Mostly Voices [0:00]

A foolish consistency is the hobgoblin of little minds, adored by little statesmen and philosophers and divines. If a man does not keep pace with his companions, perhaps it is because he hears a different drummer. A different drummer.

Mostly Mary [0:20]

And now, coming to you from dead center on your dial, welcome to Risk Parity Radio, where we explore alternatives and asset allocations for the do-it-yourself investor. Broadcasting to you now from the comfort of his easy chair, here is your host, Frank Vasquez.

Mostly Uncle Frank [0:36]

Thank you, Mary, and welcome to Risk Parity Radio. If you are new here and wonder what we are talking about, you may wish to go back and listen to some of the foundational episodes for this program. And those are episodes 1-3-5-7-8. and nine. One of our listeners, Karen, has also reviewed the entire catalog and has additional recommendations as foundational episodes. Ain't nothing wrong with that. And Karen's recommendations are episodes 12, 14, 16, 19, 21, 56, and 82, in addition to the first five that I mentioned. Now, I realize women named Karen get a bad rap these days, but I assure you that all of our listeners are intelligent, thoughtful, and savvy. Yes! And don't forget that the host of this program is named after a hot dog. That's not an improvement.

Mostly Voices [1:41]

Lighten up, Francis.

Mostly Uncle Frank [1:45]

But now onward to episode 173. Today on Risk Parity Radio, it is time for our weekly portfolio reviews of the seven sample portfolios you can find at www.riskparityradio.com on the portfolios page. And since it was another awful week in the markets, you can imagine what that's going to be like.

Mostly Voices [2:09]

Human sacrifice, dogs and cats living together, mass hysteria. But before we get to that, I'm intrigued by this, how you say, emails. And... First off.

Mostly Uncle Frank [2:21]

First off, we have an email from Jamie. And Jamie writes... Hi Frank, thank you for your podcast.

Mostly Mary [2:28]

I had already switched to a heavier equity version of the Golden Butterfly portfolio before I heard about your podcast on the Bogleheads website. I appreciate the discussion that has led me to reflect on aspects of my equity allocation, namely revisiting whether or not to include REITs. I've listened to all of your podcasts, and you are pretty open to the idea of using REITs as a possible portfolio diversifier. On to my questions. Mary, I'm sorry for the length. Mary, Mary, why you buggin'? Jared Kaiser of Buckingham Asset Management authored an interesting study as to whether REITs are a distinct asset class. The conclusion seems to be that he feels REITs are not a distinct asset class, can be replicated fairly well by an equivalent 66% small value and 34% long-term corporate bond portfolio. And do not reliably improve the mean variance frontier when added to a benchmark portfolio of traditional stocks and bonds. What is your take on his findings with regards to REITs in a portfolio? Given that I already have small value well represented in my portfolio and have long-term Treasuries and do not want effective corporate bond exposure, it seems like a pretty convincing case to to not include REITs in my portfolio. I think the ground covered by the paper on REITs alone is pretty interesting. However, his work on the other equity sectors is equally interesting. First off, he demonstrates in Exhibit 2 that utilities had the lowest correlation with the S&P 500 of any equity sector over a 40-year period. Next, he did some factor analyses in Exhibits 3 and 6 on these same equity classes. In both cases, the long-term fit of these factors for utilities seems to be statistically significant, but the R squared is 37% and 35% respectively, the lowest of all the equity sectors. The author then makes the following statement. We do note that the REITs regression shows the third lowest R squared, 51% of the industries considered, UTIL and ENRG being the lower two, which indicates a relative deficiency in the ability for the factor model to explain the variance in rate returns. Further, he states, in consideration of industries with non-statistically significant annualized alpha estimates and statistically significant factor loading estimates, the low R-squared ratios seem to indicate diversifiable risks present in each industry, not uniqueness in underliving return drivers. What is the implication of the low R squared values for utilities in constructing my portfolio? He suggests that these point to diversifiable risks, but what is the significance of this for possibly using utilities in a risk parity style portfolio? Thank you, Jamie.

