The Facts about Hocus's Investment Decisions

Research on Safe Withdrawal Rates

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JWR1945
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The Facts about Hocus's Investment Decisions

Post by JWR1945 »

[I have just read hocus's For "TH"￾ post. I have decided to present this as a stand alone post in order to present factual background material. I had originally planned to post this on the A Recent Email Exchange thread of Fri, Jun 11, 2004 at 6:03 pm CDT.
http://nofeeboards.com/boards/viewtopic.php?t=2594

I have posted A Bright Future, which helps place everything in context.
http://nofeeboards.com/boards/viewtopic.php?t=2598

The Facts about Hocus's Investment Decisions

Although hocus has been ridiculed in the past, I find a lot of wisdom in his actions. He locked in real interest rates of 3.5% in ibonds and TIPS. A locked in a 7% nominal interest rate by investing in Certificates of Deposit.

Let us look at the numbers. These are all with zero risk.

At a 3.5% real interest rate, hocus has a TIPS Equivalent Safe Withdrawal Rate of 5.4371332% over 30 years. He can withdraw 5.437% of his initial balances (plus inflation) every year for 30 years before running out of money.

If he were to withdraw 4.0% each year for 30 years, he would end up with 74.18866% of his original balance in terms of real dollars. If he were to withdraw 3.5% each year, he would end up with all (100%) of his original balance (plus inflation) after 30 years. If he were to withdraw 4.5% each year, he would end up with 48.37732% of his original balance (plus inflation) after 30 years.

Assume that he withdraws 4.0% per year for 30 years. Assume that he is able to get a real interest of zero or better at that time. He could continue making the same withdrawals (in real dollars, 4.0% of his original balance) for an additional 18.5 years. [since 0.741886/0.04 = 18.547166].

Hocus has locked in a truly Safe Withdrawal Rate of 4.0% for 48.5 years.

Here are two more calculations along the same lines.

If he were to withdraw 3.5% per year for 30 years, he would end up with 100% of his balance. He could maintain his withdrawals (in real dollars) by 100/0.035 = 28.571429 additional years. This would lock in a true Safe Withdrawal Rate of 3.5% for 58.6 years.

If he were to withdraw 4.5% each year for 30 years, he would end up with 48.4% [more precisely, 48.37732%] of his original balance in terms of real dollars. He could maintain his withdrawals (in real dollars) by 0.4837732/0.045 = 10.750516 additional years. This would lock in a true Safe Withdrawal Rate of 4.5% for 40.75 years.

In all cases hocus has done much better than the traditionally quoted withdrawal rate of 4% over 30 years. All of this is with zero risk.

In terms of cocktail parties, hocus does not have bragging rights because he did not foresee the bubble's lasting until 2000. In terms of wise investment decisions, however, hocus stands among the best of the best.

Have fun.

John R.
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Post by hocus2004 »

"In terms of cocktail parties, hocus does not have bragging rights because he did not foresee the bubble's lasting until 2000. In terms of wise investment decisions, however, hocus stands among the best of the best. "

Thanks for saying that, JWR1945. That's very kind.

There is an additional angle here that has generally been overlooked.

I saved all of the money supporting my early "retirement" in a short amount of time. I had no savings at all in January 1992. I directed all of the money from my early years of saving into paying off my mortgage. So it was not a large amount of money that I took out of stocks when I took my money out of stocks in 1996.

My critics have made a big fuss over the fact that I got out of stocks in 1996, suggesting that I suffered some terrible loss from missing out on the gains experienced by stock investors in 1997, 1998, and 1999. The extent of the loss that I suffered, if any, has been greatly exaggerated in posts put to the various boards.

It is true that I lost out on gains that I would have experienced on the money taken out of stocks in 1996. But that was a relatively small amount of money. I don't know the number. My recollection is that it was something between $50,000 and $100,000.

In the last 12 months prior to my August 2000 retirement, I saved $88,000. Had all of my money been going into stocks, I would have experienced a significant loss (or in some instances a failure to earn much in the way of real returns for several years into the future) on the large amounts I was saving in the years just before my retirement when stock prices turned downward and then went generally flat. Instead, I have been earning steady reasonable returns from the investments I elected instead of stocks.

It is not clear whether I have experienced a net loss or a net gain from getting out of stocks in 1996. The question is a more complicated one that my critics have led community members to believe.

In any event, it was not possible in 1996 to know that we were going to experience 30 percent gains in stocks in 1997, 1998, and 1999. From the standpoint of 1996, it was just as likely that we could have experienced a downturn in those years. A significant downturn might have delayed my plans for early retirement for many years to come.

