“Risk means more things can happen than will happen.” -Elroy
Dimson
"Uncertainty about the future does not necessarily equate
with risk, because risk has another component: Consequences." -Farnam Street
CHART OF THE DAY
RETIREMENT FINANCE AND PLANNING
How Much Wealth Will You Have 30 Years Into Retirement?
Pfau. Considering spending and wealth
are both important—as retirees should not be narrowly focused on a singular
goal to avoid financial wealth depletion—financial goals for retirement can
essentially be reduced to two competing objectives: to support as much spending
as feasible, and to maintain a reserve of financial assets to support risk
management objectives such as protecting from spending shocks or otherwise
provide a legacy.
The 'Never-Retirement' Plan: Many Millennials Plan To KeepWorking, Survey Says. Forbes
Optimizing Retirement Income Solutions in DefinedContribution Retirement Plans A Framework for Building Retirement IncomePortfolios. Pfau, Tomlinson, Vernon .
SoA.org. [Individual retirees can jump
to page 43 first. I might've linked this before]
Women Face 20% Higher Health-Care Costs in Retirement, SurveyFinds, WSJ. Longevity seen as the reason
for the gap with men.
MARKETS AND INVESTING
10,000 hours or 10 minutes: what does it take to be a“world-class” investor? Pension Partners.
“Deliberate practice” has been found to be most effective in explaining
the variance of performance in games, music and sports. These are fixed, stable
systems where the rules don’t change. In less stable fields, deliberate
practice is a much poorer predictor of success. Randomness and serendipity play
a much greater role in these fields than we want to believe. Which is why what
I’m going to say next is not going to sit well with many, especially if you do
this for a living. The 10,000 hour rule does not apply to
trading/investing." /
Excessive Diversification Is Pointless & Damages Returns,
intrinsicinvesting.com. So
diversification is great, but its benefits are realized with far fewer stocks
that most people realize. If your goal is to match the market performance
(which is a perfectly reasonable goal) th[e]n buying every stock in the market
(ie. broad diversification) makes perfect sense. But if your goal is to beat
the market, the level of diversification should be optimized, not maximized.
What you want to avoid at all costs is attempting to beat the market by
investing in strategies that are excessively diversified.
Dumb Alpha: Tactical Errors, CFA Institute. Every investment decision tends to reinforce
our pre-existing biases on specific investments. Confirmation bias, recency
bias, among others, taint investment decisions and destroy performance in the
long run. Being close to the market increases their influence on a portfolio.
Is dividend investing dangerous? Newfound. "…theory – albeit a theory that may rely
on imperfect assumptions about the market - holds that investors should be
indifferent to whether dividends are paid or not. Reality may be more nuanced... particularly
when evidence suggests that companies have historically done a terrific job of
destroying reinvested capital."
The Most Important Thing - On Howard Marks , thepfengineer.com. risk is [not] equivalent to volatility.
Instead risk is the likelihood of losing money
Where Markets Fail: An Imperfect Discounting Mechanism, Voss
CFA Institute. While I agree that
markets are generally better at discounting the future than individuals, there
are inherent flaws in the markets that are difficult, if not impossible, to
overcome. I point out these weaknesses because, just like with any mental model
and organizing principle, knowing the weaknesses is the first step in avoiding
or discounting them.
[Comment:
I'm really surprised -- especially for an article on the CFA institute
site, that talks about inefficient discounting and uses an example related to
the missing long term costs of far-dated environmental impacts -- that he doesn’t mention
hyperbolic discounting. This was not in
the air when I personally was in B school but it is now.
Prof Geanakoplos in his Financial Theory course (OpenYale) mentions it
several times as a type of remedy for just this kind of thing.]
Words from the Wise - Harry Markowitz, AQR.com. The formula for portfolio variance — in terms
of the variances and covariances of securities — makes no assumption about the
form of the probability distribution. Unfortunately, many people are confused
about this. [Comment: This is a re-read but fun nonetheless]
Inflation differentials and equity returns, SR-SV.com. “We have established that the pass-through of
expected inflation to nominal stock returns is slow and incomplete. The local
component of expected inflation is a powerful predictor of real returns on
stocks in the cross-section of countries: When a country’s expected inflation
rate is higher than the global average, subsequent real returns and excess
returns are lower…This is not true in the time-series dimension: When a
country’s rate of inflation is higher than average for that country, this has a
small, negative but statistically insignificant effect on real returns.”
