Let’s look at how the Permanent Portfolio has done so far in 2009 according to Morningstar. A sample Permanent Portfolio comprised of the following ETFs has these total returns for the year. This assumes you bought in January and held on without touching the assets until today:

Vanguard Total Stock Market (Ticker: VTI): 21.27%

SPDR Gold ETF (Ticker: GLD): 14.31%

IShares Short Treasury Bond (Treasury MMF Equivalent) (Ticker: SHV): 0.11%

iShares 20+ Year Treasury Long Term Bonds (Ticker: TLT): -18.18%

Total Returns 2009 YTD: 6.70%

Now let’s look at what I consider a pretty standard portfolio made of 60% stocks and 40% bonds:

Vanguard Total Stock Market (Ticker: VTI): 21.27%

Vanguard Total Bond Market (Ticker: BND): 2.82%

Total Returns 2009 YTD: 14.74%

Some comments:

1) The Permanent Portfolio had almost 7% returns so far even though one of the assets (Long Term Bonds) has done quite poorly. Yet, this is normal. At any time you’re probably going to find at least one asset in the portfolio that is doing very well and another that isn’t. Last year it was LT bonds that came in at the last moment to save the day when stocks took a large loss. This year it looks like positions are reversed. This unpredictability is standard in the markets which is why the portfolio does not attempt to guess the markets. This is also why I tell people to just buy all the assets at once and not attempt to guess whether one is too high or too low at any point in time.

2) The standard stock/bond portfolio is having a good year by comparison. This will always happen when stocks are having such a powerful recovery as they have so far in 2009. But also remember that this portfolio had a loss somewhere around 25-30% last year so it has a ways to go to recover from the losses in 2008. It still needs to go up another 15% or so to get back to even according to this chart.

3) The Permanent Portfolio is not designed to have rocket-ship like performance during good years. But it also doesn’t have rocket-ship like explosions during bad years. It is made to have just a smooth steady real rate of return year after year. Since the 1970s this rate of return has averaged about 9-10% per annum with the worst loss being about -4-6% in 1981.

Rebalancing – Emotionally challenging but necessary

Now let’s consider the rebalancing strategy of the Permanent Portfolio. As we know, the Permanent Portfolio splits the assets of stocks, bonds, cash and gold into equal 25% portions. To rebalance, you buy an asset when it falls to 15% or less of the portfolio and sell an asset when it is 35% or more of the portfolio. These are the standard rebalancing triggers. Some people use figures of 20% and 30% for buying and selling which is fine, too.

Just have a figure set for your portfolio and don’t go around changing it based on what you think the markets are going to do.  Also, don’t let any asset get above 35% of your portfolio because you open yourself up to taking a larger loss if that asset drops in value quickly. Likewise, don’t let an asset fall below 15% because you won’t own enough of it when needed to offset losses in other parts of the portfolio.

If you were following the strategy you probably did better than 7% this year because you were rebalancing. Rebalancing is critical for the Permanent Portfolio strategy to manage your risk. In late 2008, I encouraged readers to rebalance from their LT bonds into stocks:

By not rebalancing, you may miss out on large gains in your other assets by having too much of your money tied up in your current winners. Imagine missing out on a 20%, 30% or higher gain next year in stocks if the markets recover and things work out.

YES, I know that sounds impossible right now. But it’s happened before and YES it usually does it after a bad market crash.

Gains like I just mentioned happened after the early 1970’s recession (1975 +37%, 1976 +24%), after the recession in the early 1980’s (1982 +21%, 1983 +22%), after the early 1990’s recession (1991 +31%), after the early 2000’s Internet bust (2003 +29%) and they even happened during the 1930’s Great Depression (1933 +54%, 1935 +47%, 1936 +34%, 1938 +31%).

That was a profitable move but didn’t involve market timing. Just simple rebalancing. Now I’m reminding readers again that if your stock or gold allocations are at or above your rebalancing bands you should sell them down and redirect your profits to to your lagging assets (probably Long Term Bonds and Cash).

Yes, I know what the financial press is saying about Bonds (Inflation is coming so don’t buy them!). Yes, I know what they are saying about gold (Inflation is coming so you should buy gold!). Yes, I know what they are saying about stocks (We have green shoots of recovery all around us!).

I get it. Yet, I don’t care what others are saying. These people don’t know what the markets are going to do any better than you or I.

I know it’s hard. You have to sell out of your best performing asset that everyone says can only go up and take that money to buy some losers that everyone says can only go down. But, that’s the winning strategy.

If you rebalanced this year you were selling down your LT bonds and buying stocks in the Winter at a near decade low price. By Spring, gold had gone up in value and it is likely that you may have had to sell some of it down and buy stocks when they were even cheaper. Then Summer came and stocks have gone up near 50% since Spring and it may be that you’ll be rebalancing out of them by the end of the year. So it goes.

In fact, you probably are well ahead of the 7% YTD figure posted above if you did these things thanks to the powerful stock market recovery in the Spring and Summer that you bought into with your profits from LT bonds and gold earlier this year. All of this was done without any market prognostication or gimmicks. Just some simple arithmetic on calculating portfolio percentages.

This amount of rebalancing is unusual in the portfolio. But, the markets are very volatile right now which necessitates it. Usually, you don’t have to rebalance very frequently at all. Perhaps only every year at most (usually longer in fact). The point is don’t get emotionally attached to any asset because you’re not married to it. When it is too high, you sell. When it is too low, you buy. Don’t over-analyze it. It’s business. It ain’t personal.

Remember, the Permanent Portfolio strategy requires you to rebalance out of winners and into losers. It is forcing you to sell high and buy low. I know it can be difficult emotionally to buy into an asset that looks the worst. Yet, you must ignore what you see, read and hear in the press (or feel in your own gut) and rebalance your portfolio when it is needed. It works.

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