docs. It talks about this in the performance section, that it doesn't include fees or dividends, and performance will be markedly higher over time.


Okay, good.  At least know their backtest is bullshit and doesn't relate to the real world.   

Raises the question why their backtest is bullshit, though.  I mean, why not run a real backtest?  Not that much harder.  Unless you want to, I don't know, conceal  under performance from the public who doesn't read the fine print. 

Also raises the question why someone would invest in a strategy based on bullshit. 
Title: Re: Risk-adjusted exposure to S&P 500
Post by: wheezle on October 04, 2018, 05:03:57 PM
Raises the question why their backtest is bullshit, though.  I mean, why not run a real backtest?  Not that much harder.  Unless you want to, I don't know, conceal  under performance from the public who doesn't read the fine print. 
You're saying it's bullshit because they're making the performance numbers look lower than they actually are?

I don't know that this is something I'd complain about, especially being that dividend payouts are highly variable and completely irrelevant to the strategy.
Title: Re: Risk-adjusted exposure to S&P 500
Post by: ILikeDividends on October 04, 2018, 05:17:39 PM
Risk-parity funds do use VIX as a measure of variance. That was the whole point of the risk-parity discussion. Tons of people use VIX for that purpose.

Which is why VIX futures are so enormously popular.
Rather than fabricating facts that fit into your misguided view of the universe, why not press the pause button and do a little rudimentary research?

VIX futures are "enormously popular" simply because they offer an extremely efficient and cost-effective way to hedge delta and vega risk (price and volatility risk) against unknown future price and volatility events.

Note my choice of the verb, "hedge," rather than "predict."  The two verbs mean two completely different things. 

You haven't suggested once that you are trying to hedge anything.  You're trying to use the VIX as a basis to predict the future, which is not a feature it was ever designed to deliver.  Predicting future volatility is decidedly not the reason it is enormously popular.
Title: Re: Risk-adjusted exposure to S&P 500
Post by: wheezle on October 04, 2018, 05:26:31 PM
Which is why VIX futures are so enormously popular.
Rather than fabricating facts that fit into your misguided view of the universe, why not press the pause button a do a little research?

VIX futures are "enormously popular" simply because they offer an extremely efficient and cost-effective way to hedge delta and vega risk (price and volatility risk) against unknown future price and volatility events.

Note my choice of the verb, "hedge," rather than "predict."  The two verbs mean two completely different things.
VIX futures trade and settle based on VIX, which is a variance figure derived from an interpolated series of SPX options, averaging 30 calendar days to expiration.

VIX futures are not VIX. People use VIX futures, which rely on the VIX computation, because they implicitly trust VIX to be an accurate gauge of volatility. If they did not trust VIX to be a reasonably accurate measure of volatility, they would not choose to trade an instrument that settles to the VIX value.

Please. Stop. Trolling.
Title: Re: Risk-adjusted exposure to S&P 500
Post by: ILikeDividends on October 04, 2018, 05:28:30 PM
VIX futures trade and settle based on VIX, which is a variance figure derived from an interpolated series of SPX options, averaging 30 calendar days to expiration.

VIX futures are not VIX. People use VIX futures, which rely on the VIX computation, because they implicitly trust VIX to be an accurate gauge of volatility. If they did not trust VIX to be a reasonably accurate measure of volatility, they would not choose to trade an instrument that settles to the VIX value.

Finally, some facts we can actually agree on.  So please explain how this is predictive of future volatility?

Please. Stop. Trolling.
You're kidding, right?  This entire thread is troll bait.
Title: Re: Risk-adjusted exposure to S&P 500
Post by: wheezle on October 04, 2018, 05:31:32 PM
Please. Stop. Trolling.
You're kidding, right?  This entire thread is troll bait.
Well then I urge you to not continue taking my "bait." I am legitimately trying to talk about this, even if you are not. Some people have taken it seriously, some have not -- I get that. But the reason I started this thread was to stop someone else's thread from turning into a garbage heap -- I was trying to be polite. You are not being polite. You are trashing this thread. That is not cool.
Title: Re: Risk-adjusted exposure to S&P 500
Post by: ILikeDividends on October 04, 2018, 05:36:06 PM
#1) I haven't read one response indicating anyone was taking your market timing approach seriously.
#2) Countering inaccurate assertions made by you does not constitute trolling or impolite behavior.  See point #1 for an example of what I mean.
#3) If you want to proselytize a market timing scheme without anyone else asking relevant questions, or raising relevant objections, then send yourself an email.  A public forum is not the place to do that.

You merely started this thread.  That doesn't mean you own it.

Taking your discussion off someone else's thread to avoid derailing it is an admirable motivation to create this thread.  Bravo.

My motivation for posting here is to offer new impressionable investors, who might be silently reading along, a counter argument to a market-timing methodology that could be hazardous to their portfolio's health and performance.

Please. Stop. Trolling.
You're kidding, right?  This entire thread is troll bait.
Well then I urge you to not continue taking my "bait."
At this point, it doesn't surprise me at all that you consider someone who disagrees with you impolite for doing so.  After you just called me a troll, and after having you literally admitting that you are troll-baiting, I think my response to your personal insult is rather well tempered. Don't you agree?
Title: Re: Risk-adjusted exposure to S&P 500
Post by: Telecaster on October 04, 2018, 06:07:09 PM
Raises the question why their backtest is bullshit, though.  I mean, why not run a real backtest?  Not that much harder.  Unless you want to, I don't know, conceal  under performance from the public who doesn't read the fine print. 
You're saying it's bullshit because they're making the performance numbers look lower than they actually are?

I don't know that this is something I'd complain about, especially being that dividend payouts are highly variable and completely irrelevant to the strategy.

