Hi RIP friends,
I knew you would have noticed.
Some of you wrote me emails, some commented on random posts. One went as far as sending me a PM on facebook. It didn’t go unnoticed, that’s the beauty of transparency!
What am I talking about?
Before moving on, I know many new readers are not aware I share my Net Worth document on this blog. And they have a valid reason: I don’t post a Financial update since June 2019. I plan to post a 2019 Q3 soon-ish (it’s half written), and a 2019 Q4 update in early January, so stay tuned!
Ok, back to the Elephant in the Room.
What happened to my investments in November?
I did something I’m not proud of!
But for the sake of transparency, accountability, to share my narrative and ask for feedback, here’s what happened: I chickened out!
On November 26th 2019 I sold ~320k CHF of stocks: all my VOO (S&P 500), MEUD (Europe STOXX 600), and CSPXJ (Pacific excluding Japan) shares.
Here’s my trades summary for Nov 26th:
“Oh shit, RIP, what the f**k? And you are supposed to be my financial coach?? Are you serious?”
Wait, wait! Let me explain, then I’m more than happy to kick my own ass and have you kick mine as well.
What actually happened?
November 26th, two days before Thanksgiving. The market was hitting all time high every day, since the beginning of November. Every day a positive market day. S&P500 is up 26% since January, excluding dividends…
“Wait RIP, you’re not going to tell me you wanted to TIME THE MARKET, are you?”
No. No. Definitely. No. I’m not that crazy! Definitely!
I am not timing the market…
… I am a bit!
But let me explain.
The market in 2019 has been unbelievably crazy. Best year so far in my limited investing experience. Thanks to that, our NW is up 315k EUR so far this year. I didn’t earn 315k EUR! If I hadn’t worked this year we’d still be wealthier than a year ago. That’s crazy to think about.
Anyway, like everybody I’m waiting for the inevitable since months. Every day I log into my Interactive Brokers account and check the “Daily unrealized Profit&Loss”. I tried to track my feelings while checking the balance. When the balance is up by +X I just shrug. When the balance is down by -Y I shiver. The intensity of the feelings is very asymmetric.
+5k? Uh, ok, just a regular day in the market.
-2k? HOLY SHIT THE APOCALYPSE IS COMING LET’S RUN AWAY!!
That’s called loss aversion, nothing new.
I’ve already been preparing myself for the inevitable during this crazy 2019 by gradually reducing my stocks exposure. I sold some MEUD in June and September, some VOO in July and September, some CEUS (small cap Europe) in October, some IPRP (REIT Europe) in May, and some PostFinance Pension75 (Pillar 3A, 75% invested in stocks) in April and July.
“Wait, RIP, WTF?? one of your best post is the one named I will invest when the market drops, where you said that there’s no way one can tell that there’s the ‘inevitable’ approaching… what about the efficient market hypothesis?”
I know, and I still believe the market is efficient in the long term, even though I smoothed my opinion about the matter, and let my behaviorist side (the Robert Shiller within) have a say. Anyway, I’m not here to tell you that you should do like me – in fact you should not do what I did! The exact opposite!
Or… should you?
In truth, you can’t reduce your investment strategy to just maximize “expected returns”. In my situation, loss aversion is getting stronger, and the equity risk premium has become physically taxing. I experienced pain when the market dropped. I need to place myself in a safer position in the Risk/Reward efficient frontier.
That’s something unexpected though.
In 2019 the market is up 28% (S&P 500 Total Return), with nothing bad happening during the year. Except May and August, the other 10 months have been amazing! Despite this, during the whole year I felt pain for the minor and temporary losses.
It didn’t happen during Q4 2018, when the S&P 500 lost almost 20%, getting an inch close to the formal definition of a bear market. I actually put the “documentarist hat” on, and documented what happened to my wealth (and my health) during that quarter. That helped me to stomach the 20% loss. After that, I thought I’d be invincible! I’ve trained myself over a 10% loss a couple of times before (like the Brexit Referendum days, or the beginning of US-China Tariff war), and over the 20% Q4 2018 loss. I felt like King Mithridates, who immunized himself to poison by swallowing daily increasing amounts.
Then in 2019 I felt scared by the idea of a crash.
Probably the burnout, and the perception of being “close to the end of my career” contributed to it.
When you’re in accumulation phase you might have little money saved, and you plan to contribute on a monthly basis to your investments for long time to come, you should be aggressive and hope for a bad sequence of returns. But when you’re close to the end, a bad sequence of returns scares the hell out of you.
It’s also a matter of size. I was not that loss averse when my Net Worth was in the 5-6 digits world… When you want to grow rich, you want to make more money. When you are already rich, you want to preserve wealth and not lose money. Loss aversion to the next level.
