Permanent Portfolio in this environment?

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banker22
Posts: 110
Joined: Mon Aug 03, 2015 1:17 pm

Permanent Portfolio in this environment?

Post by banker22 »

Hi all

I'm curious to hear what you think about the permanent portfolio allocation in this environment. On one hand we have looming rate hikes and a potential period of tight money, which seems to be the kryptonite of the PP. On the other hand we have Trump and potential reflation, social unrest, geopolitical conflict which I imagine would suit the PP just fine.

From an asset class perspective:

Equities: overvalued in pretty much every developed market, but may have further to run.
Fixed income: hard to see any upside here, at all...for years.
Gold: who knows, but I think has way further to run.
Cash: cash

What do you guys think? I suppose the value (and difficulty) of diversification is sticking with all of the asset classes.

Jonathan

vexed87
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Re: Permanent Portfolio in this environment?

Post by vexed87 »

Yes, half the battle of the PP is accepting that two or even three of the asset classes might not be performing particularly well at any time, but the PP really does have a great track record of weathering crisis, be it inflation, depression, or recession. Putting the usual reservations about gold aside, cash the other ugly duckling seems to be king right now, so it would be a good idea to ensure that you don't be tempted to eat into that allocation unless strictly necessary, you might need it at a moments notice. If the bond market collapses at the same time as stocks, you'll be glad you have your cash to hand, no doubt we will see an economic recession (tight money) shortly after.

Tyler9000s portfolio charts says it all: https://portfoliocharts.com/portfolio/p ... portfolio/

banker22
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Re: Permanent Portfolio in this environment?

Post by banker22 »

Thanks Vexed. Great site!

Wow the portfolio has performed excellently. It seems that a 4% SWR is pretty safe (ignoring fees and taxes, and assuming future approximates past).

Tyler9000
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Re: Permanent Portfolio in this environment?

Post by Tyler9000 »

+1 to Vexed87's comments.

When all of your eggs are in one basket it's normal to worry about how that basket might be doing. But when you have a diversified asset allocation you really have to evaluate the portfolio as a whole. Think of it as a thoughtfully built system rather than a collection of individual assets. The PP has a very strong track record of generating consistent real returns in all sorts of economic environments that caused havoc in the individual assets.

KevinW
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Re: Permanent Portfolio in this environment?

Post by KevinW »

+1, the PP should be considered as a holistic self-regulating system.

Quoting from the PP writeup on the ERE wiki (http://earlyretirementextreme.com/wiki/ ... _Portfolio),
Another key premise is that the future is unknowable. As a consequence, it is impossible to make accurate predictions about future economic events. The PP philosophy is agnostic toward which economic conditions, sectors, or individual securities may predominate in the future. It holds assets suitable to profit from and defend against all four conditions at all times.
According to this premise, we should abstain from predicting which way each asset will go, because that's the same as predicting the future, which is impossible. Instead the PP just buys and holds a mix of assets that will be safe regardless of what happens.

I've been following PP discussions online sine before the "epic thread" (https://www.bogleheads.org/forum/viewtopic.php?t=15434) in 2008, nine (!) years ago. This whole time, people have been asking the OP's question constantly, perhaps once a week on average. Something like "while the PP has done well in the past, obviously X asset(s) is overvalued right now so the portfolio is doomed to imminently self-destruct." Despite all that naysaying, the portfolio has continued to work as advertised. So a fact of life is that, at any given time, it's possible to make a coherent bear case for part of the portfolio. If you're going to invest in the PP you have to get used to tuning that out, which is actually a big relief.

classical_Liberal
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Re: Permanent Portfolio in this environment?

Post by classical_Liberal »

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Last edited by classical_Liberal on Thu Feb 04, 2021 10:51 pm, edited 1 time in total.

BRUTE
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Re: Permanent Portfolio in this environment?

Post by BRUTE »

tricky thing about negative-correlated-asset-class-portfolios like PP/GB is that humans don't just have to not panic during the crashes, but also during the 10 year rallies while everyone else is raking in the unsustainable profits.

Kriegsspiel
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Re: Permanent Portfolio in this environment?