Mostly Voices [5:26]

Mary Mary, I need your hug.

Mostly Uncle Frank [5:34]

And so I took a look at this article. Thank you for sending it. The title of the article is Are REITs a Distinct Asset Class? And I don't think you actually need to do any statistical analysis to answer this question. The answer is no. The answer is no. Surely you can't be serious. I am serious. And don't call me Shirley. But why is the answer no? If you look inside a REIT fund, What you will see are a lot of businesses in a lot of different sectors. Some of them actually do real estate, not as many as you might think these days in the larger REIT funds. The largest REITs these days are dealing with data centers, so they're a tech kind of business, or cell towers for 5G, which is another tech kind of business. You also find things like timber, which would be a more of a material sector sort of thing, and a lot of warehouse and storage space, which again is not places for people to live or do work in. The percentage of REITs that are actually involved in what you would think of as residential or office space is relatively low. There are also REITs that specialize in medical related things, hospitals, There are also REITs that are essentially financial companies that invest in mortgage-backed securities, for example. So a lot of what is in a REIT fund, especially these days, is not really that related. So why are they all together? They are all together because they are in this same kind of corporate structure, a real estate investment trust, which has certain characteristics the main one being that it distributes 90% of its profits to its shareholders every year and thereby avoids paying taxes on that. There are no other sectors out there, energy, utilities, consumer staples, that are designed around a corporate form as opposed to a type of business. So this is an anomaly and it is a characteristic of REITs. It's more so today than it has been in the past. If you did look at it 30 or 40 years ago, it would have been more traditional commercial and residential real estate, and you didn't have big data centers or companies building cell towers. So I'm not surprised by the statistical conclusion from this paper, but I think you need to put this in the proper context. Because the question being asked here is, Are REITs a distinct asset class? The question that is not being asked here is, Are REITs a useful addition to a portfolio for diversification purposes? And the author of the article agrees that they are and that he's not really analyzing that question. On page two he writes, As mentioned, it is not surprising that individual REITs or a small handful of REITs would improve a portfolio from a CAPM perspective as many individual equities would do the same. Further, so long as REITs are not perfectly correlated with a chosen benchmark portfolio and have a similar Sharpe ratio, the addition of REITs to that portfolio in some specific amount will improve the original portfolio Sharpe ratio. These are standard results from modern portfolio theory. And then on page 3 of the article he writes, this research steps back from much of the REITs literature in that the goal is not to analyze the extent to which REITs should be included in a generalized portfolio, nor is it to comment on the diversification benefits of REITs.

Mostly Voices [9:19]

Not going to do it. Wouldn't be prudent at this juncture.

Mostly Uncle Frank [9:22]

Rather, they are simply looking at this academic question of whether you would define something as a separate asset class. So where we come out on this is the same place we came out. in episodes 19 and 21 when we talked about using REITs as an investment in a risk parity style portfolio. And the answer was, yes, they can be a useful addition in moderation, but that you are probably better off picking individual REITs as opposed to those large REIT funds because you are going to get better diversification by choosing individual REITs. than a large reit fund like VNQ, which has something like 20 to 25% in cell tower companies. Now you have also noted that utilities and energy appear to be the other statistically significant diversifiers in terms of sectors to diversify a portfolio. And we've talked in detail about utilities in the past. You want to go back to the definitive episode that's Episode 27, where yes, we agreed that it could be used as another diversifier in a risk parity style portfolio, particularly if you had a taxable account that you needed to stuff with something and you didn't really want to put REITs in it for the tax reasons. I'd say energy is a more slippery animal. At various points in time, it has shown significant diversification from markets, but at other points in time, it is not. and in particular the past 20 years, you probably wouldn't have gained any benefit for putting an energy sector fund in your portfolio. Where I think I come out with that is that you're probably going to be better off with a smaller allocation to something like a commodities fund that is mostly invested in energy because it'll give you more bang for your buck and won't take up as much space in your portfolio. And finally, I'd be careful with this conclusion that you could replicate REITs with 66% small value and 34% long-term corporate bonds. And the reason for that is that this data set they used is a little bit suspect. It begins in January 1978, and that is not a good place to begin any analysis because it came at the end of the 70s. and so everything looks better if you start there, and everything looks different if you start there. I think you might get different conclusions if you were to have looked at that in the earlier part of the 1970s as well. Ultimately, what you want to be doing with all these things is using the correlation analyzer like you find at Portfolio Visualizer to actually put these things in and look at their correlation numbers. both for REITs generally and REITs specifically. And we did that back in episodes 19 and 21, which you can take a look at a table of about 20 different kinds of REITs and their correlation numbers to commonly held asset classes. But that's probably enough about REITs for today.

