Diversify or 100% Allocation

[ProduceMan]

Diversify or 100%. Anyone with Pros / Cons.

[misfit]

I would say diversify for the simple reason of risk management. Also with the allowed 2 moves per month, it gives you more leeway to adjust after your 2 moves are used up to allocate more to the G while keeping some in the other funds for the remainder of the month.

[ProduceMan]

I totally agree. I have C-S-I-50 and G.

[Aitrus]

PM, some here know that I'm working on a book on investing in TSP. The book is pretty much done, just looking for an agent and publisher at this point. But for now, here's the entirety of Chapter 3 - The Funds and Diversification

When you invest in the TSP, there are five basic Funds to choose from, along with the various L Funds. I recommend that you stay away from the L Funds because I don’t consider them sufficiently aggressive to have a realistic chance of earning enough for you to have a secure retirement. The G, F, C, S and I Funds are all you ever really need to use in order to have a good retirement account.

I can hear the keyboards firing up already. “But so many investment experts say that I’m supposed to diversify!” Cease thy lamentations, young padawan. I shall explain.

These five funds will form the foundation of your portfolio, and they have lots of diversity all by themselves. They will do most of your wealth building for you, and so should be utilized to their fullest. Other things that are a part of your “diversified” portfolio are things that most people don’t think about - the valuables in your home like jewelry, firearms, art, old pre-1964 silver coins; Non-TSP investments you might have like real estate, stock trading accounts, bonds, CDs (certificates of deposit), savings or money market accounts, mutual funds, ETFs, IRAs, etc. Don’t forget about other tangible assets that have value and can be liquidated or borrowed against if necessary like your vehicle, your home and the land it sits on, etc. Your military, CSRS or FERS pension is also a part of your overall net worth. You have plenty of diversity already, you probably just haven’t realized it until now.

The experts tell you to diversify your retirement account for two main reasons. First, it’s psychologically easier for you to weather bad times and continue investing if 10% of your money is in a safe, conservative Fund. This part of the diversification idea is that when 90% of your value is in stocks and 10% in bonds or something else that is safe like a money market account, that there is a tendency for the 10% to make money when the 90% suffers loss. Instead of 100% of your money taking the brunt of the crash, only 90% suffers the hit and the 10% in the safe account softens the blow. On the surface you did better than the market because you didn’t lose as much money. But in reality that “safe” 10% lost more than it would have if it had been exposed during the crash, you just don’t see it because you lost it before the market crashed.

What you lost by putting 10% in that nice, cushy safe space is the opportunity for that money to earn in all the other years that we don’t have a crash. Since 1988, there have been two instances of really bad times for the market: the 2001 Dot-com bubble and the 2008 housing bubble. The rest of the time, what was that 10% doing? Nothing! This is what we call “opportunity cost”. By not investing that 10% of your overall retirement value into a Fund to earn 7-8% per year, or even the 16% I will show you later, you are instead earning a measly 1-2% per year.

Besides, you likely already have at least 10% of your portfolio stashed away. If you take your home’s value, your vehicles, valuables, etc. I would bet that they are all much more than 10% of your net worth. For some of you, you might even have double the amount of your retirement account in your home’s value alone. But you can’t live on the value of your home in retirement. You need spending money to pay the bills, gifts for the grandkids, those vacations to Europe and the RV payments. And that part of your portfolio is probably waaaaay underfunded at this point. You don’t need to get safer, you need to get aggressive!

The other part of the diversification idea is that the 90% you have in stocks should be statically invested in all areas of the market. The prevailing wisdom is that big, medium and small U.S. stocks, international stocks, emerging markets, and more all deserve to be invested in. The assumption is that all areas of the market experience booming periods of good returns, and therefore you want to be in those markets when this happens.

The problem with that logic is that while all markets have boom periods, the rest of the time those markets don’t all perform the same. Including boom periods, the I Fund has a long-term CAGR of 4.75%, while the S Fund has a long-term CAGR of 11.32%. Yes, there are short periods of time when the I Fund has outperformed the S Fund, but which one does better overall? Which blind squirrel found more nuts? Which makes more sense: having a static 50/50 split between the S and I Fund, or 100% in the S Fund? Which will earn you more money in the long run?

