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Constant Value + inflation twist

Stocks and Shares ISA , Choosing funds for ISA's, risk factors for funds etc
Investment strategy discussions not dealt with elsewhere.
1nvest
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Constant Value + inflation twist

#323573

Postby 1nvest » July 3rd, 2020, 5:26 pm

Constant Value or Constant Dollar is a simple approach that can throw off copious amounts of cash, such that your cash account has dividends, cash interest and cash-throw off accumulating in your cash account.

A twist is to instead revise the Constant Value to uplift that value by inflation. Having just run a backtest for that against the FTSE 250 index (with initial 50/50 stock weightings) I saw the share value appreciate with inflation (as naturally expected), along with a cash expansion rate that exceeded inflation (4.2% compared to 3.3% annualised inflation), and that was without dividends and cash interest being included. i.e. at a rate comparable to the stock side seeing the stock value pacing inflation, and initial cash value being 50% higher after a decade without including any dividends and cash interest.

The natural tendency is towards holding fewer shares over time, i.e. some shares tend to be sold when stocks have performed well. But at times can see number of shares increased - after stock prices have declined and some of cash is redeployed back into stocks. A form of add-low/reduce-high type trading.

Anyone actually using such a strategy/technique? Perhaps not that are reading here - they're probably out spending their cash instead :)

https://youtu.be/3m-wYP46TsU

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Re: Constant Value + inflation twist

#323668

Postby billG » July 4th, 2020, 10:15 am

I have no heard of this approach. I suspect for individuals it is just simpler to rebalance to constant proportions. That said it is always useful to keep in mind the effects of inflation and I guess for a retired person wanting to slightly de-risk your portfolio over time it would be an approach. However with very high levels of inflation when stocks can not keep up this may not be the best strategy. Perhaps you need to tweek the safe part of your portfolio depending on the rate of inflation to buy inflation bonds when inflation is over say 5%? But that is probably true regardless of what rebalancing strategy you use.
BillG

1nvest
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Re: Constant Value + inflation twist

#323718

Postby 1nvest » July 4th, 2020, 2:05 pm

billG wrote:I have no heard of this approach. I suspect for individuals it is just simpler to rebalance to constant proportions. That said it is always useful to keep in mind the effects of inflation and I guess for a retired person wanting to slightly de-risk your portfolio over time it would be an approach. However with very high levels of inflation when stocks can not keep up this may not be the best strategy. Perhaps you need to tweek the safe part of your portfolio depending on the rate of inflation to buy inflation bonds when inflation is over say 5%? But that is probably true regardless of what rebalancing strategy you use.
BillG

US data over 1972 to 1981 decade https://tinyurl.com/yawlblyw (US$ prices/gains/inflation). Don't have a good alternative UK source of total returns data, and the US was somewhat similar to the UK over the 1970's (UK IIRC was even worse)

A image copy of the spreadsheet (thumbnail, click it for a larger version)
Image

That was all total returns, dividends and cash interest reinvested.

In September 1974 all stock was down by around half in inflation adjusted return. More if you were also drawing any income. In contrast 50/50 yearly rebalanced was down around -26% at that time.

Broadly over the entire decade accumulators were OK'ish, it was those in drawdown/retirement that would have endured more pain/fear. Looks like constant inflation adjusted value rebalancing came out ahead of straight 50/50, -0.3% annualised versus +0.3% annualised over that decade. Not a big difference, but I guess even +0.6% relative outperformance is better than nowt. All stock -1.27% annualised over that decade along with drawing a income ??? This alternative link that includes withdrawing a 4% SWR https://tinyurl.com/y6v9xncf suggests not excessively bad, ending the decade with around half the inflation adjusted amount as at the start. The early 1980's (subsequent) gains went on to recover much/all of those declines (strong 1980's/1990's Bull decades for stocks - perhaps largely in reflection of such poor 1970's)

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Re: Constant Value + inflation twist

#323734

Postby 1nvest » July 4th, 2020, 3:37 pm

For the UK 1972 to 1981 years, constant inflation adjusted value was notably better

Image

Looks primarily due to the big dip in real terms in 1974 and subsequent large/high rebound in 1975. 1974 saw around 20% inflation and stocks dipped -42% (total return), 1975% saw 25% inflation but where stocks spiked 140%. And constant value would have had you reduce initial 50/50 stock/cash down to holding just 12% cash i.e. went relatively heavily into stock just prior to the 140% up year.

