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Author: Kenoops Three stars, 500 posts Old School Fool Add to my Favorite Fools Ignore this person (you won't see their posts anymore) Number: of 76404  
Subject: Racy and Reasonable?? Date: 12/16/1999 10:55 AM
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I'm retired, but not dead, and yes, we would like to retire "in style". Thus, I could not believe the contents of these two "retirement" portfolios.

After first starting off very cautiously by (1) reading Bogle on Mutual Funds, (2) investing in my own O'Shaughnessy Value Port and then (3) following the MI board this past year, the "Racy" and "Reasonable" retirement ports make about as much sense to me as investing 100% in bonds, as they did in the old days.

And limiting each port to four stocks or so and not blending in some growth ports with it (to at least balance out growth and value) just adds insult to injury.

I know that RP4 is a proven port, and beats the S&P by a small margin, as does BSP, but taken just by itself it is much more volatile than the S&P and has larger losses, in its losing years, than many of the supposedly riskier growth ports discussed on the MI board--and decidedly larger losses than the MI blends of several ports (of four or five stocks each).

These are new areas of TMF to me, and I have not done much reading in them, but my initial reaction is one of shock.
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Author: TMFPixy Big gold star, 5000 posts Add to my Favorite Fools Ignore this person (you won't see their posts anymore) Number: 16413 of 76404
Subject: Re: Racy and Reasonable?? Date: 12/16/1999 11:35 AM
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Kenoops writes:

<<I'm retired, but not dead, and yes, we would like to retire "in style". Thus, I could not believe the contents of these two "retirement" portfolios.

After first starting off very cautiously by (1) reading Bogle on Mutual Funds, (2) investing in my own O'Shaughnessy Value Port and then (3) following the MI board this past year, the "Racy" and "Reasonable" retirement ports make about as much sense to me as investing 100% in bonds, as they did in the old days.

And limiting each port to four stocks or so and not blending in some growth ports with it (to at least balance out growth and value) just adds insult to injury.

I know that RP4 is a proven port, and beats the S&P by a small margin, as does BSP, but taken just by itself it is much more volatile than the S&P and has larger losses, in its losing years, than many of the supposedly riskier growth ports discussed on the MI board--and decidedly larger losses than the MI blends of several ports (of four or five stocks each).

These are new areas of TMF to me, and I have not done much reading in them, but my initial reaction is one of shock. >>


I gather you believe this approach is too risky. If so, I would welcome a similar analysis over the same time period of 1961 through 1998 for a mechanical approach you prefer using the same constraints as I did. If it shows the same kind of results for less risk, then I'm certain many would appreciate seeing that outcome, to include me.

While I appreciate your concern over the use of just four stocks, you should be aware of how I arrived at their use. Critics of the FF strategy decry its lack of diversity, and accuse it of being a prime example of data mining, the process of examining factors and patterns to establish a correlation by discarding those that don't fit a hypothesis while retaining those that do. Further, they say that the exceptional returns of the FF disappear when adjusted for risk and the costs of income taxes and transactions. Other skeptics caution that increasing use of Dow investment strategies will curtail future exceptional returns. These criticisms have been fully explored and largely refuted in various articles in the Fool Four forum on The Motley Fool website. Details may be found by exploring the May 1999 Fool archives available at http://www.fool.com/DDow/1999/DDow1999.htm.

Suffice it to say I believe these criticisms miss their mark by a wide margin. The FF has been tested and retested with monthly data spanning a 37-year period. Its superlative returns over time simply cannot be denied. The FF average annual total return for the 38 years ending in 1998 is 19.6% versus 12.3% for the S&P 500, hardly the "small margin" you allege. Volatility as measured by standard deviation is 19.3% versus 15.9% for the S&P 500. In that sense, then, the FF is "risky." But on a risk-adjusted basis as measured by their respective Sharpe ratios for the period 1961 through 1998, the FF is definitely superior at 0.79 versus 0.46 for the S&P 500. In that same period, the S&P 500 showed a loss eight times, the worst being -26.5% in one year. The FF suffered five setbacks, with the worst return coming in at -22.9% for the year.

It seems, then, that the FF suffers an upward as opposed to a downward volatility. Is that not a risk worth taking? I certainly think so. The proof is in the pudding, and as far as I'm concerned the proof is there. Thus, unlike some critics, I have a tough time believing the FF is nothing but an anomaly of favorable statistics that's destined to fail.


Regards..Pixy

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Author: Kenoops Three stars, 500 posts Old School Fool Add to my Favorite Fools Ignore this person (you won't see their posts anymore) Number: 16440 of 76404
Subject: Re: Racy and Reasonable?? Date: 12/16/1999 7:05 PM
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Good point. The data you cite goes back to 1961, whereas I was only thinking of the past 13 years or so during which several MI growth screens have done extremely well. My heretical point, based on the past 13 years of data--which is all we have for these MI screens--is that a blend of MI screens, RP4 included, would do much better than RP4 alone. Value screens have not done as well in recent years. It remains to be seen whether these new MI growth screens will also perform well in markets more similar to those of the past, such as the sixties or early 70s. Regardless, however, of whether the market favors value or growth screens, a blend of both should do fairly well.