Mostly Voices [12:31]

You are correct, sir, yes. Thank you for that email. Second off.

Mostly Uncle Frank [12:47]

Second off, we have an email from John Luke, and John Luke writes. Help.

Mostly Mary [12:50]

My bond ETF, IUSB, is down more than 9% year to date. I know why it's happening, but heck if it feels bad to lose money in bonds. Do you think it's too late to move some of it to PBDC and GLD now? I know the fire crowd doesn't even want to hear about market timing, But I know you're already in the age of steel investing.

Mostly Voices [13:16]

So thoughts on that? There's no need to fear, underdog is here.

Mostly Uncle Frank [13:20]

Well, yeah, it's been pretty ugly out there for bonds. I read something in the Wall Street Journal last week, which said that this is the worst start to the year for bonds since 1842. I don't know how they actually compare bond markets between now and 1842, but that's what they said.

Mostly Voices [13:38]

Theirs not to make reply, theirs not to reason why, theirs but to do and die Into

Mostly Uncle Frank [13:48]

the valley of death rode the 600. And I heard another interview of Meb Faber of Cambria Asset Management, who said that we hadn't seen but two years like this in the past in which you saw stocks and bonds go down significant amounts at the same time. I'm not sure what data set he was looking at, but that's what he said. All right, getting to your main question. Yeah, I'm really circumspect about changing horses midstream when your current portfolio is not doing well. Forget about it.

Mostly Voices [14:28]

That is generally how amateur investors underperform

Mostly Uncle Frank [14:32]

over time. I like to say it's looking at the one year rear view mirror and picking investments based on that basis. It usually doesn't work. And with something like commodities or PBDC in particular, that's an extremely volatile asset class and there's no way of knowing whether it's going to continue going like gangbusters or go back under the rock to whence it's been living for the past eight or nine years. We don't know.

Mostly Voices [15:02]

I could see more of a basis for adding some gold to

Mostly Uncle Frank [15:05]

a portfolio, but what I would really do is look inside that fund you've got, which looks like one of these total bond market funds, and get rid of those corporate bonds that are in there or get a different fund that only has treasuries in it and then have a smaller allocation to that and have some allocation to gold. But you need to realize that may not be the best decision. Really? In the coming months because we don't know what's going to happen. You don't know? I don't know? Nobody knows. There is some surprise that gold is actually not performed better than it has over the past year or so. It's mostly kind of treaded water and not really gone up a whole lot. But again, we don't know why that is. Some people say it has a lot to do with the relative strength of the dollar these days, which is approaching 20-year highs, I think.

Mostly Voices [16:01]

Looks like I picked the wrong week to quit amphetamines. But I don't know that either. Forget about it.

Mostly Uncle Frank [16:08]

I can tell you what we will be doing in our sample portfolios come July when it's time for rebalancing the ones that are on calendars is buying more bonds. In a lot of them. And although that sounds painful, that is the correct thing to do once you've set up a portfolio is to buy low and sell high. Buy low, sell high. Fear, that's the other guy's problem. You do that through rebalancing. I think my best advice, if you can stomach it, is simply to wait until your portfolio recovers and it gets back to at or near all-time highs. Like it probably was near the end of last year. And then make these changes to your portfolio so that it becomes more diversified than the portfolio you have right now. Because the best time to make those sorts of changes in portfolio construction is when your current portfolio is at or near all time highs. Which is exactly what most people do not do. They wait till there's a problem and then they try to fix it. That's not an improvement. So maybe that's not the answer you were hoping to hear, but I think it's the best answer I can give you at this point in time. Bow to your sensei. Bow to your sensei.

