Elle wrote:

- quote -

Yeah, I did. See the "Options for Fixed Payouts" thread for my thoughts
on your sources and the information they contain.

-Will

"Will Trice" <wwtrice[at]paragondynamics.com> wrote
- quote -

"[T]he volatility of stocks decreases more rapidly than the
volatility of either bonds or T-bills. For holding periods
longer than 20 years, a fully diversified stock portfolio
is on average less volatile than either a bond portfolio or
a T-bill portfolio... [T]his is even more true when the
results are adjusted for inflation."
http://www.finpipe.com/allocate.htm

See also
http://kuznets.fas.harvard.edu/~camp...tlantatalk.pdf
(chart on page 11)

Elle wrote:
- quote -

Really? Now it's my turn to be surprised. Looking at the stock/bond
graphs on the site you list below does not support your statement.
However, these graphs are the result of a Monte Carlo simulation. Are
you referring to some actual data? Care to share it?

- quote -

-Will

"Will Trice" <wwtrice[at]paragondynamics.com> wrote
- quote -

I do not know if it is likely or not. My main goal was to
get out there the realities of short-term and long-term
volatilities of two different asset classes. High grade
bonds, for one, have a lower SD than stocks in the short
term, but not in the long term. So adding stocks to a
previously all bond portfolio /for the long term/ actually
reduces the /long-term volatility/ of the portfolio.

snip
- quote -

I do not know what you mean by "single period." That 2% SD
for a 30-year period denotes the SD of all possible
sequential 30 year periods (106 in all) from 1871-2005:
http://www.moneychimp.com/articles/r...me_horizon.htm

Elle wrote:
- quote -

No, I agree with you. It is *possible* that home returns could be more
volatile than stock returns over a particular 30 year period. But it is
not *likely*. I doubt that it has ever happened in the US for the broad
market. As Bread intimated, however, the OP is not talking about the
broad market, but will be taking a loan on a specific property. That
property's return could be highly volatile. It *may* be more volatile
than a dot bomb stock. But it is not *likely* to be that volatile.
Nevertheless, I was using a statistical measure for volatility, as
presumably you were when you cited the 2% 30-year SD for stocks - i.e. I
was not referring to any single period. We wouldn't want to base
investment decisions on a single period, now would we?

- quote -

I thought I said I was talking about risk as annualized volatility -
here expressed as standard deviation. Does this need to be more specific?

-Will

"Will Trice" <wwtrice[at]paragondynamics.com> wrote
- quote -

We disagree that the math dictates that the SD of home
returns will necessarily always be lower than the SD of
stock returns, assuming the same periods for both. The home
SD can fall from say 4 to 3 for 1-year and 30-year periods.
For the same periods, the stock SD can (and actually does)
fall from 18 to 2. The same is so for any two data sets, not
just homes vs. stocks: Which SD will be larger is not fixed
by the shorter period's relation between the two data sets'
SDs.

Also, "risk" remains undefined in this discussion, which IMO
precludes getting us on the same page.

Elle wrote:
- quote -

See http://en.wikipedia.org/wiki/Volatility

"Volatility most frequently refers to the standard deviation of the
change in value of a financial instrument with a specific time horizon.
It is often used to quantify the risk of the instrument over that time
period. Volatility is typically expressed in annualized terms... More
broadly, volatility refers to the degree of (typically short-term)
unpredictable change over time of a certain variable."

- quote -

OK, let's say a 30-year investment period with risk expressed as
annualized volatility. It was my belief that "long-term" implied
something like the first, and that volatility, when not otherwise
caveated, meant annualized volatility. But we'll be more specific for
this discussion.

- quote -

I'll have to see your statistics to understand this statement, but I
think that this is incorrect.

- quote -

This *should* surprise you as standard deviations scale approximately as
the square root of time. There is no magic to the fact that 20+ year
standard deviations for stock returns are smaller than 1 year standard
deviations. For the same reason, 20+ year standard deviations for home
returns will be smaller than 1 year standard deviations. And if home
return standard deviations are smaller than stock return deviations for
1 year (and I think we can agree that they are) then they will be
smaller for 20+ years (assuming Gaussian distributions, blah, blah).

