Edited: Switching Allocations with Large Cap Value
I started by collecting a baseline with fixed stock allocations of 0%, 30%, 50%, 70% and 100%.
Later, I took a brief survey. I varied the stock allocation depending upon P/E10.
The Calculator
This uses the Gummy 02B revision 1 version of my Deluxe Calculator V1.1A08..
Gummy’s (Peter Ponzo’s) Database
Conditions
I set the starting balance at $100000. I set expenses to 0.20%. I varied the withdrawal rate. I used the CPI for inflation. I examined 30-year sequences starting in 1928-1980. There are 53 sequences. Stock allocations consisted of Large Cap Value. The non-stock allocation consisted of commercial paper. I left the beginning and end of year withdrawal allocations at 50%, the default setting.
I started by collecting a baseline with fixed stock allocations of 0%, 30%, 50%, 70% and 100%.
Later, I took a brief survey. I varied the stock allocation depending upon P/E10. When P/E10 was below the lower threshold (which varied), the stock allocation was 100%. When P/E10 was between the two thresholds, I used an intermediate allocation of 30% or 50% or 70% as indicated. When P/E10 exceeded the upper threshold, which I set at 21, the stock allocation was 0%.
The best intermediate stock allocation (when there was only one intermediate allocation) from a previous survey using commercial paper was 30%. The best P/E10 thresholds were 12 and 21.
Procedure
I increased the withdrawal rate in increments of 0.1%. I recorded the highest rate at which all portfolios from 30-year sequences beginning in 1928-1980 survived. I have listed those rates as HSWR.
I continued increasing withdrawal rates in increments of 0.1%. I recorded the lowest withdrawal rate at which 1 or more, 5 or more and 10 or more portfolios failed.
This method allows me to survey a large number of conditions rapidly. By including data with 5 and 10 failures, I am able to spot difficulties associated with probability distributions.
Results
This was a brief survey. This was not a full optimization. This did not include a full sensitivity study.
Baselines
Calculator data:
1928-2000, 30-year sequences from 1928-1980, $100000 initial balance, 0.20% expenses.
Calculator settings:
Fixed allocations. No switching, but with annual rebalancing.
Stock Allocations: 0%, 30%, 50%, 70%, 100%.
Stock Allocation = 0%. That is, 100% commercial paper.
30-year Failures in 1928-1980:
HSWR: 2.3
First failure: 2.4
Five failures: 2.5
Ten failures: 2.6
Stock Allocation = 30%
30-year Failures in 1928-1980:
HSWR: 4.0
First failure: 4.1 in year 1936
Five failures: 4.5 in years 1930, 1934, 1936-1937, 1939
Ten failures: 4.9
Stock Allocation = 50%
30-year Failures in 1928-1980:
HSWR: 4.6
First failure: 4.7 in year 1930
Five failures: 5.3 in years 1928-1930, 1937, 1969
Ten failures: 5.9
Stock Allocation = 70%
30-year Failures in 1928-1980:
HSWR: 4.2
First failure: 4.4 in year 1929-1930
Five failures: 5.6 in years 1928-1930, 1937, 1969
Ten failures: 6.7
Stock Allocation = 100%
30-year Failures in 1928-1980:
HSWR: 2.9
First failure: 3.0 in year 1929-1930
Five failures: 5.6 in years 1928-1931, 1969
Ten failures: 7.3
The Survey of Thresholds and Allocations
Calculator data:
1928-2000, 30-year sequences from 1928-1980, $100000 initial balance, 0.20% expenses.
Calculator settings:
P/E10 thresholds: varies-21-24-80.
Allocations: 100-varies-0-0-0.
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Additional conditions with an intermediate stock allocation of 70%.
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Comparisons
These are the best results with a fixed allocation.
Stock Allocation = 50%
30-year Failures in 1928-1980:
HSWR: 4.6
First failure: 4.7 in year 1930
Five failures: 5.3 in years 1928-1930, 1937, 1969
Ten failures: 5.9
These are the best results with switching.
P/E10 threshold = 12 or 13 and Allocation = 70%
30-year Failures in 1928-1980:
HSWR: 6.8
First failure: 6.9
Five failures: 7.5
Ten failures: 7.8
Summary
Large Cap Value stocks have much higher Historical Survival Withdrawal Rates than the S&P500 index.
P/E10 is a useful indicator for portfolios with Large Cap Value as well as for those that have the S&P500 index.
Switching stock allocations in accordance with the P/E10 of the S&P500 index benefits Large Cap Value portfolios.
With an allocation of 70% stocks, a withdrawal rate of 6.5% produced zero failures for all conditions tested. That is, when the lower P/E10 threshold was 9, 10, 11, 12, 13, 14, 15 or 16.
Caution: I have not made any adjustments for today’s valuations. The actual improvement starting with today’s valuations are likely to be less. You can still estimate relative performance when compared to the S&P500 index.
Have fun.
John Walter Russell
From February 1, 2005