Replies to post #33946 on A.I.M. Users Bulletin Board (AIMUSERS)

[ls7550]

RE: Left/Right Tail spreadsheet

Your study shows again that Right Tail selling is king.

If the grey line deviates more often above the blue line then the grey line (growth) wins out over that period. If the two oscillate in much the same way as that last image, or the grey line spends more time below the blue line, then blue wins out.

Generally you might anticipate an overall balance of the three, for each two cases of grey winning, maybe they'll be one flat and one down cases of blue winning.

I've a Excel spreadsheet calculator http://www.jfholdings.pwp.blueyonder.co.uk/breakeven.xls that looks something like



where you plug in the risk free rate of return over the next 5 years (perhaps using a 5 year maturity treasury) and it shows how much to invest in that risk free and how much to invest in stocks (based to $5000 total funds being invested).

Currently 5 year T's yield around 2.16% and using that figure the spreadsheet shows that $4493 should be invested in 5 year T and $507 invested in stocks. In 5 years time if stocks have gained 50% then that allocation gains 15%. If stocks in 5 years time are down -50% then the allocation gains 5%.

Have a play around with the spreadsheet and generally you'll see that holding some cash with stocks is better than holding all-stocks only, excepting where stocks continually rise year after year.

5 year T rates are also relatively low at present, and more historically they have averaged around 6%. Plug 6% into the calculator and you get a figure of around 25% stocks, 75% 5 year T's being suggested.



Take your average 60/40 stock/bond allocation, and AIM the 60% stocks 50-50 and you have a 30-70 stock/bond type allocation. Such an allocation is pretty safe in that if stocks decline -50% over 5 years you still make a positive nominal gain (using 6% as the 5 year T rate its a 12% gain), if stocks gain 50% then at 6% 5 year T rate the gain is 38%. So for this 6% five year T rate example, if stocks decline -50% you make a 12% gain, if stocks rise 50% you make a 38% gain. On the left tail you avoid a large loss, on the right tail you gain 76% of the upside benefit.

Avoiding large losses whilst capturing most of the upside generally works out well over the mid to longer term whilst enjoying a more comfortable ride during the journey.