Post by Kriegsspiel »

The PP is so boring, it's easy to ignore. Stocks have been kind of boring for the last few years too. I want some blood, dammit.

bryan
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Location: mostly Bay Area

Re: Permanent Portfolio in this environment?

Post by bryan »

Yes, you need to make a commitment to "not time the market." Best trick I know is pre-setting exact dates/reminders for re-balancing. It is still rather difficult to avoid selling of some extremely appreciated asset after major jumps (or avoiding buying more of some falling asset), though (I've never done a sell-off of a cliff-diving asset..).

So basically the risk of market timing seems lower than the risk of not market timing!

Remember, when people say "don't time the market" they mean "time the market this way, not that way".

Sorry if I've confused anyone. I've certainly confused myself a couple times just now..

edit: as far as PP at this moment (because it's fun to try to guess what the market will do).. I'm not so sure I like the LTT.
Another key premise is that the future is unknowable.
citation needed :lol:

banker22
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Re: Permanent Portfolio in this environment?

Post by banker22 »

Some would say that since the advent of unprecedented QE, these asset classes are no longer negatively correlated as they once were, which would destroy the utility of the PP. I need to look into this more.

Earlybath
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Re: Permanent Portfolio in this environment?

Post by Earlybath »

Kriegsspiel wrote:The PP is so boring, it's easy to ignore. [...] I want some blood, dammit.

Careful what you wish for, base currency of GBP has been lols for me over the last few months. PP or not.

bryan
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Location: mostly Bay Area

Re: Permanent Portfolio in this environment?

Post by bryan »

There will be blood.

jacob
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Re: Permanent Portfolio in this environment?

Post by jacob »

@banker22 - This concern is also known/being discussed as the "fifth condition"; go google. Incidentally, I think this correlation is only indirectly QE based. I think the more direct cause of why anti-correlation suddenly turns into correlation when you need the anti-correlation is the increased use of investing on the margin. With ZIRP, there are giant carry trades out there than get unwound when margin calls get strong---this unwinding then flips the correlation. The PP partially compensates for this by having 25% in cash.

Since social unrest, etc. was mentioned in the OP, it also bears mentioning that originally one was recommended to keep at least part of the gold holdings off shore(?*). Also, consider this: https://radicalpersonalfinance.com/refu ... -planning/ ... it's worth considering even if you're not a refugee.

(*) Or maybe I'm just getting the PP confused with Peter Schiff(SP?)

userqname
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Re: Permanent Portfolio in this environment?

Post by userqname »

Is cash, then, the only winning investment just prior to unwinding debt?

jacob
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Re: Permanent Portfolio in this environment?

Post by jacob »

Insofar that by "unwinding debt" you mean people meeting their margin calls, I think the answer is yes with very little equivocation. Cash is what everybody suddenly needs and don't have. If you are the one holding it, you can get some good deals. In modern markets, it's crucial to realize/internalize that the price is set at the margin and that it's done so mostly be people who borrow money to speculate whenever the credit markets and central banks allow it (those people are generally banks and corporations, i.e. buybacks). This drives equity (and gold and LT debt) prices higher than they would have been if it weren't for ZIRP at the short-term end #houseofcards

userqname
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Re: Permanent Portfolio in this environment?

Post by userqname »

I may have misread your previous comment. It seemed you were equating the fifth condition with contraction of the credit cycle, which is a condition amenable to holding cash.

I've seen the fifth condition termed "loose money," but mostly seems to be described as "I-don't-know-what-it-is-but-its-not-the-other-four."
Commodities seem like the obvious choice for a fifth asset, but their performance overlaps at times with gold and at other times with stocks.

jacob
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Re: Permanent Portfolio in this environment?

Post by jacob »

I see the 5th condition as infinite helicopter money or a collapse of all financial assets. I think the "best" 5th asset is mostly covered by the Alpha Strategy (Pugsley)... but what you're really want in such a condition is the ability to make money-at-will. Now, as for the 6th condition ...

KevinW
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Re: Permanent Portfolio in this environment?