Going with TIPs, ibonds, and CDs, I had a sure thing. I knew in 1996 that I would be in position to "retire" in the year 2000 or thereabouts. Going with stocks, there was a possibility that I might experience larger gains in the unpredictable short term and there was also a possibility that I would need to delay my plans for a new life for many years to come.

I can see different people facing similar circumstances making different sorts of decisions, depending on their particular life goals and their intensity about achieving those life goals quickly. It is hard at times for me to make sense of the blind rage felt by many that I made the decision I did.

Investing is an emotional business. Of that much I am sure. I believe that those who have come to the conclusion that no one can ever make a rational choice to put most of his or her assets in any asset class other than stocks need to examine the extent to which they have allowed their emotional attachment to this particular asset class to get the best of their capacity to engage in reasoned consideration of many highly appealing alternatives.
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Post by th »

Couple of things:

The interest rates at which you got your cd's and bonds arent available today, and may not be available for a while. So its not possible to "follow in your footsteps" at this time. If I could get those rates I might be dipping in as well.

Had we had more of a "traditional" market trading scenario from 1996 to 2003, your choices would have paled next to a typical 60/40 index fund.

That we experienced a period of "irrational exhuberance" followed by the required market deflation was unpredictable and unknowable at the time you made your decision. Its equally possible that things could have proceeded in a paced manner, making your decision a poor one, or that the stock market could have gone through a downcycle, in which case your approach would have seemed quite prescient.

Any which way, you really had no way of knowing and its all 20/20 hindsight.

I dont want to appear too negative or rain on the parade, but it might be inappropriate to disjoint an elbow with extensive self back patting...
He who fights with monsters might take care lest he thereby become a monster. And if you gaze for long into an abyss, the abyss gazes also into you. - Nietzsche
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Post by JWR1945 »

TH
Had we had more of a "traditional" market trading scenario from 1996 to 2003, your choices would have paled next to a typical 60/40 index fund.

I disagree strongly. Valuations as measured by P/E10 (and many other measures) were the highest in history, higher than just before the 1929 crash. Dividend yields were at record lows.

Traditional trading would have brought the market down sharply. We got the bubble instead. Multiples expanded from the highest ever to even higher levels.

A typical 60/40 index fund would have crashed badly. A traditional market would have ended at levels much lower than we have today.

Have fun.

John R.
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Post by JWR1945 »

For th: I have extracted this from my earlier From Chapter 1 thread dated Tue, May 11, 2004 at 2:01 pm CDT.
http://nofeeboards.com/boards/viewtopic.php?t=2474
When you look deeper into the issue, you will find that mannfm11 has provided the source of the return on investments as dividends and dividend growth. They provide the basis of an intrinsic value calculation. Earlier gains have had a strong component from the expansion of price to earnings multiples. That component provides the basis of the return from speculation. We would expect the multiples to come down since, otherwise, people would not be paid for stock market risk. Assuming that John Bogle's observation that the stock market's real total return is predictable over the very long-term (i.e., 50 years or more) still holds, one should plan on using 4.89% when making projections for 1998-2033. One should not plan on using anything close to 7.2%.
This is another way of looking at a traditional market trading scenario: for stocks to match their traditional 50-year return (which John Bogle likes to mention), we would have to have much lower than normal returns over the 35 years following 1998.

Have fun.

John R.
th
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Post by th »

I cant speak to financial esoterica because I dont follow any of it. I've found the further you dig into something and the more complex, the more ways you've discovered to prove the scenario will play out the way you want it to.

What I can speak to is that from memory, stock valuations back around 96 were a little high but not unreasonably so. We could have had a couple of sideways years or a down year that would have brought us into range of the historic mean, followed by 6-7 years of +7 or better returns on stocks.

In those cases, the results would have been as good or better.

The real point is that we didnt know. It just worked out the way it did. And we dont and wont know what will happen next.

But I'll cede you one thing...I dont see the stock market turning net positive returns over the next 5-10 years. Based on absolutely nothing except acrophobia and gut instinct.

