The case against 100% US stocks

[Dodge]

I'm always looking for ways to defend my, "you might shave a few months off your FI date, but you're risking adding years if things don't go your way with 100% stocks" statement, and the PortfolioVisualizer site I found out about today helps visualize that.

Portfolio 1: 3 fund portfolio - 56% US stocks, 24% International stocks, 20% US bonds.
Portfolio 2: 100% US stocks

$1,000,000 portfolio, with no additional contributions or withdraws ↓



$1,000,000 portfolio, with yearly $40,000 withdraws ↓



CATASTROPHE!  You only were able to save up $700,000, but disaster strikes, and you are forced to start withdrawing the $40,000 early! ↓



Analysis:

• The first example represents the accumulation phase, the best case scenario for 100% stocks.  Despite this, there was only a 0.04% difference in annualized return.  In terms of return, either the 3 fund portfolio outperformed, or they were pretty much identical.  The 3 fund portfolio outperformed in all but 6 years, and if the simulation stopped in 2012 instead of 2013, the 3 fund portfolio would have won.
• In the 4% withdraw scenario, the 100% stocks ending value was only 45% (less than half) the value of the 3 fund portfolio.
• In the catastrophe scenario, the 100% stocks portfolio would have dropped to 0, while the 3 fund portfolio would have still had $556,833 (80% of the starting value)

[Dodge]

Obligatory Japan 1989-2013 (25 years) chart:



How would stocks having a negative return for 25 years affect your plans?  Suddenly you're 50 and have significantly less money than expected.  Can you still retire?  Can you still handle any unexpected emergencies?  Being 100% stocks in your accumulation phase can be a disastrous decision.

Bonds are at their best when taking distributions from the portfolio, planned or not.  While you may think this won't happen for many years, after all you're young, there are many scenarios where you might end up needing your portfolio before then.  Generally, 100% of anything is not recommended.  Here's an insightful post from the Bogleheads forum on this topic:

------------------------------------------------------------

Listen, there are two HUGE reasons other than psychology (itself not to be underestimated) to have some bonds:

1) you might need the money during a crash. As in, you get fired or get ill, both for the long term. The forced sale will be devastating and may well be the difference between the poor house and some degree of comfort. Do you really want to trade that in exchange for "more money if stocks do well", a situation in which you're already in good shape?

2) there are no guarantees that stocks rebound after any amount of time. Compare a stock certificate with a Treasury bond, no guarantees in sight for the former. If someone tells you that it's a certainty because of history blah blah, ask them for a written, notarized guarantee backed by THEIR personal fortune. Only then can you rightfully sleep well.

So don't do 100%. Add 20 or 30 percent bonds, which won't hurt your returns too badly and will be there for you when times generous. Unlike others above, I won't qualify this to depend on your worldview or vitamin levels. Just don't.

------------------------------------------------------------

http://www.bogleheads.org/forum/viewtopic.php?f=1&t=142825&newpost=2123372#p2120756

[Dodge]

Some examples of how bonds can outperform stocks over a very long period:

1994-2014 (20 years) - Vanguard Long Term Bond Index vs S&P 500



1973-2014 (41 years) - Vanguard Long-Term Investment-Grade vs S&P 500

[zb3]

No one suggests 100% stocks in retirement.  Personally, while young 130% stocks and 70% bonds is optimal

[wtjbatman]

No one suggests 100% stocks in retirement.

Exactly.

Dodge, look at your growth only comparison. My 100% stock portfolio ends with a million more dollars than yours. My retirement portfolio? Well I won't be 100% stocks in retirement when I'm making withdrawals (and almost no one should be), so that doesn't apply to me. :)

[Dodge]

No one suggests 100% stocks in retirement.

Exactly.

Dodge, look at your growth only comparison. My 100% stock portfolio ends with a million more dollars than yours. My retirement portfolio? Well I won't be 100% stocks in retirement when I'm making withdrawals (and almost no one should be), so that doesn't apply to me. :)

• The first example represents the accumulation phase, the best case scenario for 100% stocks.  Despite this, there was only a 0.04% difference in annualized return.  In terms of return, either the 3 fund portfolio outperformed, or they were pretty much identical.  The 3 fund portfolio outperformed in all but 6 years, and if the simulation stopped in 2012 instead of 2013, the 3 fund portfolio would have won.
• In the catastrophe scenario, the 100% stocks portfolio would have dropped to 0, while the 3 fund portfolio would have still had $556,833 (80% of the starting value)

You are paying a high price to try and gain an additional 0.04% a year.  Assuming of course, that you happen to end on one of the 6 years where 100% stocks outperformed.  To help visualize this, let's approach it from a mustachian perspective, you save $1,000 a month, and retire when you hit $1,000,000.  The 3 fund portfolio got you there first:



And if you had a catastrophe, or forced withdrawal along the way, you would have been significantly better off not in 100% stocks.

[wtjbatman]

A) Then good thing for me it's not specifically the year 1972?
B) I would like to cherry pick some dates as well to "prove" 100% stocks is better, but I'm posting from my kindle while in bed. It will have to wait till tomorrow. Regardless, I will sleep well tonight!

[beltim]

You're have two independent variables here - percent bonds and percent international stocks.  And you're only looking at the last 40 years, possibly the best period in history for bonds.  What do the numbers look like in other times periods and without introducing the additional variable of international stocks?