Anyway, I was already playing with my fingers on IB a week before. Telling myself “This can’t go on forever. It’s like Bitcoin in Dec 2017. C’mon, CAPE is above 30. How can the stock market return almost 30% this year? Ok, tomorrow everything will crash!”
I also instructed unrealistic limit orders on IB a couple of times: “Let’s try to sell my shares at 3% above their price. Let’s see how I’d feel just having the order hanging around…”
Do not do that at home!
On November 26th, after maybe 10 consecutive positive market days In told myself “I have to do it!“. I set a limit order to sell all my VOO shares (161k USD) just a bit above the market price. I felt excited. Then I canceled the order and I logged out. I let the feeling sit for a while.
Then I told myself this very important question: “how bad would I feel if I sold all the shares today and the market will be up tomorrow or in a week/month/year (proving myself wrong)? How bad would I feel if I kept all my shares and the market would crash 10+% in the following weeks/months (proving myself wrong)? What would minimize my regrets?”
My genuine answer was: “I wouldn’t mind if I sold the shares today and they keep going up. I would feel like an idiot if I wouldn’t sell them and the market would crash soon.”
I was sure I’d be devastated by not having took action.
So I logged in again and sold a lot of stocks.
Was it a good move? Was it a bad one?
Bad question to ask. We don’t know if it was a good or bad financial decision. Time will tell. Good or bad aside, it was a WRONG one from a probabilistic point of view, but maybe a GOOD one from a risk tolerance point of view.
That’s what happened to S&P500 since nov 26th:
I’ve lost money. I’ve underperformed the famous dead investor so far!
But I feel my portfolio is more in balance with my current risk tolerance. Daily swing on my brokerage account are in the order of hundreds or few thousands (which is still a bit crazy). Before the chicken-outing, 5 digits daily swings were pretty normal.
… And I loved that feeling of “crystal ball genius” on Dec 3rd, when the S&P500 was down 3% after my sale! I told myself “Yes! Let’s hope it continues so I can get back into the market at lower prices hahaha!”
But then: “wait, when am I supposed to get back? I forgot that to time the market one has to be right not once, but two times!”
That’s why there are many things to learn from my experience. If you plan to permanently alter your asset allocation and to reduce stocks exposure for reasons like “loss aversion” then it’s ok to get out when you feel comfortable. But if you plan to get out, wait for a 5% / 10% / 20% / 50% crash and get back in you need to be lucky two times!
Let’s assume it’s October 3rd 2018, and you perfectly timed the market and sold all your S&P 500 shares! Extremely lucky, the day after the market would start a 20% descent until Dec 24th 2018. Let’s say your genius doesn’t stop there: you actually predicted a 20% drop! So you set your threshold to get back in once the price dropped by exactly 20%. You instruct a limit order and just wait. The market follows your predictions each day. Awesome, genius, Jim Simons! On Dec 24th you prepare the Champagne, since your limit order is going to be fulfilled… but the market bounces back before touching -20%! And you wait… but your order will never get executed, and you lost opportunities!
So, NO, don’t time the market because you think you’re smart! Even if you succeed, you’re just lucky, not smart. And if you got lucky, don’t try to repeat the pattern or else “a fool and his money are soon parted“.
“Wait RIP, I don’t understand. Did you sell to adapt to a different Asset Allocation (and what’s your current AA), or you wanted to sell and buy back at a lower price (timing the market)?”
Yeah, that’s a great question.
That’s more to it. Yes, this post was supposed to be a quick one but it wont’ be 🙂
Let’s first answer to “what’s your current AA”:
My AA right now is ~40% Cash, 35% Bonds and 25% Stocks. You can monitor it in realtime in the “Net Worth by Asset Class” sheet in my NW Spreadsheet.
Before you ask: No, this is not my desired AA long term. I still want to have an AA that can sustain a safe withdrawal rate in the neighborhood of 3.5% for ~40 years. This can’t be achieved with anything less riskier than 60% stocks /40% bonds. Stretch 50%/50%.
So current AA is not in line with ideal AA.
“So what’s your ideal AA? Why are you not there? Why you sold all those positions? What does you portfolio look like now?”
We’re getting close to the core. Let’s first answer the last question: my portfolio looks like shit right now! I only have small caps (EU and US), emerging markets, high dividends (US and not US), EU REIT and some bonds. No US and EU Large cap stocks. It’s a complete shit out of balance!
“But why? Why??”
Ok, let’s get to THE point: I think my accumulation phase (at least at the rate I got used to during last 7 years) is coming to an end soon. Spoiler? Not yet. But I think I will earn substantially less in 2020, and in the years to come. This is my nest egg. I’m done building it up. Now I should focus on both preserving it, and letting it produce fruits to feed the family. An almost impossible goal, but in the short term I prefer to favor preservation in lieu of aggressiveness and ability to “feed the family”.