I'll tell you something else I think. Its a crappy time for an investor right now. Earthshattering, hmm?
He who fights with monsters might take care lest he thereby become a monster. And if you gaze for long into an abyss, the abyss gazes also into you. - Nietzsche
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Post by dbphd »

John,

Given that you're into revisionist history, can't you fault hocus for not having locking in his entire portfolio at 7%? Or he could have locked in his portfolio during the Carter administration, and had what at zero risk? Past actions can look good in hindsight, but it's a leap to think of yourself as prescient.

db
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Post by unclemick »

Heh. Heh Suppose a mythical twin - Throkmorton? arrives at this board with a 'defined pension plus uncapped cola' AND the same pesty pile of CD's as Hocus coming due at the same points future. Throckmorton can't pontificate at cocktail parties on 'his pension'( at least not the ones I attend). The CD's coming due in the current envirionment are another matter. Divide and conquer?
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Post by JWR1945 »

th:
What I can speak to is that from memory, stock valuations back around 96 were a little high but not unreasonably so.
No so. It was much more dangerous than you recall.

Yale Professor Robert Shiller has done the heavy lifting. He developed P/E10 for measuring valuation. It is our best indicator so far for estimating Safe Withdrawal Rates.

For retirement portfolios of the past, the worst cases were the Great Depression and the 1960s stagflation. These are some January values of P/E10 from Dr. Shiller's database (truncated at two decimal points).

1928 18.80
1929 27.08
1930 22.30

1965 23.26
1966 24.05
1967 20.43
1968 21.51
1969 21.19

1995 20.21
1996 24.76
1997 28.33
1998 32.86
1999 40.57
2000 43.77
2001 36.98
2002 30.27
2003 22.89
2004 not available
(Estimate: the S&P500 index has to fall to 977 for P/E10 to fall to 24.0.)

By January 1996, the stock market was already in bubble territory. By January 1997 it was already at higher valuations than just before the Great Depression. By January 1998 it was already above the highest level ever seen before. The previous all-time high was in September 1929 at 32.56.

We were already at the top of the historical range in 1996 and above it in 1997.

[The lowest level of P/E10 in the historical range was 5.1. Typical levels are around 14 to 15.]

Have fun.

John R.[/b]
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Post by JWR1945 »

th
The real point is that we didn't know. It just worked out the way it did. And we don't and won't know what will happen next.
Statistics never predicts a specific outcome exactly. But probability and statistics can provide worthwhile estimates. Otherwise, you would never be confident predicting that Casinos make money.

We do not rely on numbers alone, however. We do look for cause and effect.

Have fun.

John R.
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Post by JWR1945 »

Given that you're into revisionist history, can't you fault hocus for not having locking in his entire portfolio at 7%?
Foul! I am into writing accurate history for the first time.

Definitely not. The 7% was a nominal interest rate for a short period of time. The 3.4% and 3.5% interest rates were real and both last thirty years.

An almost unavoidable flaw in our historical sequence calculators is that they represent holdings other than stock and commercial paper inaccurately.

Have fun.

John R.
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Post by JWR1945 »

Past actions can look good in hindsight, but it's a leap to think of yourself as prescient.
You really need to read about A Recent Email Exchange which I referenced at the very top of the first post on this thread.

The question involved two different investment approaches and three subsequent possible outcomes. The only failure mechanism involved what actually happened historically.

My observation was that the bonds that were available were unusually attractive. My hypothesis is that favorable interest rates were necessarily available since bonds compete with stocks even during a stock bubble.

Hocus made his decisions based upon what was available at the time and upon what his particular investment needs were. In retrospect, his decision to lock in high real interest rates for thirty years was an excellent choice. The most likely outcome in stocks would have been short-term losses, not a rising bubble.

I need to repeat this: the actual historical outcome was the worst case outcome.

Have fun.

John R.
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Post by JWR1945 »

unclemick wrote:The CD's coming due in the current environment are another matter. Divide and conquer?
I believe that there are several alternatives.

One is to step aside for an indefinite period. I have reported those results in my A Bright Future post. You can do well by purchasing long-term TIPS bonds on the secondary market. You can do even better if stocks become a screaming buy within 20 or 30 years.

This is not necessarily the best solution for your needs, but it does work and it is truly 100% safe.

Have fun.

John R.
th
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Post by th »

JWR1945:

If I may rewrite your response, PE/10 is, in your opinion, a good measure, and in your opinion, the prices in 96 were unreasonable.

Since I'm not bought into PE/10 (or any other formulaic model), and I felt the prices were ok in 96, that doesnt make either of us right or wrong, just different of opinion.

I go by a simpler measure: do people want to own stocks, and if so, are the reasons good ones? Right now people want to own stocks, but I'm not hearing any good reasons. In 97-2000 everyone wanted to own them, for a whole host of reasons ranging from awful to the ridiculous.

But the numbers you put out are somewhat confirming, because I felt that in early 2003, before the recent run-up, we were getting close to fair valuation again and people were starting to want to own stocks for fairly good reasons. I see that the valuations in early 2003 were close to those of early 1996, the last time I felt that way.