[heybro]

Why are we investing in the stock market if stocks are not the thing to be in?
If stocks are so bad, then why aren't we parking our cash in a savings account at our bank?
Also, I read once that your house is considered a "bond."  It isn't as if all our money is in stocks, just our roth ira money is.

[Radagast]

Fortunately that the site also has a Monte Carlo simulator to minimize cherry picking.

And Dodge's 56/24/20 portfolio has a 83% chance of success after 50 years of 4% withdrawals, vs. a 77% chance of success for 100% stocks.
http://www.portfoliovisualizer.com/monte-carlo-simulation?s=y&lifeExpectancyModel=0&volatility=12.0&allocation1=56&allocation2=24&allocation3=20&yearlyPercentage=4.0&inflationAdjusted=true&currentAge=70&meanReturn=7.0&yearlyWithdrawal=40000&initialAmount=1000000&distribution=1&simulationModel=2&annualOperation=2&years=50&asset3=TotalBond&asset2=IntlStockMarket&asset1=TotalStockMarket

For the record 100% stocks are better in most cases if dollar cost averaging during accumulation. However, they don't appear as good when withdrawing. At least, not according to Portfolio Visualizer.

I developed a nice diversified portfolio per the other thread to protect against that sort of thing. I was going to show a picture to compare it, then I saw the picture and decided I would be accused of cherry picking of the worst sort.

[zb3]

It's a pity this portfolio visualizer doesn't allow you to go above 100% stocks.

[Radagast]

http://www.portfoliovisualizer.com/backtest-portfolio

It can, if you can come up with an ETF to simulate it.

[Dodge]

You are both right. I didn't specifically set out to cherry pick the data, 1972 just happens to be the oldest date this website offers. The asset allocation wasn't cherry picked either, as it's the default 80/20 stock/bond allocation by most 3 fund portfolio Bogleheads from what I can tell. It's also the allocation used in Vanguard's lifestrategy growth fund, and it's the allocation Vanguard recommends for those seeking long-term growth.

It's just another example of many, showing how 100% stocks can have disastrous results, while adding nothing if things go your way.

For people considering 100% stocks, consider how your plans would change if you happened to choose the wrong starting year, like everyone else who started in 1972.

Consider what would happen if you experience a catastrophe and need to make unexpected withdrawls.

Consider the very real possibility that you might not ever be compensated for the additional risk.

Consider how your plans would change if you experience negative real growth for 25 years.

Are you willing to bet your life savings on that risk?

[zb3]

http://www.portfoliovisualizer.com/backtest-portfolio

It can, if you can come up with an ETF to simulate it.

Ahh that's what I wanted, thanks.  Pity that leveraged ETFs have only been around for a few years.  I wish portfolio visualizer allowed for rebalancing bands rather than just yearly rebalancing, oh well it is something!

[JOHNFRANK]

100% stocks is a bad idea as you near retirement if you are depending on the investment portfolio to cover your living expenses. There is no way anyone can justify this.

[brooklynguy]

People (myself included) can, and do, argue that it can make sense to stick with a 100% stock allocation forever (not just in the accumulation phase, but in the retirement/drawdown phase as well).  For one example of an extended discussion on this topic, see this recent thread:

http://forum.mrmoneymustache.com/investor-alley/asset-allocation-100-stocks-for-how-long/

Dodge, I just ran some numbers on Portfolio Visualizer, and it appears that the huge discrepancies in your comparisons are almost entirely due to the percentage international variable rather than the percentage bond variable.  As discussed in the linked thread (and the older threads referenced in the linked thread), running the numbers on cfiresim (which accounts for all historical periods covered by cfiresim, without cherry-picking periods) tells a very different story than the argument you are trying to construct to justify having some bond exposure.

[matchewed]

So the case against 100% stocks is based off of N=1 scenarios that you post? How about a broader sampling in order to build an actual case rather than a few specific scenarios?

[Dodge]

People (myself included) can, and do, argue that it can make sense to stick with a 100% stock allocation forever (not just in the accumulation phase, but in the retirement/drawdown phase as well).  For one example of an extended discussion on this topic, see this recent thread:

http://forum.mrmoneymustache.com/investor-alley/asset-allocation-100-stocks-for-how-long/

Dodge, I just ran some numbers on Portfolio Visualizer, and it appears that the huge discrepancies in your comparisons are almost entirely due to the percentage international variable rather than the percentage bond variable.  As discussed in the linked thread (and the older threads referenced in the linked thread), running the numbers on cfiresim (which accounts for all historical periods covered by cfiresim, without cherry-picking periods) tells a very different story than the argument you are trying to construct to justify having some bond exposure.

My position isn't specifically that you need bonds, but that you need both bonds and international stocks to have a properly diversified portfolio.  Investing your life savings 100% into any single asset class is a bad idea.  I wish cfiresim allowed for international stocks.

[GGNoob]

Dodge, I think there's a couple of flaws with your original post. First off, during the accumulation phase, people will be adding funds. They won't just start with $1M and sit back and rebalance until they retire. Secondly, if somebody is 100% stocks, they most likely will not be 100% US Total Stock Market.

