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Geoff Considine  

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  • A Triple Play Income Strategy [View article]
    Nice article. Your note that investing in the highest yield stocks is dangerous is reflected in Prof. Ken French's data too. On his website, you can download the historical performance of portfolios selected on the basis on dividend yield. His data, going back 100 years, shows that higher-dividend portfolio out-perform, but that the portfolios formed on the basis of the highest 10% of yields actually underperform those with lower dividends. This is simply because the stocks with the absolute maximum yields are often in distress but have yet to cut their dividends. It makes no sense to invest on the basis of yield and to ignore RISK.

    I have written a few articles about looking at yield vs. risk, though none at SA.
    Feb 23, 2011. 02:59 PM | 4 Likes Like |Link to Comment
  • Here's a Third Way to Determine When You Have Enough to Retire [View article]
    if Sandra can live on substantially less than her target income, then of course she can get away with a smaller total portfolio value at retirement.

    Monte Carlo simulation accounts for the fact that bonds and stocks have low correlation. Same with historical tests. Thus the 'income insurance' idea mentioned above is already factored in. Or am I misunderstanding something here?

    The larger macro issues of how much money one needs to live on are very personal of course. Carrying a mortgage payment into retirement could be bad for some people, but for an amply capitalized person might represent a very nice inflation hedge. With mortgage rates at 4-5% with the deductablity of interest, the last thing I am going to do is prepay my mortgage. If we see substantial inflation in coming years, debt at these rates will be a great thing. I will be paying for my home with very cheap dollars.

    The idea of how best to match your assets to your liabilities (supplying income in retirement) is explored in a field called LDI (Liability Driven Investing). Studies tend to find that lots of real assets are a good idea because one's needs tend to go up with inflation.

    There is also something to be said for stress testing. Moshe Milevsky proposed a nice metric called the SORDEX ratio--I did an SA post on this a while back.

    Just a few thoughts...
    Dec 14, 2010. 04:15 PM | 1 Like Like |Link to Comment
  • Will High Dividend Stocks Help You Retire Comfortably? [View article]
    Hi All:

    Just wanted to add one more thought. One implicit question is whether it is possible to determine the risk that a dividend will be cut. We all agree that dividends are not risk-free income, but how do we estimate the income risk? I have an article in the works for Advisor Perspectives that suggests a way to account for the risk of dividend cuts. I am generating the examples using Dividend Aristocrats.

    I also want to give a thumbs up to those who are mentioning selling covered calls. This approach can make a huge difference in terms of income generated by a portfolio. My analysis has suggested that covered call strategies for portfolios of low-Beta, high-yield stocks can be very attractive.

    I will also note that I agree philosophically with those who advocate individual stocks vs. funds. I see the merits and I own mostly individual stocks myself. That said, for many people and probably for the vast majority of individual investors, it will make more sense to own a small number of low-cost funds.
    Dec 13, 2010. 04:40 PM | 1 Like Like |Link to Comment
  • Will High Dividend Stocks Help You Retire Comfortably? [View article]
    Perhaps I am misunderstanding some of the points made above about peoples' thoughts on dividend investing.

    The Monte Carlo results do not care about whether you draw dividends as income or sell shares. If you can draw dividends to meet your income needs, nothing gets sold. Lets say we have a portfolio with 5.5% yield and we plan to draw 4% of the portfolio value as of retirement age--I have $1M and I plan to draw $40,000 per year. How can this ever get depleted? Simple. Dividends can be cut or dividends simply may not grow fast enough to keep up with inflation. In year 1 of retirement, the portfolio generates $55,000 in income so we are going to reinvest $15,000 to help generate a growing income stream so that I can maintain a real purchasing power draw of $40K in current dollars.

    I think that is risky to assume that the market will consistently mis-price dividend stocks in the long-term so that I can simply take the $55,000 and plan that I will be able to maintain this level of purchasing power over the long haul. I don't care how carefully we select the stocks--I don't think that it is prudent to assume that just because a portfolio throws off $X today that it will throw off $X in real purchasing power forever. do we best discount our draws for this risk?

    In my analyses, I have proposed that we can do this by treating dividends as though they are just one part of total return and not a 'special' form of return. In fact, dividends have many special properties but I don't know of a better way to account for the potential risks to my constant current $ income stream.

