In the course of investing we tend to glom onto recency bias. Most recently (in the past 40 years) the bias has been “buy the dip” and “60/40 fixed ratio portfolios”. Over 100 years “buy the dip” and something like a 60/40 has gone COMPLETELY bankrupt 3 times. 40 years ago was 1980 and in 1980 bond yields were 15%. In 2000 bond yields were 7%, so back of the napkin your $1000 1980 bond became a $2140 bond in 2000. Rates are near zero now (say 1%) so your 2000 $2140 bond appreciated 7x to just under 15K. This is why people trade bonds and why if you scoff at bonds you might want to gain some insight. If your 40 year bond was a zero coupon bond you would have paid $1000 in 1980 and received 15K in 2020 guaranteed a 7% per year rate of return.
In the last 40 years bonds and equities have been uncorrelated or negatively correlated, meaning as stocks vary bonds are indifferent or do the opposite. So a crash in equities means bonds yawn or in fact bonds go up as the FED lowers interest rates. In a 60/40 environment that means bonds can save you. Let’s say stocks fall in half to 30 and bonds grow to 50 by appreciation instead of being down 30% overall you would be down only 20%. This is called ergodicity. Ergodicity is anti-fragile. It adds robustness to the system. Properly balanced an ergodic system won’t crash, where as a non ergodic system is absolutely destined to failure. Every system ultimately is non ergodic as every system will succumb to the red giant our sun will become, but barring that over the course of a single lifetime, you can design an investment system that is ergodic.
It turns out over 130 years 1885 to 2015 stocks and bonds we anti-correlated only 11% of the time, moderately correlated 59% of the time and highly correlated 30% of the time. It just so happens anti-correlation has been the rule for the past 23 years, the period when most of us got rich. In the period from 1965 or so to 1997 most of us did not get rich, but most of us were in kindergarten so we were oblivious.
In 68, I was 17 and my father had a building supply business that failed. In about 65 we had a recession especially in the mid west. I was savvy enough to understand what was happening. My father’s business was quite fragile based on economic conditions. I then lived through stagflation in the 70’s and the FED reaction of increasing interest rates in the 80’s. To me that meant my medical school tuition went from 6800 to 8600 in 2 months and then from 8600 to 16,000 in one year. By my 2nd year I was basically out of money. I had enough saved in 1981 to pay for the whole thing and by 83 it was all gone, frittered away by inflation. Color my plan fragile, so I went into the Navy because no way was I going to take out a student loan with 20% interest. The Navy plan was anti-fragile. I got paid $700/mo as an Ensign and all school expenses. They paid 2 years and I served 2 years. The government soon realized they could lever their position to a 1:2 or a 1:3 position but my commission was unlevered at 1:1.
So what about retirement? What is our future? Is a 60/40 fragile or anti-fragile (much less an 80/20 90/10 or whatever foolishness you can cook up.) What kind of portfolio has a chance of being ergodic over the course of 100 years?
The answer of course is to study diversity since independent degrees of freedom are the basis of an ergodic portfolio. What the hell does that mean?
In 2008 we tried to construct my portfolio using a long volume ETF called the VXX. The portfolio was long stocks, long bonds, long gold, long commodity, long EM, and long vol in the form of VXX. VXX and commodities and EM was the wrong choice, but the idea was the right idea, and is still the right idea.
Chris Cole at Atremis capital management has a portfolio made up of
long stocks 24%
long Bonds 18%
long Gold 19%
long Volatility 21%
long commodity trend following 18%
This is a radical portfolio but it is ergodic. It back tests over 100 years as never failing. despite its cost. It is not a cheap portfolio to own. Long vol and CRB trend require active management. Long vol means creating derivatives in combination when there is asymmetric risk reward, where you can afford the carry cost to have a portion of your portfolio that explodes to the upside in the face of explosive downside. CRB trend is a means to follow momentum in either direction. CRB is an asset the government does not manipulate, hence the reason oil futures went negative a couple months ago. The government had no bid on oil, so oil actually behaved in a free market non manipulated fashion. As we see commodity prices rise in the likely coming stagflation being long commodity trends will counter balance the fragility of the stock market fomo. If you bought Hertz because it was cheap, I guess you missed it’s also dead.
This kid of portfolio is like the Harry Browne Permanent Portfolio in that it requires life long adherence for it to pay off. You can’t screw around trying to be a real estate tycoon. It’s advantage is it’s long term risk because of its diversity is minimized and of you have a lower risk at a given return you can withdraw a slightly greater draw without suffering the increased SORR.
I’ve always been attracted to the PP as an investing strategy, but to date I’ve sought the feigned security of the crowd and recency bias even though I tend to be on the perimeter of that perspective. I believe the regimen has changed. Regimens do change which is why the 60/40 went bankrupt 3 times in 100 years. I think the future is quite bleak and won’t look like the past 40 years much at all. I think the political landscape is bleak and there is much damage to be done with the stroke of a pen. I do know I absolutely can’t afford to stay in cash.
As I work through this I’ll likely write more. The geodesic dome is a structure based on the distribution of triangles across a pattern of vertices sometimes hexagonal in pattern, sometimes pentagonal in pattern dispersed across the face of a sphere. What you get is a inherently strong thin walled structure capable of distributing stress across the perimeter of the sphere the structure encloses. A Geodesic dome encloses the greatest volume for the least surface area which can be viewed as a measure of efficiency. Conceptually this is along the lines of how I view this kind of portfolio. Light weight, strong, efficient, in a word anti-fragile in the face of multiple insults.