Is the Yale Model Broken? CIO. Declining returns and current market
conditions have some questioning the infallibility of the endowment
model—pioneered and perfected by David Swensen—and looking to reinvent. also: An Insider’s Perspective on the YaleEndowment
The Investment Ecosystem, Tom Bakke. Over the past several
decades, the investment industry has thrived… it’s all well and good until the
environment changes in dramatic ways, especially if it happens quickly. Then it becomes clear who was prepared for
that changing environment and who wasn’t.
Repeat After me: “Bonds Don’t Necessarily Lose Value WhenRates Rise” Cullen Roche. And this
brings us to the primary problem with bond investing and asset allocation in
general – most people don’t apply the right maturity and/or duration to their
portfolios. Most of us suffer from a horrid case of short-termism. As I like to say, asset allocation is all
about asset and liability mismatch. We have short-term cash flow liabilities
that we try to match to longer-term assets. Most people want high returns today
from instruments that are not designed to provide us with immediate returns.
This results in a misuse of the instrument as a bond (and even a stock to some
degree) is designed to pay you a certain amount over certain periods of
time. If you’re not prepared to
potentially hold the instrument for most or all of its maturity then your risk
of permanent loss increases substantially.
[Comment: this does, in fact, bear repeating…]
A Really Cool Paper (And Graphic) On Etfs. Alphaarchitect. Research has shown that in addition to the
benefits of enhanced price discovery, ETFs add noise to the market: prices of
underlying securities have higher volatility, greater price reversals, and
higher correlation with the index. Arbitrage activity is a necessary component
in minimizing the price discrepancy between ETFs and the underlying securities.
During turbulent market episodes, however, arbitrage is limited and ETF prices
diverge from those of the underlying securities.
2017 Long-Term Capital Market Assumptions Executive Summary,
JP Morgan. "Lower rates translate
to elevated equity risk premia, even though growth has weighed on expected
returns; credit is the bright spot in fixed income markets, but it is real
assets that hold up best in a world of challenged growth and lackluster returns…
Expected returns for a simple balanced 60/40 stock-bond portfolio are down by
around 75bps and reinforce our view that static balanced allocation has run out
of road; investors seeking to boost returns will have to increasingly consider
alternative assets, new avenues of diversification and, above all, an active
approach to asset allocation." [comment: I'm sure this is interesting
and solid stuff but with nearly everyone recommending alternatives and active allocation I
gotta believe that this will turn out badly for a non-trivial portion of the newly "active allocators" that
try to do this]
ALTERNATIVE RISK
Looking Forward Not Backward When Estimating Volatility,
BlueSky. orming concentrated low
volatility portfolios may enhance a variety of portfolio metrics, but we
believe that the added transaction costs of managing such a portfolio would
reduce many of these benefits on larger portfolios when traded using large
pools of capital. That is why traditional low-volatility ETFs that are more
diversified like SPLV and USMV are still valuable and practical ways to access
the low volatility anomaly despite using backward-looking information.
The Flexibility of MLPs, sl-advisors.com "the size and history of alternatives
(hedge funds, private equity and real estate) confirm that a substantial pool
of capital is available to finance assets that require active management with
payments to the operators. MLP investors are in many ways better off than the
investors in these private partnerships; they have the liquidity to sell
whenever they want, their investments are subject to all the disclosures of
publicly listed companies, and the ten year annual return of 9% is better than
REITs, Utilities, the S&P500, Bonds and, most assuredly, hedge funds."
Which Factors Really Matter To Investors, Swedroe,
ETF.com. The bottom line is that the
evidence from both studies shows that, in general, both mutual fund and hedge
fund investors are ignoring the large body of evidence that factors beyond
market beta have explanatory power in the cross section of returns.