Which sectors of the market are the riskiest? Hint: international emerging markets, and penny stocks (really tiny businesses that are just getting started). The potential is there for high returns, but the fact is that those markets expose you to high risk that often doesn’t pay off. Big companies do fail on occasion, but for every Enron there are dozens of small startups that fail. Why invest in things that have little chance of return?

Fortunately, you aren’t unnecessarily exposed to these risks in TSP. The I Fund isn’t a complete selection of international companies, but a list of well-known companies in developed countries. TSP doesn’t have any Funds that include emerging markets or penny stocks. FYI, emerging markets are those countries with economies that are in poor shape but are in a position to head higher or have been doing so for several years – Brazil, Russia, China and India are examples. Russia has been an “emerging market” since the fall of the USSR and China has massive infrastructure and monetary policy problems.

If you still need convincing that you don’t need to have a portion of your TSP money hidden safely away and have a part take advantage of riskier markets, consider this: most experts would have you leave your money in all the Funds statically, perhaps re-allocating the amount of money in them each quarter or each year in order to maintain an “ideal portfolio mix”. This is what the L Funds do – they reallocate your money to an “ideal mix” automatically over time based on your retirement date.

Doing this, however, means that a portion of your money will always be invested in stocks during months that are usually bad. You’ll always be in the I Fund in August, for example. Why leave your money there if the chances are poor that you’ll have a positive return for that month? On the other end of the spectrum, if you know a month has a very good chance of having a nice return, like the S Fund in December, why not have every penny in that Fund during that month?

Simply by moving your money around from risky funds to safe funds and vice versa according to historical seasonal trends gives you a kind of diversification. If diversification is meant to protect you from risk by softening the blow, then doesn’t it make sense to protect 100% of your money during times that have historically poor returns? Why protect only a small portion of it?

In a sense, I’m advocating that if you feel you must diversify your investment money, that you consider doing so dynamically instead of statically. Which is better: wearing body armor to protect yourself against an incoming bullet, or not allowing yourself to be shot at in the first place by not being in an area of town during the time of day when gunfights often happen?

Being in the right place at the right time makes you money, and making you money is what the TSP Funds are for.

[Tomanyiron]

My account always goes 100%, and I agree with Aitrus 100%.
A conversation I can imagine, "You lost 1.50% today in the S fund". "Yea but I made 0.01% on the portion I have in the G fund, and 0.19% on the F fund part. So I win something even on the days I mostly lose." It helps people sleep better at night, I guess.

[harryface]

I say it demands on your investment strategy. If you strategy is set it and forget it then diversifying between C, S, and I is a good move. if you strategy is to watch the market and make moves based on current conditions then I say 100%. There will always be one fund growing better than another and if you are watching the market you should be investing in the fund with the best growth at that time. Having it spread across multiple funds means that some of your money is not growing as fast as other and you are missing out on growth.

[misfit]

Following Aitrus' post, Allocating 100% into G today. Wish it didn't have to be the G though ugh. Finally cutting my losses. Would've been way worse 100% in C or S the past month. That's the only bright side.

[XAMOTOMAX]

Misfit, I'd hold until next week and sell on a bounce day if you can stomach it. It's so volatile right now, there are inevitably going to be some bounces just like yesterday.

[misfit]

XAMO, I've been holding out long enough. Just when I think it may pick up consistently, it doesn't. I'm going to see what November brings. That doesn't sound very promising either. What a mess! I will remember what you said in the days to come.

[Tomanyiron]

...I'm going to see what November brings...

I can't tell you that you have made the right decision. But I will say, you can't be stubborn, the market will punish you. Making an IFT when, you see a good sign from a strategy that has worked in the past is how we do it. But all of them won't pan-out. You can't keep holding on and say. "I'm going to sit right here, and wait until the market comes back, and does what it should have done."

In my view, there is a great deal of value in restraint and observation – waiting for the opportunity, which arrives in every market cycle across history. And then expose yourself to market risk at the point where the retreat in valuations is joined by an improvement in market action. I expect some opportunities of that sort to emerge with the completion of this correction.