It makes the benchmark look lower that it actually is.   It is much easier to clear the bar if first you lower the bar.  As MDM points out, lowering the benchmark is a favorite ploy of annuity companies who are trying to sell people on what seems like a great deal, which isn't such a great deal when you peel back the layers.   

Now, if they want to undersell their own performance, that's perfectly fine with me.  But since they make money on their subscriptions, making their strategy seem less appealing doesn't make any sense.  Unless, of course the strategy doesn't beat the beat the benchmark.  Then it makes a ton of sense why they would do it this way.  As I mentioned above, you can have much, much better returns than they claim, with lower volatility than they claim, by simply by adding bonds.  As far as I can tell, this service provides negative value no matter what your investing goals are. 

The part in bold is a little puzzling too.   Dividends make up about 25% of the total return of the S&P 500.  That's a lot of return to simply ignore. 
Title: Re: Risk-adjusted exposure to S&P 500
Post by: wheezle on October 04, 2018, 07:51:10 PM
OK. So one of the bigger issues that has been brought up is that VIX is not actually predictive of future variance in the S&P 500. So I charted it out.

The data is from 1993 to present. You can get it here:
http://www.cboe.com/products/vix-index-volatility/vix-options-and-futures/vix-index/vix-historical-data
https://finance.yahoo.com/quote/SPY/history?p=SPY

I think that the chart pretty clearly shows that future variance/volatility goes up as VIX goes up. This is also what the study I linked to earlier said.
(https://i.imgur.com/H9TQ9C6.png)

As for variance for each level of VIX (9, 10, 11), here's a list of the standard deviations of each level of VIX for which there are 100 data points or more.

9 2.216%
10 2.090%
11 2.174%
12 2.343%
13 2.434%
14 2.605%
15 2.703%
16 3.628%
17 3.925%
18 4.305%
19 4.733%
20 4.912%
21 4.825%
22 4.706%
23 4.686%
24 5.772%
25 5.581%
26 5.224%
27 5.533%
28 5.295%

Clearly, standard deviation goes up (future variance of returns) as VIX goes up.

This took a bit of time, but I'm very happy with the result. It confirms what my colleague, the earlier-cited study, and the email said.

I invite others to replicate.
Title: Re: Risk-adjusted exposure to S&P 500
Post by: ILikeDividends on October 04, 2018, 08:21:39 PM
@wheezle, I gather that you're not a big fan of my posts, so feel free to ignore me.  I don't want to be blamed for confusing you with facts.

For others who are interested, "2003 - The CBOE introduced a more detailed methodology for the VIX. Working with Goldman Sachs, the CBOE developed further computational methodologies, and changed the underlying index the CBOE S&P 100 Index (OEX) to the CBOE S&P 500 Index (SPX)."

See: https://en.wikipedia.org/wiki/VIX

Furthermore, before that, it relied on a Black Scholes model of implied volatility of the OEX. Since 2003, it uses a direct relationship between S&P 500 options price volatility of the SPX.

Any back test spanning 1993 to present is testing on two different methods of gauging implied volatility.  Maybe not quite as bad as an apples to oranges comparison, but certainly a Granny Smith to Fuji apples comparison, at the very least.
Title: Re: Risk-adjusted exposure to S&P 500
Post by: Radagast on October 04, 2018, 08:46:26 PM
https://www.portfoliovisualizer.com/test-market-timing-model?s=y&coreSatellite=false&timingModel=7&startYear=1985&endYear=2018&initialAmount=10000&singleAbsoluteMomentum=false&volatilityTarget=8&downsideVolatility=false&outOfMarketAssetType=1&movingAverageSignal=1&movingAverageType=1&multipleTimingPeriods=false&periodWeighting=2&normalizeReturns=false&windowSize=1&windowSizeInDays=105&movingAverageType2=1&windowSize2=10&windowSizeInDays2=105&volatilityWindowSize=0&volatilityWindowSizeInDays=0&assetsToHold=1&allocationWeights=1&riskControl=false&riskWindowSize=10&riskWindowSizeInDays=0&rebalancePeriod=1&separateSignalAsset=false&tradeExecution=0&benchmark=-1&benchmarkSymbol=VBINX&timingPeriods%5B0%5D=5&timingUnits%5B0%5D=2&timingWeights%5B0%5D=100&timingUnits%5B1%5D=2&timingWeights%5B1%5D=0&timingUnits%5B2%5D=2&timingWeights%5B2%5D=0&timingUnits%5B3%5D=2&timingWeights%5B3%5D=0&timingUnits%5B4%5D=2&timingWeights%5B4%5D=0&volatilityPeriodUnit=2&volatilityPeriodWeight=0&symbol1=VFINX&allocation1_1=100

This reminded me of you.

What are you hoping to gain from this thread? Nobody here uses or would consider this method. I think it is especially bad when you are investing lots of new money on a regular basis. When I look at high VIX days most look a lot like what I would call "good buying days." Periodic investing of new money gains extra impetus from high volatility (higher returns on money invested than if it was in a low or no volatility market with the same annualized return). You are climbing a bigger hill than you think.
Title: Re: Risk-adjusted exposure to S&P 500
Post by: wheezle on October 04, 2018, 08:54:19 PM
Take your money to the sideline, you either make or lose less, hence less volatility of returns.
Exactly! That's what I'm going for: Less volatility of returns.

For others who are interested, "2003 - The CBOE introduced a more detailed methodology for the VIX. Working with Goldman Sachs, the CBOE developed further computational methodologies, and changed the underlying index the CBOE S&P 100 Index (OEX) to the CBOE S&P 500 Index (SPX)."

Furthermore, before that, it relied on a Black Scholes model of implied volatility. Since 2003, it uses a direct relationship between S&P 500 options price volatility.

