How to invest without knowing the future
compoundadvisors.com
compoundadvisors.com
So assuming this is the start of a sustained inflation, how do I protect my portfolio? Most of my money is in index funds and FAANG companies.
https://www.reddit.com/r/fatFIRE/comments/qrjh02/how_are_fat...
Another great resource I use is https://inflationchart.com
You can change parameters and get actual data to look at what did well and how cyclical the nature of everything is and how much of a needle point the sp500 is currently at.
Thank you for the great resource! However I have a small comment.
What the site is using is actually M2 - https://fred.stlouisfed.org/series/MABMM301USM189S
The real M3 money supply report was discontinued - https://fred.stlouisfed.org/series/M3
See here for the ShadowStats estimation of M3: http://www.shadowstats.com/alternate_data/money-supply-chart...
https://fred.stlouisfed.org/series/MABMM301USM189S
Please correct me if I'm wrong!
Note that the values are the same as M2:
https://fred.stlouisfed.org/series/M2SL https://fred.stlouisfed.org/series/MABMM301USM189S https://www.federalreserve.gov/releases/h6/discm3.htm
Your site should say M2 instead of M3.
Inflation hurts cash. Conversely anything denominated in cash is "helped" (nominally) - debt, equities, etc. If you, like parent comment, have "most of my money is in index funds and FAANG companies" then you have benefited from inflation (NASDAQ is up 35% from a year ago). On the other hand, people who are hurt the most by inflation are low net-worth savers and wage earners.
It might be counterintuitive at first but while you are exposed to a potential crash by holding equities, by holding cash you are guaranteed to lose purchasing power equal to the current rate of inflation (and it's worse than the official CPI makes it seem).
For your cash positions, which should be kept as small as possible (examples being upcoming purchases, dry powder for investing ideas, emergency fund, etc), liquid US dollar alternatives exist that you can consider diversifying into. These include other currencies, some crypto, precious metals, etc.
https://inflationchart.com/spx-in-cpi/?time=20%20years&show_...
You had to wait until 2013 to have what you had in 2001, which is awful. Better than cash for 13 years yes haha but a diverse portfolio with other things like gold which went nuts over that time would be way ahead.
Disclaimer: I am not qualified to give Investment advice.
Inflation will happen to also the goods and services offered by the companies in your portfolio.
It is not inflation itself that scares the market; it is the feds reaction to it, which will raise interest rates.
If interest rates rise, the yield you can receive from buying “risk-free” assets (ie treasury bonds) also rises.
When your risk free rate rises; the risk-on returns (especially of a high CAPE environment!) of being in the market are a lot less enticing.
So money flows from the market into bonds, and then the market drops.
If your portfolio drops along with the market at large, you’ve not really lost anything, it’s just the numbers changing (assuming you’re not retired or soon to be!).
Beyond waiting-and-seeing, taking out fixed interest loans to buy assets is probably a good move; unless the performance of those assets is tied to the interest rates (ie probably a wash to buy a home now if you expect interest rates to rise)
Debt is a promissory note to the future, at which point the debt will be worth far less than it is now.
The unfortunate consequence of being heavy assets though is that you are then exposed if the current overconfidence recedes and markets crash, so perhaps consider whether the companies you invest in rely on this free money environment (growth companies don't tend to do well with high interest rates, which tend to follow high inflation). Personally I'd avoid US assets at this moment because of this - indexes are very heavily skewed to tech right now, even VWRL is 3% Apple alone at this point and > 50% US.
Everyone is being forced to put their money into an extremely overvalued market. What is a crash going to look like when main street is sitting on assets just like wall street is? Is my stock portfolio FDIC insured against a run on the market?
I hate that my new savings account is shares in multibillion dollar corporations that have never made a penny of profit. And when they crash they'll tear down all the solid companies too. It's a damned if you do, damned if you don't situation.
It’s true they’ll get pulled down in a bear markets, but not nearly as much as meme stocks.
Also banks are already increasing their fixed rate significantly to make sure that they don't end up holding the bag.