-Will

dapperdobbs wrote:
- quote -

Rich was correct when he stated that the primary point of
diversification is to reduce risk. That doesn't mean that you can't
diversify in such a way that you increase your returns *and* reduce your
risk.

- quote -

The OP's question was, "In other words, how easy or difficult is it to
obtain a mortgage on a property that is owned free and clear?" I got
sidetracked off this by Bread's comments on risk.

- quote -

This is not correct by your own equations. If risk = volatility, and
the volatility of a portfolio can be changed based on price change
correlations between assets, then your last equation above should be
something like

portfolio return = Rh + (Rx-Ih) + F

Where F is some factor that takes into account the correlation of
returns between your two assets.

-Will

BreadWithSpam[at]fractious.net wrote:
- quote -

This is not necessarily true. Are all stocks (taken individually) in
the S&P 500 more volatile than the S&P 500 index?

- quote -

Diversification does not necessarily reduce risk. Passbook savings
accounts and stocks are not well correlated, but if I diversify out of
my passbook savings account and into stocks, I have *increased* my risk.

- quote -

What is it's a timeshare?

-Will

"Will Trice" <wwtrice[at]paragondynamics.com> wrote
- quote -

We disagree that this is the typical definition.

Re your examples in this post: One cannot speak of
volatility and mean anything without indicating the
timeframe under consideration. The standard deviation of
stock returns for long periods of time is very low. As a
matter of applied statistics, it is wrong to suggest that
adding stocks to an all-house portfolio for, say, a
five-year time horizon carries the same risk as a 20+ year
horizon. Indeed, for 20+ year time periods, it would not
surprise me to learn that the standard deviation of housing
returns is higher than for stocks.

I do not know how to get us on the same page.

"dapperdobbs" <GeorgeCFL[at]hotmail.com> wrote in message
news:1157747548.390651.314420[at]m73g2000cwd.googlegroups.com...
- quote -

I skipped a lot of the equation stuff, but I can tell you where you went
wrong. Your own house is not an investment; it's where you live, i.e.
shelter. Therefore, it's not part of the equation.

Elizabeth Richardson

Elle wrote:

- quote -

This is not what I said. I thought I was clear that I was talking about
the situation in Bread's post when I stated, "No, now you've increased
his risk (though also his potential return)." I did not mean to imply
that any mixing of a high-risk asset with a low-risk asset means that a
low-risk-asset-only portfolio will necessarily increase in risk. This
is clearly not the case.

- quote -

This is a concept I'm familiar with. However, typically risk is defined
as short-term volatility. Now, Bread did state that he was not
necessarily talking about risk in terms of volatility.

- quote -

It doesn't because if historical trends are even on the same planet as
future trends, then moving 60% of the equity in your home into equities
will increase the volatility of the portfolio defined as house vs. house
+ equities (I know, I know, I just stated that Bread said he wasn't
*necessarily* talking about volatility, but he stated his arguments in
the form of volatility when he talked of CAPM, etc.)

- quote -

I was using volatility as a proxy for risk. Diversifying does not
always reduce volatility. For example, take a portfolio completely
invested in a riskless asset (read: zero volatility). Now add some of a
risky asset for diversification. Did your volatility go up or down? If
I buy a large enough number of individual shares of companies, can I
reach risk free? I'll be diversified!

-Will

"dapperdobbs" <GeorgeCFL[at]hotmail.com> wrote
snip; please look back for citation
- quote -

I think the "hands on" calculator at the link below better
demonstrates the lower volatility (= lower standard
deviation) of the returns of longer time periods:
http://www.moneychimp.com/articles/r...me_horizon.htm

It shows that the average returns for all time periods are
about 10% per year. But the SDs vary a great deal.