“I still don’t understand…”
Let’s assume in 2020 I will earn a lot less. What would happen then? I have a decent Net Worth, I’d earn money from my investments and dividends. It is very likely that the Swiss Tax Authority would consider me a professional investor. So I will be taxed on dividends AND capital gains. I actually sold all ETFs with high unrealized capital gains. I realized 45k CHF of (tax free?) capital gain!
So… let’s celebrate a bit! 45k from this sale, 45k that would have not been there if I hadn’t invested!
Actually, all the 2019 sales totaled 84.5k CHF realized P&L. More than we spent this year! And it doesn’t even include dividends (another 12k).
Now, what are the consequences of all the sales of 2019?
Unless I will be considered a professional investor, nothing. 84.5k CHF tax free!
“Are you afraid you will be considered a professional investor?”
A bit, yes. I think I can defend my “I’m not a professional investor” position, since… well… I’m not a professional investor! But it could require some actual effort, since the capital gains are high enough to be a non negligible fraction of our total earnings (~25%) for the year, and I made a few mistakes and violated one of the 5 rules to be 100% sure you won’t be considered a professional investor (DE, FR, IT). I violated the rule that “I should hold assets for 6 months at least”. I think I sold something before holding it for 6 months. Maybe more than once, but small amounts. Anyway, those are just “sufficient but not necessary” conditions, and I think I can easily defend my case.
If I hadn’t sold my ETFs in 2019, and assuming next year I would earn much less, then realizing capital gains would have been harder to defend, since (literal translation of the third condition): “profits from trading would compensate for the lack of a salary or other means to maintain one’s standards of living”
So I preferred to realize now and play an easier game to win in 2019 than maybe realize in a time where capital gains would have been harder to cash tax free.
“Ok, that makes sense I guess. But then why didn’t you just buy back the same shares the day after the sale?”
Well, that would look suspicious I think. Plus… yeah… I still wanted to refactor my AA and maybe simplify the ETFs I own… and that takes time… and that’s one of my cleanest rooms in my new flat:
I’m cutting sleeping time to post this, I don’t have time to shave myself. Rebalancing a portfolio and investing ~400k that I have sitting on IB demands few days of dedicated time and focus.
But I know that the size of the problem deserves (and demands) time and focus.
There are a few questions I should just stop everything else and focus on:
- Should I get back in the market before EOY?
- All at once or DCA?
- Buying back the same ETFs or… what else?
- Simplifying (just buy VT) or not?
- What about the other ETFs I own? VYM has also 10k unrealized P&L, and if I sell it before Ex-Dividend date I can avoid paying taxes on (high) dividends…
- What if I wait until Jan 1st? What if I won’t be allowed to buy US domiciled funds anymore?
- How to actually adjust my AA to match my loss aversion and at the same time be aggressive enough to sustain a 3.5% SWR? The 4% rule with just 25% stocks is doomed to fail. There’s no Bengen around to save you!
- What if I would benefit from being classified as professional investor in 2020? Let’s assume I earn some money (less than half compared to 2019) and the market crashes. I could benefit from being classified professional investor since I can deduct losses… in that case it may be beneficial to wait until Jan 1st to buy assets back.
I will set aside Dec 23rd and 24th to take decisions and act upon them. In the meantime, suggestions are more than welcome 🙂
Fun fact: this was (and still is) my cash balance on IB after the trade:
A way too large amount to let sit on my brokerage account.
First action I took was to join the Insured Bank Deposit Sweep Program on IB, to allow them to open many accounts in my name to spread the deposits among more banks and enjoy a larger FDIC insurance amount (up to $2.5M).
Second action I took was to convert the excess of 100k EUR from the sale of MEUD into CHF (you can see it from the screenshot). EUR cash balance carries a negative interest rate above 100k on IB. Take a look at IB interest & financing page. CHF also carries a negative interest rate above 100k, but I’m far enough. The huge (218.5k) USD balance provides a positive interest rate of 1.05% above 10k. I’m earning some interests while waiting, not bad. It’s not free though: inflation rate in the US is more than 1% above the inflation rate in both EU and Switzerland, so – all other things being equal – USD is expected to lose compared to EUR and CHF. No free lunch, sorry.
So… two questions for you:
- How wrong was my action?
- What would you recommend me to do next?
Have a nice workweek!
And remember: do not try this at home! If you have just started earning real money, you should be 100% aggressive! I’m close to the end, and a drop of 2-300k for a market correction would have a huge impact on my well being.
And now… time to celebrate the realized profits 😀
Have a nice day!