Only if it is stagflation (inflation without underlying strong economic activity), which is rather exceptional in the US. If it is (more normal for the US) activity-driven inflation, Fed tight money policy to constrain it isn't going to do more to reduce real home prices than the underlying activity is to drive them.
In other words, if you want to shelter your money from inflation the best approach might not be to tangle your money with assets that are currently overpriced because of the low interest rates.
So we won't likely experience mass defaults due to arms this time around.
I personally think it's more likely that rising rates (if it ever happens (hate you, fed!)), will more significantly impact businesses with heavy, non fixed debts. They would need to refinance at increased rates which is more expensive, likely dampening their economic activity and potentially forcing layoffs.
That may lead to consumers cutting back and push us into a recession/deflationary cycle, and that would perhaps put downward pressure on the housing market.
But I don't trust the fed. They refuse to do their job. If the above happens they'll probably instantly cut rates again just like in 2018 (I think?) when they raised them by about 25bps and then immediately caved to the market decline.
It's sickening. They're not doing their job. We've needed to raise rates for a long time (and cut gov spending). But we're a sick beast that is slowing dying of infection.
Potentially nothing? Inflation is like 6-7% over last year. The S&P 500 is 24% over last year.
https://www.macrotrends.net/2324/sp-500-historical-chart-dat...
This actually brings up a really inconvenient point for the FIRE/All in VTSAX crowd IMO--when real estate is drastically beating the market how exactly does your FIRE plan work if you don't own a home and want to live in the same place?
Having 1.5MM in VTSAX is nothing when you want to buy a house but that is 50% of your total assets. The workaround is to just work longer and fatFIRE, so 1.5MM is no longer ok, it needs to be more like 3-4 to be able to put down a 250k downpayment if one is trying to retire in a desirable area. But then you have 250k downpayment in a 6x leveraged asset with no diversification. if you tried to trade stocks with 6x leverage and no diversification, this would be nuts but apparently it's ok to do for housing.
TL;DR I don't care if the price of cfood goes up a bit. Housing is going up 12%YOY and that is the main expense...
Additionally, commodities will almost by definition track inflation.
The main downsides of these Bonds are that they are limited to purchases of $10,000 per calendar year, they can typically only be purchased electronically from Treasury Direct, they can't be redeemed for the first year, and have a three month interest penalty if redeemed in the first five years.
I'm mainly purchasing them for a portion of my emergency fund, but they're an interesting long term investment, since they currently offer a guaranteed return significantly more than TIPS held to maturity.
I am not a financial advisor by any stretch of the imagination, but, assuming you work in tech it might be a good idea to diversify a bit.
I find it surprising how many people I know in tech keep their RSUs when they vest. Sure it has worked great for a few years but now you're tying your savings/investment and income to exactly the same organization.
If there were ever to be a tech crash not only would your income be at risk but all of your savings and investments as well. Even in the best of times diversification has been the common advice, and now more then ever it seems like a good idea to spread out your extra income to as many different places as you can.
People like Ray Dalio make money on chaos and the doomsaying bullshit. We’ve been at war for 20 years and just did a massive stimulus to avoid economic collapse, inflation is a normal and healthy thing to happen. It’s bad for billionaires with most of their money in cash.
If inflation is a thing, fine, it’s not the end of the world. Don’t accelerate the pay down of debt with fixed interest rates and don’t invest in most bonds.
As an individual, you should lock in longer term interest rates on debt and move your low risk portion of your portfolio away from bonds to cash. If you have variable interest rate debt (credit cards, line of credit, etc) pay it off. If interest rates go up, start dollar cost averaging fixed rate, non-marketable government debt like savings bonds as those rates rise.
I don't know of any.
I do know of a lot of retired people, or people with low-wage jobs. That's who gets hurt by inflation.
edit: Warren Buffet's wealth is in stock. Berkshire Hathaway holds the cash, for opportunity investing. (Just in case that's the billionaire you're thinking of.)
If there is no significant inflation in the future, that's probably right.
But if there is significant inflation, that value will go way up in absolute dollars simply due to the dollar devaluing. And the mortgage balance will effectively be minimzed by the same reason.