So here's my version of this...
-Portfolio 1: 57% Total US Stock, 23% Total International Stock, 20% Total Bond
-Portfolio 2: 70% Total US Stock, 30% Total International Stock
-Portfolio 3: 35% Total US Stock, 8% Mid-Cap, 27% Small-Cap, 15% Total International, 15% International Small-Cap (basically my portfolio)

This is a starting value of $18,000 and contributing another $18,000 per year.



It's hard to tell from just the chart, but looking at the Annual Returns tab, portfolio 2 of 100% stocks is bigger than portfolio 1 of 80% stocks starting in 1978. From 1978 on, portfolio 2 never drops below portfolio 1 in value.

Now we can also probably argue that most people who are 100% stocks will not be just be a split between total US and total international. They will probably add small-cap, REITs, emerging markets, etc. Portfolio 3 takes the lead in 1975 and never drops below either of the other 2 portfolios after that.

So for me, I want to be 100% stocks during the accumulation phase (to FI, we don't plan on fully retiring early). Once FI, I could then begin to purchase bonds with future contributions/dividends if I thought I would want them in retirement. But for now, the plan is 100% stocks for life.

[brooklynguy]

My position isn't specifically that you need bonds, but that you need both bonds and international stocks to have a properly diversified portfolio.  Investing your life savings 100% into any single asset class is a bad idea.  I wish cfiresim allowed for international stocks.

In that case, you probably should've titled this thread "The case against 100% US stocks."  But even so, I still disagree with the blanket statement that investing your life savings into any single asset class is a bad idea.  For someone with a sufficiently long time horizon, I think investing your life savings 100% in US equities (such as VTSAX) is a perfectly fine idea.  (Personally I prefer some international diversification, but 100% US is an acceptable approach too.)

[Le Barbu]

Never forget this :

1-If you are Mustachian, you'll find a solution when it sucks and everyone else is doomed.
2-People arround me have no saving. If mine are down 50%, I'm still wayyyy ahead.
3-Bonds exist just to make you feel safe. They juuuuust keep up with inflation on average.
4-If you are young and really understand what is a SHARE, you would invest 200% to 500% in stock market and someday reduce to 100%.

[Dodge]

Dodge, I think there's a couple of flaws with your original post. First off, during the accumulation phase, people will be adding funds. They won't just start with $1M and sit back and rebalance until they retire. Secondly, if somebody is 100% stocks, they most likely will not be 100% US Total Stock Market.

So here's my version of this...
-Portfolio 1: 57% Total US Stock, 23% Total International Stock, 20% Total Bond
-Portfolio 2: 70% Total US Stock, 30% Total International Stock
-Portfolio 3: 35% Total US Stock, 8% Mid-Cap, 27% Small-Cap, 15% Total International, 15% International Small-Cap (basically my portfolio)

This is a starting value of $18,000 and contributing another $18,000 per year.



It's hard to tell from just the chart, but looking at the Annual Returns tab, portfolio 2 of 100% stocks is bigger than portfolio 1 of 80% stocks starting in 1978. From 1978 on, portfolio 2 never drops below portfolio 1 in value.

Now we can also probably argue that most people who are 100% stocks will not be just be a split between total US and total international. They will probably add small-cap, REITs, emerging markets, etc. Portfolio 3 takes the lead in 1975 and never drops below either of the other 2 portfolios after that.

So for me, I want to be 100% stocks during the accumulation phase (to FI, we don't plan on fully retiring early). Once FI, I could then begin to purchase bonds with future contributions/dividends if I thought I would want them in retirement. But for now, the plan is 100% stocks for life.

Agreed, I tried to amend this in post 5.

I don't think this is a good site to use to test slice-and-dice portfolios.  Your portfolio will end up being too biased towards what has worked in the past.  So if your reasoning for choosing that slice-and-dice allocation is based on the past success of it, this will only serve to validate your reasoning, without adding much value.

I doubt the plan is to continue working and adding $18,000 each year for all those years.  Can you run your numbers again, and this time determine how long it takes each portfolio to reach your FIRE number?  For example, if your FIRE number was $1,000,000, at what point did each of the portfolios tested reach $1,000,000?  If the difference is only a few months, do you still believe it's worth the risk of going 100% stocks, knowing what can happen if things don't go your way?

[Dodge]

For those advocating 100% stocks "forever", both during accumulation and retirement, if the initial example wasn't good enough, consider the following.  This is what the Cfiresim.com calculator tells me, regarding a 1,000,000 portfolio, a 60 year time-horizon, and a 4% withdraw rate:

Using Historical Data, 90% is the peak success rate:



Using Monte Carlo (randomized) data, between 70-80% is the peak success rate:



Every time you rerun the Monte Carlo, the results are different. Some Cfiresim.com Monte Carlo results are REALLY BAD for 100% equities:



Vanguard's Monte Carlo retirement nest egg calculator also maxes out the success rate between 70-80% stocks:

With 100 stocks / 0 bonds, a 4% withdraw rate, and a 50 year time horizon, here are the chances of success I get:

80%
79%
80%

When I change to 90 stocks / 10 bonds

81%
81%
82%

80 stocks / 20 bonds

82%
82%
81%

70 stocks / 30 bonds

82%
82%
84%

60 stocks / 40 bonds

81%
82%
80%

[brooklynguy]

Dodge, as discussed in the thread I linked to above (the same thread from which you seem to be copying and pasting your previous posts verbatim), the peak success rate will depend on the variables you use (such as the expense ratio).  The peak success rate will range between 80% or so and 100%, depending on those variables.  And the success rate will not vary much within that range, but the ending portfolio value will vary very significantly (with higher stock allocations resulting in higher ending values).

