A Short Test of the Ed Thorp-ian 2% Rule

Like a tongue seeks out those annoying imperfections in a tooth, I tend to go back to two things over and over here on the blog: 

1) the Nikkei index after 1989 as an example of a tough market that never recovers (yet), and 

2) the Ed Thorp 2% rule which -- along with simulation I've done a million times -- says 2% is pretty close (on average anyway) to a perpetual spend rate for endowments or long-dated trusts. 

On Adding a Time-Preference Discount

The idea of perpetuities is cool and all but the perpetuality, if real, would demand a certain degree of stability in government, culture, taxation, markets, law, policy, institutions, civilization, etc over very very long timeframes. Me? I'm not so sanguine on that whole set of stability assumptions these days over even short horizons. In a recent paper by Barton Waring, he limits the interval of evaluation of endowments (otherwise a type of perpetuity we might say) to 50 years. His rationale for 50 goes like this: 

In generating our forecast distributions, we’ll use 50 years as our simulation horizon, but that number is arbitrary—we felt it to be a horizon that should represent three to five “generations” of board members or trustees, and one that is also long enough to show the long term trend as time marches on towards the endowment’s hoped-for immortality.

50 is arbitrary so right there he is pitching us an ever so slight preference for the near future over infinity. And in fact in most of the consumption utility math I've ever seen there is a factor or discount for biasing us towards the present a bit. LaChance, following Yarri, presents the evaluative goal like this in continuous form:  

Eq1. Value Function from LaChance 2012

where f(t) is some combo of both longevity and time preference weighting, u(c) is a CRRA utility function, and w is "long age" which is often set up as 120 if not infinity, though here it's 100. I usually don't include the time preference because it is a small factor that can distract from some of the other points I am investigating. I always kinda thought over the long haul that maybe it should be zero. But others use it so I'll throw it in today and see how it moves at least one portfolio parameterization (4/12) of what I have done recently. Haghani (2021) says that the discount can be as high as 5% though he himself settles on 2%. Gordon Irlam, whom I trust, told me in private correspondence that it should be very small, on the order of .5% or less.   

Reprise on Advisory Rationale

From a reader (always surprised when I have a reader...)

"Curious as to why you have an advisor. What services do you think you can't or don't want to do that your advisor provides? Other than handling your divorce which was bungled anyway you seem more than capable of managing your retirement drawdown.

I'm an advisor and big fan of yours thank you for your content and contributions to our industry. I have huge problem with our industry that is focused on training salesman as opposed to actually....advisors..."