Hi Guys,
Paul Merriman is predictable with his workmanlike analyses of the marketplace. The current article is no exception.
The red meat in the article is the reference he makes to his “fine-tuning table”. The table provides equity/bond mix returns data starting in 1970. The second part of his table shows several summary Bear market drawdown measures to help assess market risk.
Here is a direct Link to this useful data presentation:
http://paulmerriman.com/fine-tuning-asset-allocation-2015/
The Merriman tables are very comprehensive. They even degrade annual returns by subtracting an assumed 1% management fee. However, I find one major shortcoming in the presentations that is easily rectified.
The summary data shows annual returns and standard deviations, but does not include Compound (geometric) returns. Compound Annual Growth Rate (CAGR) measures actual integrated investment returns over the long haul.
Volatility (standard deviation) subtracts from average annual returns in terms of determining end wealth. Given equal average annual returns, the portfolio that accomplishes this with lower volatility rewards the portfolio holder with a higher end wealth.
If annual returns and standard deviations are accessible, it is an easy task to calculate CAGR. Here is the equation:
CAGR + 1 equals the square root of the entire two terms (1 + AR) squared minus SD squared.
The AR is the average annual return and the SD is the annual standard deviation. The Merriman data presentation permits the calculation to be made.
If you don’t like using the full 45 years of data incorporated into the Merriman summary stats, the tables are sufficiently complete that a user can select his favored timeframe, and do his own summary statistics.
I calculated the CAGR for the Merriman equity/bond mix tables. Not surprisingly, the portfolio CAGR end wealth rewards are not quite so bushytailed, but they still monotonically increase as the equity percentage increases. The Wall Street axiom that ties reward and risk together remains intact.
The simple equation that couples the more pertinent CAGR to annual returns and its standard deviation is a useful addition to your toolkit. I hope you are or become familiar with it. It will make you a better informed investor and/or better able to challenge your financial advisor.
Best Wishes.

So he's in the same neighborhood as Bill Gross ($2.3 billion in 2015 from Forbes). I'm not a huge fan of Bill Gross, but he co-founded PIMCO, ran a fund with 10 times as much money in it than Baron has in his entire firm and was widely touted as the best bond investor of his time. @BobC has a very good point about those expense ratios!

@Old_Joe @Junkster - Aw, shucks.
@Dex - regarding the IRR (rate of return). From one perspective (especially on the insurer's side), the calculation is a lot more complicated, because the payout is not for a fixed term of years, but a life expectancy. This involves actuarial tables, probabilities, analysis of customer base (purchasers will self-select for longer lifetimes), etc.
From your perspective, perhaps the calculation is simpler - you know your health, and are much more able to treat the annuity as a fixed term of years, even if this is just an approximation.
In that case, the formula is relatively simple (but there's no closed form to compute the solution, i.e. IRR; a computer can calculate it by iterative approximation).
Let M be the number of years until payments start, and N the number of years of payments. Here, M is 15 (buy at age 70, start payments at age 85). Pick your own number for N.
By definition, the present value is the purchase price PP ($125K), and what you're interested in is the rate of return. You've got the right idea ... the value at year M (when payments start) is
PP * (1+r)^M = $125K * (1+r) ^ 15.
There's a standard formula for the value (price) of an annuity with N payments of $C ($55K). You can find it in a pretty nice paper here. It is:
PV (present value at start of payments) = C/r * [1 - 1/(1+r)^N] = $55K/r * [1 - 1/(1+r)^N
So we set these two expressions, representing the value of the annuity at the time payments start, equal to each other, and solve.
$125K * (1+r) ^15 = $55K/r * [1 - 1/(1+r)^N] or
$125K * (1+r) ^15 - $55K/r * [1 - 1/(1+r)^N] = 0
(In case it matters, you can see this is a polynomial equation by multiplying both sides by (1+r)^N and by r to clear the fractions.)
So now you're left with an algebra problem in the form: f(r) = 0.
You want to find the real root of this equation with r somewhere between 0% and 20%.
There are various mathematical packages that will do this for you, e.g. Matlab's fzero function. If one is into programming, there are simple iterative methods to find roots, e.g. bisection and Newton's method. See, e.g. http://www.math.niu.edu/~dattab/MATH435.2013/ROOT_FINDING.pdf
Or you could look for online solvers. A quick search for online bisection method calculator turned up http://keisan.casio.com/exec/system/1222999061
(Bisection is slower, but you don't need to provide the derivative of your function as you would for Newton's method.)
I tried this calculator for N=10 (payments to age 95) and came up with 7.61% rate.
With N = 5 (payments to age 90), the return is 4.49%.
(Use ^ for exponent and * for multiplication, as I did above. Also use a range between 0.01 and 0.2 - to avoid dividing by zero - see the $55K/r in the expression above. Finally, replace r in my expression with x for this calculator.)