Swedroe: Avoid Structured Products Game, Swedroe. The 2009
study “Why Do Investors Buy Structured Products?” by Thorsten Hens and Marc
Oliver Rieger concluded that any utility gains investors derive from structured
products are typically much smaller than their fees. http://www.etf.com/sections/index-investor-corner/swedroe-avoid-structured-products-game
[Comment: I agree with Swedroe. Over the
last 15 or more years I have read my fair share of placement memoranda on
structured products. I quickly decided
that they were an easy mirage. I could
easily replicate almost any note that did not have esoteric derivatives inside
for almost no cost and more liquidity and better risk-return characteristics to
boot. On the other hand I never
did. I think in the abstract that the
impulse behind these notes can be actually be laudable if it is the right
design for the right person at the right time. There are a non-trivial number
of retirees that benefit from structured products because there is a stage in
life inside this retirement zone where the rules of traditional financial "physics"
are temporarily a little off kilter. So
while I think these things are usually a fool's game I can easily imagine using
one myself if for no other reason that I am as susceptible to investor bias and
vice (lethargy for example) as anyone else and sometimes someone else's "game"
can help even if they are making a buck off me. Anti-note articles often point
out that structured products take advantage of investor bias. For a self-aware
and well-informed investor, counterintuitively, that is exactly the point. If I
or anyone (and this is a really big if) could successfully perform adequate due
diligence and appropriate triangulation against all structured and
non-structured solutions that are available to solve the same problem then I am
not categorically against these things in very narrow particular
instances. But, then again, for the most
part I still am.]
Sizemore on CEFs. You really can’t beat getting a dollar for
90 cents. Unless, of course, you manage to find one for 85 cents.
Systematic Global Macro, Research Affiliates. "A fair-minded consideration of today’s
markets shows muted potential from investing in traditional assets. Low yields,
high valuations, and anemic global growth have pushed down expected returns.
Given these starting conditions, the likelihood of achieving anything close to
a 5% real return seems quite slim,9
creating a considerable need for alternative solutions. We see the alternative
factor premia of carry, momentum, and value as powerful additions to suitable
investors’ portfolios. These systematic global investment strategies provide an
attractive and diversifying alternative source of investment returns. They are
empirically robust, theoretically sound, and we believe positioned to continue
to drive strong absolute returns in today’s macro environment. As we stated
earlier, global macro has become a well-established discipline for good reason,
offering the average investor an opportunity—once enjoyed by only the most
sophisticated hedge funds—to benefit from these alternative sources of return."
Fidelity Survey: 72% Of Global Investors To Boost Allocationto Illiquid Alternatives in 2017/18 FINAlternatives.com. Institutional allocations to alternative
investments are expected to rise sharply over the next few years, according to
the latest Global Institutional Investor Survey by Fidelity. In addition,
investors are expected to boost exposures to domestic fixed income, cash and
liquid alternatives… Survey respondents included 933 institutions in 25
countries with $21 trillion in investable assets
Momentum in the Cross-Section of Corporate Bond Returns,
Jeroen van Zundert, Robeco. Scaling
bonds, i.e. momentum signals and positions, with an ex-ante estimate of
volatility remedies this problem and reveals significant momentum effects.
Alternative Thinking: Superstar Investors, AQR. "Many famous investors are outspoken
about their investment philosophies, and carefully apply them to a select
number of securities. In this Alternative Thinking, we seek to apply their
wisdom systematically; to ask whether their philosophies applied broadly might
still generate “alpha”. Our analysis
suggests there are many ways to achieve long-run investment success. The
takeaway for investors is to identify structural edges and commit to seeing
them through inevitable periods of underperformance. As each of our
superstars shows, “merely good” edges over time may compound to great long-term
performance. [emphasis added]
SOCIETY AND CAPITAL
Get ready for 24-30% reduction in cost of wind power by 2030,
arstechnica.com
Where the manufacturers are...