    One approach--related to Monte Carlo--is to look at implied volatility on the stocks--this is the market's price for risk. It is probably safe to assume that a stock with higher implied volatility has a less safe dividend that one with lower implied volatility, all other things being equal--but this is an assertion. I have not found a study that really tests this assertion, though it is well known that implied volatility is correlated to default risk and companies in distress will not be able to maintain their dividends.

    So, my question to those who don't like the Monte Carlo is: how do you look at a stock with X% yield and Y% volatility and determine how much safe income you can assume that you will be able to draw? The same question applies to portfolios. If you have a portfolio of high quality stocks with 4% yield, how much do you plan to draw in inflation adjusted income and is this a function of portfolio risk?

    Thanks to all for this great discussion...I am spending a lot of time researching dividend investing and this discourse is a good source of article topics.
    Nov 28, 2010. 09:49 PM | 1 Like Like |Link to Comment
  • Will High Dividend Stocks Help You Retire Comfortably? [View article]
    Hi all:

    Thanks for the lively discussion. You guys are wrangling with an issue that truly deserves more attention than it gets. I cited a Vanguard study based on history in my article in Advisor Perspectives that says that a total return approach is a clear winner over an income-oriented approach. My analysis takes a
    Monte Carlo approach and finds that there is not inherent reason that an income approach is inferior.

    The Monte Carlo approach has its limitations--it is based on a series of assumptions--as is any model. That said, I have done an enormous amount of work in testing and validating this model and it has held up quite nicely. The model results strongly favor Dividend Aristocrats--I've written about this at SA in the past.

    From a Monte Carlo / theory standpoint, total risk and total return go hand in hand. There is a large literature that supports this notion. By combining assets with low correlation, we can get more total return per unit of risk. All fine.

    My paper suggests that a portfolio with a high yield is not necessarily better at funding a long term income than a portfolio with a low yield if they both have the same expected total return. Further, in my SA post above, I take the additional step of asserting that you cannot plan on a higher draw / lower savings rate just because you have a higher yield portfolio. Neither of these things detracts from my being in favor of income oriented investing, however.

    A number of posters assert that a portfolio with higher yield is somehow safer than a portfolio with low yield and that this lower risk means that you can save less / draw more. I might tend to agree on a qualitative basis, but I am unaware of any research that demonstrates that this is the case over an extended period of history. This is our dilemma.

    We can argue over our belief in lower risk for dividend-paying stocks, for example, but my result accounts for this effect to the extent that lower risk is actually reflected in real market volatility and implied volatility. I have always espoused looking at options prices and their implied volatility as the measure of risk and and a wide range of research supports this approach.

    As I said in my article, there are behavioral factors that will tend to make dividend stocks attractive in ways that are not captured by the Monte Carlo, but I am not going to save less in the hope that these hard-to-estimate advantages are correct. I am still a dividend investor---I just don't think that it is a good idea to believe that we can save less because we are dividend investors.

    I will try to run Rihanni's alternative portfolio and post my results...


    Nov 27, 2010. 01:15 PM | 3 Likes Like |Link to Comment
  • Will High Dividend Stocks Help You Retire Comfortably? [View article]
    Hi Notbob:

    The 4% rule has been explored in many studies--I believe that the first was by Bengen. Since then, people have looked at this from a wide variety of angles. I do think that the 4% rule is relevant even to income investors, and that was sort of the point of my article for Advisor Perspectives.

    If you can be certain that you will never need to draw more from your portfolio than the income that it generates, you don't need to worry about any planning rule of course. This would mean that you are fine with your income being somewhat variable--and this is a new risk factor. Actually, any type of flexibility that you have to make 'mid course adjustments' in your income allows you to have more confidence in being able to fund the long-term income that retirement requires.

    What I have been looking at is accounting for the risk and return of an income oriented portfolio using Monte Carlo. These simulations treat all asset classes as though they have a consistent risk-return relationship. This approach implies that you cannot treat dividends as though they are somehow risk free--they can be cut, especially when you are talking about decade plus time scales.