@MFO Members: Looks like BobC, Bee, and Sven won't be flying with the "Red Baron" today !

Thanks Ted,
I'd argue that bonds are like the fuel in the tank and the oil in the engine. The liquidity that keeps the economic machine from seizing up and keeps the cylinders firing. Without bonds the economic system would come to a halt.
Interesting quotes from Article:
"I have spent years studying this table, which I update annually. For readers who like numbers, here are a few things I've learned:
Adding 10 percentage points of equities (and subtracting 10 points of bonds) adds about 0.55% to the long-term return.
Each additional 10 percentage points of equities increases a portfolio's volatility by 10% to 20%.
Each additional 10 percentage points of stock exposure increases losses by 4% to 6%.
Finally, a few notes about this particular 45-year period of market history.
This was a tough period for bonds, including sharp increases and prolonged, deep decreases in interest rates. In the early 1980s, interest rates were so high that banks were offering 16.5% on 2.5-year certificates of deposit. Many conservative investors thought they would never need to own stocks again. Wrong!
During this period, investors in the 100% diversified equity portfolio experienced 15 consecutive years (1975-1989) of positive returns and a 25-year period (1975-1999) with only one losing calendar year (1990)."

@Bee, Primecap funds have very reasonable ERs whereas Baron charges additional 0.25% 12-b-1 fee. I think there are better alternatives out there.

Comparing Baron's midcap growth funds (of which there are many flavors)

to POAGX, based on both performance and expense, I'll stick with POAGX.

Mr. Baron needs to take a good look at his funds' expenses. They are not outrageous, but they are higher than they should be given the company's assets and the low turnover ratio in the funds. 1.30% for $5.3 billion BSCFX, compared to 0.15% for a small cap index fund?

FYI: Bonds aren't particularly sexy investments, and many people shun them because of the fear of rising interest rates.
Regards,
Ted
http://www.marketwatch.com/story/how-much-of-your-retirement-portfolio-belongs-in-bonds-2015-06-17/print

For a true cash alternative, you can go with something like an internet only bank, such as:
https://www.synchronybank.com/banking/index.htm
It pays 1.05% for a savings account, and currently 2.25% on a 5-year CD.
Not great, but it beats getting paid 0% interest keeping that cash in a brokerage acct.
If rates go up significantly, you can get out of the CD by paying 180 days' worth of interest as a penalty, just on the amount taken out of the CD. (You could put that money in a higher rate CD if rates went up sig).
As far as a "near cash alternative", some people might incline towards short term high quality bond funds....