Any back test spanning 1993 to present is testing two different methods of gauging implied volatility.
There's an asterisk on the page I linked to that addresses this. Take a peek.

Quote
* After September 22, 2003, the volatility index prices using the new methodology are stated as "VIX" and the volatility index prices using the old methodology are stated as VXO".
VXO is the old methodology. VIX and VXO are both available from 1990. I used the VIX data.

What are you hoping to gain from this thread? Nobody here uses or would consider this method.
Responses like the one from @Systems101 are excellent. He had a very good, well-formed criticism. I hope for more of that.
Title: Re: Risk-adjusted exposure to S&P 500
Post by: ILikeDividends on October 04, 2018, 09:36:14 PM
There's an asterisk on the page I linked to that addresses this. Take a peek.
You already knew that, and yet you still thought running a fundamentally flawed back-test was worthwhile?  That defies logic.  I'm stunned that someone as logically oriented as you would waste your time doing that.

Thanks, but I'll pass on taking a peek.  I'll go ahead and just take your word for the asterisk. *

Here, take a peek at what us programmers call, "garbage in, garbage out."

https://en.wikipedia.org/wiki/Garbage_in,_garbage_out

* You can't make a crap analysis any less crappy with an asterisk.
Title: Re: Risk-adjusted exposure to S&P 500
Post by: Systems101 on October 05, 2018, 08:51:18 PM
What are you hoping to gain from this thread? Nobody here uses or would consider this method.
Responses like the one from @Systems101 are excellent. He had a very good, well-formed criticism. I hope for more of that.

Yet your response is to:

Unfortunately, I need to do one more post to support this concern:

My motivation for posting here is to offer new impressionable investors, who might be silently reading along, a counter argument to a market-timing methodology that could be hazardous to their portfolio's health and performance.

My example about the world being flat is that all the logic in the world can't help you if the starting assumptions are wrong.  I believe good research involves challenging your own assumptions, which means looking for contrary information.  Most of what the OP is doing is looking for information that validates that the methodology reduces volatility.  This is a very narrow perspective.  The graph the OP posted (which I also produced but didn't post - if you convert the return values to absolute values and then fit a line you will get the R-squared I talked about), as well as various articles will show the implied volatility of the VIX, to a limited degree, predicts realized volatility.  The OP is therefore declaring success. 

Unfortunately, I will maintain my point that the OP has not done enough research... It is this leap of "Since the VIX predicts volatility, my investment process works!" that I think is deeply flawed.

“If you do not know how to ask the right question, you discover nothing.” – W. Edwards Deming

Simply put, the OP is asking the wrong questions.

Let's start here:

But this is exactly what I'm hoping to achieve. Less start-date sensitively, less liquidation/draw timing sensitivity, less worry.

There are a ton of questions here that are important to ask.

The problem is you are running a test that says "Is my methodology better than 100% pure investment?"  You have set it up as a False Dilemma.  If we assume MPT is valid, the proper question is: "For the lowering of volatility, did I take an appropriate lowering of return to stay on the efficient frontier?"  If we do an alternative test, we can formulate the question to show what I believe @ILikeDividends was getting at: "Does having a variable rate of investment in the market to reduce volatility outperform having a fixed rate of investment (at some value that provides the desired volatility)?".  Since you have provided NO data on other methodologies to reduce volatility, you didn't answer this critical question.


Let's be clear: You are raising a real risk (volatility risk) - this is good.  But volatility is a meaningful risk only when you are forced to liquidate.  This becomes important below.

Secondly, you are attempting to use a measure of that risk factor (VIX, which measures implied volatility) to alter your investments.  I will address this below, but need to make one other point first.

You never asked "Am I sensitive to volatility risk?".  It's like the Hurricane in Idaho example earlier: Can you imagine State Farm representative's response if you asked to get a hurricane addendum on insurance in Idaho?  The risk is real while you are in the draw-down phase.  It is also real right now, but you basically aren't exposed to it.  It's why in corporate risk management, there are two columns: Impact and Probability. In both cases, the probability of a volatility event could be high, but in the accumulation phase, the impact (the probability of it being a problem) is almost precisely zero.  Because we shouldn't assume we have to have one methodology, this then compounds onto the first question.  You are paying for insurance (lower return) on a risk factor (volatility) that you may experience - but basically won't impact you - while you are in the accumulation phase.  Why are you setting an investment methodology now when the probability of it being a problem is high mainly in the first 10 years after retirement?  There is no reason to take on that opportunity cost of lower returns now.*

*This assumes your investment horizon is, in fact, retirement.  Different rules may apply if you are saving for a house down payment, for example.


Also, there are already documented methods for dealing with the initial sensitivity to a market crash right after retirement: Rising Equity Glide Path.  You don't need to prove the variable model better than the S&P500, you need to prove it better than the known alternatives.  Again, you have brought NO data to the table.

Risk-parity funds do use VIX as a measure of variance.

Yikes. 

Even if I take this as correct (I lack knowledge of how exactly they measure risk, so make no opinion on it), it is extremely scary to jump from "Risk parity funds use VIX" to "I should take my *entire portfolio* and treat it like a risk parity fund".  Even if you someone believes in using Risk Parity, I suspect they believe it should be *one part* of an overall portfolio, not *the entire* portfolio.

Here's the implied question in your behavior:


Again, no data.

OK. So one of the bigger issues that has been brought up is that VIX is not actually predictive of future variance in the S&P 500. So I charted it out.