    The ability to vary your income draw, either because you are liimiting your income draw to generated income from the portfolio or using 'mid course' adjustments to reduce your draw after a period of market declines, has a powerful benefit. That means, however, that you need to be able to cut your income draws as required when the time comes. Can people do this? This is an important question that can, in fact, be dealt with (in principle) using real options theory. In practice, if you have the ability to reduce your annual income by some amount, as your portfolio dictates, you will increase longevity.

    FYI, here is a nice essay by Bengen:

    Obviously, what we assume about future risks and returns for various asset classes is a big driver and results differ, depending on what you use for the historical period or, if you are using Monte Carlo, what you assume for the equity risk premium.
    Nov 23, 2010. 05:52 PM | 4 Likes Like |Link to Comment
  • Will High Dividend Stocks Help You Retire Comfortably? [View article]
    Graham and Dodd Investor:

    Thanks for your comment. If you read my article in Advisor Perspectives, I think that you will see that I agree with you in general. My one concern about assuming that dividend payers will have smoother returns and thereby reduce the necessary savings rate is that the smoother returns are reflected in lower volatility already. Also, it is likely that the higher predictability means that the expected return will be a bit lower, because you are taking on less risk. This factor is accounted for in my analysis. That said, there are some interesting behavioral issues that make dividend investing quite attractive--including to me. I am becoming more convinced of the value of dividends as a way to avoid things like 'earnings management' and the unfortunate ways that many firms handle their stock buybacks.

    This is an area that deserves a lot more research--and its something that I am spending a lot of time on myself.


    Your point with regard to the portfolio makeup is fair and reasonable. There are many ways to define an 'income portfolio' and I presented just one interpretation. Are you suggesting that you cannot build a reasonable income portfolio out of ETFs? Or, conversely, what would you consider to be a better representation of a high yield portfolio of ETFs?
    Nov 23, 2010. 02:31 PM | 3 Likes Like |Link to Comment
  • Higher Yielding Bond ETFs: A 'Sweet Spot' on the Risk Spectrum [View article]
    Nice article. I have been doing my own research on high yield bonds and I agree that funds like HYG look pretty attractive.
    Aug 19, 2010. 01:01 PM | Likes Like |Link to Comment
  • Thoughts on the Dumbing Down of News (and the Effect on Investing) [View article]
    This is a nice piece--I have been concluding the same thing. If you write controversial pieces that mirror the sentiment (bearish right now), you get more readers. I was highly amused by the rush to call the market bottom at crazy low levels on SA and othe places. If you want to get eyeballs, just make some outlandish prediction that mirrors people's hunches--this is confirmation bias in action. Whatever happened to all those geniuses who were making crazy bearish calls in May? They have simply fallen off the highly popular list until they find another controversial call to make.

    On the plus side, this tendency makes it much easier to actually make money....
    Dec 11, 2009. 02:44 PM | 1 Like Like |Link to Comment
  • Stress Testing Your Portfolio [View article]

    Ron is correct: Bob's portfolio would have lost 19% of its value even without any withdrawals. Before withdrawals, the stress test formula proposed in this article would suggest a 'worst case' of 8.7% - 3*10.6% = -23%. Had Bob done the stress test ahead of time, he could have tuned down his risk level if this was too severe blow. Bob did not have a very well diversified portfolio (according to QPP) and I am in no way saying that this was a great portfolio choice. My point is that a Monte Carlo model, properly stress tested, would have alerted Bob to the risks in his portfolio.

    I emphasize: Milevsky's point (and I agree) is that we can never be sure whether we estimate the probability of extreme events well--but we can stress test to see if the 'worst case' events that we can estimate are survivable.

    On a related note: there have been some famous cases in which quant models have predicted that the things that hit their portfolios were 25 standard deviation kinds of events--i.e. effectively impossible. This was true in 08 and also in the case of LTCM. The models were clearly wrong. 3 standard deviation events do happen, and we are also saying that we know that they will probably happen with greater frequency in real life--which is why stress testing to ensure survivability of such events is so important.
    Jul 10, 2009. 08:09 PM | 1 Like Like |Link to Comment
  • Opportunities in Options Markets, Summer 2009 [View article]

    Thanks for the comments. Obviously one can sell puts vs. selling covered calls--one is just the synthetic of the other. The issue comes down to how confident you are in future volatility--the cost of rolling the strategy forward through time.

