Education When Cash Is King (William Bernstein)

For sure. The punts around the edges are all fun, but long run they will disappear as interest wanes

 

Hi @Nodrog

Fully appreciate your position and the wad of cash on hand sentiment for your circumstances but I want to make a general response to the article - because I still haven't learnt the lesson of If you can't say something nice......

I don’t like the humble dollar piece.

It reeks of timing. The data does not support that lost opportunity can be caught up by timing the market. At the very best and if you’re very lucky or very good you might hope to break even with the alternative of buy what you can when you can. The overwhelming probabilities are that you will end up behind in $ terms by not maintaining constant exposure to an equity risk premium.

To the extent that you want lower than equity volatility and you can afford it, sure, hold bonds to dampen the ride. But expect a lower return. Do not expect to be made whole by “some boodle left over to buy more during the inevitable fire-sale” It’s not how the “rich get richer” the story is just the sirens of timing lulling you into a belief that doesn’t reconcile with reality.

In my not so humble opinion, the rich get rich by identifying and maintaining exposure to under-priced risk despite the volatility. They don’t get rich by paying an insurance premium to avoid volatility then winning that premium back through timing.

The lack of correlation between equity and bonds is also only a falling interest rate occurrence. Long run data does not show the same correlation as the las 30 odd years. Bonds with duration exposure will always dampen but they will not always go up when equities fall. They may just fall less. And whilst short duration (cash) will maintain its correlation is pretty much subject to assured destruction via inflation tax over any reasonable period.

Skip this paragraph If you don't want to get into the ******* nerdiness that really drives my opinion. If you dis-aggregate sources of return that effect purchasing power. Its not earnings fluctuations that produce the risk – they are driven by the physical economy are fairly stable, positively accumulate and have the full power of society driving it higher including those that can manipulate its nominal outcome by control of currency. Changes in the multiple paid for earnings (ie Sentiment) are more impactful but these tend to mean revert and most importantly their impact does not compound rather it largely cancels out over full cycles so the longer your horizon the less the significance. The real killer is inflation because it negatively accumulates. Cash and all its derivative forms are crap protection against inflation, only its links to time value of money and credit risks offer any protection but these are separate risks you are paid to take.

I don’t like cash. Never Have. Never Will.

Invest what you can when you can.

Best way to deal with volatility is to not count your money – ie don’t get too attached to your current balance – the current balance may be capable of mark to market valuation but it means squat – the future purchasing power it can deliver whilst un-measurable is all that really matters.

Nothing delivers purchasing power protection over the long run like Equity Risk Premium. Its how you capture human innovation and spirit. Not being sufficiently exposed is the real risk as I see it. Timing when you don’t want to be exposed to that……………too tough for me.

 

I agree - but I also keep a good wad of cash. I'm not trying to time the market with this cash - it is my backstop for a couple of years if everything goes pear shaped. It's to make sure I dont panic when faced with a meltdown, and do something stupid. I dont need to put everything at risk.

Outside of this cash I am pretty much 100% in equities, for all the reasons you mentioned.

 

Yes, the union fees were compulsory and collected during enrolment. Even I rarely used it as a p/t student. Books? No, just go to library and borrow. Put in a reserve request if on loan to others, or just photocopy the pages for assignment. Yes, those were good days and there were campus rallies every now and then. Smoking grass was quite acceptable among the Humanities students.

 

Great discussion. It’s been a little quiet on the shares side lately.

I am fully prescribed to the @dunno principals. No longer hold any cash at all. All in always and as soon as available. I have even taken it a little further and have drawn a good chunk out against PPOR at 1.99% for the next 2 years and thrown that in the market.

I believe their is a tipping point. If your investment income is large enough, that even a 50% reduction in that income would be sufficient to live comfortably off, the holding emergency cash is no longer necessary. Holding onto many years worth of spending cash would only be necessary in a situation in which the market takes away well over 50% of the normal income generated from your portfolio. Can the market deliver a dividend cut of 60%-70% or more in a market crash? And if so for how long? Nothing is impossible but not sure history supports such events assuming your in diversified portfolio.

 

Yes, very quiet, in fact not even a response to bagging Bill Bernstein can be managed, so I am going to have to rebuke myself to defend his article.

First up Bill Bernstein is an authentic authority on asset allocation and psychology of investors. That Dunno character is just an anonymous Internet Hack. Bernstein has the public credentials to warrant respect, the internet fella is undoubtedly just talking his own bag of biases based on his individual set of circumstances which have not transparency to a reader.

With a bit more background on Bill Bernstein – like this interview.


The article can be read in a much less literal and more nuanced way. A way in which one should realise that he is not so much advocating timing but appealing to those that may be overconfident, to reduce their exposure to a point where they are not going to eventually appear in those statistics that show the majority of retail investors underperform.

I might take objection to him telling people “the safe assets in your portfolio have the potential to be the highest returning component” because this is implicitly the dry powder argument that can be debunked by fact. But remember the people he is trying to walk back from the risk edge are those that are overconfident in comparison to their real risk tolerance. Active timing appeals to overconfidence – he’s talking their language whilst seeding the thought that they may be better off with less than 100% equity exposure when they would otherwise be totally caught up in the enthusiasm of a bull market. Sneaky, Brilliant.

So he convinces some to carry dry powder (less than 100% equity allocation) but they never use it because actually using dry powder is ridiculously hard in the eye of the storm so his article is a bit of a false pretense but relatively little damage is done against the alternative of “what you can when you can” and potentially huge damage of capitulating in crisis because you are carrying to much risk is averted. His message has good risk reward to the audience that it appeals too.

