Lessons from the Scenario Surfer

It is still early, but we have learned a lot from the Scenario Surfer.

Big Swings

The Scenario Surfer draws our attention to big price swings. We need to capture the benefit of big price increases. We need to avoid the horrible effect of big price drops.

Bear Market Prices

Prices can rise dramatically even in a Bear Market. Prices can stay high for an extended amount of time. Even today, the bubble could be followed by a super bubble.

Bear Market Returns

Getting through this decade will be a challenge for stock investors. They will be doing very well to keep up with TIPS.

Varying Allocations

Varying allocations beats rebalancing hands down. A fixed allocation sometimes looks better, but only over short periods of time.

Valuations and Time

The market changes over time. We cannot tell, in advance, exactly when. It could be in a year. It could take a decade. But it will happen.

The advantage of varying allocations is not always clear at Year 10. It is obvious by Year 20.

Similar, but Different

It is worthwhile to invest 20% in stocks at high valuations, cutting back to zero only at the highest extremes. This is because it can take a very long time before valuations return to sensible levels.

It is an excellent idea to invest entirely in stocks at low valuations, where P/E10=12 to 14 and lower. The return from stocks at these levels is too attractive to pass up.

During retirement, it makes sense to vary allocations between 80% and 20% as P/E10 ranges between 14 and 20. During accumulation, it does not seem necessary. During maintenance, if starting today in the secular (long lasting) Bear Market, it makes sense to switch entirely into TIPS if you ever get ahead by 50% in the next ten years.

There are a lot of similarities. There are differences as well.

Have fun.

John Walter Russell
October 26, 2007