Upside Gains vs Downside Protection

chiang_mai

Half my portfolio is split between RICA, PNL and CGT. Another 25% is in Cash and the last 25% is split between MWY, FSSA Asia Focus and BG Int. That combination should, on a historical basis, achieve around 12% per year but also provide significant downside protection. I'm currently down 3.1% YTD but up 6.5% over one year. I'll allocate most of the remaining Cash as soon as the time seems right. A couple of friends are big BG fanatics, one holds nearly all the big BG funds but is down 28% over one year and holds no downside protection whatsoever. We constantly debate whether 60/40 is dead and the 40 is merely a drag on the 60, I think it is but that's the price to be paid for protecting the downside, I'm holding only 40% equities! I think they're hairy chest types who don't understand what they've invested in. They think I'm foolish for holding so few equities, we're all in our mid/late 60's and the money involved is not central to our well being. I also think many have unrealistic expectations of what is a reasonable gain each year. What do you think?

masonic

I don't think 12% per year is a realistic expectation going forward, even with inflation where it is. Risk tolerance is a personal matter, if downside protection is important to you then some element of bonds in your portfolio is going to be unavoidable (since the defensive trusts you mention all hold a generous allocation of bonds, that should tell you they still have a place in a defensive portfolio). Many threads discuss the search for an alternative and none have yet come up with anything viable to eschew bonds completely. There is nothing wrong with your friends going anywhere up to 100% equities if they are in it for the long term and like you it is money they don't need to meet their basic needs. Chances are that will deliver the highest returns over the long term, but they could see some heavy losses over the short term. BG was positioned perfectly for the economic conditions of the recent past, but they may not fare as well in the future.

chiang_mai

masonic said:

I don't think 12% per year is a realistic expectation going forward, even with inflation where it is. Risk tolerance is a personal matter, if downside protection is important to you then some element of bonds in your portfolio is going to be unavoidable (since the defensive trusts you mention all hold a generous allocation of bonds, that should tell you they still have a place in a defensive portfolio). Many threads discuss the search for an alternative and none have yet come up with anything viable to eschew bonds completely. There is nothing wrong with your friends going anywhere up to 100% equities if they are in it for the long term and like you it is money they don't need to meet their basic needs. Chances are that will deliver the highest returns over the long term, but they could see some heavy losses over the short term. BG was positioned perfectly for the economic conditions of the recent past, but they may not fare as well in the future.

Which begets the questions: how long is the longer term and how long can it possibly be to a 69 year old male!

masonic

chiang_mai said:

masonic said:

I don't think 12% per year is a realistic expectation going forward, even with inflation where it is. Risk tolerance is a personal matter, if downside protection is important to you then some element of bonds in your portfolio is going to be unavoidable (since the defensive trusts you mention all hold a generous allocation of bonds, that should tell you they still have a place in a defensive portfolio). Many threads discuss the search for an alternative and none have yet come up with anything viable to eschew bonds completely. There is nothing wrong with your friends going anywhere up to 100% equities if they are in it for the long term and like you it is money they don't need to meet their basic needs. Chances are that will deliver the highest returns over the long term, but they could see some heavy losses over the short term. BG was positioned perfectly for the economic conditions of the recent past, but they may not fare as well in the future.

Which begets the questions: how long is the longer term and how long can it possibly be to a 69 year old male.

A healthy, happy, 69 year old male with parents who survived past 75 years old would have a life expectancy into their 90s. That's over 20 years, which certainly qualifies as long term. If the assets are left in a will, then they might be held for even longer.

If they have already held the investments for a few years, then they'd have had enough of a head start that even a moderate loss in the short term would likely leave them better off than someone who had invested cautiously throughout.

chiang_mai

masonic said:

chiang_mai said:

masonic said:

I don't think 12% per year is a realistic expectation going forward, even with inflation where it is. Risk tolerance is a personal matter, if downside protection is important to you then some element of bonds in your portfolio is going to be unavoidable (since the defensive trusts you mention all hold a generous allocation of bonds, that should tell you they still have a place in a defensive portfolio). Many threads discuss the search for an alternative and none have yet come up with anything viable to eschew bonds completely. There is nothing wrong with your friends going anywhere up to 100% equities if they are in it for the long term and like you it is money they don't need to meet their basic needs. Chances are that will deliver the highest returns over the long term, but they could see some heavy losses over the short term. BG was positioned perfectly for the economic conditions of the recent past, but they may not fare as well in the future.