    I agree that Bodie's strategy is far more conservative than what I am proposing.

    I have been focusing on selling long-dated options--like what I use in my examples.


    On Jul 02 02:46 AM ikkyu wrote:

    > Greetings Geoff,
    > Nice to see the evolution of your thoughts about monte-carlo and
    > options pricing. I think this is the most interesting stuff you have
    > done to date.
    > Please let me ask a few questions, if you don't mind.
    > Not sure why underpriced options would suggest buying calls rather
    > than buying puts (or more reasonably straddles) in the short run
    > (<3 years). Serial correlation can be positive with a negative price
    > trend, can it not?
    > Also, are you talking about buying OTM calls on EBAY? While stock
    > markets tend to go produce positive results over long periods, you
    > have to have to inherently predict the magnitude of the move when
    > buying options.
    > Which options are you talking about selling? The long dated LEAPs
    > or the front month? You would have interest rate risk on the LEAP,
    > far lower gamma initially, and wider bid-ask spreads. I usually divide
    > the time value by the number of days till expiry to get a better
    > idea of the decay per day.
    > Also, why sell covered calls at all? Naked puts would be the risk
    > equivalent and would simplify things. If you get exercised, you could
    > then start selling calls on the underlying.
    > While i like your plan, it is clearly not an equivalent for Bodie's
    > conservative methods. Bodie's plan seems like it would work better
    > with a call spreads. It would be like your own index annuity. <br/>
    > Just some thought. Nice piece of work. Seems like you are definitely
    > thinking out of the box.
    > Cheers from Osaka,
    > john
    Jul 6, 2009. 12:02 PM | Likes Like |Link to Comment
  • Opportunities in Options Markets, Summer 2009 [View article]
    This is just using QPP's projected volatilities for each ticker and the rest of the tabel is other data. Or did I miss your question?

    On Jul 02 02:54 PM gasem wrote:

    > How do you use QPP to generate the above table?
    > thanks
    Jul 6, 2009. 11:55 AM | Likes Like |Link to Comment
  • Bill Gross: Dividend Stocks and Bonds Make Most Sense Now [View article]
    I agree with Mr. Gross on the dividend-paying stocks. There is a range of evidence to support the idea that dividend paying stocks look good ( I also think that there are ways to play this scenario in a manner that also lets you maintain some upside ( in selected sectors.
    Jul 3, 2009. 12:32 PM | Likes Like |Link to Comment
  • Stress Testing Your Portfolio [View article]
    Actually, my 3SD loss is worse than what happened over the last two years by notable amount. You are missing the subtlety of Milevsky's proposal. We can never know the tru probability of really extreme events all that well--even if the world is Gaussian, we would have estimation error on the mean and SD. Milevsky's is suggesting taking a model's estimate of 'worst case' and making sure that it is survivable--this is very reasonable. You are saying that the test is 'historical maximum drawdowns' which is also reasonable, but will tend to mack really high loss potential. Many firms have not existed long enough to truly test the extremes in real life--thats why we use models in the first place.

    On Jun 19 07:23 AM MachineGhost wrote:

    > > but I am hoping that the 3SD worst estimate is still a good
    Jun 22, 2009. 10:07 AM | Likes Like |Link to Comment
  • Stress Testing Your Portfolio [View article]

    Nothing in QPP or Monte Carlo is inherently backward looking, though plenty of Monte Carlo implementations are just that way. QPP has been tested extensively as a forward looking tool--and its results speak for themselves. Also, nobody rationally suggests that investors will never change pathes--I wrote an article showing how this relates to Monte Carlo and how a combination of MC and the flexibility to adjust your plans dramatically increases your odds of success. BTW, who said anything about living to be 120?


    On Jun 17 08:59 AM BlueOkie wrote:

    > Monte Carlo is an excellent tool. The problem is what you input for
    > the variables. Bob is a person and will alter his behavior given
    > a changing environment. Monte Carlo works in hindsight and in a class
    > room. The probability of event "A" in 2006 may not be equal of "A"
    > 's probability in 2007 or even any of the future years. Finally,
    > why would you look at the probability of Bob living to 120?
    Jun 17, 2009. 06:07 PM | 1 Like Like |Link to Comment