Stocks

Continue at Nose Bleed Levels!

DYI:  Stocks continue to defy economic and valuation gravity as prices have rebounded from their mini selloff over the past few months.  In the end valuation will rule the day when Mr. Market begins the sell off in earnest.  When that day will arrive no one knows. 

What we do know is that stocks purchased or held today, go to sleep like Rip Van Winkle waking 12 years from now, the estimated average annual return with dividends reinvested is – drum roll please – 0.46%!  If you have any debts with interest rates greater than 3% - 2.70% is Vanguard’s Short Term Bond Fund yield – maximize paying those off.  Net worth is – assets minus liabilities – will be improved either by increasing assets or decreasing liabilities.  If you are completely out of debt then follow DYI’s model portfolio.  

%
Stock & Bonds

Allocation Formula

03-01-19
Updated Monthly

% Allocation = 100 – [100 x (Current PE10 – Avg. PE10 / 4)  /  (Avg.PE10 x 2 – Avg. PE10 / 2)]

Current PE10.....30.43

Avg. PE10......... 16.61

% Stock Allocation   0% (rounded)
% Bond Allocation  100% (rounded) 

Logic behind this approach:

--As the stock market becomes more expensive, a conservative investor's stock allocation should go down. The rationale recognizes the reduced expected future returns for stocks, and the increasing risk. 

--The formula acknowledges the increased likelihood of the market falling from current levels based on historical valuation levels and regression to the mean, rather than from volatility. Many agree this is the key to value investing.  

Please note there is controversy regarding the divisor (Avg. PE10).  The average since 1881 as reported by Multpl.com is 16.61.  However, Larry Swedroe and others believe that using a revised Shiller P/E mean of 19.6 , the number since 1960 ( a 53-year period), reflects more modern accounting procedures.

DYI adheres to the long view where over time the legacy (prior 1959) values will be absorbed into the average.  Also it can be said with just as much vigor the last 25 years corporate America has been noted for accounting irregularities.  So....If you use the higher or lower number, or average them, you'll be within the guide posts of value.

Please note:  I changed the formula when the Shiller PE10 is trading at it's mean stocks and bonds will be at 50% - 50% representing Ben Graham's Defensive investor starting point; only deviating from that norm as valuations rise or fall.        

  

DYI

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The Formula.

A value based allocation strategy

February 19, 2010 by John Kingham