The lower to charts in the above thumbnail show the portfolio value after inflation and after a 4% inflation adjusted withdrawals had been made. The first is for UK data, the second/bottom one is for US data (US inflation etc.).

For the UK data, even though the portfolios made reasonable nominal gains, total returns of over 3 times the start date money, inflation rose 3.75 times over those years, something costing £1 in January 1972 cost £3.75 at the end of 1981.

Overall the primary 'booster' for the constant inflation adjusted value in seemingly down to having gone very stock heavy at the end of 1974, where the portfolio reduced cash down to near 10% levels would I suspect have been much more difficult to follow in practice. i.e. it mathematically worked, but likely emotionally didn't. I very much suspect anyone following that 'style' over those years would have chickened out and not bought more stock at the end of 1974 after such sizeable declines/losses in fear of further declines to come.

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Re: Constant Value + inflation twist

#323741

Postby 1nvest » July 4th, 2020, 4:10 pm

Over other periods stock heavy did very well, such as the 1980's/90's Bull run.

Looks to me that 50/50 stock/cash didn't really reduce downside risks that much compared to all-stock during the bad times (1970's), but lagged significantly during the good times (1980/90)

For a more consistent outcome however, stock/gold worked well, supporting 4% SWR relatively consistently across each of Bull, Bear and Bunny (2000 onwards) type periods.

Image

However diluting that down to a third each stocks, gold and cash supported a 4% SWR relatively consistently ...

Image

viewtopic.php?f=8&t=23594

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Re: Constant Value + inflation twist

#325232

Postby Hariseldon58 » July 10th, 2020, 4:47 pm

My memory and subsequently revisiting the data indicates neither cash, bonds or stocks did well in the 70’s....it was a lousy time to be invested !

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Re: Constant Value + inflation twist

#325309

Postby tjh290633 » July 10th, 2020, 10:35 pm

I've just looked at my records for the 1970s, which do indicate a certain volatility:

.                          Change from Previous Year                    
. Cost @ Value @ Income
. 31 Dec 31 Dec

Dec-71
Dec-72 -7.25% 8.60% -17.07%
Dec-73 7.25% -20.60% 1.17%
Dec-74 -1.06% -36.61% 24.81%
Dec-75 23.15% 118.96% 3.00%
Dec-76 5.72% 3.00% 22.35%
Dec-77 -32.06% -10.48% 16.57%
Dec-78 8.56% 15.72% -24.94%
Dec-79 11.82% 10.45% 27.23%
Dec-80 23.92% 34.35% 27.17%

The big decrease in cost in 1977 was due to me cashing in some investments to put a deposit on a house, which I paid myself back by investing more in subsequent years. The effects of the 1974 fall and the subsequent sharp recovery can be seen easily.

TJH

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Re: Constant Value + inflation twist

#325321

Postby 1nvest » July 10th, 2020, 11:39 pm

tjh290633 wrote:I've just looked at my records for the 1970s, which do indicate a certain volatility:

.                          Change from Previous Year                    
. Cost @ Value @ Income
. 31 Dec 31 Dec

Dec-71
Dec-72 -7.25% 8.60% -17.07%
Dec-73 7.25% -20.60% 1.17%
Dec-74 -1.06% -36.61% 24.81%
Dec-75 23.15% 118.96% 3.00%
Dec-76 5.72% 3.00% 22.35%
Dec-77 -32.06% -10.48% 16.57%
Dec-78 8.56% 15.72% -24.94%
Dec-79 11.82% 10.45% 27.23%
Dec-80 23.92% 34.35% 27.17%

The big decrease in cost in 1977 was due to me cashing in some investments to put a deposit on a house, which I paid myself back by investing more in subsequent years. The effects of the 1974 fall and the subsequent sharp recovery can be seen easily.

TJH

Yours looks to have performed better than the broader market over those years

For the broader market respective yearly % price only changes of ...
12.8
-31.4
-55.3
136.3
-3.9
41.2
2.7
4.3
27.1

Factor in respective yearly % RPI inflation rates ...