Which begets the questions: how long is the longer term and how long can it possibly be to a 69 year old male.

A healthy, happy, 69 year old male with parents who survived past 75 years old would have a life expectancy into their 90s. That's over 20 years, which certainly qualifies as long term. If the assets are left in a will, then they might be held for even longer.

If they have already held the investments for a few years, then they'd have had enough of a head start that even a moderate loss in the short term would likely leave them better off than someone who had invested cautiously throughout.

Every piece of investment advice I have ever read suggests that people approaching retirement age should begin to de-risk and tone down their investments, advice which doesn't seem unreasonable at all. Cautious investing for younger/middle-aged investors is all fine and good if that's a person's risk appetite, if it's not, by all means, put on the hairy chest shirt. I think the rule of thumb changes once past 65/70, even if in theory that person could theoretically live for a further 20 years. But OK, you're clearly from the 100% school of equity investing and I respect your views on the subject, I'll be interested to learn what others have to say on the subject.

dunstonh

That combination should, on a historical basis, achieve around 12% per year but also provide significant downside protection.

12% is highly unrealistic.   We have had 14 years (well, apart from the last couple now) where returns have been abnormally higher than the long term average.   

 A couple of friends are big BG fanatics, one holds nearly all the big BG funds but is down 28% over one year and holds no downside protection whatsoever. 

BG funds tend to be the highest risk funds in their respective sectors.  That is often good during positive periods but bad in negative periods.

We constantly debate whether 60/40 is dead and the 40 is merely a drag on the 60, I think it is but that's the price to be paid for protecting the downside, I'm holding only 40% equities!

Anything you put in for downside protection will be a drag in positive periods but not in negative periods.
You have downside protection to keep the volatility within you acceptable limits and capacity for loss.   You dont have downside protection in there to improve investment returns.

Which begets the questions: how long is the longer term and how long can it possibly be to a 69 year old male!

Typically, long term is around 15 years+.  So, pretty much taking you close to your life expectency.

Every piece of investment advice I have ever read suggests that people approaching retirement age should begin to de-risk and tone down their investments, advice which doesn't seem unreasonable at all.

You rarely get advice in reading materials.  It is usually a comment or opinion.  Not advice.
Historically, you should derisk to buy the annuity.  However, an annuity is now the least used option.   So, was your reading material taking that into account?

Most people do drop down the risk scale a notch or two in retirement.   Partly as they are not looking to maximise returns but protect what they have to achieve their objectives and partly because they do not have the timescale to invest with long term weightings.

 I think the rule of thumb changes once past 65/70, even if in theory that person could theoretically live for a further 20 years. 

There is no rule of thumb. It is a personal decision.

masonic

chiang_mai said:

masonic said:

chiang_mai said:

masonic said:

I don't think 12% per year is a realistic expectation going forward, even with inflation where it is. Risk tolerance is a personal matter, if downside protection is important to you then some element of bonds in your portfolio is going to be unavoidable (since the defensive trusts you mention all hold a generous allocation of bonds, that should tell you they still have a place in a defensive portfolio). Many threads discuss the search for an alternative and none have yet come up with anything viable to eschew bonds completely. There is nothing wrong with your friends going anywhere up to 100% equities if they are in it for the long term and like you it is money they don't need to meet their basic needs. Chances are that will deliver the highest returns over the long term, but they could see some heavy losses over the short term. BG was positioned perfectly for the economic conditions of the recent past, but they may not fare as well in the future.

Which begets the questions: how long is the longer term and how long can it possibly be to a 69 year old male.

A healthy, happy, 69 year old male with parents who survived past 75 years old would have a life expectancy into their 90s. That's over 20 years, which certainly qualifies as long term. If the assets are left in a will, then they might be held for even longer.

If they have already held the investments for a few years, then they'd have had enough of a head start that even a moderate loss in the short term would likely leave them better off than someone who had invested cautiously throughout.

Every piece of investment advice I have ever read suggests that people approaching retirement age should begin to de-risk and tone down their investments, advice which doesn't seem unreasonable at all. Cautious investing for younger/middle-aged investors is all fine and good if that's a person's risk appetite, if it's not, by all means, put on the hairy chest shirt. I think the rule of thumb changes once past 65/70, even if in theory that person could theoretically live for a further 20 years. But OK, you're clearly from the 100% school of equity investing and I respect your views on the subject, I'll be interested to learn what others have to say on the subject.

