Seeking Alpha

A Simple Retirement Portfolio Using Growth And Value ETFs

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Includes: SPY, SPYG, SPYV, TLT
by: Toma Hentea
Toma Hentea
Long/short equity, momentum, value
Summary

To take advantage of the value/growth factor we replace SPY with the better performing S&P 500 Value ETF (SPYV) and the S&P 500 Growth ETF (SPYG).

While applying the momentum strategy leads to good results, it does not gain any significant improvements from using SPYV or SPYG instead of SPY.

From 2000 to 2019 we identified four major regimes: two bear markets and two bull markets. During bear markets the portfolio was 100% in TLT.

During the first bull market, April 2003 to November 2007, the portfolio invested 100% in SPYV. During the second bull market since April 2009, it was 100% in SPYG.

Introduction

In this article we introduce a very simple portfolio using value and growth broad market ETFs. Specifically, we will use the S&P 500 Value ETF (SPYV) and the S&P 500 Growth ETF (SPYG). Our goal is to determine how much can be gained from using the value/growth factor in making portfolio decisions.

In a previous article we analyzed the performance of a portfolio made up of just two mutual funds, VFINX and VUSTX. A very similar portfolio can be constructed using the SPDR S&P 500 ETF (SPY) and the iShares 20+ Year Treasury Bond ETF (TLT). This two-fund ETF portfolio achieves essentially the same performance as the two mutual funds portfolio. Since TLT is available since July 2002, our historical backtest will cover the period from January 2003 until December 2019.

Although the portfolios are suitable for any investor, I will analyze them under the assumption that they are managed as retirement portfolios, i.e. that no additional money is invested. We will apply the 4% rule for retirement portfolios by making a This is also the case for4% withdrawal at the end of each calendar year.

As we have already done in some previous articles, we are going to use the free software and historical price data available at www.portfoliovisualizer.com

Portfolio Visualizer Model

To get a reference performance for comparison, we backtest a portfolio made up of SPY and TLT. This model is managed with a momentum strategy based on relative strength between its assets. At the end of each month the model determines the asset with the best gain over a window of three months and holds that asset for the next month.

The portfolio starts with an initial investment of $100,000. The distributed dividends are reinvested in the funds where they come from. At the end of each calendar year, 4% of the portfolio’s balance, adjusted for inflation, is withdrawn.

Table 1: The summary performance of the momentum SPY/TLT portfolio over the 2003 – 2019 period.

Portfolio performance statistics

Portfolio

Initial Balance

Final Balance

CAGR

Stdev

Best Year

Worst Year

Max. Drawdown

Sharpe Ratio

SPY/TLT

$100,000

$382,451

8.25%

12.76%

38.38%

-5.13%

(-21.19%)

0.89

SPY

$100,000

$258,133

5.77%

13.40%

32.31%

-36.81%

(-54.66%)

0.68

*

From the “Risk and Return Metric” table we extracted the safe and perpetual withdrawal rates:

Portfolio columns: Momentum SPY/TLT SPY

Safe Withdrawal Rate: 12.72% 10.53%

Perpetual Withdrawal Rate: 9.76% 7.51%

From the above tables, we see that both portfolios have increased in value over the 17-year period, although a 4% withdrawal rate, adjusted for inflation, was applied at the end of each year. The safe withdrawal rates are above 10%, and the perpetual withdrawal rates are also well above 4%.

The buy-and-hold 100%SPY portfolio had a maximum drawdown of -54.66%, and a worst year return of -36.81%. The momentum timing portfolio had a maximum drawdown of -21.19%, and a worst year return of -5.13%. The momentum timing portfolio had a CAGR of 8.25% versus 5.77% for the B&H 100%SPY. The Sharpe ratio also improved from 0.68 to 0.89.

Below we show a graph with the balance evolution of the momentum SPY/TLT portfolio.

To use the value/growth factor, we backtest a portfolio made up of SPYV, SPYG, and TLT. This model is managed exactly as the reference SPY/TLT model, with exactly the same parameters. We use the same model as before, changing only the list of tickers, where we replace SPY by SPYV, SPYG.

Table 2: The summary performance of the momentum SPYV/SPYG/TLT portfolio, 2003 – 2019 period.

Portfolio

Initial Balance

Final Balance

CAGR

Stdev

Best Year

Worst Year

Max. Drawdown

Sharpe Ratio

SPYV/SPYG TLT Portfolio

$100,000

$387,718

8.34%

13.35%

36.80%

-4.18%

(-20.56%)

0.86

SPY

$100,000

$258,133

5.77%

13.40%

32.31%

-36.81%

(-54.66%)

0.68

* The number in parenthesis shows the calculated value taking into account the percentage based periodic withdrawals.

From the “Risk and Return Metric” table we extracted the safe and perpetual withdrawal rates:

Portfolio columns: SPYV/SPYG SPY

Safe Withdrawal Rate: 12.39% 10.53%

Perpetual Withdrawal Rate: 9.83% 7.51%

Below we show a graph with the balance evolution of the momentum SPYV/SPYG/TLT portfolio.