7.1
9.1
16.0
24.2
16.5
15.8
8.3
13.4
18.0

and the broader market price value in inflation adjusted terms was down to 25% levels at the end of 1974. Yours came out better at being down to 40% levels.

Hit those in retirement harder. A investor who had seen more like the broader market returns, and where their start of 1972 retirement pot was down to just 25% of its former value at the end of 1974 in inflation adjusted terms, in practice had many throw in the towel and sell-up to "preserve what little of their lifetime savings they had left".

If for instance you had present day £400,000 at the start of 1972 and were looking to draw 4%/20K, then at the end of 1974 with inflation adjusted portfolio value down to £100,000 after just 3 years into retirement, the perception of that being able to provide a income anywhere near previously hoped for had fear emotions very high.

In the way of contrast, a 50/50 broader UK stock returns/gold investor was up nearly 30% in inflation adjusted terms at the end of 1974, and 3.3 times up by the end of 1980. But then went on to see gold as being a lag factor across the 1980's/1990's, but not excessively so (still reasonable gains). Where over those two decades it was a case of pretty much repeatedly reducing stock to add to gold, accumulating more ounces of gold, whilst the price of gold trended downwards. Since 2000 those accumulated ounces of gold have paid back, helping to offset relatively flat/mild 2000 onwards stock performance.

50/50 stock/gold ... equal weightings between fiat and tangible (hard) currency is excessive. 67/33 is more appropriate IMO. And for that the end of 1974 level would have been down -16% in inflation adjusted terms and where that was recovered a year later (back up to 125% inflation adjusted portfolio value/levels).

Your own data seems to be aligned with the US that over that period saw less extremes than the UK, for instance from a US investors perspective where they were drawing a 4% SWR ...
Image
.. that is for US$ prices/US stocks/US inflation ...etc. data.

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Re: Constant Value + inflation twist

#325362

Postby tjh290633 » July 11th, 2020, 10:58 am

1nvest wrote:
50/50 stock/gold ... equal weightings between fiat and tangible (hard) currency is excessive. 67/33 is more appropriate IMO. And for that the end of 1974 level would have been down -16% in inflation adjusted terms and where that was recovered a year later (back up to 125% inflation adjusted portfolio value/levels).

Your own data seems to be aligned with the US that over that period saw less extremes than the UK, for instance from a US investors perspective where they were drawing a 4% SWR ...
Image
.. that is for US$ prices/US stocks/US inflation ...etc. data.

I did have some fixed interest stock from 1970 until about 1974, inherited from my mother. I gradually sold them to reinvest in unit funds, one being Jascot Compound Fund, which was a high yield fund based on a system published in the IC in about 1971, as I recall. Were I to dig out their reports, I could probably see where they invested, but mining and commodities were certainly a fair component.

TJH

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Re: Constant Value + inflation twist

#325376

Postby 1nvest » July 11th, 2020, 12:43 pm

For me this is all really fascinating data, thanks for sharing Terry.

Totally nonjudgmental, these are the comparative figures I'm seeing.
Image
Looks like yours held up better capital wise than the broader market, suffered more on the income front.

I hadn't realised just how well income did carry through across those years, had thought that with stock values declining so deeply that after inflation income/dividends would also have endured chronic pain, but apparently not. Maybe the broader market held up better income wise due to being biased more towards tangible asset type holdings at that time ?? Banks and Oils type stocks that might have more quickly/easily benefited from rising inflation/interest rates.

Subsequent 1980's gains broadly tended to recoup those losses relatively quickly, so nowhere near as bad being stock heavy as I had believed, and what might be considered as a flagship for a 'very bad period'.

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Re: Constant Value + inflation twist

#325466

Postby tjh290633 » July 11th, 2020, 7:01 pm

Much of my investment in those years was into commodity or natural resources funds. The first was Ebor Commodity, which continues today as JPM Natural Resources. Originally the yield was considerably higher than the general run of shares, but at some time before the turn of the Century it became low yield. I'm watching the cricket as I type, so cannot easily give you chapter and verse. Others were Jascot Commodity, Jessel Plantations and General, and the aforementioned Jascot Compound Fund. Yields of the order of 10% were not unusual. The only one I still hold is JPM NR, which I have raided several times to provide subscriptions to PEPs and ISA. The others were sold for the same purpose in the 1990s. By then yields were much lower.

TJH


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