Monday, October 4, 2021

Portfolio podcast

I did a Rational Reminder podcast and video, focusing on portfolio theory, but also a tour through asset pricing. My hosts Benjamin Felix and Cameron Passmore were unusually well prepared and asked great questions! Video below, or go here for video, podcast, and transcript for people (like me) who read more than listen.


  1. John,

    Please explain inflation indexed coupon payment perpetuities during a deflation.

    From the example in your paper:

    "A much better explanation is, Honey, look, this investment pays a steady coupon forever that we can live on. That's the point. We're not going to buy or sell those bonds, we're going to live off the coupons. Just tear up the statements, and stop worrying about the
    portfolio's mark-to-market value. They're meaningless for us."

    Until the next month comes along and deflation has set in. Suddenly those coupon payments are negative. And so instead of receiving a coupon payment, you are remitting a payment back to the issuer. Oh but wait, you are living on those coupon payments with no other form of income. So now you have to either go back to work to earn a positive net income, or sell some other good into a market where prices are falling.

    "The 19th century U.K. funded an enormous government debt almost entirely with perpetuities, which under the gold standard were essentially indexed."

    Yes, but even during a deflation through that time period the UK never demanded remittances of gold (negative interest payments) in response to changes in the price level.

    1. No need for negative coupon payments. Payments are adjusted to the level of the CPI, not their growth rate. Say the CPI today is 250. The coupon today is then $2.50. If the CPI goes down to 200, big deflation, the coupon goes to $2.00.

    2. Doesn't your recommendation have a tendancy to exacerbate demand side deflation and inflation (positive feedback loop)?

      Prices fall, so people receive less income, so they spend less, so prices continue to fall? Prices rise, so people receive more income, so they spend more, so prices continue to rise?

      Is there such a thing as counter-cyclical fiscal policy in a world of perpetual CPI level indexed securities? Shouldn't the sign be reversed perpetual deflation protected securities?

    3. FRestly, why not hedge deflation by selling inflation swaps?

  2. curiosity on predictabilityOctober 6, 2021 at 1:18 PM


    I have always been curious about predictability. For example, suppose dividend growth is random while an increase in the P/D ratio will eventually decrease return. In that case, it means that an increase in (relative) price has not been achieved by the increase in expected dividend - is it correct?

    In other words, can the statement that "the price rose since we expect an increase in cash flow" be considered a false statement? (this statement is what analysts often make). Because if it weren't, the price would rise, and so would the return. This part is still a bit unclear to me.

    But, at least for individual stocks (and for the economy), aren't we also seeing a history of rising prices in the 'long-term'? With an expectation that the cash flow from those assets will increase?

    Thank you always for your insight.

  3. Hello John, sorry for the late comment. The whole bit about how returns being predictable makes future dividends unpredictable, holding the current price level constant, seems a bit unclear to me... Doesn't the fact that, again for a given price level, returns are predictable imply that future cash flows/dividends are (at least long-term average returns.
    Many thanks.


Comments are welcome. Keep it short, polite, and on topic.

Thanks to a few abusers I am now moderating comments. I welcome thoughtful disagreement. I will block comments with insulting or abusive language. I'm also blocking totally inane comments. Try to make some sense. I am much more likely to allow critical comments if you have the honesty and courage to use your real name.