This is another one of those things that should raise red flags for those following along at home.  Folks have pointed out that the VIX doesn't predict market *performance*, but did anyone actually make that claim that it wasn't predictive of future variance?  I even stated the R-squared was around 0.2, so I actually supported the same claim you are making.  The problem is: So what?  What is the logic chain that makes that information valuable? (and remember, it has to be *relatively valuable* to other strategies, not just *absolutely valuable* vs the S&P 500). I just happen to think the claim (about implied volatility predicting future volatility) is useless in the face of known alternatives and the questions listed above.

That's why I picked the 50% loss limit. The system optimizes for that level of risk tolerance.

Ah, the wonders of marketing.  There is little to no basis for their 50% claim, especially if it is backtested only into the 1990s.  Keep in mind the losses in '29-'32 were WAY bigger than 2008.  What they have done is provided you a slider to choose a loss limit.  There are some statistics around this to give it an air of legitimacy, but in reality, it's part of an oft-used marketing scheme called (among other things) "Fake Precision".  This gives you a precise value to give you an air of comfort that they know what they are doing.  This is designed to lower your stress level and validate that the service you are buying is performing a useful function for you... while actually providing no guarantee of accuracy in return.  I can query 10 people and average their answers as to the height of the Statue of Liberty to the nearest millimeter, but Wikipedia is likely to give me a much more accurate answer (albeit with less precision).  You should want an accurate answer, not a precise one.

Said another way: You are giving up returns in exchange for a false sense of security.  If this helps you sleep at night, then perhaps that false sense does have real economic value for you.  Some people are willing to pay prices for things like that (you can find threads here about robo-advisors and the comfort of those services).  I actually don't have any problem with people doing that as long as they understand they are not reducing their risk, they are merely paying for their emotional comfort with lower returns.  If you both go in with eyes open, and make sure to educate others you are encouraging to follow you with the truth, then it's all good.

Since folks here are maximizing return and accepting the volatility, I don't know why anyone here would be interested in using the VIX as you describe.
If everyone here literally has 100% of their liquid assets in stock indexes all the time, then sure, you're right.

As noted earlier, this is setting up and tearing down a strawman.  To be more clear: Each individual should pick a portfolio that is appropriate for their risk tolerance.  Within that, we accept the volatility as appropriate for the risk we have chosen.  Again, I am not using volatility as risk here, as that simplification for economics papers has some nasty logic holes.

Also, let's be clear on one more concern: Why are they selling the methodology $8 at a time?  If it's really "that good", then they should keep it a secret.  Once a secret is out, the market prices in that information, and the edge goes away.

Overall, you are spending a lot of effort to prove you are correct, but you have not yet taken on the effort to really tear down your own assumptions or identify where you are making leaps of logic that don't hold water. It really feels like you are "shifting the burden" (Getting lots of practice with my logical fallacies today!) to have us prove your methodology wrong.  As I've pointed out, there is a LOT of evidence that passive investing is the way to go... so the obligation is on *you* to prove that the VIX is not, as you put it, "useless garbage".  The data shows implied volatility predicts real volatility... assume we accept that... but you haven't connected that point to any action that is more useful than other already known options.

Not sure there is much more for me to add here.  Hopefully that post is sufficient warning to others to at least do a lot more of their own research before buying into an active methodology.
Title: Re: Risk-adjusted exposure to S&P 500
Post by: ILikeDividends on October 05, 2018, 10:24:44 PM
@Systems101, I couldn't have said it better myself; obviously, otherwise, I would have.

I had resolved not to post on this thread anymore, but on behalf of any new investors who might stumble into this thread, I just wanted to say thanks for doing that.
Title: Re: Risk-adjusted exposure to S&P 500
Post by: PizzaSteve on October 06, 2018, 10:51:44 AM
@Systems101, I couldn't have said it better myself; obviously, otherwise, I would have.

I had resolved not to post on this thread anymore, but on behalf of any new investors who might stumble into this thread, I just wanted to say thanks for doing that.
Plus One.  Thanks for an excellent, and educational post.  I wish I had the patience and writing skills to post such well reasoned, logical and kind words for the OP to learn from.  He should read it multiple times, slowly and thoughtfully, as it is a really good example of how to conduct oneself professionally in a online debate type situation.
Title: Re: Risk-adjusted exposure to S&P 500
Post by: DreamFIRE on October 06, 2018, 11:18:10 AM
TL;DR
Title: Re: Risk-adjusted exposure to S&P 500
Post by: wheezle on October 07, 2018, 02:32:43 PM
"Does having a variable rate of investment in the market to reduce volatility outperform having a fixed rate of investment (at some value that provides the desired volatility)?".  Since you have provided NO data on other methodologies to reduce volatility, you didn't answer this critical question.
I guess this is the crux of the issue, then. "Is this approach actually better than the equivalent stock/bond allocation?"

My inclination is that the variable allocation with a 50% risk limit (what I'm using) would outperform, e.g., 80/20, since my approach is 100% in stocks nearly all the time, whereas the 80/20 portfolio has a constant drag in the name of volatility reduction.

Thanks. I guess this is the big question, and the next thing to look into.
Title: Re: Risk-adjusted exposure to S&P 500
Post by: jacoavluha on October 07, 2018, 04:10:52 PM
"Does having a variable rate of investment in the market to reduce volatility outperform having a fixed rate of investment (at some value that provides the desired volatility)?".  Since you have provided NO data on other methodologies to reduce volatility, you didn't answer this critical question.
I guess this is the crux of the issue, then. "Is this approach actually better than the equivalent stock/bond allocation?"

My inclination is that the variable allocation with a 50% risk limit (what I'm using) would outperform, e.g., 80/20, since my approach is 100% in stocks nearly all the time, whereas the 80/20 portfolio has a constant drag in the name of volatility reduction.

Thanks. I guess this is the big question, and the next thing to look into.

the real crux of the issue is "can I time the market?"

