Article written by Yale Professors tell why our strategies work!

"Borrowing to invest early on in life is the key to long-term out-performance" 

New research proves that greater leverage is just what individual investors need if they want to maximize their retirement savings and minimize risk.

In a working paper published by the U.S. National Bureau of Economic Research in June 2008, Ayres and Nalebuff theorize that although investors have learned the value of diversification across asset classes and geography, they haven’t recognized the importance of diversifying across different time periods. “The problem for most investors is that they have too much invested late in their lives and not enough early on.”

The paper concludes that these investors should leverage their portfolios while they are young.

The report states  “The typical decision of how to invest retirement savings is fundamentally flawed,” The reason is clear enough: most people start with little to no savings when they are young. So, they are constrained in the amount they can invest at the start of their working lives. The Yale report acknowledges that this advice is controversial: “We recognize that our recommendation to begin with a leveraged position goes against conventional advice.” However, the authors argue, it rationally follows from the theory that investors should adopt a constant asset mix to reflect their risk tolerance. 

More important, this argument was proven in the data. The advice was back-tested against actual U.S. market returns from 1871 to 2007, and assumes 44 years of investing as people enter the workforce at age 21 and retire at age 65. Using the study’s leveraged life-cycle model — employing leverage at an early age and gradually de-leveraging — the professors found that investors can achieve higher returns with less risk.

The authors also tested their hypothesis against historical returns in Britain and Japan and subjected it to a vast array of simulations to see how the strategy would perform with significantly different annual return distributions Ayres and Nalebuff say in the report "Most people (including ourselves) mis-invested their retirement portfolios when young. The cost of this mistake is not small. Our estimates suggest that if people had followed this advice, historically they would have retired with portfolios worth 21% more on average when compared with [investing 100% in stocks] and 93% more when compared to the life-cycle strategy.”

Moreover, the increased returns also have less risk. “For all risk preferences, the results are better,” the paper explains. “This suggests a simple rule that will lead to better outcomes: whatever savings young people have, they should leverage them up.”  For the most part, the strategy produced superior results. “This paper shows that it is possible for people to retire with substantially larger and safer retirement accumulations, and they can do this without having to save more,” the authors conclude. “All they have to do is invest using leverage while young.”

“While families are encouraged to buy a house on margin, they are discouraged and often prohibited from buying equities on margin. We are taught to think of [leveraged] investments as having the goal of short-term speculation instead of long-term diversification. As a result, most people have too little diversification across time and too little exposure to the market when young. Based on historical data, the cost of these mistakes is substantial.”

Indeed, compared with conventional life-cycle strategies — starting with 90% exposure to stocks and reducing that to 50% over time — Ayres and Nalebuff have estimated that, based on past returns, adherents to their strategy would have been able to finance an additional 27 years of retirement, or to retire five-and-a-half years earlier, and still have enough money to last them through to age 85 — almost double the historical retirement consumption.

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