[VirginiaBob]

Very interesting to say the least.  I'm at:

25% Total Stock Market
30% Large Caps
30% Small Caps
15% International

Some of this is limited by what the TSP allows.  My IRA is more flexible.

I also plan to have no mortgage, potentially have rental property (my current house after we move), and have a Pension and Social Security.  In reality, if everything goes to crap, I can live off of my Pension and SS by themselves and anything in my TSP/IRA is just gravy.

[VirginiaBob]

I'm kind of curious how this all fits together for those with a Pension, no mortgage, and Social Security.  Since that kind of acts as your fixed income (maybe like bonds?).

[GGNoob]

Agreed, I tried to amend this in post 5.

I don't think this is a good site to use to test slice-and-dice portfolios.  Your portfolio will end up being too biased towards what has worked in the past.  So if your reasoning for choosing that slice-and-dice allocation is based on the past success of it, this will only serve to validate your reasoning, without adding much value.

I doubt the plan is to continue working and adding $18,000 each year for all those years.  Can you run your numbers again, and this time determine how long it takes each portfolio to reach your FIRE number?  For example, if your FIRE number was $1,000,000, at what point did each of the portfolios tested reach $1,000,000?  If the difference is only a few months, do you still believe it's worth the risk of going 100% stocks, knowing what can happen if things don't go your way?

I agree, its not a good way to base your future portfolio off of past results. I actually had my portfolio figured out before I found this website. I actually am 35% Total US, 35% Extended Market, 15% Total International, and 15% International Small-Cap. The 8% mid-cap and 27% small-cap is what I found on Morningstar to give a similar portfolio as the 35% extended market and we use that allocation in my wife's 401k where the extended market fund is not available.

As far as when I'll be FI and comparing the year, it of course, depends when I start. Starting in 1972, I could be FI 2 years sooner with my portfolio (12 years vs. 14 years with the other 2 portfolios). Starting in 1980, they are all within the same year (14 years). The FI amount also varies based on how long it takes me to reach FI. So if our spending increases by 3% each year, the faster our investments grow the sooner we'll have 25 times our annual spending. My FI amount for the above situations is actually based on what I think our annual spending will be at age 50, based on 3% increase a year of what we spend now.

Unlike some people on this board, our plan is not to get to FI as soon as possible. It's to save a large chunk of our money (aiming for 50% within the next 4-5 years, currently about 30%) while still having plenty of money to enjoy our life now. We still go shopping, go out to eat, and travel. So my estimate is we'll get be FI in our mid to late 40s. But that would only give us enough money to retire at our current lifestyle. We both think we'd be bored if we retired then, so we'd continue to work for a while. We may lower some savings for larger vacations, but for the most part, we'll continue to save at a decent rate. So having a large savings rate for 30+ years is probably more likely for us than 15 years of heavy savings with no contributions after that.

I do think 100% stocks is worth it to me. I am not saving just to get to my FI number and then retire with a low cost of living. I'm saving to accumulate wealth that will allow us to have the best retirement possible when we do retire. I feel that if we don't retire for 30 years, we'd have a large enough portfolio to have an extremely low withdrawal rate for our normal spending while also allowing plenty of money for travel and giving to others.

This is really all a lot of speculation and nobody knows for sure what will be best in the long run and so many things in our lives can change before we retire. As always, I feel it all comes down to whatever lets you sleep at night.

[Dodge]

Dodge, as discussed in the thread I linked to above (the same thread from which you seem to be copying and pasting your previous posts verbatim), the peak success rate will depend on the variables you use (such as the expense ratio).  The peak success rate will range between 80% or so and 100%, depending on those variables.  And the success rate will not vary much within that range, but the ending portfolio value will vary very significantly (with higher stock allocations resulting in higher ending values).

It sounds like we agree on the data, we just came to different conclusions.  If it doesn't go your way, it could be devastating and may well be the difference between the poor house and some degree of comfort. Do you really want to trade that in exchange for "more money if stocks do well", a situation in which you're already in good shape?

Clearly your answer is yes.  Mine is no.  I am more risk averse.  You, unlike most I suspect, are very knowledgeable on this subject, and have done your homework extensively.  I suspect many people on this forum, including the newbies who don't post, don't understand how risky the 100% stock decision really is.  It's for those people that I made this thread.

[Radagast]

I think there is a difference between risk and volatility. If you are certain you can throw $18,000 every year into the stock market it can go up and down and you won't care. That is just volatility, like a tree falling in a distant forest. 100% stocks will almost always end up ahead. The risk is that at some point you may need the money and it's not there. In my opinion volatility should be assessed by standard deviation, while risk should be assessed by maximum real drawdown. Bonds are less risky and very useful if not one is not contributing money any longer because they tend to have smaller drawdowns.

