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|Subject: Re: Strategy comparison S&P500 vs. IUL||Date: 4/3/2013 1:29 AM|
|Author: Rayvt||Number: 71678 of 77318|
OK, let's take this perspective then;
$100,000 liquid net worth.
How much of it would *you* (RayVT) put into an unhedged-long buy & hold position on the S&P, with the backward-looking wisdom & awareness of typical S&P drawdowns, versus "life happens" potentiality of needing to raid it for junior's uninsured skateboarding incident?
First of all, "incident" thing is why you have insurance (homeowner's and health). But still, a valid question if you substitute "unexpected expense" for that bit.
Oh, my! So many points to respond to. Here goes ... ;-)
1) "unhedged-long" -- Implies that there is such a thing as a hedged long position. There isn't. A "hedged long" position is effectively just a smaller position. Which by definition is unhedged, that is, an unhedged smaller position. (Which, BTW, is why covered calls are a stupid strategy -- they hedge away all but a teeny bit of the profit.) This phraseology is just fear-mongering.
2) "buy & hold" -- I don't do buy & hold. Of *anything*. Every investment strategy I use is subject to some form of a market-timing overlay/gate for shifting my equity allocation to short-term or intermediate term bonds/T-bills. It's not perfect, and it's not ultra-technical, or genius-level, or requires a massive or superhuman effort as CC likes to taunt. It just moves to cash when the general market is in a downtrend, and back to equities when in an uptrend. It takes approximately 2 minutes once a month. Maybe 4 minutes if you have to boot up your computer first.
3) "S&P" -- I don't actually invest in the S&P500. I invest in various ETFs and individual stocks. But still, saying S&P is a valid synonym for "equities".
4) "backward-looking wisdom [of S&P]" -- All anyone has to do is pull up a long-term chart on the S&P. Here's one: http://finance.yahoo.com/q/bc?s=%5EGSPC&t=my&l=on&am...
Now look for a time when you can say, "If I put money in here and didn't touch it for several decades, that would suck." Can't find one, can you? Even the peaks right before the crashes of 1974-75 & 1987-88 don't look bad when you can see the entire picture.
Due to recency bias, the crashes of 2001-03 and 2008-09 look big and bad. But then you notice that EVERY prior period had its peaks & valleys, so these ones are not different -- they are just recent.
In 20-30 years, the 2000-2010 peaks & valleys will occupy the same position that 1970-1980 does now. IOW, just spiky noise way down on the chart.
5) "& awareness of typical S&P drawdowns" -- Yup. Drawdowns happen. That's life. Sometimes you hit a golfball and it lands in the lake. Hell, I saw Tiger Woods nail one right into a pond at Cog Hill. Arrange your affairs so that a large drawdown doesn't wipe you out.
Personally, I diversify not only between asset classes but also between strategies.
If drawdowns *didn't* happen, then investing would be risk-free. And therefore return-free. Like a bank account or CD. No volatility and also very low return.
6) "life happens" potentiality of needing to raid it" -- So, which is better, having $250K in an account that was worth $400K 2 years earlier, or having $75K in an account that has never ever had the possibility of a losing month? You understand the low-risk of having a mortgage along with enough assets to "stroke a check" to pay it off. No difference.
The only thing is the way you look at it. I read a psychology article recently that explained this. People tend to compare the current price (or account value) with a recent price. If the price has dropped, people feel the loss (sad). If the price has gone up, people feel the gain (happy). This is so even when the reduced value is greater than the increased value. So $400K going to $250K feels BAD and $70K to $75K feels GOOD -- even though you are better off with the former.
As for me personally, I do my best to have my intellect control my emotions, so I grit my teeth and stick with the former. The object is to have lots of digits in your net worth, not to have good feelings about a low-digit balance.
The worst case here is when you have a sudden need for the money shortly after you started the account. But in that case, *neither* of these alternatives will have enough money, so you're S.O.L. in either case.
Hmm, not true. The worst case is when you started just before a crash, so it hasn't had time to grow before it gets whacked -- and then you have to take money out and eat the loss. This is called bad luck. "Sometimes you eat the b'ar, sometimes the b'ar eats you." This happens sometimes, just as getting squashed by a runaway gravel truck sometimes happens.
Do you keep just 3 months' living expenses nut aside where its free from drawdown risk? Less? More? How much?
$0 Or did you mean "how many months"? That's 0, also.
When I was a teenager, I used to be very frugal about paying $1 for a paperback book. (Showing my age here!)
When I was making $50,000/year salary I didn't even consider it. If I saw an interesting $9.95 book I bought it without a blink.
Ponder upon that parable.
If the market crashed so bad that "living expenses" was a worry, then that would be the least of my worries. A bigger worry would be if I had enough ammunition stock.
Come to think of it, I don't ever recall a time when I purposely had N months' living expenses tucked away. The right way to think of your net worth is as just one big pool of money (assets) that's in various forms/assets & various levels of liquidity -- cash, bank accounts, stocks, bonds. Ammo. Etc.
Bucketing your money is for Dave Ramsey / Suzie Orman readers who are in the "get my butt out of the wringer" category.
Money is fungible. Stocks/bonds/etc. convert into cash with just one phone call and a $10 commission. You can even have it wired to you before end-of-day for another $25. All you need in cash or near-cash is enough to float you over cash-flow irregularities. And for the occasional handy-man who'll give you a discount for greenbacks instead of a check.
$10,000 that is free from drawdown risk is $10,000 that is not earning anything. We don't want no lazy money around here! Get to work! That money could be earning 3% in a 1-3 year bond fund, at the minimum. 6%-7% in a preferred stock or bond. So, yeah, there's a modicum of drawdown risk -- so grab a couple of its lazy buddies and stick $20,000 in that bond. Now there's $20K earning 6%-7% and I've got an even bigger cushion in case I need the cash in a downturn.
$20,000 that is temporarily cut down to $18,000 is more than $10,000 -- and we've already defined that $10,000 is the sum I need in case of emergency.
And in the highly likely case where I don't have to tap that $10,000, in 10 years that $10K will have grown to $20K. Which is, um, $10,000 more than I would have in a "free from drawdown risk" pot. Better yet, the $20K will have grown to $40K and I can take $20k out and put it to doing some *real* work earning 10%-15% in stocks.
Sorry, hope this wasn't TL;DR. But you did ask. ;-)
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