So perhaps we're in agreement in that manner. Where we vary is if that price level was fair or inflated. I think the difference here may be that valuations could possibly be allowably higher now due to any combination of global economies, improved productivity, the digitalization of many businesses, premium service offerings, currency consolidations, leaving the gold standard, "acceptable inflation", more people owning stocks, baby boomers and their 401k's, "standard of living :::improvements:::" supporting premium priced products and services, blah blah blah. Perhaps a weighting system that includes a lot of data prior to 1960 isnt well weighted. Hell, if you round up the data prior to 1871 your weighted average might drop in half, as 1871 was a pretty optimistic place to start...the end of a huge market bottom trailing the civil war...

But I guess where you choose your starting and ending points for measurement can be challenging.

Or maybe we've just been overpriced all along and nobody cared. Now...if you're overpricing the merchandise and nobody cares, is it really overpriced?

I guess what I'm getting at in a roundabout manner is "fair price" varies.

If the upshot is that you think valuations by this or any other means helps you decide how to invest, then I say good luck with that and keep updating on the progress as it goes.

Certainly some discretionary moves in asset allocation are sensible, whether determined by PE10, morningstar fair value, tea leaves, magic 8 ball, whatever. I just wouldnt completely abandon any asset class entirely.

If such a system were to work great for 30-40 years going forward, I'd be all ears. But I'd also likely be dead. *shrug*
He who fights with monsters might take care lest he thereby become a monster. And if you gaze for long into an abyss, the abyss gazes also into you. - Nietzsche
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Post by JWR1945 »

th
If I may rewrite your response, PE/10 is, in your opinion, a good measure, and in your opinion, the prices in 96 were unreasonable.

Since I'm not bought into PE/10 (or any other formulaic model), and I felt the prices were ok in 96, that doesn't make either of us right or wrong, just different of opinion.
I did not just pull P/E10 out of the air.

If you visit Professor Shiller's web site, you will have access to a wealth of data and also the papers that show that P/E10 has medium term predictive value. Go to my post that provides Professor Shiller's Online Links from Wed, Apr 21, 2004 at 11:04 am CDT.
http://nofeeboards.com/boards/viewtopic.php?t=2395

The value of P/E10 for calculating Safe Withdrawal Rates has been developed here over an extended period of time.

We routinely include considerations such as a possibly shifting levels of normal valuations. We include sensitivity studies so as to reduce our reliance on specific numbers.
If such a system were to work great for 30-40 years going forward, I'd be all ears. But I'd also likely be dead. *shrug*
We can always make projections by analyzing the past and identifying cause and effect relationships. We can estimate their reliability as well.

The notion that the future is unknowable is ridiculous. The exact details are unknown, but much can be said about what is highly likely and what is highly unlikely.

Have fun.

John R.
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Post by th »

Sorry if you took my post to imply that you took pe10 or anything else from thin air. I simply said that while you apparently staunchly believe it, I dont know what to make of it other than another measurement of past data that may or may not work going forward.

Dont get me wrong, it may be great. But I've seen a hundred of them. All looked wonderful. Back tested well. In fact there was one guy in the mid 90's with a pretty good system that said whether one should be fully in stocks, out of them, or short selling. Worked great backtested. Worked great for many years. Fell fully on its face in the late 90's, and as far as I know hasnt worked since.

Its ridiculous to say that you cannot divine the future of the markets? I suppose that depends on the time frame. If you're talking decades, I guess thats possible. If you're talking months and years, then I think proposing that one knows what might happen is indeed ridiculous.

Are we in agreement on this, or do you think you can say with some certainty what will happen in the next year, 3, 5, 10?

At this vantage point, and perhaps I'm no more than a fool, it appears you're of the belief that market movements are calculable in the short to medium term (months to 10 years). I'm of the opinion that such movements are not calculable because they depend on mass economic social and psychological behavior that is improbable at best to ascertain and act upon.

At this point, its impossible to get 12 "experts" in a room and have them all agree what level of inflation we're at, what interest rates should be set to, how strong the economy is exactly, etc. Within individual company data, five accountants can produce five rather different sets of results.

With such an apparent lack of good measuring sticks or even simple agreement of where we are right now on many powerful influences against what true values of stock prices should be...how do you attempt to determine where they're going???

I'd also be skeptical of buying into something without seeing it work for a substantial period of time.