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Author: rkmacdonald Big red star, 1000 posts Old School Fool Add to my Favorite Fools Ignore this person (you won't see their posts anymore) Number: 16508 of 76404
Subject: Re: Racy and Reasonable?? Date: 12/17/1999 5:04 PM
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Pixy wrote:
Suffice it to say I believe these criticisms miss their mark by a wide margin. The FF has been tested and retested with monthly data spanning a 37-year period. Its superlative returns over time simply cannot be denied. The FF average annual total return for the 38 years ending in 1998 is 19.6% versus 12.3% for the S&P 500, hardly the "small margin" you allege. Volatility as measured by standard deviation is 19.3% versus 15.9% for the S&P 500. In that sense, then, the FF is "risky." But on a risk-adjusted basis as measured by their respective Sharpe ratios for the period 1961 through 1998, the FF is definitely superior at 0.79 versus 0.46 for the S&P 500. In that same period, the S&P 500 showed a loss eight times, the worst being -26.5% in one year. The FF suffered five setbacks, with the worst return coming in at -22.9% for the year.

Excellent post! I tried my hand at essentially the same comments a week or two ago, but my post didn't seem to have the same impact.

Just to amplify on one of your key points: Most people simply cannot accept the historical evidence that the FF portfolio risk (based on the Sharpe ratio) is MUCH LESS than that of four independant LTBH stocks, and, incredibly, it is also lower risk than the S&P 500 itself.

rkm

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Author: TMFPixy Big gold star, 5000 posts Add to my Favorite Fools Ignore this person (you won't see their posts anymore) Number: 16545 of 76404
Subject: Re: Racy and Reasonable?? Date: 12/18/1999 10:02 AM
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RKM writes:

<<Just to amplify on one of your key points: Most people simply cannot accept the historical evidence that the FF portfolio risk (based on the Sharpe ratio) is MUCH LESS than that of four independant LTBH stocks, and, incredibly, it is also lower risk than the S&P 500 itself.>>

I agree. Intuitively, one would believe otherwise, but the stats show that isn't so.

Regards..Pixy


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Author: DHatch Big red star, 1000 posts Add to my Favorite Fools Ignore this person (you won't see their posts anymore) Number: 16687 of 76404
Subject: Re: Racy and Reasonable?? Date: 12/21/1999 4:37 AM
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Kenoops Date: 12/16/99 10:55 AM Number: 16409
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<<I'm retired, but not dead, and yes, we would like to retire "in style". Thus, I could not believe the contents of these two "retirement" portfolios.>>

Same here.

<<These are new areas of TMF to me, and I have not done much reading in them, but my initial reaction is one of shock.>>

You might have been even more shocked if you had read and understood the implications of post #29234 on the Foolish Four message board.

http://boards.fool.com/Message.asp?id=1030001007191009&sort=postdate

.02



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Author: DHatch Big red star, 1000 posts Add to my Favorite Fools Ignore this person (you won't see their posts anymore) Number: 16689 of 76404
Subject: Re: Racy and Reasonable?? Date: 12/21/1999 5:54 AM
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TMFPixy Date: 12/16/99 11:35 AM Number: 16413
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<<It seems, then, that the FF suffers an upward as opposed to a downward volatility.>>

It may have been true during certain selected years IN THE PAST.

It may or may not prove to continue so in the future.

Don't even look at how poorly some of the Foolish Four porfolios might have done this last year. There appears to have been great variation depending upon which stocks might have been chosen and when the stocks might have been chosen and this sort of variation is not desireable in a retiree's portfolio.

<<Is that not a risk worth taking?>>

ABSOLUTELY NOT in a retirement portfolio for a retired person.

<<I certainly think so.>>

YOU ARE WRONG!

<<The proof is in the pudding, ...>>

THEN LOOK AT THE PUDDING!

The pudding appears fine in sample, however out-of-sample it has gone sour, partially rotten, and has too much crusty debris around the edges.

<<... and as far as I'm concerned the proof is there.>>

Only if one restricts one view to the years which include the original sample years.

<<Thus, unlike some critics, I have a tough time believing the FF is nothing but an anomaly of favorable statistics that's destined to fail.>>

Yes, it is tough. I know just what you mean and I used to feel the same way myself.

All I ask is that you keep an open mind and consider the possibilities and think deeply about recommending that 100% of a retiree's stock portfolio should be:

1. In only any one program or system;

2. In only four stocks, no matter how selected; and

3. Only in a program which has now been logically and intelligently questioned and about which there currently exists some serious and rational doubt.

.02

P.S. Please stop attempting to defend a position which cannot be defended. Everyone is entitled to a change of mind when new information is made available. Total consistency is not always totally appropriate and is often the sign of a closed or clouded mind which should never apply to you because you are simply too darned bright to let it happen to you for very long.



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