It's not unreasonable for someone to decide to de-risk their portfolio if their attitude to risk and objectives support that decision. It is, however, unreasonable for them to post disparaging remarks about others who have a different attitude to risk. I am nowhere near my 60s and I am currently about 60% equities. However, a good chunk of my portfolio will be used to meet my basic needs in retirement. When I reach that point, and have assets generating ample income to match my spending, any excess could be invested more adventurously. If my objective was simply to maximise an inheritance I intended to leave my heirs, or see my money make a positive impact on the world, then 100% equities could be a reasonable choice.

Thrugelmir

chiang_mai said:

 That combination should, on a historical basis, achieve around 12% per year but also provide significant downside protection.

If only investing were that easy. One needs to be constantly looking forwards not backwards. 

MK62

chiang_mai said:

masonic said:

I don't think 12% per year is a realistic expectation going forward, even with inflation where it is. Risk tolerance is a personal matter, if downside protection is important to you then some element of bonds in your portfolio is going to be unavoidable (since the defensive trusts you mention all hold a generous allocation of bonds, that should tell you they still have a place in a defensive portfolio). Many threads discuss the search for an alternative and none have yet come up with anything viable to eschew bonds completely. There is nothing wrong with your friends going anywhere up to 100% equities if they are in it for the long term and like you it is money they don't need to meet their basic needs. Chances are that will deliver the highest returns over the long term, but they could see some heavy losses over the short term. BG was positioned perfectly for the economic conditions of the recent past, but they may not fare as well in the future.

Which begets the questions: how long is the longer term and how long can it possibly be to a 69 year old male.

There's no way to say for sure......"longer term" is intentionally vague...

All you can really say is that based on history the chances over X years are this...on average.

Over the first 2 decades of this century, global equities and global govt bonds both returned around 150% to UK investors (equities very slightly ahead), but the returns in each decade were very different........global equities about 3% and 146% respectively, global govt bonds about 74% and 44% respectively. During those 20 years inflation has eroded the value of the pound by about 42% too.

So in the first decade, bonds were the place to be, while the second decade swung decisively the other way.....over the whole period, it wouldn't have made much difference.(of course, those are average figures - exactly what you might have been invested in may make quite a difference too......and account charges over 20 years would no doubt weigh in as well)

The red line is IA Global Equities, the green, IA Global Govt Bonds.....C is UK RPI (obviously from Trustnet).

Albermarle

Half my portfolio is split between RICA, PNL and CGT. Another 25% is in Cash and the last 25% is split between MWY, FSSA Asia Focus and BG Int. That combination should, on a historical basis, achieve around 12% per year but also provide significant downside protection.

PNL & CGT have been stable in the last 6 months , so have been doing their job.

5 year growth has been around 5%pa , but it is difficult to see that being repeated for a while . So you have maybe half your portfolio maybe producing 2 or 3 % pa going forward . 25% in cash maybe earning 1% , so the rest will have to have stellar results to get to 12 % overall !

chiang_mai

Thank you all for your comments, my apologies for the late reply but I'm in Asia. A few comments of my own:

I quoted a 12% return solely as an indicator of scale because that was the total return generated by the portfolio in the 12 months that ended in November. What it may be going forward is anyone's guess but I very much doubt it will reach the same level.

I also quoted a historic return because that's the only way one can know how much profit was made. That does not mean that most of us spend our time thinking that history will always repeat itself, even if one or two people do. That was really my point. It's great during the boom times to hold a fistful of BG and watch 20%+ pa profits roll in but I think it's important to accept those times wont last forever. The idea of buying and holding an array of very high-risk funds comes with a price in terms of time, a price that older people often can't or won't be able to pay. 

Advice vs opinion or recommendation. I understand the need for clarity of expression in the heavily regulated UK but in these parts, there is no such distinction. Similarly, much of our reading material is US-centric where unwanted advice abounds! Those things said I probably should have been more precise in my terminology to a UK audience. The bottom line is that in most places where we seek guidance, we are told/advised/it is suggested that retirees should de-risk their holdings.

The conclusion I drew from your replies is that risk is a matter of personal choice and being older shouldn't interfere with that choice, albeit some of you have said de-risking is common as one approaches retirement and this appears sensible.

One last thought: which of us doesn't buy insurance of some sort in our daily lives, it seems odd that people would buy life insurance etc but not buy similar when investing.

Many thanks