I don't think I can.  If you think you can, then you should try.
Title: Re: Risk-adjusted exposure to S&P 500
Post by: PizzaSteve on October 08, 2018, 08:40:56 AM
"Does having a variable rate of investment in the market to reduce volatility outperform having a fixed rate of investment (at some value that provides the desired volatility)?".  Since you have provided NO data on other methodologies to reduce volatility, you didn't answer this critical question.
I guess this is the crux of the issue, then. "Is this approach actually better than the equivalent stock/bond allocation?"

My inclination is that the variable allocation with a 50% risk limit (what I'm using) would outperform, e.g., 80/20, since my approach is 100% in stocks nearly all the time, whereas the 80/20 portfolio has a constant drag in the name of volatility reduction.

Thanks. I guess this is the big question, and the next thing to look into.

the real crux of the issue is "can I time the market?"

I don't think I can.  If you think you can, then you should try.

Adding to your question, "Can you successfully market time AND earn back all the transaction costs, advisory fees, extra taxes and bid-ask spreads being paid every time one adjusts their market positions?' 

The bar is even higher than matching the volatility, return and tax efficiency of static allocations to efficient vehicles.
Title: Re: Risk-adjusted exposure to S&P 500
Post by: wheezle on October 08, 2018, 08:58:20 AM
Adding to your question, "Can you successfully market time AND earn back all the transaction costs, advisory fees, extra taxes and bid-ask spreads being paid every time one adjusts their market positions?' 

The bar is even higher than matching the volatility, return and tax efficiency of static allocations to efficient vehicles.
Yes, true! In my case, I can adjust my allocation twice a month at no cost, so I'm not going to worry about this just yet. But in the future, if I'm going to consider using this approach, this would need attention.
Title: Re: Risk-adjusted exposure to S&P 500
Post by: RWD on October 08, 2018, 09:29:09 AM
Adding to your question, "Can you successfully market time AND earn back all the transaction costs, advisory fees, extra taxes and bid-ask spreads being paid every time one adjusts their market positions?' 

The bar is even higher than matching the volatility, return and tax efficiency of static allocations to efficient vehicles.
Yes, true! In my case, I can adjust my allocation twice a month at no cost, so I'm not going to worry about this just yet. But in the future, if I'm going to consider using this approach, this would need attention.
How are you avoiding short term capital gains?
Title: Re: Risk-adjusted exposure to S&P 500
Post by: wheezle on October 08, 2018, 10:35:06 AM
How are you avoiding short term capital gains?
Retirement account.
Title: Re: Risk-adjusted exposure to S&P 500
Post by: RWD on October 08, 2018, 10:57:35 AM
How are you avoiding short term capital gains?
Retirement account.
Makes sense, thanks.
Title: Re: Risk-adjusted exposure to S&P 500
Post by: ILikeDividends on October 08, 2018, 05:50:11 PM
@Systems101, I couldn't have said it better myself; obviously, otherwise, I would have.

I had resolved not to post on this thread anymore, but on behalf of any new investors who might stumble into this thread, I just wanted to say thanks for doing that.
Plus One.  Thanks for an excellent, and educational post.  I wish I had the patience and writing skills to post such well reasoned, logical and kind words for the OP to learn from.  He should read it multiple times, slowly and thoughtfully, as it is a really good example of how to conduct oneself professionally in a online debate type situation.
We can certainly agree that the post exemplifies professional conduct, whether online or offline, but I thought it was less an example of debating talent than it was an example of critical thinking, structured within a highly disciplined analytical framework.  Of course, that would certainly be an advantage in any debate as well.

But back to the referenced post.  While the primary target audience was apparently new investors, I think most investors of all stripes could find much to take away from that post.  I certainly did, and apparently you did too.

Any others who might skip reading it merely because it is quite a bit longer than a typical forum post, no matter how seasoned of an investor you might be, is in my opinion overlooking one of those rare gems that show up in public forums from time to time.

Title: Re: Risk-adjusted exposure to S&P 500
Post by: twig21 on October 08, 2018, 08:40:17 PM
You are only mentioning downside.  When the VIX is high there is more also more probability of upside.  It seems like you are trying to protect yourself from the downside but by doing this your are going to "protect" yourself from the upside as well.

IMO timing the market rarely works.
Title: Re: Risk-adjusted exposure to S&P 500
Post by: PizzaSteve on October 08, 2018, 10:45:59 PM
Adding to your question, "Can you successfully market time AND earn back all the transaction costs, advisory fees, extra taxes and bid-ask spreads being paid every time one adjusts their market positions?' 

The bar is even higher than matching the volatility, return and tax efficiency of static allocations to efficient vehicles.
Yes, true! In my case, I can adjust my allocation twice a month at no cost, so I'm not going to worry about this just yet. But in the future, if I'm going to consider using this approach, this would need attention.
How are you avoiding bid ask spread?  just curious, though it should be small. I would advise trading intraday.
Title: Re: Risk-adjusted exposure to S&P 500
Post by: wheezle on October 09, 2018, 09:15:29 AM
You are only mentioning downside.  When the VIX is high there is more also more probability of upside.  It seems like you are trying to protect yourself from the downside but by doing this your are going to "protect" yourself from the upside as well.
Of course! But this is the same thing that people who do 80/20 stocks/bonds are doing. The 20% bond allocation means that you aren't participating in that degree of stocks' upside or downside -- because that 20% isn't in stocks at all.

The virtue of the strategy I'm talking about is that I'm almost always 100% in stocks. In volatile periods, I'm allocating more to bonds. So I assume I will get better returns over time than the guy who is always doing 80/20 or 60/40. Does that make sense? This means my strategy has been 100% in stocks almost the whole time (occasionally ~90%) since the last recession.

