Current Research L: When Price Drops Occur
Updated: September 3, 2008.
Current Research Index
Current Research Index
Current Research L: When Price Drops Occur
I examined the sensitivity of when price drop occur to final balances.
When Price Drops Occur (Dollar Cost Averaging)
I looked at dollar cost averaging with fixed allocations. The sooner P/E10 falls below 20, the better. The sooner that P/E10 falls below 10, if it happens, the better.
When Price Drops Occur (Dollar Cost Averaging)
When Price Drops Occur (Single Investment)
I looked at investing $10000 for 30 years while maintaining a fixed stock allocation. There were no deposits. There were no withdrawals.
The order of returns means little, if anything, when you make no deposits and no withdrawals.
When Price Drops Occur (Single Investment)
When Price Drops Occur (Valuation Informed Indexing)
I looked at investing $10000 for 30 years while maintaining varying stock allocations with valuations (Valuation Informed Indexing). There were no deposits. There were no withdrawals.
Varying allocations introduces a weak sensitivity as to when prices fall. The sooner, the better.
When Price Drops Occur (Valuation Informed Indexing)
When Price Drops Occur (DCA and VII)
I looked at dollar cost averaging (DCA) and varying allocations in accordance with valuations (Valuation Informed Indexing VII). Varying allocations produces consistently high final balances. It removes the sensitivity of dollar cost averaging as to when price drops occur.
When Price Drops Occur (DCA and VII)
When Price Drops Occur (2 Stage DCA and VII)
I looked at dollar cost averaging (DCA) and varying allocations in accordance with valuations (Valuation Informed Indexing VII). I used different algorithms for the first and second fifteen years.
This version was decidedly inferior to using Valuation Informed Indexing throughout.
When Price Drops Occur (2 Stage DCA and VII)
The Dollar Cost Averaging Trade Off
This is what happens with dollar cost averaging and Valuation Informed Indexing combined:
Largest two values: 139,683 and 119,653.
Middle two values: 113,740 and 110,540.
Smallest two values: 88,710 and 88,387.
This is what happens with dollar cost averaging with 100% stocks:
Largest two values: 248,310 and 181,564.
Middle two values: 144,957 and 114,324.
Smallest two values: 70,087 and 62,875.
Valuation Informed Indexing narrows the spread at a slight reduction in the median balance (the middle values). It gives up the impressive upside of 100% stocks. But it assures a higher income under worst case conditions.
Dollar cost averaging with 100% stocks succeeds best when price drops occur early and when they are deep. Valuation Informed Indexing removes the sensitivity as to when price drops occur.
When Price Drops Occur (Retirement)
I varied allocations according to valuations in a retirement portfolio for 30 years. I determined when price drops occurred.
I found that varying allocations is vastly superior to maintaining fixed allocations (i.e., rebalancing). I found that it removes the sensitivity as to when price drops occur and how deep they are.
When Price Drops Occur (Retirement)
When Price Drops Occur (DCA and VII variant)
I dollar cost averaged (DCA) while varying my stock allocation. I invested entirely in TIPS until P/E10 fell below 15. Then I applied Valuation Informed Indexing.
This version is almost as good as using Valuation Informed Indexing throughout.
When Price Drops Occur (DCA and VII variant)
When Price Drops Occur (DCA and VII variant 2)
I dollar cost averaged (DCA) while varying my stock allocation. I invested 80% in TIPS and 20% in stocks until P/E10 fell below 15. Then I applied Valuation Informed Indexing.
This version produces results similar to using Valuation Informed Indexing throughout.
When Price Drops Occur (DCA and VII variant 2)
When Price Drops Occur (DCA and VII variant 2A)
Combined Data (Variants 2 and 2A)
Here is the combination of When Price Drops Occur (DCA and VII variant 2) and When Price Drops Occur (DCA and VII variant 2A).
142,038 and years 3, 3 and 9.
138,132 and years 9, 11 and 13.
136,449 and years 4, 5 and 6.
133,243 and years 2, 11 and 13.
121,012 and years 7, 9 and 12.
105,122 and years 6, 8 and 25.
103,916 and years 2, 4 and never.
90,921 and years 4, 10 and 11.
87,161 and years 2, 13 and 24.
81,201 and years 2, 13 and never.
Here is the Comparison with VII from the Start
Here is what happens with the variant 2 and 2A data:
Highest two runs: 142,038 and 138,132.
Middle two runs: 121,012 and 105,122.
Lowest two runs: 87,161 and 81,201.
This is very close to what happens with dollar cost averaging and Valuation Informed Indexing combined from the start:
Largest two values: 139,683 and 119,653.
Middle two values: 113,740 and 110,540.
Smallest two values: 88,710 and 88,387.
DCA at Year 15
I looked at dollar cost averaging (DCA) while varying allocations in accordance with valuations (Valuation Informed Indexing VII). I measured progress at Year 15.
DCA at Year 15
Reacting to Price Drops during DCA: 50%
I examined what happens to a 100% stock investor after a 50% loss over two years. I assumed that he dollar cost averages. I assumed that he would cut his holdings to 50% stocks after such a blow.
A dollar cost averaging investor is likely to stick with a 100% stock allocation in today’s market because the bad years are likely to occur early.
Reacting to Price Drops during DCA: 50%
Reacting to Price Drops: Middle Years
I examined what happens to a 100% stock investor after a 50% loss spread over two years. I assumed that starts out with $100000. I assumed that he would cut his stock allocation to 20% after such a blow.
Reacting to Price Drops: Middle Years
Locking In Failure
I examined what happens to a 100% stock investor after a severe loss. I assumed that starts out with $100000. I assumed that he would cut his stock allocation to 20% if his balance fell below $80000.
A stock-only investor is in danger. He is likely to see his balance decline far enough for him to cut his stock holdings sharply. If so, he is likely to lock in failure.
Locking In Failure
Price Drops When P/E10=20
P/E10 has fallen below 22. Soon it will be 20. The Scenario Surfer tells us what to expect.
Price Drops When P/E10=20