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Countercyclical Indexing

CR: You say you're not a big fan of trying to beat the market or target alpha, but isn't Countercyclical Indexing an attempt to time the market?

Relatedly, isn't it basically a form of factor investing, something else you claim to dislike?

I don't mean to be combative, just looking for answers.

Hi MM. Yes, I would say that CI is a form of factor investing which makes it therefore an indirect alpha pursuit. But that's true of any strategy that deviates from the global financial asset portfolio. The GFAP is the only true passive strategy. So anyone who deviates from it is essentially saying "I can beat the GFAP or, I should try for some personal reason".

So we're all indirectly trying to beat the market. But that's not the reason for CI. The reason for CI is very specific - CI is a behavioral strategy that aligns someone's risk profile with their financial goals. The goal isn't to beat the market. The goal is to beat your personal benchmark with that benchmark being any other strategy under which you'll behave worse thereby leading to worse returns.

Further, the main problem with most factor strategies is not that they pursue factors. It's that they charge high fees for those facts. If you can pursue factors for 25 bps or less then great. I don't really have a problem with that. It's the idea that we should pay fund managers ridiculously high fees in exchange for those factors that bothers me.

For instance, if I wanted to implement a low fee and tax efficient strategy that would generate something like 6% per year I would just slap together a 60/40 stock/bond portfolio and call it a day. But I know that 60/40 falls 30% in a year like 2008 and that scares the hell out of me. 60/40 could look like all sorts of factors, but you should never pay 1% per year for it. But what if I could put together a strategy that has a good chance of performing like 60/40, but also has a chance of being better aligned with my risk profile AND doesn't cost me an arm and a leg? That's the goal of CI. It's just a low fee and tax efficient strategy that seeks to better align the way we actually think of risk with the way our portfolios are allocated.

"Pragmatic Capitalism is the best website on the Internet. Just trust me. Please?" - Cullen Roche

I see. So is it fair to say that you're in favor of active investing at a reasonable price?

Well, everything is technically active since any deviation from the GFAP is an active choice. My view is basically:

1) You shouldn't be too active in stocks (market cap weighting will generally be just fine).

2) You can benefit from being more active in bonds because there are no-brainer moves (like not owning an index like the aggregate in a taxable account).

But I think you should achieve all of that without paying more than 50 bps. That's my general outline.

"Pragmatic Capitalism is the best website on the Internet. Just trust me. Please?" - Cullen Roche

Bogle would go for the active fund if it was cheaper than the passive.  He was completely obsessed about cost and not performance.  I obviously don't agree with that because of all the agency issues.