How are you avoiding bid ask spread?  just curious, though it should be small. I would advise trading intraday.
The TSP C Fund doesn't have a b/a spread. Like other indexing mutual funds, they send in a bunch of market-on-close (MOC) orders to rebalance their exposure at the end of the day. The price that plan participants get is whatever price the fund gets as they accumulate and liquidate. The end-of-day price is all there is, and it's one-dimensional. All the trading "frictions" are internalized by the fund.
Title: Re: Risk-adjusted exposure to S&P 500
Post by: PizzaSteve on October 09, 2018, 11:00:17 AM
You are only mentioning downside.  When the VIX is high there is more also more probability of upside.  It seems like you are trying to protect yourself from the downside but by doing this your are going to "protect" yourself from the upside as well.
Of course! But this is the same thing that people who do 80/20 stocks/bonds are doing. The 20% bond allocation means that you aren't participating in that degree of stocks' upside or downside -- because that 20% isn't in stocks at all.

The virtue of the strategy I'm talking about is that I'm almost always 100% in stocks. In volatile periods, I'm allocating more to bonds. So I assume I will get better returns over time than the guy who is always doing 80/20 or 60/40. Does that make sense? This means my strategy has been 100% in stocks almost the whole time (occasionally ~90%) since the last recession.

How are you avoiding bid ask spread?  just curious, though it should be small. I would advise trading intraday.
The TSP C Fund doesn't have a b/a spread. Like other indexing mutual funds, they send in a bunch of market-on-close (MOC) orders to rebalance their exposure at the end of the day. The price that plan participants get is whatever price the fund gets as they accumulate and liquidate. The end-of-day price is all there is, and it's one-dimensional. All the trading "frictions" are internalized by the fund.
Thanks for the response.  You should in theory receive returns close to whatever level of risk exposure you select.  The logic that dynamic vs static allocations yield more market exposure with less market risk is a false assumption, IMHO (and financial markets experience), due to market timing not predicting up or down, only volatility levels which caps upside and downside exposure for periods out of the market, which offset, in theory.
Title: Re: Risk-adjusted exposure to S&P 500
Post by: wheezle on October 09, 2018, 03:21:37 PM
You should in theory receive returns close to whatever level of risk exposure you select.
If the math checks out and I'm not actually incurring some extra costs (slippage, commission, access, management fees, tax, etc.) that I don't see, then this makes intuitive sense. Basically, that extra 10%+ peak-to-trough loss (above my 50% risk limit) in the depths of '08 was a high-risk, high-reward scenario that I would have essentially opted out of by targeting volatility.

The logic that dynamic vs static allocations yield more market exposure with less market risk is a false assumption, IMHO (and financial markers experience), due to market timing not predicting up or down, only volatility levels which caps upside and downside exposure for periods out of the market, which offset, in theory.
And this is the other piece of the puzzle. Obviously, I'm still thinking that by maintaining a 100% stock allocation in the lower-volatility periods, I will beat the "equivalent" stock/bond allocation (it's difficult to say for sure what "equivalent" means in terms of volatility risk). But this is something I'm still trying to get a handle on. I signed up for "portfolio123.com" because I saw someone posting a 60/40 backtest from the platform, but I can't for the life of me figure out how to do that, and I don't think I can import the historical allocations from safer401k even if I could figure out how to make the other stuff work.

So I may have to do a bit more digging and learning on my own (perhaps with the help of the safer401k people and my colleague, if he has time) before I can get a sense for whether I'm right about this, at least when using data from the last 20-ish years. If it's equivalent or better, I'll be very happy with the methodology.

I kind of wish safer401k did this for me already, with replicable data and an explanation, and I plan on expressing that to them.
Title: Re: Risk-adjusted exposure to S&P 500
Post by: ILikeDividends on October 09, 2018, 10:01:22 PM
Adding to your question, "Can you successfully market time AND earn back all the transaction costs, advisory fees, extra taxes and bid-ask spreads being paid every time one adjusts their market positions?' 

The bar is even higher than matching the volatility, return and tax efficiency of static allocations to efficient vehicles.
Yes, true! In my case, I can adjust my allocation twice a month at no cost, so I'm not going to worry about this just yet. But in the future, if I'm going to consider using this approach, this would need attention.
How are you avoiding bid ask spread?  just curious, though it should be small. I would advise trading intraday.
Purely out of respect for @PizzaSteve, who for some unfathomable reason continues to try to explain this to you, I want to add one more point to his list of drag factors, which is inherent in your strategic proposal; regardless of whether executed in a taxable account, or in an IRA account.

If volatility spikes due to a downside move in the market, you will only know that event happened after that downside market move has already occurred.

That means that when you rebalance into a strategically-adjusted lower equity allocation, you will be doing that rebalance at a lower than optimal equity sales price; i.e., not at the top of the market. 

So, as @PizzaSteve has subsequently noted, not only does your strategy leak performance on the upside (which you have already stated is ok with you), it also leaks performance on the downside as well (is that ok with you too?).

Downside volatility is yet another drag factor that buy-and-hold investors do not suffer, and which should be accounted for in your strategic model when comparing it to other more conventional volatility management alternatives.
Title: Re: Risk-adjusted exposure to S&P 500
Post by: PizzaSteve on October 10, 2018, 09:11:53 AM
I guess the assumption is that gains occur assymetrically during low volatility periods (upside volatility) vs downside losses (which presumably occur more during high volatility periods).  The challenge is that the data which shows this is highly skewed by a few very rapid downside events, some of which occured within seconds.   This was gleaned from a meeting with the lead public market analyst from Charles Schwab that I previously mentioned (when we were chatting after a local briefing event about someoutside the box thoughts I have on structural changes occuring to our markets that I think challenge the very notions of money and value creation in our economy. We are experiencing some really disruptive events this century, some of which are fundamental changes.  I think these may devalue backtesting in general, and may dramatically impact the very foundations of capitalism in a few decades. .. this is a long and very abstract topic to avoid for now). 