Re JohnChisum's "I have been eyeing multi-asset income funds for near cash investing ... The TRowe Price Spectrum Fund. RPSIX, falls into this category as well."
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I don't know what type of risk profile ron (original poster) is looking for in his cash alternative. Possibly, RPSIX would fit the bill. I love the fund. In fact, it's grown to be my largest single holding.
But, just to put things here into perspective, let's take a closer look at RPSIX. It's hard for me to see how a fund with the following risk characteristics could in any way shape or form be considered an acceptable substitute for cash - or even "near cash" for that matter.
Per Price's most recent fund Prospectus, Spectrum Income may invest in the following assets (among others) up to the allowable percentages listed.
Emerging Market Bonds ......... 30%
High Yield Debt (junk bonds)... 25%
Stocks ..................................... 25%
International Bonds ................. 20%
Long Term Treasury Bonds .....15%
Now, compare that to Price's Prime Reserve money market fund which invests only in debt rated AA or higher and typically limits average maturity to 90 days or less. Compare the two - RPSIX and the money market fund. Notice the difference in risk profiles.
Don't just take my word for it. Here's what T. Rowe Price says in their own words about the risks of investing in the Spectrum Income Fund (from the fund's Prospectus):
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"Principal Risks ...
"Asset allocation risk The fund’s risks will directly correspond to the risks of the underlying funds in which it invests. By investing in many underlying funds, the fund has partial exposure to the risks of many different areas of the market .....
"Interest rate risk A rise in interest rates could cause the price of a bond fund in which the fund invests to fall. Generally, securities with longer maturities and funds with longer weighted average maturities carry greater interest rate risk.
"Credit risk An issuer of a debt security held by an underlying bond fund could be downgraded or default, thereby negatively affecting the fund’s price or yield. The fund is exposed to greater credit risk to the extent it invests in underlying funds that hold high yield bonds. Issuers of high yield bonds are usually not as strong financially and the securities they issue carry a higher risk of default and should be considered speculative.
"Liquidity risk This is the risk that the fund may not be able to sell a holding in a timely manner at a desired price.
"International investing risk Investing in the securities of non-U.S. issuers involves special risks not typically associated with investing in U.S. issuers. International securities tend to be more volatile and less liquid than investments in U.S. securities and may lose value because of adverse political, social, or economic developments overseas, or due to changes in the exchange rates between foreign currencies and the U.S. dollar. In addition, international investments are subject to settlement practices and regulatory and financial reporting standards that differ from those of the U.S.
"Emerging markets risk The risks of international investing are heightened for securities of issuers in emerging market countries. Emerging market countries tend to have economic structures that are less diverse and mature, and political systems that are less stable, than those of developed countries. In addition to all of the risks of investing in international developed markets, emerging markets are more susceptible to governmental interference, local taxes being imposed on international investments, restrictions on gaining access to sales proceeds, and less liquid and less efficient trading markets.
"Dividend-paying stock risk To the extent the fund invests in an underlying fund that focuses on stocks, it is exposed to greater volatility and the risk of stock market declines that could cause the fund to underperform bond funds with similar objectives. Stocks of established companies paying high dividends may not participate in a broad market advance to the same degree as most other stocks, and a sharp rise in interest rates could cause a company to reduce or eliminate its dividend."
Link to Prospectus: http://individual.troweprice.com/staticFiles/gcFiles/pdf/trspi.pdf
(See pages 7-12 for referenced/excerpted content.)

Dex, you are spot-on and I have been doing similar calculations. But I am also trying to factor in that the $125,000 is RMD free. But regardless, if I live to 95 that is $550,000 (actually $425,000 after factoring in the $125,000) I have received from the annuity. It may just be better to grow the $125,000 at 70 instead of letting it do nothing until I am 85. Then again, the way I look at it, instead of worrying about the next 20 or 25 years or longer when I am 70, all I have to worry about is the next 15. Probably no right or wrong answer but a personal choice.

One thing to consider is as you age will you be able to handle your finances? I'm not talking about Alzheimer or similar but just mental decline. From that aspect the annuity could be helpful. I have some nephews I can turn my fiances over to.
As I mentioned before I think my small pension and SS does give me some peace of mind.

Wonder what it would cost to also buy a 15 year term insurance policy that would payout $125K to guarantee against loss of principal of the annuity?
So from age 70-85 your term life policy covers the costs of the annuity in case of "early departure". At age 85 the annuity kicks in.

I have always been against annuities. The first link explains why you should never buy an annuity. But the second link about the new rule where you can purchase up to $125,000 of a deferred annuity with IRA money that won't go against your RMD sounds compelling to me. Playing around with an annuity calculator, I see that at age 70 a 15 year $125,000 deferred annuity pays out some $4600 monthly (over $55,000 annually) beginning when I am 85.

I really like to see the math of that and then look at alternative investments.
In 15 years 125,000 will double to 250K at 4.8%/year
rule of 72
72
15 years
4.8 %
So the question is - what is the % the 125 is growing at and how much of the 55 is return of principal so we can calculate the annual return.

Dex, you are spot-on and I have been doing similar calculations. But I am also trying to factor in that the $125,000 is RMD free. But regardless, if I live to 95 that is $550,000 (actually $425,000 after factoring in the $125,000) I have received from the annuity. It may just be better to grow the $125,000 at 70 instead of letting it do nothing until I am 85. Then again, the way I look at it, instead of worrying about the next 20 or 25 years or longer when I am 70, all I have to worry about is the next 15. Probably no right or wrong answer but a personal choice.