Mostly Voices [17:29]

And thank you for that email. Last off.

Mostly Uncle Frank [17:34]

Last off, we have an email from Geordie.

Mostly Mary [17:37]

And Geordie writes. Big fan here. I have two questions for you, Frank. First, why would you choose a small caps value fund over a broader small caps fund such as IJR, for instance? Second, I'm 40 years old and planning retirement in three years.

Mostly Voices [18:09]

If you were me, which of the portfolios you review every week would you pick to set and forget considering the current state of the union, inflation, fed, and my personal fear of losing money? Fire and brimstone coming down from the skies, rivers and seas boiling, 40 years of darkness, earthquakes, volcanoes, the dead rising from the grave.

Mostly Uncle Frank [18:22]

All right, your first question, why choose small cap value over small cap blend? I'll be honest, fellas, it was sounding great, but I could have used a little more cowbell. The answer to this goes back to that seminal work of Fama and French going back to 1993, where they discovered that using small cap value in a portfolio... Small cap, cowbell... tend to diversify it better and also small cap value tended to outperform the market over decades of time. And the same could not be said of small cap growth. In fact, it was the value factor that was more important than the size factor in that determination. What this tends to mean is that after you've accumulated or started using a basic total market index fund or S&P 500 fund, or large cap growth funds since they're all tilted that way, the next thing to add in your stocks is a small cap value fund.

Mostly Voices [19:19]

I'm telling you, fellas, you're gonna want that cowbell.

Mostly Uncle Frank [19:27]

And this has become pretty much accepted as gospel over the past 10 or 15 years, although we still have a lot of people who don't want to follow it for whatever reason. But if you follow somebody like, say, Paul Merriman, his website or podcasts. He is all about small cap value, small cap value all the time. I gotta have more cowbell.

Mostly Voices [19:46]

Now for more on this topic, go back and listen to the previous episode, episode 172,

Mostly Uncle Frank [19:51]

where we talked about factor investing generally. Because choosing your funds by their factors is generally felt to be the best way of fund choice these days. because they have the best diversification and differentiation in terms of performance. Alright, getting to your next question about retiring in three years. And I'm assuming that you're going to plan to live off this money and this is all the money you have and you don't have other sources of money because that's really what we're talking about here. You obviously need to analyze your particular situation In more detail, beginning with the expenses and whether any of those expenses are covered by something besides your portfolio. But if you are looking for something simple, something like the sample portfolios, the golden butterfly or golden ratio are designed to be similar to 60 40 standard portfolios, but be a bit better diversified and have higher safe withdrawal rates. Bear in mind those are indeed sample portfolios. They are not designed to answer everybody's question in everybody's situation, but to be used as a basis for choosing your own portfolio that may resemble them in some way. I think one of the most important things to think about are how many stock funds or how much invested in stocks do you want to have in your retirement portfolio. There was an interesting interview of Bill Bengen on Paula Pant's Afford Anything podcast last week or the week before, where he said that in terms of safe withdrawal rates, it was the portfolios that had between 40 and 70% in stocks that all seemed to have the best safe withdrawal rates. So I think you are thinking about a portfolio that has somewhere between 40 and 70% in stock funds. Another interesting thing he said there was that if you have better diversification than what he started with when he was doing that research back in 1994 to come up with the 4% rule, that you're going to have better projected safe withdrawal rates. In particular, he said that if you include small cap value in your portfolio as part of your stock allocation, that is going to raise your projected safe withdrawal rate to up to 4.7%.

Mostly Voices [22:21]

Guess what? I got a fever and the only prescription is more cowbell.