Time Period, SD
1 year, 18% ( = good chance of having a large negative
return)
5 years, 8% ( = much less chance of a large negative return)
10 years, 5% ( = tiny chance of a negative return)
15 years, 4% (worst annualized return was +1%)
20 years, 3% (worst annualized return was +3%)
25 years, 3% (worst annualized return was +5%)
30 years, 2% (worst annualized return was +5%)

On Fri, 8 Sep 2006 15:32:53 -0500, "dapperdobbs"
<GeorgeCFL[at]hotmail.com> wrote:


- quote -

------------------------------
Obviously some posters have missed our post from earlier this week and
we need to review our "fast review" list. Now, here again is our post
from earlier this week.

Begin copy.....


- quote -

We have noticed that several regular posters who are on the "fast
review" list are writing lengthy posts and quoting liberally (not
trimming.)

This makes it difficult for us to ask others to be concise and trim
heavily. And it slows down the entire process if we don't.

So in order to continue the "fast review" process for regular posters
we ask that you be concise and trim.

As usual, comments on this post and other newsgroup business should be
made direct to the Moderators via email. For that, see the weekly
post titled "Posting to MIFP".

Thank you for your consideration.

-HW "Skip" Weldon
Columbia, SC

Will Trice wrote:
- quote -


Will - I was trying to support your point of view.
Bread - I wonder if you want to win an argument.
Rich - I'm not up to reading the equations.
Elle - (Please see my reply to your post.)

We have three problems we're dealing with: the problem of truth v.
argument; the problem of reading PhD's who've written books and taught
classes at the graduate level; the problem of meshing theory with
reality.

I joined when the rest of you were already here, and I'm not trying to
preempt anyone, but I kind of feel like I'm getting stomped: for saying
that if you want to diversify, you should do so to improve your overall
returns. I see absolutely nothing wrong with elevating understanding of
investment theory. Reality: my principal occupations are art, religious
philosophy, and trying to get a decent date. This weekend, I am looking
forward to starting a Cezanne duplication. I got my clothes dryer to
work, and that makes me happy.

Investment theory is evolving, and improvements are still being found.
Some of the subscription prices to the journals are pretty steep, and
the math requires a good background in statistics. There is a separate
"class" of books ('wealth management') addressing "the universe of
individuals" - as opposed to the "universe of institutional portfolio
managers". The math is simpler, and the problems are less general. For
example, specific factors considered include The Client's: comfort,
perceptions of risk, life span, estate, pre-existing assets, business
continuity, tax situation, and so forth.

The OP's original question can be formulated in an equation, that
equation can be generalized, and has been, and that's 'modern portfolio
management'. In its simplest form:
Rh = appreciation on the house
Rx = appreciation on other assets
Ih = mortgage interest
Rh + (Rx-Ih) > Rh (must be true).
As far as I understand, refinement includes estimations of what actual
future returns will be ('expected returns'). These incorporate
estimations of risk, which are often projections of historical returns.
The expected return of a portfolio incorporates all permutations of
estimates of correlations, which are also often projections of
historical correlations.

In my interpretation, the expected returns of a diversified portfolio
must exceed the expected returns of an undiversified portfolio - these
returns already include estimations (and that's all they are), as
above. For the risk averse, that's the mathematical equivalent of
saying: the estimated risk of financial loss after diversification is
lower than the estimated risk of financial loss before diversification.
Already incorporated into that, is the estimate that the 'gain' in risk
reduction through diversification will exceed the cost of the
diversification.

Moving to apply the generalization to the example given by the OP's
post: in my estimation, it may be difficult to find a portfolio whose
return, after deducting mortgage interest after taxes, exceeds the
return on the house, and also reduces the overall risk.
Plugging some numbers:
Rh = 3%
Rx = to be determined
Ih = 6%
Rx > Rx + Ih
Rx > 3% + 6%
Rx > 9%
And, implicitly, the risk assigned to portfolio (Rh, Rx) must be lower
than the risk assigned to portfolio (Rh). Which estimated returns, and
which estimated probabilities, meet the requirements?