I have always been against annuities. The first link explains why you should never buy an annuity. But the second link about the new rule where you can purchase up to $125,000 of a deferred annuity with IRA money that won't go against your RMD sounds compelling to me. Playing around with an annuity calculator, I see that at age 70 a 15 year $125,000 deferred annuity pays out some $4600 monthly (over $55,000 annually) beginning when I am 85.

I really like to see the math of that and then look at alternative investments.
In 15 years 125,000 will double to 250K at 4.8%/year
rule of 72
72
15 years
4.8 %
So the question is - what is the % the 125 is growing at and how much of the 55 is return of principal so we can calculate the annual return.
When I looked at annuities they didn't compare favorably with junk bond funds.

I have always been against annuities. The first link explains why you should never buy an annuity. But the second link about the new rule where you can purchase up to $125,000 of a deferred annuity with IRA money that won't go against your RMD sounds compelling to me. Playing around with an annuity calculator, I see that at age 70 a 15 year $125,000 deferred annuity pays out some $4600 monthly (over $55,000 annually) beginning when I am 85. Yes, I know many/most of us males, including me, may never make it to 85 or much beyond, but it still sounds compelling. Instead of worrying about the next 25 to 30 years and outliving our nest egg, I would think this would narrow our focus to only the next 15 years (before the annuity kicks in) and doing the right things financially in our investments. What am I missing here? I will say, were I to ever purchase an annuity it would ONLY be through New York Life.
http://www.forbes.com/sites/davidmarotta/2012/08/27/the-false-promises-of-annuities-and-annuity-calculators/
http://taxvox.taxpolicycenter.org/2014/08/01/new-way-invest-old-age-many-will-buy/

Included is a video. Baron says the rate hikes are already priced in to the markets. One of the more sensible managers out there.
http://www.cnbc.com/id/102765850

Sometimes it take some encouragement to get seniors to spend. This list is a bit long, but I like getting a 10% raise at my age.
Dunkin Donuts gives free coffee to people over 55 . If you're paying for a cup every day, you might want to start getting it for FREE. YOU must ASK for your discount !
Other discounts for seniors as young as 50 years young:
List 1
List 2
List 3
List 4
NOW, go out there and claim your discounts - - and remember -- YOU must ASK for discount ---- no ask, no discount.

It will therefore be interesting to see how DSENX does, especially to someone who now has 35-40% of the total retirement nut in it.

Hi Guys,
Returns are intimately tied to when you leave the investment starting gate. Nobody can consistently predict returns for the next few years. Both GMO and John Hussman have launched signals warning that the Shiller cyclically adjusted price-to-earnings (CAPE) ratio is uncomfortably high. They imply the likelihood of a near-term downturn.
Indeed if that is the case, the question is how to prepare? I sure don’t have a definite answer. Any answer is likely to be closely coupled to an individual’s specific timeframe, his wealth, his risk profile, and his short-term/long-term need tradeoffs. But history can provide some guidelines to help scope the problem.
Here is a Link to a nice chart from the Wrapmanager site that displays the S&P 500 pricing history since 1900:
http://www.wrapmanager.com/wealth-management-blog/did-the-sp-500-reach-all-time-highs-is-there-a-cause-for-concern
Note that the chart also marks off P/E ratios at critical turning points in the S&P’s storied history.
As LewisBraham suggests with his post, when the investment battle is exactly joined directly influences annual returns. Some starting dates are especially disastrous. But over time, the historical record demonstrates that even poor starts have been integrated away by the rising tide. Over the very long haul, the precise starting date is not all that significant.
Here is a Link to a nifty calculator that yields S&P 500 returns with and without dividends reinvested for any input starting and end date. The calculator is from a “Don’t Quit Your Day Job” website:
http://dqydj.net/sp-500-return-calculator/
The calculations can be easily completed both with and without inflation adjustments.
For example, if an investor had the misfortune to invest immediately before the 1929 Crash, his annual return to this month would have been 9.69% with dividends reinvested. If he had been prescient enough to have delayed that initial entry date until April of 1932, his annual return would be at the 11.37% level.
For those of us old enough to have initiated our investment program immediately after WW II, our annual return would have been 11.01%, again with dividends reinvested. If we have been in the S&P 500 Index over the last 30 years, our reward would have been 10.99%. When you leave the starting gate matters a little, but the returns are impressive regardless of the precise timing.
I hope you visit the websites that I referenced, and that you find them helpful.
Best Wishes.