Mostly Uncle Frank [22:29]

He had some other things going on in there. And he says he's about to publish a book with all this stuff in it, so I'll wait to see it when it comes out. But it doesn't surprise me that if you take a better diversified portfolio than that simple S&P 500 intermediate treasury bond thing, he was working with back in 1994, that you're going to come up with something that works better going forward because it's more diversified. Now thinking about those sample portfolios I mentioned, the golden butterfly or golden ratio, you can take a look at it and maybe see things that you don't want or want to change. For instance, the golden butterfly has a very high proportion in short-term bonds, which is essentially a cash equivalent kind of thing. It's got 20% in those. That's essentially like holding five years of cash or cash equivalents. So you may not want that many cash or cash equivalents and may be able to take part of that and reallocate it to something else. And with respect to that Golden Ratio Portfolio, maybe you don't want to have REITs in there. part of your allocation because it's in a taxable account and you'd prefer to have utilities or something else that fulfills that role. All of these things are pretty flexible, but what I would urge you to do is go use the tools at Portfolio Visualizer and Portfolio Charts to test run a few different kinds of portfolios and see what they would have looked like in the past. And also check out that retirement spending calculator at Portfolio Charts, which I think is an excellent way to model what it would be like under various distribution scenarios, which may involve specific percentages adjusting for inflation and having guardrails where you would take more or less based on the size of your portfolio. But that's basically how I would approach this. Now to go off on a small tangent.

Mostly Voices [24:39]

You are talking about the nonsensical ravings of a lunatic mind.

Mostly Uncle Frank [24:42]

Back in episodes 55 and 57 we talked about a managed futures fund called DBMF, which looked like it could be very promising but had not been around that long. at the time, so it wasn't clear how it would perform over time. That is a managed futures fund that trend follows all kinds of things, including interest rates and currencies and commodities. But anyway, something like that has performed extremely well this year and is really the first easily available fund that I have seen that seems to live up to its promises in terms of what it's supposed to be doing. So that is another option for those who want to explore the frontiers of risk parity portfolio construction. That was weird, wild stuff. And thank you for that email. And now for something completely different. What is that? What is that? What is that? What is that? What it is is our weekly portfolio reviews of the seven sample portfolios you can find at www.riskparityradio.com on the portfolio's page. And it was another horribly volatile week out there with nothing much good to say for it. Forward the Light Brigade!

Mostly Voices [26:06]

Charge for the guns! he said. Into the Valley of Death rode the 600.

Mostly Uncle Frank [26:14]

Jerome Powell was a hero on Wednesday when he made his little speech, and then everybody called him a goat the next day when the market lost all of its gains from that day and some. It just goes to show you how unpredictable these things are. But anyway, looking at the markets last week, the S&P 500 was down 0.21%, the NASDAQ was down 1.54%, gold was down 0.74%, Long-term Treasuries represented by TLT really took it on the chin. They were down 4.83%.

Mostly Voices [26:51]

Do you expect me to talk? No, Mr. Bond, I expect you to die.

Mostly Uncle Frank [26:58]

REITs represented by the fund R E E T were down 4.19%. PDBC, that commodities fund, was up again. It was up 2.84% for the week. are a big winner and preferred shares represented by the fund PFF were down 2.39% for the week. For those of you who are looking for something to buy that pays a steady income, you may want to look at that. It's getting close to 5% now with its recent declines in the share price. And those are mostly qualified dividends for that. Now looking at our sample portfolios, we start with the All Seasons, this reference portfolio that we have here that's only 30% in stocks, 55% in treasury bonds, which are long and intermediate, and then the remaining 15% divided into gold and commodities, GLDM and PBDC. It was down 1.73% for the week. It is down 12.39% year to date. It is down 0. 34% since inception in July 2020. But that's what happens when your concentration of bonds is a little bit too high. Now moving to our next portfolio, these are three kind of bread and butter portfolios that are designed to mimic a 60/40 in risk reward. The first one is called the Golden Butterfly. It is 40% in stocks divided into a total market index fund and a small cap value fund, 40% in bonds divided into long and short, TLT and SHY, those are treasury bonds, and 20% in gold, GLDM. It was down 1.11% for the week. It is holding up all right this year. It's only down 8.99% year to date and is up 13.02% since inception in July 2020. Moving to our next portfolio, the Golden Ratio, that is 42% in stocks divided into three funds that include some small cap value. You're going to want that cowbell. It's got 26% in long-term Treasuries, TLT, 16% in gold GLDM, 10% in REITs, R-E-E-T, and 6% in cash. out of which we pay all distributions for the year. And it is down 2.54% for the week. It's down 12.74% year to date. It is up 10.66% since inception in July 2020. Moving to our third bread and butter one, this Risk Parity Ultimate. It's got 14 funds in it. I won't go through all of them. It was down 2.35% for the week. It is down 14.94% year to date, is up 7.38% since inception in July 2020. And now we move to these experimental portfolios that incorporate a bunch of leverage into them, and they continue to look like Frankenstein's monsters.