By analyzing the results in Table1 and Table 2, we see that there are only small differences in the performance of the SPY/TLT and SPYV/SPYG/TLT portfolios. The CAGR of the value/growth portfolio is slightly higher at 8.34% versus 8.25% of the reference SPY/TLT portfolio. This is also the case for the perpetual withdrawal rate with 9.83% for the value/growth portfolio versus 9.76 for SPY/TLT. Just to demonstrate that the difference is inconsistent and insignificant the safe withdrawal rate of the value/growth portfolio is lower than that of the portfolio SPY/TLT, 12.39% versus 12.72%. All observations about the reference SPY/TLT portfolio apply equally to the SPYV/SPYG/TLT portfolio. Both portfolios achieved high returns and low max drawdowns even with a 4% annual withdrawal rate.

Regime-switching buy-and-hold strategy

With the advantage of hindsight, an astute investor could identify three regime-switching times between bull and bear markets and growth versus value outperformance. Here we shall state the results with some general explanations. One can perform a detailed analysis, but that is quite involved and is not suitable for inclusion in this article.

Following are the market regimes since January 2003:

* 1/2003 – 3/2003: Bear market in equities, invest 100% in TLT,

* 4/2003 – 11/2007: Bull market in equities, value outperforming growth,

* 12/2007 – 3/2009: Bear market in equities, invest 100% in TLT,

* 4/2009 on: Bull market in equities, growth outperforming value.

The regime switching buy-and-hold strategy is very simple, as described below:

* The SPY/TLT portfolio invests 100% in TLT during bear market regimes, and 100% in SPY during bull market regimes.

* The SPYV/SPYG/TLT portfolio invests 100% in TLT during bear markets. In the 2003-2007 bull market it invests 100% in SPYV, while in the bull market that started since April 2009 it invests 100% in SPYG.

Table 3: Performance of regime-switching buy-and-hold portfolios, 2003 - 2019

Portfolio

Initial Balance

Final Balance

CAGR%

MaxDD%

SPY

$100,000

$258,133

5.77%

-54.66%

SPY/TLT

$100,000

$578,408

10.94%

-16.98%

SPYV/SPYG/TLT

$100,000

$686,763

12.07%

-18.04%

For the regime-switching strategy we see that the portfolio using SPYV or SPYG instead of SPY obtained an increase of 1.13% in CAGR. That outperformance came with no additional costs. Also, we see that the regime-switching B&H strategy performed substantially better than the momentum strategies. For the SPY/TLT portfolio the CAGR increased from 8.25% to 10.94%, while for SPYV/SPYG/TLT it increased from 8.34% to 12.07%.

The combined regime-switching and value/growth factor generated an additional CAGR of 3.73%.

In the end, the results that matter the most are:

The final balance of the portfolio The total amount withdrawn over the life of the retirement portfolio Number of trades required to manage the portfolio

Table4: The performance of all the portfolios in this article, 2003 – 2019.

Portfolio

Strategy

Initial Balance

Final Balance

Withdrawals

CAGR%

Max DD%

Number trades

SPY

B&H

$100,000

$258,133

$99,228

5.77%

-54.66%

0

SPY/TLT

Momentum

$100,000

$382,451

$145,283

8.26%

-21.19%

48

SPYV/SPYG/TLT

Momentum

$100,000

$387,718

$150,680

8.34%

-20.56%

80

SPY/TLT

Regime switch

$100,000

$578,408

$199,213

10.94%

-16.98%

3

SPYV/SPYG/TLT

Regime switch

$100,000

$686,763

$206,530

12.07%

-18.04%

3

Conclusions

We have shown an example of using the value/growth factor in constructing and managing simple retirement portfolios. Because the relative performance of value and growth stocks varies slowly over long periods, we found that the momentum strategies were unable to take advantage of this factor. Instead, excellent results were obtained by investing in the outperforming group over a full bull market period. In our example, it turned out that SPYV outperformed during the 2003-2007 bull market, while SPYG was the winner in the longest bull market that started in 2009.

To manage the regime switching strategy, there were only three major events that required changes to the portfolio. Here are those events and the actions taken:

The long bear market that started in 2000 came to an end in March 2003. Action: sell the treasuries and invest 100% in SPYV. SPYV was outperforming in 2001 and 2002. The bull market ended around December 2007. Action: sell SPYV, go 100% in TLT. The bear market ended in March 2009. Action: sell TLT, go 100% in SPYG. SPYG was outperforming in 2007. In 2008 both SPYV and SPYG declined about the same.

The regime switching strategy produces high returns if one can recognize correctly when a bear market starts and when it ends. There are many authors on seekingalpha.com who publish periodical evaluations of the state of the markets.

Additional disclosure: The article was written for educational purposes and should not be considered as specific investment advice.

Disclosure: I am/we are long SPY, TLT. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.