[BarkyardBQ]

I'm always looking for ways to defend my, "you might shave a few months off your FI date, but you're risking adding years if things don't go your way with 100% stocks" statement

As others have pointed out this really comes down to personal preference, goals, risk tolerance and as MMM says in a post 'your ability to work and get paid for skills'.

Wife and I are 30, so our investment horizon is 50-70 years depending on health and lifespan or what we want to leave to our heirs. We plan to get to our FIRE sum by 40, but intend to semi-retire, working at things we enjoy instead of burning our life in an office 40 hours a week. If we can live on our part time income, we do not HAVE to withdrawal 4% no matter where the market is. If our part time income and/or rental properties allow for additional contributions in a down market I think I'll beat bond growth and stability for the duration of our time horizon. If we consider (and we don't depend on it) our pensions at age 60 will cover half our living expenses (inflation adjusted) then we would only have to withdrawal 2-3% at age 60. Even without part time work, rental income or being Mustachian will easily allow us to cover the gap between age 40 and 50. I'd prefer to depend on our planning and skills to keep my family comfortable more than telling myself I'm fixated on a specific date or the need to withdrawal stable income dependent on how the market feels for a short period during ~60 years. If I have to work during a downed market, even part time, I will still be enjoying my life more with the extra time I get to spend with my family, traveling and doing other things I love (vs a 9-5 desk). Even if I was fully retired and the market was down, I'd probably get a part time job, or buy another house just to pick up income and invest more in the bargain isle.

Why would you invest todays $1 to become tomorrows $1 when you can work tomorrow to make the same $1.

That's a LOT of data, historical or not, still requires a lot of speculation on future markets...

I feel that if you are depending on withdrawing and living entirely on your investment portfolio you are not diversified enough in multiple income streams. Our retirement plan does not depend on our portfolio, our portfolio supplements it. It's an addition to rentals, pension, ss, and the ability to sell our skills for food and shelter, hopefully getting paid for something we would enjoy doing for free. If you are 100% retired and never want to work again, I'd only see an argument for having at most 4-6 years of living expenses in bonds to weather any downturn, but you should still workout additional passive income streams.

[brooklynguy]

It sounds like we agree on the data, we just came to different conclusions.  If it doesn't go your way, it could be devastating and may well be the difference between the poor house and some degree of comfort. Do you really want to trade that in exchange for "more money if stocks do well", a situation in which you're already in good shape?

Clearly your answer is yes.  Mine is no.  I am more risk averse.  You, unlike most I suspect, are very knowledgeable on this subject, and have done your homework extensively.  I suspect many people on this forum, including the newbies who don't post, don't understand how risky the 100% stock decision really is.  It's for those people that I made this thread.

Fair enough, but I'm not sure whether or not we quite agree on the data (or the conclusions that are necessarily drawn from the data).  It depends on what you mean by "if things don't go your way."  In your catastrophe scenario where you are forced to start withdrawing 40k on a 700k portfolio instead of a 1M portfolio, cfiresim tells me that over a 30 year period, the success rate of a 100% stock allocation is higher by a wide margin (80/20 success rate = 60%; 90/10 success rate = 60.87%; 100/0 success rate = 64.35%).  In other words, historically, there were more starting years in which you would have been better off with a 100% stock allocation than anything less than that.  So it's not just that 100% stocks leaves you with more money; 100% stocks improves your chances of not running out of money.  This makes sense, because if you are using a less-than-safe withdrawal rate, you need the higher returns of stocks to fund those withdrawals.

However, there are other ways that things can go wrong where you would be better off with some bond exposure.  For example, if a major unexpected one-time expense suddenly crops up in a year when the markets are down, you will be better off having bonds in your portfolio.

[heybro]

Never forget this :
2-People arround me have no saving. If mine are down 50%, I'm still wayyyy ahead.

Yes, exactly, I would never put ANY money in stocks that I couldn't afford to lose.  Having said this, I am 100 percent in stocks in my IRA.  I don't need it honestly.  My spending is so small and I am on my way to owning my own home.  I am young and no where close to traditional retirement age.  In a few years, I can start working part time and plan to work part time for life honestly.

[waltworks]

To be fair here, you really need 2 terrible events at once: a big market crash AND a need for a bunch of money at the same time to really make the 100% stocks strategy fail. That could certainly happen but I think the risk of both simultaneously is pretty low for most people.

If your RE doesn't involve staying relatively employable in at least some way, yes, hedging some of that risk might be a good thing. Otherwise your worst case scenario is going back to work/spending less for a bit to avoid withdrawing a ton when your portfolio has crashed.

If we're turning Japanese then whatever, no portfolio is really going to help you get to FI, so why worry about it?

-W

[GGNoob]

To be fair here, you really need 2 terrible events at once: a big market crash AND a need for a bunch of money at the same time to really make the 100% stocks strategy fail. That could certainly happen but I think the risk of both simultaneously is pretty low for most people.

In the scenario I posted, the 80% stock portfolio has a worst year of -30% while the 100% stocks is -39%. To me, that's not much of a difference. Then considering that the 100% was almost always higher than the 80% stock and was still higher during a crash, your point is invalid.

However, there's so many factors to consider here so that may not always be the case. But I still think the difference between a 30% drop and 39% drop is not huge. If my portfolio was $1,000,000 and I was 100% stocks, I'd now have $610,000 instead of $700,000. I'll live.