Mostly Voices [30:05]

You have more chance of reanimating this scalpel than you have of mending a broken nervous system. First one is the Accelerated Permanent Portfolio.

Mostly Uncle Frank [30:12]

This one is 27.5% in a leveraged bond fund, TMF, 25% in a leveraged stock fund, UPRO, 25% in PFF preferred shares and 22.5% in gold GLDM. It was down 4.88% for the week. It is down 28.43% year to date and is down 3.16% since inception in July 2020. You can see how that leverage really works against you when it's working against you. So, bold strategy, Cotton.

Mostly Voices [30:43]

Let's see if it pays off for them.

Mostly Uncle Frank [30:47]

Next one is the aggressive 5050, the most levered and least diversified of these portfolios. It has 33% in UPRO, a leveraged stock fund, 33% in TMF, a leveraged bond fund, and remaining 34% is divided into VGIT, an intermediate treasury bond fund, and PFF, a preferred shares fund. It was down 5.59% for the week. It is down 34.05% year to date and 6.65% since inception in July 2020. Amazing how that went from the best to the worst in only four or five months.

Mostly Voices [31:20]

And it's gone.

Mostly Uncle Frank [31:24]

And our final portfolio is this levered golden ratio portfolio. It's got 35% in a composite leveraged fund called NTSX. That's treasury bonds and the S&P 500. 25% in gold GLDM. 15% in a REIT O, Realty Income Corp. 10% each in TMF and TNA, that's a levered small cap fund and a levered treasury bond fund, and the remaining 5% is divided into a volatility fund, VIXM, and two small crypto funds. And so that was down 2.77% for the week. It's down 17.04% year to date, is down 13.44% since inception in July. 2021 has not been around that long. This one may be experiencing a rebalancing by the end of next week, as its gold holdings have exceeded 30% now, which would trigger that. We'll check it again on May 15th to see if it should be rebalanced or not, and then do it.

Mostly Voices [32:26]

Yes!

Mostly Uncle Frank [32:30]

But now I see our signal is beginning to fade, Just another couple of show notes. Saw an interesting YouTube video yesterday that many of you may want to check out at some point in time. It's called Risk Parity is Not what yout Think it Is and it's by Blockworks Macro. I thought it was very well informed and I'll link to that in the show notes. Also, I have updated the monthly returns for all the portfolios on the website and you can Check those out at your leisure. They are as ugly as you might expect for April, but not any more ugly. If you have comments or questions for me, please send them to frank@riskparityradio.com that email is frank@riskparityradio.com or you can go to the website www.riskparityradio.com and put your message into the contact form and I'll get it that way. If you haven't had a chance to do it, Please go to your podcast provider and like, subscribe, give me some stars. That would be great. Mmmkay? Thank you once again for tuning in. This is Frank Vasquez with Risk Parity Radio. Signing off.

Mostly Voices [33:43]

When can their glory fade? Oh, the wild charge they made. All the world wondered. Honor the charge they made. Honor the light Brigade. Noble 600.

Mostly Mary [34:12]

The Risk Parity Radio Show is hosted by Frank Vasquez. The content provided is for entertainment and informational purposes only and and does not constitute financial, investment, tax, or legal advice. Please consult with your own advisors before taking any actions based on any information you have heard here, making sure to take into account your own personal circumstances.