Economics of Gentrification, Tim Taylor. Gentrification is
part of the ebb and flow of urban life, but all of its effects--for better or
worse--seem to have been more powerful in recent years. Indeed, a writer in the 1980s referred to the
gentrification of cities during that time as “Islands of Renewal in Seas of
Decay.” Something more powerful and sweeping is happening now.
The Taxing Problem Due to an Aging Population, Stanford
Center
Addressing Longevity Heterogeneity in Pension Scheme Designand Reform, Ayuso, Univ of Barcelona . Heterogeneity of longevity across
socioeconomic factors such as gender, race, education, geographic location, and
civil status is highly correlated with income, which forms the basis for
contributions and savings efforts that in turn give rise to disbursement in the
form of pensions. Since heterogeneity of longevity is positively linked to income across individuals’ lifecycle, major
implicit taxes result for lower income groups as do subsidies for higher-income
groups if a unique average life
expectancy or similar measure is applied when calculating
the value of individuals’ lifetime benefit (annuity) at retirement.
[comment: maybe a little opaque but the
policy implications are important and growing more important every day]
Pension Profile Preferences: The Influence of Trust andExpected Expenses, Carin van der Cruijsen De Nederlandsche Bank. Our regressions reveal that workers who
expect declining expenses during retirement are more likely to opt for a
high/low annuity-based pension and/or a lump sum payment at retirement than
workers who expect stable expenses. Furthermore, we find that workers and
pensioners who do not trust their pension fund are more likely to prefer a lump
sum over annuity-based arrangements than workers and pensioners with a high
degree of trust.
Demographic Trends for the 50-and-Older Work Force,
Mislinski, Advisor Perspectives. It
might seem intuitive that the participation rate for the older workers would
have declined the fastest. But exactly the opposite has been the case.
Financing the Climate-Change Transition, Europeans on moneyand climate… Government funding alone
cannot meet this demand, so the financial sector must help fill the gap. By
redirecting capital flows toward proactive efforts to mitigate and adapt to
climate change, financial institutions can protect client assets from global
climate risks, and from the economic risks that will attend a warming planet.
They are also demonstrating their social responsibility for the wellbeing of
future generations.
[Comment: whether one fears or welcomes people like this, either way you gotta know how
they are thinking]
Should Government Regulation End Indexing As We Know It?
TheCapitalSpectator. An op-ed in The New
York Times today lays out the case for imposing new restrictions on how index
funds operate. The rationale, according to the authors, is to prevent the
reduction in competition in industries that is a direct consequence of
indexing. If the proposal is implemented as outlined, the indexing strategy for
equity investing that’s widely practiced could be headed for extinction.
[Comment: Really?!]
How Does Terrorism Affect Trade? St.
Louis Fed. Among
other effects, such threats reduce investments in affected nations and impact
both capital formation and employment. To gain international attention to their
activities, terrorists often disproportionately target tourism, transportation
or foreign direct investment (FDI). In turn, this affects a targeted nation’s
exports and imports.
Health Care Expenditure vs GDP [embedded code]
Older Americans Went Back To School During The Recession.Did It Pay Off? 538. Even when everything goes well, many older
graduates still find they must settle for stagnant or falling wages, especially
if they’re starting over in a new career.
Employment in coal. FRED Blog. It turns out these three
series are enough to show that coal mining employment has differed among
states. Employment has trended down since the start of the series (in 1990) in
both Kentucky and Pennsylvania .
But Wyoming has no such downward
trend;
Inequality Is Killing The American Dream, 538. Notably, the one break from the downward
trend came among Americans born in the late 1960s and early 1970s, who entered
their prime working years during the economic boom of the late 1990s. That
suggests that economic growth — and especially the kind of broad-based
prosperity that was a hallmark of that boom — could help improve mobility. also here
Book Review: A Theory of Accumulation and Secular Stagnation,
CFA Institute. In A Theory of
Accumulation and Secular Stagnation, industrialist and author Daniel Aronoff
intelligently looks back to the works of early 19th-century “classical growth” economist
Thomas Malthus. With an academic approach, he draws on these ideas for a
framework to better understand today’s economic conundrum. …In the end, markets
and economies are complex adaptive systems that no single model can explain
comprehensively and consistently.
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