Accumulation and the Retirement Trainer

I couldn’t help myself. My new Type 2 Bull Bear Retirement Trainer is fun. It is realistic. I couldn’t wait. I had to look at accumulation NOW.

Great Fun with the Improved Retirement Trainer
Improving the Retirement Trainer
Retirement Trainer Overview

Runs 4 and 6

This time, I looked at Runs 4 and 6. I could not include Run 5. I failed to copy the random sequence of returns which defined Run 5.

Runs 4 and 6, I start at today’s valuations, P/E10=27.3, and today’s TIPS interest rate, 2.2%. They assume that we are in a long lasting (secular) Bear Market.

Run 4 is plausible. It is useful for training. P/E10 remains at 11.9 or above. There is a follow on Bull Market. P/E10 reaches 27.0 at the beginning of Year 25.

Run 6 is unusual. It is useful for training. It includes a future Super Bubble. P/E10 peaks at 44.8 in Year 5. Following the Super Bubble, valuations fall quickly. P/E10 falls below 10 at Year 12. The bottom occurs in Year 19. P/E10 falls to 6.4, which is consistent with historically typical lows. The market is rising in Year 30 with P/E10=20.6.

The Accumulation Stage

In my earlier studies, I had found that it generally makes sense to dollar cost average into a 100% stock portfolio during accumulation. However, it can make sense to invest entirely into TIPS for 10 to 20 years when starting from today’s valuations. In addition, it can make sense to start shifting some funds into TIPS when you get within 10 years of your retirement date. In essence, it makes sense to vary allocations when you have the most money. A downward stock fluctuation can be devastating.

The Type 2 Bull Bear Retirement Trainer allows you to look at accumulation by entering negative withdrawal amounts. A negative withdrawal is exactly the same as a deposit.

I started with a portfolio balance of $100000. I deposited $5000 annually for 20 years. More precisely, I “withdrew” a negative $5000 each year. I made no further withdrawals (or deposits) after that.

I used the Bear Market calculator. P/E10=15 is required to bring the Year 10 Most Likely return up to 2.08% in a Bear Market. This is comparable to the TIPS interest rate of 2.2%.

I allowed myself to shift allocations into and out of stocks.

Individual Runs

Run 4

I started with $100000. I “withdrew” a negative $5000 each year.

My first time through, I started with a 0% stock allocation, but I generally tried to keep a minimum allocation of 20%. I transferred $100000 into stocks in Year 5 as soon as P/E10 fell below 15.0. That is, I “withdrew” a negative $100000 “from” stocks. I made several shifts of $100000 (both ways) and later $50000. I ended up with a final balance of $623015 at Year 30.

My second time through, I stuck with all stocks, all the time. I ended up with a final balance of $968818.

My third time through, I stuck with all stocks for the first 20 years. Then I tried to maintain a 20% TIPS allocation. I made a $100000 transfer from stocks in Year 20 and two $50000 transfers from stocks in Years 24 and 25. I ended up with a final balance of $912773.

My fourth time through, I invested heavily into stocks whenever P/E10 fell below 20. I consistently invested $5000 into stocks throughout the first 20 years. I invested $50000, $50000 and $20000 into stocks in Years 4, 5 and 6. That left me with less than $10000 in TIPS. I transferred $100000 out of stocks in Years 18 and 20-25. I put $100000 back into stocks at Year 27. I withdrew $100000 in Years 28 and 29. This left me with less than $100000 in stocks. My final balance in Year 30 was $1020395.

My fifth time through, I invested heavily into stocks whenever P/E10 fell below 15. I maintained a minimum stock allocation close to 20%. I started with a $20000 stock allocation. I added no stocks through Year 4. From Years 5 through 10, when P/E10 fell below 15.0, I invested $20000 into stocks each year. I deposited $20000 into stocks in Years 11 and 14 as well. In Years 18 and 20-23, when P/E10 exceeded 20, I was able to transfer $100000 into TIPS. I stopped making transfers when the stock allocation was down to 20% (approximately). My final balance in Year 30 was $850841.

Run 6

I started with $100000. I “withdrew” a negative $5000 each year.

My first time through, I stuck with all stocks, all the time. I ended up with a final balance of $1036014.

My second time through, I invested heavily into stocks whenever P/E10 fell below 20. I transferred $100000, $50000 and $40000 in Years 10, 11 and 12 as soon as P/E10 fell below 20.0. P/E10 happened to fall all the way to 13.0. I ended up with a final balance of $1424680.

I tried to do the same thing on my third time through, but with a more careful allocation shift. It made little difference. I transferred $50000 into stocks in Years 10, 11, 12 and 13. I ended up with a final balance of $1491316.

My fourth time through, I invested into stocks whenever P/E10 fell below 15.0. I invested heavily whenever P/E10 fell below 10.0. I transferred $50000 into stocks in Years 10 and 11. I transferred $100000 into stocks in Year 12. At that time, my TIPS allocation was less than $1000. I made no further transfers. I ended up with a final balance of $1531987.

My fifth time through, I invested heavily into stocks whenever P/E10 fell below 15. I maintained a minimum stock allocation close to 20%. I started with a $20000 stock allocation. I added no stocks until Year 10. I transferred $50000 each year in Years 10 through 12 and $20000 in Year 13. After that, my TIPS allocation was just above $10000. Then I put my $5000 annual deposits into stocks (through Year 19). My final balance in Year 30 was $1407412.

Hidden Stories

The hidden story about Run 6 is that it ended with a dramatic upturn. The market rose 35% between the beginning of Years 29 and 30.

The not so hidden story about Run 4 is that there was very little penalty for transferring money out of stocks and into TIPS around Year 20. In fact, I added to the Year 30 balance by making heavy transfers out of stocks whenever P/E10 exceeded 20.0.

In Run 4, when I put everything into stocks, the balance fell below $100000 in Years 4, 5 and 6. In Run 6, the balances were below $120000 in Years 11 and 12. The balance was below $130000 in Year 17.

Perspective

I learned once again that investing entirely into stocks can make sense when you are starting out and have very little money. You can do even better by paying attention to prices.

By Year 20, when you already have a large balance, it makes a lot of sense to cut back on stocks in times of high valuations, especially when P/E10 exceeds 20.0. The big advantage is reduced volatility. In Run 4, this produced the highest return at the beginning of Year 30. It was in a very close second place to a 100% stock portfolio at Year 29. A downward fluctuation caused the all-stock portfolio to fall while the safer portfolio grew.

Have fun.

John Walter Russell
September 6, 2006