Good luck though.  I made tons of investing behavioral errors that have probable cost me a couple million $, and this one is very unlikely to hit that scale of stupidity, so you will likely perform well anyway.  Note I have made some fortunate good moves too, so dont worry about the mistake lessons.
Title: Re: Risk-adjusted exposure to S&P 500
Post by: wheezle on October 11, 2018, 08:22:15 PM
Ran a test with some help from colleague and data from Safer 401(k). The data from the service is their historical allocations without the recession risk factored in, so this is just the volatility aspect of risk-adjustment -- which has been the topic of this thread.

The tested portfolios used SPY and IEF (10-year Treasuries), so the data only goes back to mid-2002. Would have to do a lot more work to go further back (and would be interested in suggestions on how to make that happen). The portfolios begin at $10,000 and grow.

The blue line is a consistent allocation 80/20 portfolio (ending $38,721). The red line is the risk-adjusted portfolio (adjusted once-monthly on the last market day of the month) with a 50% loss limit (ending $44,902).

(https://cdn1.imggmi.com/uploads/2018/10/12/b9ad849494ccd6d5adcff0eb063e3c12-full.png)

I totally understand that this is a short test, but I do think that it at least begins to demonstrate my point that the ability for my portfolio to be 100% in stocks most of the time is a big bonus compared to the drag that a consistent allocation gives you.
Title: Re: Risk-adjusted exposure to S&P 500
Post by: aspiringnomad on October 11, 2018, 11:28:57 PM
Ran a test with some help from colleague and data from Safer 401(k). The data from the service is their historical allocations without the recession risk factored in, so this is just the volatility aspect of risk-adjustment -- which has been the topic of this thread.

The tested portfolios used SPY and IEF (10-year Treasuries), so the data only goes back to mid-2002. Would have to do a lot more work to go further back (and would be interested in suggestions on how to make that happen). The portfolios begin at $10,000 and grow.

The blue line is a consistent allocation 80/20 portfolio (ending $38,721). The red line is the risk-adjusted portfolio (adjusted once-monthly on the last market day of the month) with a 50% loss limit (ending $44,902).

(https://cdn1.imggmi.com/uploads/2018/10/12/b9ad849494ccd6d5adcff0eb063e3c12-full.png)

I totally understand that this is a short test, but I do think that it at least begins to demonstrate my point that the ability for my portfolio to be 100% in stocks most of the time is a big bonus compared to the drag that a consistent allocation gives you.

Forgive my ignorance, but why can't you go back any further than "mid-2002" for an 80/20 portfolio? I just backtested 80/20 to 1972 with little to no effort at portfoliovisualizer.com. In any case, such a short time period doesn't really begin to demonstrate anything at all.


Title: Re: Risk-adjusted exposure to S&P 500
Post by: wheezle on October 12, 2018, 05:04:33 AM
Forgive my ignorance, but why can't you go back any further than "mid-2002" for an 80/20 portfolio? I just backtested 80/20 to 1972 with little to no effort at portfoliovisualizer.com. In any case, such a short time period doesn't really begin to demonstrate anything at all.
Perfect, thank you! I didn't know where to get more data. I can probably test back to 1990 with this. Should take me less than a week this time to put that together.
Title: Re: Risk-adjusted exposure to S&P 500
Post by: talltexan on October 12, 2018, 08:54:03 AM
yeah, not seeing 2000-2002 kinda leaves a lot to speculation.
Title: Re: Risk-adjusted exposure to S&P 500
Post by: wheezle on October 15, 2018, 11:28:33 AM
So... by my estimation, Safer 401(k) has seriously under-sold this data/system.

Using S&P 500 Total Return and VBMFX Total Bond fund to test since 1990, I found that my 50% risk limit portfolio outperforms in just about every way. The fact that they do NOT use total return in their calculation and DO compare their portfolios to the S&P 500 is absurd and stupid -- these are not comparable. The 50% risk profile portfolio has much, much less volatility risk than the S&P 500 and when you factor in total returns (div reinvestment), it outperforms a 100% S&P 500 allocation.

In the above, some smart commenters said that I should find the volatility level for which the 50% risk limit portfolio is comparable. That is, find the x/y stock/bond portfolio that has a similar "Max Drawdown" to the Safer 401(k) portfolio and compare their returns. I agreed that this was a fair measure, and claimed that I thought the 50% risk limit system would win out because of higher equity exposure overall (more compounding!)

Since 1990, the 50% system had a Max Drawdown of 25.5%. The most comparable stock/bond portfolio would be a 50/50, which according to this tool (thanks to @aspiringnomad for the idea), had a Max Drawdown of 27.11% (1990 to present, 50% US large cap, 50% total US bond): https://www.portfoliovisualizer.com/backtest-asset-class-allocation#analysisResults

According to portfolioanalyzer.com, the 50/50 turned $10k into $90,391. According to my own test (using the S&P 500 and VBMFX), it turned $10k into $96,251.

Meanwhile, the 50% system, with its 25.5% Max Drawdown, returned $171,857.

I would go through exactly what the 60/40, 80/20 returned, but you can do it yourself with the portfolioanalyzer tool. My own tests tend to overestimate total gains (as you can see above with the 50/50 portfolio) since I'm using slightly different numbers than they are, but it's all essentially the same.

I will end with this: The blue line is the Safer 401(k) allocations to SPXTR and VBMFX, rebalanced monthly. The red line is a 100% stock allocation.