His overriding message is one of properly evaluating your circumstances, risk tolerance and expense funding and to do it when you are not under pressure, most of his messaging is very rationally and factually laid out, that he may guild the timing lilly a little to appeal to some that may not hear the message otherwise is understandable. Bill is still a legend.


Ps. @Big A

It is only having a small enough withdrawal rate (I think Bernstein refers to it as burn rate when he talks about it) that makes 100% equity 'theoretically' workable. But never forget there is a huge difference between theory and reality in the eye of a storm.

 

The rational for me to hold cash in the future when only having passive income would be for my sleep at night factor, guarding against my own psychology in time of crisis, not so much about timing so that I could use that cash to buy shares on bargain.

 

With all due respect to the experts out there such as Bill Bernstein, if what they say doesn't make sense to me, I couldn't care less about what ever credentials they may have.
If there is one thing I have learnt in this game of investing, its that all the degrees and expertise in the world does not guarantee you the ability to do better than the average. If anything sometimes as mentioned in some book I read and by a few on here the smarter you think you are the more likely you are to F things up and underperform.

I accept that at best my understanding of how investing works is average on a good day so I aim for the average market return. What I read on this forum and have learnt from yourself @dunno and some of the other wiser heads on here has resonated with me more than most of the stuff I have read from the so called experts.

I see what your saying. I think I am there in that I am able to have a small enough withdraw rate compared to total income produced to with stand 100% invested during a downturn. Whether I can stomach it is another thing.
The only experience I have had to date was the short lived but fairly sharp covid crash last year. While it did make me nervous seeing such large daily drops I don't remember thinking should I sell. My thoughts were more along the lines of should I keep buying and when should I be hitting buy.

I feel like I held my nerve during the covid crash but I get that it was probably not a true test of ones nerve. Would a larger and longer downturn break me? I would like to think not but only time will tell.

 

Phew I'm back. Jeez I find renovating stressful, always something going wrong.

I have great respect for Bernstein but the dry powder for firesale opportunities in the article I thought was out of character and hence why I personally stated in my initial post that holding cash in the earlier stage of our retirement was not for that reason.

Bernstein is a great believer in the life stages of the investor and being of a neuro-surgical background he's a great believer in the psychological aspect of investing plus he also has a huge interest in statistics and market history. He's hugely respected in the international investing community. He has also been a guiding light for me in finding balance when influenced by others too take on unnecessary risk when one has reached the point of "enough".

Just as holding too much cash / bonds in a high inflation environment during the earlier stage of retirement can be devastating so can holding too much shares depending on ones level of wealth cause great wealth destruction during a prolonged bear market.

Investing is not as simple as seeking the path to optimal returns. Risk tolerance, psychological aspects, life stage of the investor and level of weath for example are just a few of the variables involved.

And yes I'm concinced that investing what you can when you can beats market timing. But lets not forget other variables such as some of those mentioned above.

As for bonds I still hate them. From memory so has Bernstein in recent years except for TIPs purchased at opportune times. His view and my view for what it's worth is "keep it short (duration) and keep it safe". Cash and short duration Gov't guaranteed term deposits meet that criterea. Importantly these are for shorter term consumption and / or protection against sequence risk in the earlier stage of retirement. But being honest in our case it's more a sleep at night thing as we can afford to do this due to having reached the "enough" stage.

So yes we still invest what we can when we can but having a nice stash of cash on hand gives us great comfort. At this stage of our life optimal performance is no longer the main driver. Like most things in life finding "balance" is of much greater importance. And it has taken me a very long time to realise the huge importance of balance in life.

 

Further over the years I've read numerous examples of Bernstein discussing 100% equites and burn rate etc. Here's one:

 

The 60s had the lowest rates in many decades and modern finance, until now.
After that we had high infaltion, lots of political division and termoil with the voilence/terrorism/protests and a long recession, for most.
Dividends grew 6% and inflation 7%.






We have already seen brokerage accounts recently be frozen to maintain "market integrity".
In 08/09 funds stopped redemptions.
ETFs are often also market makers, so if there's no one on the buy side what's to stop them suspending trading to preserve "market integrity". The alternative being huge drop s in price.

We won't know till we get there.

 

And at certain stages of your life, specific components of the CPI may not have such an impact on you. An increase in one which does not affect you personally may be viewed as an offset to another. If you have a PPOR the 1.7% increase in housing probably isn't an issue so compensates for the 0.3% increase in food.

Consumer Price Index, Australia, September 2021

 

Yeah, 20 to 30 years ago, we set ourselves an investment goal of owning a portfolio of property and shares totalling $1M and yielding 5%pa ($50,000 per year retirement income).

Even after taking inflation in account , we belted that goal out of the ballpark .

As you posted:

In our case, 30 year old selves …

 

Spot on @Piston_Broke. Inflation is the main game. (for returns measured in purchasing power)

When its falling pretty much doesn't matter your level of skill - progress will be made.


But when its against you.

 

Just watched the Rational Reminder Bernstein interview. I get it now. From what I understood its that he preaches an approach which is not the absolute optimal unless you are a robot who has no emotion involved in the investment process. Now for the normal person who does have emotions that play a factor in the investment process the not 100% optimal approach on paper would be 100% optimal in the real world.

I am trying to be robot like in my approach. With the ability to live well of a 1% withdraw rate but currently probably doing it at between 1.5%-2%, it gives one that option as long as you can stay rational and control emotion in a storm.

 

Your post reminded me of the famous Yogi Berra quote


Which in turn led me to this even more insightful quote

 

I was going to suggest stairs are safer but then remembered this video:

 

Do tell.

 

Old mate J L Collins on bonds:
Are bonds done? - JLCollinsnh