Has anyone modelled this? If inflation is at 6% what is a "sensible" interest rate? What percentage reduction in total borrowing would the average person have in that scenario?
The performance of the stock market in the last year or so shows that most investors see it as the safest haven for their liquid capital. Combine that with the fact that most of the dollars printed in the past 18 months have gone straight into large investors' pockets and you have a perfect storm for the usual safe-bet stocks skyrocketing.
...at least until the wheels fall off, but then we'll have bigger problems than the valuation of our nest eggs.
Certainly, you can reduce your exposure to USD; but it is already a dumb idea to hold USD for too long. However, don't panic reduce your USD exposure and instead expose yourself to risks that you cannot assess.
There is yet an asset that holds against inflation. (ie: goes up when the $ goes down but never goes down by itself) Such asset will be highly complex and highly in demand that it might even incur a small inflation (discount) itself. We are, after all, in a world where all currencies are inflating at best and hyper-inflating at worst.
As this article points out, the US share market is behaving unpredictably. There is also an argument that when GDP and energy consumption diverged that was the end of GDP as a useful measure of economic prosperity. This is a very easy investment environment - if you own assets you make money. Gold has allegedly been making long-term real returns for years now, which is nonsense.
I've not encountered this concept before, but it sounds very interesting. Can you share a good resource for reading about it?
But it is a fairly easy position to follow - the real GDP/capita in the US has roughly doubled since the 1980s. A typical family doesn't have 2x as much stuff. The next generation doesn't even have enough money to consistently form a family, maybe, depending on what the stats are telling us. If anything, there are signs of political stress that would be easy to justify if people were treading water rather than seeing their lives drastically improve. It looks like people fighting over a fixed pie rather than there being enough for everyone to get more.
The counterargument is probably computers and smartphones - which are a big deal, but have a relatively minor impact compared to doubling the energy supply which is what that GDP would have historically indicated.
I (roughly 20 years younger) just recently managed to gain some financial stability, and by some miracle, now own a home. High deductible health plan means I avoid going to the doctor unless limbs are falling off. When my kid is of college age, it will be $200K per semester and she'll have to go into debt slavery to afford it. The idea of owning things like a second home seems ridiculous. If I ever retire, my lifestyle will depend to a large degree on whether or not my crappy 401(k) goes up or down.
The next generation, 20 years younger than me, is utterly fucked, in basically all ways. I thank my lucky stars that I wasn't born in the late 90s.
I think we'd all be willing to give up our smartphones if it meant going back to the "easy mode" of decades past.
The next generation's only chances for success are in newly created, (yet) unregulated markets, like IT was for us.
There is no surprise teacher salaries haven’t increase much even though parents are so eager to spend to ensure their kids success: heavy government involvement in education market.
This sort of story is not uncommon, or crazy to believe. That said, the market conditions of that period of the 1900s were crazy, (inflations etc), so its wild to think about just how crazy it was that this was happening.
There's good and there's bad, it's not that clear cut.
Entry level salaries today are through the roof like nothing I've ever experienced before.
I started working in the early 90s with a masters degree from a top school (CMU) for $32K and that was a good job, most of my peers started in the high $20Ks.
According to https://www.usinflationcalculator.com/ $30K then is just under $60K today.
As HN knows, starting salaries these days are way more than $60K. I've personally hired new grads for over $150K, possibly closer to $200K if the RSUs do well. That's over $100K in early-90s dollars. Even our SVP wasn't making that kind of money back then.
So the early career income potential is so high today that it actually becomes possible to implement things like FIRE and retire in your 30s.
My first car in 1991 was a Mazda Protege. I paid $11,000 for it. The equivalent model today is the Mazda 3 which has a MSRP starting at $20,650 although the Google indicates that I can expect to pay at least $26K if I actually want to buy one.
Gold can make real returns in anticipation of negative real yield bonds. If the next 5 years are guaranteed to be 2% inflation with 0% interest rates, Gold will immediately yield 10% real upfront and flatline until then, assuming no other present "anticipation" effects.