[Dodge]

To be fair here, you really need 2 terrible events at once: a big market crash AND a need for a bunch of money at the same time to really make the 100% stocks strategy fail. That could certainly happen but I think the risk of both simultaneously is pretty low for most people.

If your RE doesn't involve staying relatively employable in at least some way, yes, hedging some of that risk might be a good thing. Otherwise your worst case scenario is going back to work/spending less for a bit to avoid withdrawing a ton when your portfolio has crashed.

If we're turning Japanese then whatever, no portfolio is really going to help you get to FI, so why worry about it?

-W

Is it your assertion that the green and yellow portfolios would not help in getting to FI?

[Dodge]

To be fair here, you really need 2 terrible events at once: a big market crash AND a need for a bunch of money at the same time to really make the 100% stocks strategy fail. That could certainly happen but I think the risk of both simultaneously is pretty low for most people.

In the scenario I posted, the 80% stock portfolio has a worst year of -30% while the 100% stocks is -39%. To me, that's not much of a difference. Then considering that the 100% was almost always higher than the 80% stock and was still higher during a crash, your point is invalid.

However, there's so many factors to consider here so that may not always be the case. But I still think the difference between a 30% drop and 39% drop is not huge. If my portfolio was $1,000,000 and I was 100% stocks, I'd now have $610,000 instead of $700,000. I'll live.

It's fascinating how the math works out.  Despite the difference between the worst years only being 9%, the "catastrophe" portfolio in the original post has the 100% stock portfolio dropping to 0, while the 3 fund portfolio retains 80% of it's value:



That's why I made this thread, the math doesn't always work out like you'd expect it to.

[waltworks]

Dude, it wouldn't help much. Until the last few years are thrown in, you're getting what, 1-2% real return on your mixed Japanese/Foreign portfolio? If the US stock market stagnates/drops in real terms in the next 25 years, I'll eat my hat (I'll have to, the whole damn world will have to have gone to hell!) To me, the lesson there is don't invest entirely in one economy/market. IMO you could argue that the US stock market is a pretty good int'l proxy anyway because of it's scope, though.

At some point, you just have to save more/spend less to make it work. Nobody is getting any meaningful boost from a portfolio with returns as low as the worst-case Japan example. Accumulation vs. RE stage is going to change the calculus some, of course.

-W

Is it your assertion that the green and yellow portfolios would not help in getting to FI?

[Sid Hoffman]

I'm pretty sure this is why those "Target Date" retirement accounts exist.  They are typically something like 80/20 biased towards stocks when you are 30+ years out and 20/80 biased by the time you reach the target date.  You could probably do it yourself with index funds at a slightly lower cost, but most folks don't want to mess with it.  Actually most people don't even know what an expense ratio is, much less how to re-balance their funds as they approach retirement.

[GGNoob]

It's fascinating how the math works out.  Despite the difference between the worst years only being 9%, the "catastrophe" portfolio in the original post has the 100% stock portfolio dropping to 0, while the 3 fund portfolio retains 80% of it's value:



That's why I made this thread, the math doesn't always work out like you'd expect it to.

You are right, but there are flaws in that math as well. First off, withdrawing $40,000 a year from a $700,000 is 5.7%. I don't think anyone can expect that to last. Secondly, I feel 100% stocks is only good during the accumulation phase or while you are withdrawing a small percentage (maybe 2-3%) from your portfolio. It would be very scary to be withdrawing that much from a 100% stock portfolio. In that case, the person may have to switch and add bonds for some stability.

But I really love these kind of discussions because if nothing else, it opens your eyes to different situations that may come up. It's good in an investment plan to think of different scenarios and write down what to do if they happen, to try to prevent panic in the future.

[VirginiaBob]

Dude, it wouldn't help much. Until the last few years are thrown in, you're getting what, 1-2% real return on your mixed Japanese/Foreign portfolio? If the US stock market stagnates/drops in real terms in the next 25 years, I'll eat my hat (I'll have to, the whole damn world will have to have gone to hell!) To me, the lesson there is don't invest entirely in one economy/market. IMO you could argue that the US stock market is a pretty good int'l proxy anyway because of it's scope, though.

At some point, you just have to save more/spend less to make it work. Nobody is getting any meaningful boost from a portfolio with returns as low as the worst-case Japan example. Accumulation vs. RE stage is going to change the calculus some, of course.

-W

Is it your assertion that the green and yellow portfolios would not help in getting to FI?

That is kind of where I'm at. I bet on the country that I live in.  If the country that I live in goes to complete hell, no amount of money is going to make a difference. 

[Radagast]

http://www.portfoliovisualizer.com/backtest-asset-class-allocation?s=y&MidCapBlend3=8&MidCapBlend1=0&MidCapBlend2=8&Gold3=10&Gold1=0&mode=2&annualOperation=2&endYear=2013&LongTermBond1=0&initialAmount=700000&TotalBond2=0&TotalBond1=20&LongTermBond3=10&IntlSmall3=15&IntlSmall2=15&IntlSmall1=0&SmallCapBlend1=0&SmallCapBlend2=27&SmallCapBlend3=27&IntlStockMarket2=15&IntlStockMarket1=23&IntlStockMarket3=15&portfolio3=Custom&portfolio2=Custom&portfolio1=Custom&TotalStockMarket2=35&TotalStockMarket3=15&TotalStockMarket1=57&annualAdjustment=40000&startYear=1972
At this time I'd like to point out the diversification benefits of a small allocation of long term bonds and gold, especially during withdrawal.