But thats just me. I'll keep an eye out and see how you guys are doing in 5 years or so.
He who fights with monsters might take care lest he thereby become a monster. And if you gaze for long into an abyss, the abyss gazes also into you. - Nietzsche
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Post by hocus2004 »

"I dont want to appear too negative or rain on the parade, but it might be inappropriate to disjoint an elbow with extensive self back patting..."

Just to be clear about this, I do not say that I have a greater than average intellect. Nor do I say that I possess any special expertise re investing not possessed by most others participating at these boards.

The reason why I was able to make the investment decisions that I made in 1996 was that I possessed access to the data-based SWR tool and others did not. The tool tells you things that you cannot learn anywhere else that I know of. People should review the earlier posts at this board and come to understand just what the tool is based on and what it does before disparaging it. It is a tool of amazing power for those planning early retirements. I will absolutely stand by that claim.

It's not me that is special. It is the tool that is special. When I use brag words, I am bragging about the tool, not about me as a person. Yes, I am the one who happened to develop the tool (I view JWR1945 as co-developer as a result of his efforts of the past two years). But that was not due to superior intellect or superior expertise. I was lucky enough to be in the right place at the right time.

I take offense when people disparage the tool without even first coming to understand it because, when they do that, they do harm to the entire community. We should all be bragging about the role we played in the development of this tool. There are lots of people in the community who have made important contributions. I wish that these people would step forward and take bows instead of using their energies to disparage the tool instead.

The tool is wonderful. People need to check it out. I'm not kidding about that.
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Post by th »

I'm not disparaging it, really.

I just dont trust such things in general, as many of their predecessors looked pretty good and didnt pan out.

I do understand the basic mechanics of it, and in the right circumstances such tools and philosophies, combined with other tools and philosophies, should give an investor with what they need to succeed.

However I should probably point out that using this philosophy would have disabled my ER. It would have had me disposing of my company stock options into cash and fixed instruments instead of reinvesting them into diversified stocks. I would certainly have a nice nest egg, and my taxes would have been quite a bit simpler. But from memory my returns in either 98 or 99 were in excess of 300%.

Of course had I not bailed out at the right time, all would be more or less moot as well.

In fairness I probably would have followed my original plan, which was to invest in a half dozen small new single family homes near my employer to use as rentals. Those popped from about $140-150k at the time to about $250-275 now and the rental market is superb. I'd likely be throwing off a few grand a month in profit from that enterprise, and be as busy as a one armed paper hanger fixing this, that and the other thing, and dealing with tenant woes.

Instead I get to sit on my ass and chew the fat with you guys.

Hmm...let me ponder on that comparison for a while, i'll get back to you.

I guess the other thing thats prodding me, and perhaps this is the bad thread to do it in, is...ok, so lets say all is agreed, everyone and everything else is insanity, and we're all bought in.

So then stocks are too expensive and until a big drop or a long sideways slide, ya really dont want to own them.

Now what?

You dont want to own ANY stocks?

You want to buy high dividend stocks in companies that may explode or may drop their dividend, causing investors to flee?

Buy ibonds in paltry clumps yearly at abysmal rates?

Buy tips or tips funds with yields in the 1.5-2% range?

Money market funds at .7%-2%? Short term corporates at <3%?

Long term CD's at 4-5%, knowing the rates are going to go up and make me want to unload them in a year?

Watch inflation eat my money?

You realize that this is the equivalent of saying "we think that castor oil is going to kill you if you keep taking it...here, eat this dog doo instead...doesnt taste very good but it wont kill ya".

I was actually looking at vanguards high yield bond fund at a little over 7% yield and the long term california muni bond fund at 4.3%+ tax free and thinking good thoughts...fortunately I'm not a yield chasing doofus.
He who fights with monsters might take care lest he thereby become a monster. And if you gaze for long into an abyss, the abyss gazes also into you. - Nietzsche
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Post by hocus2004 »

"I'm not disparaging it, really. "

I didn't mean you, TH. There are some others who have disparaged it without ever looking into it. You are at least talking about it a bit, which means that your mind must be at least a bit open. You wouldn't be making that effort if you weren't willing to hear the other side.
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Post by JWR1945 »

Are we in agreement on this, or do you think you can say with some certainty what will happen in the next year, 3, 5, 10?
My time frame is generally around a decade.

I highly recommend that you read the Shiller-Campbell paper to the Federal Reserve Board of Governors.

The concept that earnings matter dates back at least to Benjamin Graham. The idea of using 5-10 years of earnings came from Benjamin Graham. The more recent examination of P/E10 (and P/D as well) came from Shiller and Campbell.

Have fun.

John R.
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