(https://preview.ibb.co/nRwJff/figure-1.png) (https://ibb.co/b7vYD0)
I INVITE ANYONE TO REPLICATE THIS. Get the data from me or ask for it from the service. They didn't hesitate to send me raw data when I asked.

I still can't believe that their marketing materials don't use THIS chart instead of the garbage marketing they have up there currently.
Title: Re: Risk-adjusted exposure to S&P 500
Post by: Radagast on October 15, 2018, 02:22:01 PM
Aren't you selling yourself short? Literally the very first buy-and-hold-and-rebalance-at-year-end portfolio I entered into portfoliovisualizer had higher returns and lower loss, though I had to dial in the stock exposure to the correct volatility. From January 1 1990, 60% Vanguard PrimeCap / 40% Vanguard long term treasury bond grew $10k to $226,810 with a max drawdown of 23.16%. Obviously both numbers are better than anything you've posted. https://www.portfoliovisualizer.com/backtest-portfolio?s=y&timePeriod=4&startYear=1990&firstMonth=1&endYear=2018&lastMonth=12&endDate=10%2F14%2F2018&initialAmount=10000&annualOperation=0&annualAdjustment=0&inflationAdjusted=true&annualPercentage=0.0&frequency=4&rebalanceType=1&showYield=false&reinvestDividends=true&benchmark=VFINX&symbol1=VPMCX&allocation1_1=60&symbol2=VUSTX&allocation2_1=40&symbol3=VFINX&allocation3_2=50&symbol4=VBMFX&allocation4_2=50

If you play around with portfoliovisualizer's timing models and static allocation backtesting, I bet you can come up with dozens of better strategies within a few hours. Given that, why would you pay for the inferior SAFER401k strategy?
Title: Re: Risk-adjusted exposure to S&P 500
Post by: wheezle on October 15, 2018, 03:16:11 PM
Literally the very first buy-and-hold-and-rebalance-at-year-end portfolio I entered into portfoliovisualizer had higher returns and lower loss, though I had to dial in the stock exposure to the correct volatility. From January 1 1990, 60% Vanguard PrimeCap / 40% Vanguard long term treasury bond grew $10k to $226,810 with a max drawdown of 23.16%. Obviously both numbers are better than anything you've posted.

If you play around with portfoliovisualizer's timing models and static allocation backtesting, I bet you can come up with dozens of better strategies within a few hours. Given that, why would you pay for the inferior SAFER401k strategy?
Huh?

PRIMECAP
a.) has an expense ratio of 0.39% as compared to 0.04% for Vanguard total stock,
b.) does not even resemble the S&P 500,
c.) is not offered in my 401k,
d. ) is not even taking new money.

How is an exercise in cherry-picking expensive, actively-managed, uninvestable funds even remotely relevant to this thread?
Title: Re: Risk-adjusted exposure to S&P 500
Post by: Radagast on October 15, 2018, 04:21:32 PM
Right, I'll do your homework for you. Literally the second market timing model I entered into portfoliovisualizer had higher returns and lower loss, and it would have been the first I tried except the first bond fund I entered began in 1992. From January 1 1990, S&P500 dual momentum grew $10k to $206,920 with a max drawdown of 15.38%. Obviously both numbers are better than anything you've posted.

https://www.portfoliovisualizer.com/test-market-timing-model?s=y&coreSatellite=false&timingModel=6&startYear=1990&endYear=2018&initialAmount=10000&symbols=VFINX&singleAbsoluteMomentum=false&volatilityTarget=9.0&downsideVolatility=false&outOfMarketAssetType=2&outOfMarketAsset=VBMFX&movingAverageSignal=1&movingAverageType=1&multipleTimingPeriods=true&periodWeighting=2&normalizeReturns=false&windowSize=12&windowSizeInDays=105&movingAverageType2=1&windowSize2=10&windowSizeInDays2=105&volatilityWindowSize=0&volatilityWindowSizeInDays=0&assetsToHold=1&allocationWeights=1&riskControl=false&riskWindowSize=10&riskWindowSizeInDays=0&rebalancePeriod=1&separateSignalAsset=false&tradeExecution=0&benchmark=VFINX&timingPeriods%5B0%5D=2&timingUnits%5B0%5D=2&timingWeights%5B0%5D=33&timingPeriods%5B1%5D=4&timingUnits%5B1%5D=2&timingWeights%5B1%5D=34&timingPeriods%5B2%5D=8&timingUnits%5B2%5D=2&timingWeights%5B2%5D=33&timingUnits%5B3%5D=2&timingUnits%5B4%5D=2&timingWeights%5B4%5D=0&volatilityPeriodUnit=2&volatilityPeriodWeight=0&symbol1=VFINX&allocation1_1=100

If you play around with portfoliovisualizer's timing models and static allocation backtesting, I bet you can come up with dozens of better strategies within a few hours. Given that, why would you pay for the inferior SAFER401k strategy?
Title: Re: Risk-adjusted exposure to S&P 500
Post by: Radagast on October 15, 2018, 08:01:29 PM
If you pay me $10,000, I will give you a list of 10 investing strategies, each of which had both better return and lower maximum drawdown than the SAFER401k plan since 1990. Wait I already gave two. Consider those freebies. For $8k I will give you 8 new investing strategies that had both better returns and lower losses than the Safer401k since 1990. That is a pretty good deal: 8 symbolizes wealth in China, so its better for you I already threw out the freebies. I will also give brief written summaries of the relative merits of each strategy. For another $5,000, I will shortlist my findings to the best three methods, along with more detailed descriptions of why each did so well, including relative to Safer401k and S&P500.
Title: Re: Risk-adjusted exposure to S&P 500
Post by: jacoavluha on October 15, 2018, 10:14:48 PM
How long has "Safer401k" existed?

What were the principals of the service doing before "Safer401k"?