Here we see Dodge's worst case scenario. Portfolio 1 is Dodge's, Portfolio 2 is Logan T's, and in Portfolio 3 I replaced 20% of Logan T's Total US Stock Market with 10% each long term bond and gold. Notice the huge benefit. Who would have thought an equal allocation of gold and long term bonds would drastically out perform an equal amount of TSM? Diversification is nice.

[brooklynguy]

To be fair here, you really need 2 terrible events at once: a big market crash AND a need for a bunch of money at the same time to really make the 100% stocks strategy fail. That could certainly happen but I think the risk of both simultaneously is pretty low for most people.

In the scenario I posted, the 80% stock portfolio has a worst year of -30% while the 100% stocks is -39%. To me, that's not much of a difference. Then considering that the 100% was almost always higher than the 80% stock and was still higher during a crash, your point is invalid.

However, there's so many factors to consider here so that may not always be the case. But I still think the difference between a 30% drop and 39% drop is not huge. If my portfolio was $1,000,000 and I was 100% stocks, I'd now have $610,000 instead of $700,000. I'll live.

It's fascinating how the math works out.  Despite the difference between the worst years only being 9%, the "catastrophe" portfolio in the original post has the 100% stock portfolio dropping to 0, while the 3 fund portfolio retains 80% of it's value:



That's why I made this thread, the math doesn't always work out like you'd expect it to.

Again, this huge difference in performance resulted almost entirely from the international stock diversification, not the bond exposure.  Run the same backtest again using a 100/0 US stock/bonds allocation versus an 80/20 US stock/bonds allocation and you will see the performance of the two portfolios is much closer (the all stock portfolio loses all of its value while the stock/bond portfolio drops to 14.8% (not 80%) of its value).

[Left]

I decided that I wanted bonds after all, I'm shooting for 20%. I have about 13-18 years until I FI and I was going to go with no bonds until the last 5 years or so. But I decided to make it simple and start with 50/50 stock/bond and carry it forward, or until I hit enough bonds to get to my minimum return that I want, then I may go 100% stocks moving forward after the bonds portion provides the amount I want (about $1,000/month). At this point, I'm expecting bonds to be 20%-30% of portfolio.

With all the talk about not trying to time the market when investing, I decided to get bonds because I don't want to time my own FI/ER to the market. Sure 100% "may" return more, but will it be returning more "when" I want to use it? This is why I wanted to get bonds when I was 5 years out from FI, but decided to just make it easy and get my bonds now but then stop once I hit my target goal of bond money then it'll be stocks all the way (or until I want more bonds)

All said, I've only been investing for under 2 years so I'm still learning how I want to do this and I'm playing it by ear kind of.

[Dodge]

To be fair here, you really need 2 terrible events at once: a big market crash AND a need for a bunch of money at the same time to really make the 100% stocks strategy fail. That could certainly happen but I think the risk of both simultaneously is pretty low for most people.

In the scenario I posted, the 80% stock portfolio has a worst year of -30% while the 100% stocks is -39%. To me, that's not much of a difference. Then considering that the 100% was almost always higher than the 80% stock and was still higher during a crash, your point is invalid.

However, there's so many factors to consider here so that may not always be the case. But I still think the difference between a 30% drop and 39% drop is not huge. If my portfolio was $1,000,000 and I was 100% stocks, I'd now have $610,000 instead of $700,000. I'll live.

It's fascinating how the math works out.  Despite the difference between the worst years only being 9%, the "catastrophe" portfolio in the original post has the 100% stock portfolio dropping to 0, while the 3 fund portfolio retains 80% of it's value:



That's why I made this thread, the math doesn't always work out like you'd expect it to.

Again, this huge difference in performance resulted almost entirely from the international stock diversification, not the bond exposure.  Run the same backtest again using a 100/0 US stock/bonds allocation versus an 80/20 US stock/bonds allocation and you will see the performance of the two portfolios is much closer (the all stock portfolio loses all of its value while the stock/bond portfolio drops to 14.8% (not 80%) of its value).

The title has now been changed to "The case against 100% US stocks" :)

[Dodge]

Dude, it wouldn't help much. Until the last few years are thrown in, you're getting what, 1-2% real return on your mixed Japanese/Foreign portfolio? If the US stock market stagnates/drops in real terms in the next 25 years, I'll eat my hat (I'll have to, the whole damn world will have to have gone to hell!) To me, the lesson there is don't invest entirely in one economy/market. IMO you could argue that the US stock market is a pretty good int'l proxy anyway because of it's scope, though.

At some point, you just have to save more/spend less to make it work. Nobody is getting any meaningful boost from a portfolio with returns as low as the worst-case Japan example. Accumulation vs. RE stage is going to change the calculus some, of course.

-W

Is it your assertion that the green and yellow portfolios would not help in getting to FI?

That is kind of where I'm at. I bet on the country that I live in.  If the country that I live in goes to complete hell, no amount of money is going to make a difference.

