The Permanent Portfolio, Investing, Finance and Random Thoughts.
Posts tagged asset allocation
2010-11-14 – Stocks for the Permanent Portfolio
1 year ago
Podcast for November 14th, 2010.
Topics
What stocks to buy for the Permanent Portfolio?
Index vs. Active funds.
Do you need International?
How about Small Cap Value?
Reader Questions
Should I go in all at once or dollar cost average?
Should investing be scary?
Show Links
Permanent Portfolio Stock Allocation FAQ
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Assets in Isolation: Long Term Bonds
Long term bonds are hot now. Posting about 20% gains so far this year.
Yep, they’ve gone up a lot. Same thing happened in 2008. In 2009 LT bonds dove in price by -22% as yields climbed from the lows of January back to the upper 4% range by the summer. Bummer. If you read what so many people say this should have been devastating. A 22% loss is just crushing, right?
No, it wasn’t.
The stock market recovered sharply that year posting around 30% gains. This effectively wiped out all of the losses in the LT bonds. If you rebalanced in 2008 taking LT bond profits and buying stocks and then taking some stock profits in 2009 to buy back into LT bonds when they fell in price you are doing perfectly fine.
In fact you’re doing better than fine because those LT bond prices have climbed again while the market this year is floating around 0%. This doesn’t even include the interest payments you’re getting. Heck, if you had just done absolutely nothing the past two years but held on for dear life you still posted small gains through the worst bear market in decades and the sharp recovery:
Portfolio 1: 60% Stocks and 40% Total Bond Market
Portfolio 2: 50% Stocks and 50% Long Term Bonds
Portfolio 3: Permanent Portfolio 25% Stocks/Bonds/Cash/Gold
Portfolio 4: 100% stocks in the Total Stock Market
CAGR 2008-2010 YTD
60/40: -1.80% / Year
50/50: +3.25% / Year
Permanent Portfolio: +5.96% / Year
100% Stocks: -7.33% / Year
For a starting balance of $10000 in 2008 you ended up with in 2010 YTD:
60/40: $9469
50/50: $11007
Permanent Portfolio: $11666
100% Stocks: $7960
The above assumes rebalancing happened each year. If you didn’t rebalance then your results were less, but still a positive return for the 50/50 portfolio and about the same for the Permanent Portfolio. Losses in the other portfolios were still present to a greater or same degree. But these returns happened even with massive losses in stocks in 2008 and massive losses in LT bonds in 2009. It’s not magic, it’s diversification in action.
It is a bad idea to look at assets in isolation. Only total portfolio value matters. Investors do not win every year in every investment. Anyone who says so is a liar. The point of having a wide diversification is so you can ride up with the winners and be protected against severe losses in the losers. If we had listened to the pundits this year about staying out of LT bonds we would have missed the gains. If we had listened to the pundits in 2009 about avoiding stocks we would have missed those gains. I see a pattern here.
Ignore the pundits and stick to the plan.
Overall, the direction of the Permanent Portfolio is heading the right way (growing each year) so there is no point in fretting over what an asset may or may not do going forward. It’s a complete waste of time even thinking about this stuff because nobody can tell what is going to happen. Stick to the rebalancing bands and buy and sell when needed. Simple.
Looking at assets in isolation is a good way to get headlines, but a terrible way to run a portfolio.
Callan Periodic Table for 2008
Investment advisor Callan Associates released the annual update to their Periodic Table of Investment Returns:
Callan Periodic Table of Investment Returns 2008
If you’ve never seen it, the Callan Periodic Table shows common asset classes and their returns each year back to 1989. The table doesn’t list all the assets that the Permanent Portfolio uses (it’s missing Gold [+5% in 2008] and US Treasury Long Term Bonds [+33% in 2008]), however it gets a point across. What point is that you ask?
The markets are not predictable – Something you’ll hear me repeat over and over again on these pages.
This table shows some assets doing well for a couple years and then falling from grace. Then the losers rise to carry the title of hot performer until they finally go down in flames. This is the way of the markets. In fact, Harry Browne used to say:
“Investment success begins the day you accept the fact that you cannot predict the future”
This is excellent advice.
The benefit of the Permanent Portfolio strategy is you’ll usually have an asset doing well no matter what is going on in the economy. This asset can often offset your losses in the other parts of the portfolio or at least dampen serious losses. To capture your gains, the strategy has you selling down your winners and putting that money into the under-performers which may do well going forward. The net result is a smooth stable growth through the years without the volatile gut wrenching swings in portfolio value.
All of this can be done without turning yourself inside out relying on fortune tellers, market timing, predictions, chart analysis, reading mountains of investment news and hoping that your risky gamble doesn’t leave you in the poor house. Once you accept that the markets cannot be predicted you are able to adopt an investment strategy to deal with this uncertainty and sleep at night.
Market timing doesn’t work, but it’s not the end of the world. In fact, this realization is critical to investment success. So let go and trust the Force, Luke. You’ll be a better investor for it.
How Long to Recover from Losses?
Risk and reward go hand in hand. The more reward you expect, the more risk you are taking. This has always been true and always will be true.
But with risk comes the possibility of losses and avoiding large losses in a portfolio can be just as important as reaching for big gains. The way the math works, large losses do a disproportionate amount of damage to a portfolio (e.g. a 50% loss means you need to earn 100% just to get back where you started).
If you are curious about what kind of returns you need to recover from a serious portfolio loss I recommend you consult this handy table:
This is just some food for thought about consequences of investing risk. Understanding risk is a critical component to developing an investment strategy you can stick with when markets aren’t going your way.
Time to Rebalance?
3 years ago
Economist Robert Higgs comments in the following piece about the prospect of inflation in 2009 and beyond:
The Fed versus the Banks: Who Will Blink First?
I have never been inclined toward touting doomsday financial scenarios. I raise the possibility now only because, as I consider the situation portrayed in the graph of excess reserves linked above, I am unable to foresee how the Fed and the Treasury can navigate through these treacherous waters – waters that their own previous actions have whipped to a foam – without creating terrible financial and economic harm. If the dollar survives the ministrations of Bernanke, Paulson, Bush, and the Obama gang, its survival will be something of a miracle.
Earlier in 2008 inflation fears were the bogeyman. Oil was at $150 a barrel (it’s now $40). Gold hit $1000 an ounce (it’s now in the $800′s). And the Dollar was at record lows against the Euro and other world currencies (it recovered greatly). The markets were sure that inflation was coming on strong.
Ahhh, but Fall 2008 came and so did the popping of the Real Estate bubble. This caused a massive destruction of paper wealth that rippled through the financial markets taking out many large banks. By December, Long Term bonds (a powerful deflation shield) swapped places with gold, commodities and other inflation hedges for being the winning asset of the year. The US Dollar shot up in value at a rate never seen against the Euro. Deflation was on everyone’s mind and Long Term bonds proved their mettle as they powered ahead with 30-40% gains. This boost erased almost all market losses in the Permanent Portfolio strategy during the October/November stock crash.
Who would have thought that we’d start 2008 with the prospect of inflation only to end the year with our illustrious central bankers scrambling to prevent an all out deflation? The markets are like that though. Moody. Random. Unpredictable.
But what should we do now?
