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Re: PraveenP post# 228

Saturday, 08/17/2013 5:03:20 AM

Saturday, August 17, 2013 5:03:20 AM

Post# of 289
Hi Praveen

in 2008...I looked it up and treasury bonds were up 29%


For reference, I used yahoo data http://uk.finance.yahoo.com/q/hp?s=TLT&b=31&a=11&c=2007&e=31&d=11&f=2008&g=m that indicates a total return (adjusted close) change of 34% for TLT over 2008.

If you dig through Bridgewater's All Weather paper http://sdcera.granicus.com/MetaViewer.php?view_id=4&clip_id=75&meta_id=9141 you'll see that their 'SAFE' portfolio asset allocation is comprised of ; Gold 10%, T-Bills 30%, IL Bonds 40%, T-Bonds 20%.

...Our research on depressionary environments and their impact on asset class returns led to the design of what we call the Safe Portfolio.” Designed to preserve capital in a depression environment, the Safe portfolio is the portfolio that we believe is best able to maintain its buying power regardless of what happens—it is the portfolio we designed to be essentially immune to credit risks, deflations, inflations, depressions and booms.
...
Most importantly, the Safe portfolio is designed to preserve wealth even during a financial and economic meltdown (as distinct from T-bills, which can have significantly negative real returns). To best meet that objective, we want to reduce market risk, minimize credit risk, minimize counter-party risk, eliminate leverage, and be neutral to inflation and deflation. The Safe portfolio is comprised of a balanced mix of hedged global government nominal bonds, hedged global government inflation-indexed bonds, government bills, and gold. In a deflationary outcome, government nominal bonds and bills will do well. If the outcome is inflationary, we expect that inflation-indexed bonds will do well as actual inflation would be passed through, and that gold will provide protection in the event of a broad devaluation in paper currency.


Long dated TIPS will typically see their price rise as real yields decline (or move more negative), price decline as real yields move more positive. Gold is somewhat like a undated zero coupon TIPS



If inflation soars above nominal yields, long dated TIPS and gold will likely rise substantially. For instance a 30 year TIPS that moves from being a 0% real to a -5% real yield the price might five-fold increase. As such a little gold in a portfolio can provide a high/hyper-inflation risk hedge. Typically funds that strive to match or modestly exceed inflation, such as the ETF 'CPI' (provided by IQ) will hold around 10% of total assets in gold http://etfdb.com/etf/CPI/holdings/

If you swap Bridgewater's SAFE portfolio's 20% allocation to T-Bonds for stocks, you end up with 10% gold, 20% stocks and the rest split between T-Bills and inflation bills. Which is quite close to CPI-IQ's recent asset allocation.

When you hold relatively little stock exposure, you can afford to take on more spicier stocks. Small Cap Value for instance are indicated by Kenneth French to have provided a 8% real reward since the mid 1920's compared to 6% real for the wider stock market. 20% average exposure to a 8% real reward = 1.6% average real benefit relative to the total portfolio amount. With some zigzag trading across gold, volatile stocks and 'bonds' (bills), that portfolio 1.6% amount might be uplifted more towards a 2% real total portfolio reward.

For investors that have accumulated enough that they are more concerned about the return of their money than the return on their money, the likes of CPI or Bridgewater's SAFE might be a reasonable choice. Whilst 100% TIPS may seem a viable candidate, there are risks with that - taxation for instance might make a big difference between mathematical and actual outcomes (10% inflation, 10% TIPS yield, 30% tax = -3% real). Then there's also the overheads - for instance IQ charge nearly a 0.5% expense to manage their CPI ETF.

There's no one single safe asset, stocks for instance provided poor results from 1900 to 1919 primarily due to low nominal yields, high/spike in inflation (1917 inflation was nearly 20% whilst T-Bond yields were down at sub 4% levels). For a investor who perhaps had around half their total wealth in their home and who would be content with perhaps a 2% real reward against their total wealth (or 4% against the 50% of their liquid wealth), something like 20% of that liquid wealth in gold combined with 40% in stocks (rest in inflation/conventional T Bills) might provide that security/reward. Similarly for someone who didn't own their own home and had accumulated more in liquid asset wealth, a 10% gold, 20% stock, rest in T-Bills and inflation-bills might equally suffice.

As yet another variation of this theme, since 1972 a yearly rebalanced portfolio comprised of 10% gold, 10% BRK-A, 10% Small Cap Value and the rest (70%) in 2 year Treasury yielded broadly similar total gains to that of a typical 60-40 stock/bond asset allocation (Coffee House Portfolio), but did so with significantly less risk (portfolio volatility). Something like a 5.4% annualised real with 5.9% standard deviation compared to 5.9% annualised with 11.2% standard deviation for the Coffee House Portfolio. From 1972 up to 2008 that portfolio didn't have one instance of a negative year. 2008 broke that by enduring a -1.2% down year, however 2007 had provided a near +11% reward, so 2008 was not particularly painful.

Regards. Clive.

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