Back in November of 2015, I spoke to you how I am interested in growing my fixed income exposure. I wanted to achieve that, in order to protect myself from deflation. I believe that we are at risk of a deflation, if we continue to get industries disrupted, if economies continue to languish, if we continue to get increased automation that replaces workers and therefore their incomes and demand for goods and services. I also believe that global trade could push prices lower, as global competition pushes producers to compete on a more equal level.

Get The Timeless Reading eBook in PDF

Get the entire 10-part series on Timeless Reading in PDF. Save it to your desktop, read it on your tablet, or email to your colleagues.

We respect your email privacy

Dollar
Photo by NikolayF (Pixabay)

Over the past year I have been investing in Certificates of Deposit, US Agency Bonds and Treasury Inflation Protected Securities. I have also took advantage of a few savings accounts that offer higher yields today like NetSpend ( First $1,000 yields 5%, but used to be $5,000 a few months ago) or Insight Savings. I also keep three months expenses in my savings account, for my emergency fund. My checking account has roughly one to two times monthly expense. Most of the fixed income exposure I have is in taxable accounts. The only exception includes TIPs and a bond market fund I own in my 401 (k). I used to allocate 10% of my paycheck to the bond fund, but I have been gradually increasing that to 20%, and now it is at 30% of my paycheck. I will likely continue doing that either until S&P 500 drops below 20 times earnings or until my fixed income exposure in the 401 (k) exceeds 20% ( currently it is a lot less than 10%).

As a result of my high savings rate, and reallocations ( moving dividend income around), my fixed income exposure has been reaching 10% - 15% range. This essentially took a little over year and a half to achieve. Given that I am in my early 30s, I think that this is the highest I am willing to keep it at this moment.

[drizzle]Another reason why I bought fixed income in the first place is as a protection in case we get deflation that mirrors the 1929 – 1933 one in the US or the 1989 – 2016 one in Japan. I am concerned more about extended periods of time that could result in permanent capital impairment to my nest egg, rather than short-term fluctuations in values and economies ( I define short-term as something that spans anywhere from a few months to a few years).

I invest for the long term. In my case, assuming I make it to my 80s, I am investing for the next 50 years. Incidentally, this period is much longer than the amount of time I have been alive on this earth. And looking back at the past 50 years, I am pretty certain that few people from 1966 would have predicted the things that happened between 1966 and 2016. Yet the 30 year old from 1966 probably had to make some estimates about life in the 2010s, despite not knowing what the future entails. I am in the same boat today.

Because I invest for the long run, I can afford to ignore stock price fluctuations, but instead focus my attention to investments that could generate the maximum amount of benefit for me for the next 40 – 50 years.

This very likely means that I will not be able to correctly predict any of the future bear markets we will experience from now until 2066. Therefore, it is unlikely that I will be able to sell high, and then buy low. Noone can do that successfully anyway. Market timing is a fools game.

I believe that investors should simply stay the course. When you try to buy and sell too actively, you increase the risk of making a mistake by an exponential factor. This means that people who sell today in anticipation of a correction will either:

1) Sell out too early. By the time a full blown correction/bear market happens, this person may be able to buy low, but they may end up doing as well as someone who simply stayed the course. This is costly, because this investor may get into the habit of forecasting tops, and missing out on future rebounds in economic and business activity.

2) Get out of equities on time perfectly, and then buying back on time perfectly. If this happens once in an investors timeframe, it is unlikely to be repeated again. You get lucky once, but chances are you will be unlikely to get lucky again. I got lucky once, but the amount of capital I had was much lower than today.

3) Get out of equities at the right time, but you end up buying back at the first dip. Then you watch your equities go down more, kicking yourself about your decision.

4) Get out of equities at the right time, and you end up missing out on the bottom, because you think that stocks will go even lower.

As you know, I have been writing about investments for about 9 years. I have observed a lot of investors in the meantime. Many were feeling uneasy about the financial crisis in 2007 – 2008. I am aware that some may have sold early, or too late. The problem is that many of those investors who sold, didn’t get back into stocks at all, or went back to stocks several years after the bottom in 2009. This  was when prices were much higher. I am also aware that there are many permabears, which have been forecasting doom and gloom since at least the late 1980s and early 1990s. These people have missed out on a great run in equities. The funniest thing about permabears is that they only look at stock price graphs when they evaluate when to buy and when to sell. They completely ignore dividends, and the power of reinvested dividends.

Dividends have historically accounted for 40% of annual stock returns. If you miss out on the power of reinvested dividends over long periods of time, you are missing out on the power of compounding. For example, if you have a stock yielding 6%, that never grows dividends, and never increases in price, a stock chartist would call this stock a dog and ignore it. But a patient long-term holder who reinvests dividends will have doubled their money in 12 years. The power of reinvested dividends is the reason why S&P 500 investor who bought right before the Crash of 1929 would have recovered by 1944.

Other reasons against selling include my experience, where I have found that the companies I have sold for one reason or another, turned out to do much better than the companies I replaced them with. This is a common finding from academic finance as well. The only thing that is certain when you trade too much is that you will pay a lot in commission and taxes. As we have seen with actual examples from the worst mutual fund in