Investing - Theory, News & General • Why (or at what YTM) does it make sense to buy a 20+ year TIPS...? "Draft" Conclusion page 5

Our 1st Draft Conclusion (above) envisions two groups.

One group that would be willing to buy 20+ yr TIPS at "Any" YTM (if it meets their minimum spending needs) for SWAN purposes because they don't trust markets to repeat long-term past performance.

And a second group who would only buy Long TIPS if they are priced to compete with LT-Stock returns. (e.g. Trust historical stocks returns to continue)

But this misses a third group who uses historical Bond Yields as their buy-threshold instead of historical stock returns. They reason that they're always going to hold some fixed income anyway, so why not just lock it in now if TIPS Yields exceed a long-term historical average like 2% real. (e.g Trust historical Bond Yields to continue but Not stocks)

Framed this way, there are 3 tiers to answering the question of our thread:

By example, "I will buy 20+ Yr TIPS when YTM's...."

1- Meet my minimum spending needs; Or
2 -Compete with historical stock returns. (6% Avg, 0-3% worst case from 20 to 30 years, respectively); Or
3- Meet my minimum spending needs, AND exceed 2% average real historical bond yields (-4.3%; 7.2%)

The order of your groups is different in your descriptions and your list, so I reordered the list.

I would phrase things differently.

• For some in group #1 it might be SWAN, but that focuses on the willingness piece of Larry Swedroe's ability, willingness and need to take risk framework, which I find useful, and is consistent with the LMP/RP approach. If I were in category #1, I'd buy TIPS based on ability and need more than on willingness, prioritizing in the following order:
  1. Need: Sufficient assets that no need to take stock risk for higher expected return with the portion allocated to TIPS.
  2. Ability: Depends on wealth/need ratio.
     • If=1, no ability to take stock risk in a RP, since LMP consumes entire portfolio;
     • If >1, then ability to take stock risk in RP with portfolio less LMP;
     • If < 1, none of this applies since can't even afford LMP, so alternatives must be considered; e.g., reduce spending, increase savings, consider annuities, roll the dice on 100% stocks.
  3. Willingness: This applies to the RP for those who can afford and LMP and RP, as one can make the RP more or less risky.
• Rather than "don't trust markets to repeat long-term past performance", I'd say "don't believe that there is sufficient historical data to make statistically significant estimates of stock expected returns and variances."
• RE group #3, this is an interesting point: "Trust historical Bond Yields to continue but Not stocks". Consider the ramifications of "trusting" historical bond returns vs trusting historical stock returns.
  • Say I build my LMP ladder at 2% yields, then yields increase to 4%. I paid more for the ladder than I could have, but I'm still meeting my needs.
  • Conversely, say that I go 100% stocks for 20+ year investment horizons, and stocks have negative real returns over that horizon; I don't have enough to meet my needs.

IMHO, Whether we’re focusing on Need, Willingness or Ability, at the core we’re really talking about our “belief” about whether an index of stocks held for 20+ years is risky.

I look at McQ’s 20-30 year rolling returns chart and say, that’s a very long time to have 0-3% returns respectively as worst case scenarios.

Whereas you may look at the same chart and say, that’s insufficient data to establish a statistically significant conclusion.

I look at the last 100+ years of relentless growth in Earnings history and say, as long as humans keep trying to advance, that’s gonna continue. And while interruptions will continue to happen along the way, and P/E’s will continue to create massive volatility, eventually stock returns are going to reflect the underlying Earnings Growth and increase.

Whereas you might point to Japan and say it can take more than 20 years, I say investing in a single country with a PE at 70, is very different than holding a Globally diversified index of companies.

Independent of how we frame it, The decision of this thread ultimately hinges on where you land on the above.

If you believe it’s a house of cards, buy 20 to 30+ year TIPs at the best price you can. (2% historical long term real bond yields seem like a good hurdle since probably always going to own bonds of some kind, anyway)

However if you believe a global index of companies is ultimately going to profitability grow, like it has so far, don’t settle for anything less at durations exceeding 20 years.

Now my only caveat to this is if we get 3 or 4% YTMs for 20 year TIPS one day, that might warrant a fresh look.

But as was the case around 2008, Stock valuations might also look pretty attractive at a moment like that.

Statistics: Posted by CraigTester — Sat Jun 15, 2024 5:55 am — Replies 231 — Views 15347

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