Lupo Lupus

huh, can you elaborate? OK so this is a totally half-baked futuristic scenario, but what happens to the economy when the marginal cost of production approaches zero? Let's take Nike, in say 100 years (or however long). The world has fully transitioned to solar power and the price of oil has plummeted to practically nothing. The COGS of a Nike shoe is freakin' miniscule. They've got robots handling 99% of production at lightning fast speeds at mini-factories to minimize shipping costs. If the total cost of Nike shoe is $10 today, let's say its $0.25 in this futuristic world. And it's not just Nike with minuscule costs of production, it's across the whole developed world. Self-driving cars has ensured auto insurance doesn't exist. Insurance brokers? There's an app for that. Manufacturing is about as hands-off as it gets. Planes fly themselves. Improved satellites mean the cost for a cell phone carrier is practically nothing for incredible bandwidth. The advancement of technology has made the cost of resources and production super low. So a lot of people are not working in these areas, not making a salary, but on whole their quality of life is greater than it is today. But perhaps their wages are much lower. Does this mean the market price of a Nike shoe is going to drop from $150 to $20? Monetarily this reduces the discounted present value of Nike. But economically they are still just as valuable. On a whole what does that world look like on a monetary vs. economic level (price vs. value)? /super rambly post I think you are discussing a very interesting scenario, and probably not an unlikely one! My take is that in such a world you would want to own brand companies, not commodity producers. Competition will drive the price on commodity products down to the costs, thus the benefits of lower production costs will be passed onto consumers. Brands (Nike!) on the other hand are priced according to their (perceived) value to consumers, thus they should see their margins improve with falling production costs...

I uploaded a review article of the performance of individual investors. Unsurprisingly, they underperform the market, even before trading costs. But the article has also interesting points about how performance differs short and long term, depending on order type, investor characteristics etc. I always find it important to understand inefficiencies in the behaviour of other market participants, so I thought this could be of interest. behavior_of_individual_investors.pdf

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One approach (which I do not follow) would be to make the hurdle rate contingent on the general valuation of the market (ie, lower hurdle when market is richly valued to account for fact the opportunity set is less attractive). However, when the market is richly valued, the expected returns on value investing are not necessarily low at the same time (think of the dotcom bubble, where old economy stocks were priced OK). Thus my argument is that it makes more sense to condition on the expected return of your own investment style (aka value investing) rather than the general market when deciding how much to allocate to equity. I see your point on getting less ambitious because of the missing absolute hurdle. In terms of optimization problem, I would argue the other way around: by trying to find the most undervalued securities one considers the whole spectrum. If you use hurdle rates, you may buy a security with expected return of 11% (if your hurdle rate is, say 10%) while at the same time securities with higher expected returns are available. This should particularly a problem when prices are severely depressed and many securities pass the hurdle rate (eg, GFC!). The hurdle rate becomes then fairly meaningless. Good point -- thank you for your thoughts Clutch!

I would suggest doing a portfolio approach, instead of analyzing each stock performance individually. First, the series are not going to be independent, so you are not losing much by not analyzing them separately. Second, only in this way you can capture diversification effects.

I wanted to share my approach for how to adjust the size of my equity portfolio, depending on the current valuation of stocks. I would be happy to hear your thoughts on it. My approach is quite different from having a (constant) hurdle rate for new positions: I do not have a hurdle rate at all. I simply invest in the most undervalued securities currently available. However, I vary my cash-equity allocation in response to the valuation of the “marginal” security (the currently best security to add or to delete from the portfolio). My through-the-cycle target cash-ratio (where cash includes safe bonds) is 15%. If the marginal security is very undervalued (likely to happen at time of market undervaluation) I can go down to a 0% cash-ratio. If it is overvalued, I can hold up to 30% in cash. The current target cash-ratio is made explicit at any point in time to anchor investment decisions. In addition, I also have a list of the two marginal securities, that is, the security I would buy if I increase my equity allocation, and the security to sell if I would lower my equity allocation. The justification for this strategy as follows: • It does not make sense to have a fixed hurdle rate. It implies that if the market is fully valued, I will not be invested but if it is several undervalued, I may have to leverage up big time. • My approach permits keep being invested even if no undervalued security is available. I will still get in expectation the average return on equity, which is nothing to be sneezed at. • The approach is effectively a (dynamic) asset allocation approach where an asset class is weighted according to its expected return. Note that this is not the same as market timing. Rather it is based on portfolio theory considerations (overvalued asset has lower return and higher risk and hence should receive a lower weight). • By conditioning on the valuation of my portfolio, rather than the market I can take into account that undervalued securities relative to the market are not equally available. For example, during the dotcom bubble the market overall was overvalued, while value still had a decent implied performance. • The conditioning is on the valuation of the marginal security rather than the average security in my portfolio as the impact of variations in the size of my equity allocation will depend on the marginal security.

In my country (the Netherlands) there is an interesting quirk regarding mortgage deductibility. Interest is tax deductible but banks have come up with a way to keep full deductibility when paying down mortgage. Basically, they split an annuity mortgage in an interest rate only mortgage and a savings account. The interest rate only part is never paid down and hence full tax deductibility retained.

Just did a thorough analysis of my sold positions. Many investors have the feeling that their selling decisions are poor as the price tends go up further. However, the latter by itself is not surprising, in particular in a bull run. One should thus compare the performance of sold positions with a benchmark, or better, with the performance of the remaining performance (the thinking goes that I could scale up my existing portfolio, hence this is my ultimate private yardstick). The results for me were very surprising. While my sold positions went up about 10% annualized, they underperformed my portfolio by 9% annualized!! So a large part of my (personal) overall outperformance seems to come from selling decisions. I am still contemplating the implications of this. Lets put this to an extreme. Suppose my outperformance were to come *entirely* come from selling decisions. That is, the stocks I buy on average do not outperform. However, they sometimes jump above fair value (after having bought them) in which case I sell them. Following this they underperform as they return to fair value. What does this imply for stock selection? Even though in this case I am not able to select outperforming stocks, stock selection is not meaningless as I should concentrate on stocks that are more likely to deviate positively from intrinsice value *after* I bought (so I sell them for a quick gain). Thus looking for stocks with a higher likelihood of ex-post price inefficiency (as opposed to a misvaluation at the time of purchase). Has anybody been thinking among similar lines?

My first post! A question that should apply to many investors, but which I have not seen discussed, is the following: How do you think about holding cash in your portfolio if you have at the same time a mortgage outstanding? I have been thinking about this for a while but have not found an ultimate answer yet. Here is my thinking so far. The knee-jerk answer is of course to use the cash to pay-down the mortgage, as the mortgage rate will surely be higher than the interest rate on cash. But I am not convinced: I have two motivations for holding cash in my portfolio 1. To mitigate risk. Cash (or high quality fixed income) lowers drawdowns in portfolio (think of Great Depression style scenario) 2. Option value of cash. Cash allows me to take advantage of crashes/fire-sales. Also I can benefit from rebalancing benefits. Motivation 1 indeed suggests to use the cash to pay down the mortgage as drawdown in my wealth does not depend on whether cash is held in my investment portfolio or in my house investment. Motivation 2 however speaks against using it to pay down on the mortgage as it is not easy to reverse the downpayment of the mortgage, at least in my jurisdiction (that is, to take money out of the mortgage when a crash occurs to invest in stocks). So my preliminary conclusion would be that cash should only be held if one believes in a significant option value of it. Any thoughts on this?