There is a wide range between the level of complete hell where money is worthless, and just enough hell to wipe you out, while the country continues as normal.  This doesn't take into account the many "personal catastrophe" scenarios, where the market looks just fine, but you're completely wiped out, while the diversified portfolio would have retained 80% of its value.

[Dodge]

http://www.portfoliovisualizer.com/backtest-asset-class-allocation?s=y&MidCapBlend3=8&MidCapBlend1=0&MidCapBlend2=8&Gold3=10&Gold1=0&mode=2&annualOperation=2&endYear=2013&LongTermBond1=0&initialAmount=700000&TotalBond2=0&TotalBond1=20&LongTermBond3=10&IntlSmall3=15&IntlSmall2=15&IntlSmall1=0&SmallCapBlend1=0&SmallCapBlend2=27&SmallCapBlend3=27&IntlStockMarket2=15&IntlStockMarket1=23&IntlStockMarket3=15&portfolio3=Custom&portfolio2=Custom&portfolio1=Custom&TotalStockMarket2=35&TotalStockMarket3=15&TotalStockMarket1=57&annualAdjustment=40000&startYear=1972
At this time I'd like to point out the diversification benefits of a small allocation of long term bonds and gold, especially during withdrawal.

Here we see Dodge's worst case scenario. Portfolio 1 is Dodge's, Portfolio 2 is Logan T's, and in Portfolio 3 I replaced 20% of Logan T's Total US Stock Market with 10% each long term bond and gold. Notice the huge benefit. Who would have thought an equal allocation of gold and long term bonds would drastically out perform an equal amount of TSM? Diversification is nice.

Long term bonds outperformed the market during this time, so that result isn't unexpected.  This is also why I don't think this website should be used for slice-and-dice portfolios.  You could just as easily justifying 10% Apple stock since Apple stock outperformed during this time.  That doesn't mean you should weight your portfolio towards Apple stock.

[Dodge]

It's fascinating how the math works out.  Despite the difference between the worst years only being 9%, the "catastrophe" portfolio in the original post has the 100% stock portfolio dropping to 0, while the 3 fund portfolio retains 80% of it's value:



That's why I made this thread, the math doesn't always work out like you'd expect it to.

You are right, but there are flaws in that math as well. First off, withdrawing $40,000 a year from a $700,000 is 5.7%. I don't think anyone can expect that to last. Secondly, I feel 100% stocks is only good during the accumulation phase or while you are withdrawing a small percentage (maybe 2-3%) from your portfolio. It would be very scary to be withdrawing that much from a 100% stock portfolio. In that case, the person may have to switch and add bonds for some stability.

But I really love these kind of discussions because if nothing else, it opens your eyes to different situations that may come up. It's good in an investment plan to think of different scenarios and write down what to do if they happen, to try to prevent panic in the future.

I don't think the 5.7 withdraw rate is a flaw, as much as it is an unfortunate circumstance.  Imagine you are 100% stocks, and a personal catastrophe hits.  You now need to withdraw $40,000 from your $700,000 portfolio.  Do you immediately switch to a 80/20 stock/bond portfolio?  If you don't expect this catastrophe to last more than a year, you probably wouldn't.  What if you're 5 years in, would you then switch to 80/20?  You know bonds make it harder to withstand a 5.7% (probably 6-7% now) withdraw rate, so you rationalize it would be best to stay 100% stocks.  The market is down, and you don't want to sell low, it's ok, you're sure you'll be entering the workforce soon enough, let's give it another few years.

Next thing you know you're portfolio is wiped out.  The behavioral factors will kill you.

[brooklynguy]

The title has now been changed to "The case against 100% US stocks" :)

Thanks, but I wasn't trying to beat a dead horse :)

I was just pointing out that the reason the math appeared so fascinating is because it wasn't accurate (the 9% worst-year underperformance and the ending value differentials were comparing apples and oranges).

[GGNoob]

Here's the same "worst case scenario" but with a 100% stock portfolio split between 70% US and 30% international.

$700,000 starting with $40,000 per year withdrawals.

Portfolio 1: 57% US stocks, 23% International Stocks, 20% Total Bond
Portfolio 2: 100% US Stocks
Portfolio 3: 70% US Stocks, 30% International Stocks



So like somebody else had pointed out, adding international stocks makes portfolio 3 perform very similar to portfolio 1. I just wanted to share the graph to go along with that.

[Dodge]

The title has now been changed to "The case against 100% US stocks" :)

Thanks, but I wasn't trying to beat a dead horse :)

I was just pointing out that the reason the math appeared so fascinating is because it wasn't accurate (the 9% worst-year underperformance and the ending value differentials were comparing apples and oranges).

The first scenario in the OP shows -30.32 as the worst year for the 3 fund portfolio, and -37.04 as the worst year for the 100% US stock portfolio.  This is with 0 contributions or withdraws, so that's simply what the portfolios gave on their own.  These same two portfolios were used in the catastrophe scenario when 100% US stocks went to 0, while the 3 fund portfolio retained 80% of it's value.

My apologies if I'm missing something obvious, is this comparing apples to oranges?  If someone looks at that and says "Oh that's no big deal at all!  The worst year was only 7% worse, I'll just go 100% US stocks and stay the course!", they likely wouldn't see the catastrophe scenario coming.