There. For the ergs and dynes of moving two cents, I've taken my best
shot. Show me where I've made either a theoretical, or a practical,
error. I would like to be considered a useful contributor to this forum
and continue to learn from other useful contributors.

Elle wrote:
- quote -

Jean L.P. Brunel, CFA ("Integrated Wealth Management", published by
Euromoney International Investor, Plc, 2002, ISBN 1 85564 923 3). (Pp.
120-121.) "Jones and Wilson have put it best: The key to understanding
the time diversification controversy is to separate annual average
total returns from cumulative wealth. Then, the following statement can
be made: Risk, as measured by the probability distribution of returns
around a per-annum average total return over multiple time periods,
decreases over time. Risk, as measured by the probability distribution
of returns around the cumulative mean of total returns over multiple
time periods, increases." In the bibliography, "Jones, C.P. and J. W.
Wilson. 'Probabilities Associated with Common Stock Returns.'
[Italics:] The Journal of Portfolio Management, Fall, 1995."

Will Trice <wwtrice[at]paragondynamics.com> writes:

- quote -

Indeed. Nevertheless, (a) the Sharpe ratio goes down
(ie. the return goes up more than the volatility does);
(b) we're assuming the volatility of a single individual
house's value is low - it's not - it's a lot higher than
the volatility of the broad housing index. (c) I made
it very clear that I pulled the proportions (60% of
home value into equities) out of thin air.

But, you're quite correct - the leverage - more so than
the inclusion of the (relatively volatile) equity stake -
increases the risk substantially.

The bottom line is that diversification into assets which
are less than perfectly correlated reduces risk. Leverage
then increases it, but also amplifies returns.

There are a lot of problems applying traditional analysis
to this - well documented ones - such as the fact that one
cannot buy incremental quantities of house, tax implications,
transaction costs, etc. etc.



--
Plain Bread alone for e-mail, thanks. The rest gets trashed.
No HTML in E-Mail! -- http://www.expita.com/nomime.html
Are you posting responses that are easy for others to follow?
http://www.greenend.org.uk/rjk/2000/06/14/quoting

"Will Trice" <wwtrice[at]paragondynamics.com> wrote
- quote -

In one instance after Bread noted he was talking about the
long term, you flat out wrote that a person's risk rises by
mixing a low risk asset (the house) with a high risk asset
(an equity mutual fund). You qualified this not at all,
which makes me think you are operating under a conceptual
error. Fact is based on historical values for, say, 30-year
periods, an equity mutual fund's returns (over these 30
years) are very stable (and so possess low volatility and so
low risk).

- quote -

Depends on what one means by "pinned down." Practically
speaking, it is impossible for financial planning to be
about precision. Planning gets people into a ballpark of
expectations for the future, nothing more. (Albeit the
ballpark is a better place to be than out on the streets on
welfare.)

- quote -

Sure it does, in exactly the same way that a certain
allocation of stocks and bonds is more likely to be worth
more in twenty years than the bonds alone, assuming
historical trends continue, etc. This is the sort of
practical risk in which people are interested when talking
about financial planning. It's one of the main messages of
the Trinity study, AFAIC, and it's very important. This is
what I take from Bread's posts here as well: For the long
term, diversifying reduces risk.

What risk do you mean?

Elle wrote:

- quote -

Sure they have meaning, just their values may change if you base them on
historical data that covers different spans of 1 minute, 1 day, 1 week,
1 month, 1 year, 1 decade, or 1 century (though it may be difficult to
get records of housing price changes by the minute...). Bread
specifically stated that he was talking about the long term.

Don't get me wrong, I don't think these values can be pinned down using
any span, as I've stated in this group in the past. But playing with
historical values can be instructional as long as your model passes the
smell test. Bread's doesn't.

-Will

dapperdobbs wrote:
- quote -

<snip risk definitions
This isn't tough to do with three asset classes: house, stock, fixed
income (mortgage). Which of your definitions of risk determines that a
house is "very risky" and a house + stock + leverage *in the proportions
given* is less than "very risky"?

-Will