Investing - Theory, News & General • Index Investing Basics - Revsited

Ug, just spend an HOUR on a response, then lost it when I had to re-login.

I hate it when that happens. It's made me a bit OCD about going ctrl+a ctrl+c periodically and before clicking one of the buttons lol.

So, a lot of what you describe is basic index investing concepts. Again, I've been an index investor for decades so I know what mutual funds are and I understand why its better to hold many stocks rather than put all your eggs in one basket and why this is a good way to lower risk while keeping average gains high.

Yup! Index investing basics, revisited.

Likewise, you, of course, understand what I mean about bonds being used to address the risk of volatility, but at the cost of greater long term returns. Again, this is basic index investing.

Potentially at the cost of greater long term returns.

I know it seems like always eventually after long enough, but... no guarantees...

If I understand you correctly, you're saying that investing in bonds is also a way to lower risk by covering less likely outcomes in a portfolio. (I said this way better in my first draft, lol). So simply owning bonds is somehow a part of diversification at least in terms of representing what I believe you refer to as lower end outcomes.

Yes, it's not putting all your eggs in the stocks basket.

But you seem to saying that bonds are a necessary part of a well diversified portfolio based on something other than the proportion to which they represent the stock and bond market.

Yes. If you invested in stocks and bonds in proportion to their share of the capitalization of the combined stock/bond markets (either US or globally) currently, you'd be ~50/50.

So, what percentage of one's portfolio should be bonds based on reasons that have nothing to do with controlling volatility? I'm curious how you would go about determining that percentage for practical purposes, but I'll settle for you just telling me what it is. And if it's a range rather than a set value, then how are you determining that range?

You're going to hate me. I have, against my will (with much kicking and screaming), become one of those people who will now tell you that there is no set value, range, or formula and it is about "balancing your personal need, ability, and willingness to take risk".

Ugh. I can't believe I just typed that. I feel dirty.

For example (to try to brush off the sludge of "how much more vague can you be?!"):

A previous poster told you that one possible measure for the wealthy in determining if 100% equities could work for them is if they could lose 70% of their portfolio value and still succeed (i.e. have enough) with the 30% that remains (even if the lost 70% of former portfolio value never ever comes back while they are alive and spending money). That's ability to take risk. It increases the larger the size of your portfolio vs. your actual need.

What's tricky is when the need to take risk is greater than the ability to do so. The problem there is that the higher the rate of return you need to succeed (i.e. have enough), the less ability you have to take the risk necessary to potentially achieve that return. If returns go the bad way (instead of the good way), you fail.

Willingness to take risk is often conflated with "risk tolerance", and that is the ability to psychologically tolerate short-term volatility without making behavioral errors (which tend to hurt returns, especially the more of them you make).

If your need to take risk is less than your ability to do so, you win. You just pick a spot on the scale between need and ability that you're comfortable with and that's that.

If your need to take risk is greater than your ability to do so, you just try not to take any more risk than you absolutely have to.

Stocks are riskier than bonds, because their future returns are more unknown / less certain, not just in the short term (volatility) but in the long term as well. Stocks don't have to return more than bonds over our individual long runs just because they have so far for the last 100 years or so in the US and because we want them to.

Statistics: Posted by Beensabu — Wed Mar 13, 2024 9:12 pm — Replies 58 — Views 2492

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