The US has about 60% of the global investable public equity market by market cap but only 25% of global GDP.
The US public stock market is also at the highest valuation, by any measure you can come up with, since 1929.
I personally wouldn't be undiversified
https://bit.ly/3n6dE6t (Citation to PV)
The question now is "what happens next?" given rising rates and crazy high US valuations
Historically, the rest of the world handles recessions terribly.
Japan, once an economic engine, is stalled... still.
Europe is aging and they're still stuttering after 08. Don't expect them to make any surprise economic growth jumping past the US anytime soon.
China + other emerging seem like good promises, but china specifically is a huge regulation risk since those companies operate at whim of a government scared of big co's. Also with Evergrande as example, their economy is real estate driven and highly over-leveraged which seems like a major risk to me.
All in all, i'm personally keeping investments in america unless i see real ex-us promising growth. So i think "what happens next" is the global rich keep their money in US assets while they slosh around desperate for returns and speculative investments trying to beat inflation. So... imo more of the same but more stressed this time :)
The author does not assume this—rather this is held up as an assumption that might be wrong.
The article is structured as a list of 5 assumptions that would be tempting to make but could be incorrect, and this is one of them.
If you want something to justify high valuations, forward PE is a good measure. If you want a margin of safety, trailing PE and trailing dividend yield are better measures. Margin of safety is thin on the ground these days, sadly.
How are you defining valuation? And highest valuation relative to what (other markets, itself...some other benchmark)?
This is definitely not a true statement.
GNP is similar in spirit, but it’s still not right because foreigners hold a ton of US equities.
https://seekingalpha.com/article/4146992-how-global-is-s-and...
GDP doesn't matter for equity valuations, excess profits captured by a company do. If 99% of companies are in intense competition and make no profit, only enough income to pay their expenses, but one company comes up with a new product no one else can make, they can charge whatever maximizes profit and that's where equity value comes from.
Anybody have any other ideas?
Is that an asset that will hold value? Rust never sleeps.
But what do I know?!
Many are designed to have smaller swings up/down. While they may miss booms and spikes, they draw down less during volatile markets and downturns.
I dont use it but many on internet (and coworkers) use M1 - you can just set a target ratio and the service will auto rebalance for you.
Or a Japan situation where it took 30 years, thanks to stagflation, which we have all the ingredients for right now.
Deflation just means hoard cash and hope you outperform literally every asset.
It always has. Historically everything goes up. What everybody forgets in this scenario is what if a sizeable chunk of your liquid assets are tied up in investments during a crash and you're 5-10 years to retirement? You're seriously going to wait another 10 years for the market to correct itself to then cash out so you don't lose any money? No you might even be dead before you even have the chance to use it.
Let's say by incredible luck you manage to time both of these events perfectly, then what? There will be other crashes in the future, that's a certainty. And you won't be able to time all of them.
I agree that timing the drop is very difficult, but there is going to be a drop for sure - what has been happening in markets recently is definitely not "the new normal"
What this means is that for now the market continues to self correct and we haven't reached peak positive sentiment yet. Historically, massive selloffs happen because of unexpected sudden changes in sentiment (2000, 2008) or due to black swan events (2020). Given that we just went through a black swan and the markets aren't overly optimistic, I wouldn't expect a large crash in the immediate future.
[0] https://ofdollarsanddata.com/why-buying-the-dip-is-a-terribl...
[0] https://ofdollarsanddata.com/how-to-invest-your-money-when-i...
So, you are ready for parallel exploration- now a working capitalism can do that for you, when its not self-sabotaging by becoming monopolistic. There is no real parallel exploration in a big cooperation.
Finally, the last sub-optimal part that has to go, is the attachment to enterprises and humans. What is important is not the company or the CEO, but the technology.
A company can go bust and all you retain as shareholder is the IP - and this can become the foundation of a whole micro-cosmos. Individual Products are nothing, but the capability to produce something within resource reach- is everything.
2) HODL
At some point you got to assign a probability to the events that the author mentions.
You can't just assign equal probability to all the scenarios , otherwise it's not like you have solved anything.