Post by KevinW »

@classical_Liberal
You're right, historically there has been a lot of prosperity, a little recession, and only a few years of deflation or severe inflation. If that pattern continues, a prosperity-weighted portfolio is more optimal in the long run, no doubt. My first counter is that this is a future prediction based (usually) on extrapolating from 20th century USA, which is probably an outlier, but regardless as PP investors we don't try to predict the future.

My second counter is that psychological angst, and consequently investor capitulations, are not distributed evenly across the four conditions. Try telling someone who's despairing over apparently losing their retirement savings in 1929 or 2008, "sure it looks bad but this only happens 2% of the time so it's not actually a problem, stay the course." It's sensible advice, but only a small minority of people can actually follow it. So many (maybe even most) small investors using volatile portfolios capitulate at the worst possible time, and their actual realized returns are far worse than hypothetical backtests. Empirically, volatile portfolios don't seem to work very well for the "common man."

When giving advice for the "common man," I think it's wise to acknowledge human nature and design a system that will work for someone with only "common" faculties. In the case of the PP, that means overweighting the defensive assets, so that when the (admittedly uncommon) deflation, inflation, or recession shocks come along, they are easy to stomach. Yes, that means underweighting the prosperity asset, so returns are diminished during prosperity. That's why the portfolio is usually described as only providing "moderate" returns, certainly lower than a stock-heavy portfolio.

There is a second-order psychological effect here too. During scary financial moments, people have a tendency to catastrophize and make rash purchases. I remember people in 2008 talking seriously about how the financial system was failing and how they should cash out their 401k for prepper supplies. If a PP investor starts thinking that way, they can remind themselves that they already have physical gold as doomsday insurance, so don't need to take any action, which is the best move. The value-add here is that the physical gold is part of an appreciating investment system, whereas the prepper supplies are depreciating liabilities.

That said, if you or anyone else has a different approach that works for you and your unique psychology, more power to you.

@jacob
Yes, all of the published PP authors (Browne, Lawson, and Rowland) advocate holding part of the gold overseas. Again, there is both a first-order benefit (refugee insurance that is unlikely to ever be used) and a second-order benefit (inoculation against bad decision making while worried about being a refugee).

Fish
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Re: Permanent Portfolio in this environment?

Post by Fish »

Disclaimer: I'm at the 10min level when it comes to investing, but suppose the PP as a system whose function is to generate cash. For simplicity, fix the prices of the component assets, this assumes no trading profits. For a US-based PP:

Equities: dividends = 2%
Fixed income: yield = 3%
Gold: nonproductive
Cash: interest = 0.5%

An equal-weighted PP generates cash at a NOMINAL yield of 1.4% =(2%+3%+0.5%)/4 at present valuations. Better than all-cash at 0.5%, but not particularly exciting either. The low yield appears more concerning to me than possible environmental effects which are mostly zero-sum for the portfolio. If depending on the PP to support a 3% SWR... doesn't this require the fundamentals to somehow improve over the longer term? That is, you'd have to trust that things will get better because the 3% SWR is otherwise unsustainable without trading profits from volatility.

Are we measuring the right thing when tracking portfolio growth in dollars or real CAGR? Sure, cash is what buys groceries and pays property taxes, but it's a moving target. Maybe it would be instructive to measure investment performance in units of gold? The idea is to measure it using invariant units (is gold being accumulated over time?) to avoid being tricked by fluctuations in the money supply. If the goal is sustainable income, it seems more pertinent to track some form of yield (in dollars, gold, apples, etc.). Kind of like how we measure net worth in SWR instead of absolute dollars because that's more relevant for FIRE.

Feel free to throw a book at me if these are basic questions that are answered elsewhere ;)

userqname
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Re: Permanent Portfolio in this environment?

Post by userqname »

@Fish

First, refer to akratic's chart wrt SWR:
viewtopic.php?p=28301#p28301

Notice that 25 years worth of expenses (4%SWR) lasts 30 years if you only get a 1.22% return.
Thrity three years worth of expenses (3%SWR) lasts 40 years with a less than 1% return.
Essentially all research underlying the 4% rule has assumed a 30 year retirement.

Second, there is an assumption by the PP People that gold will maintain or increase its purchasing power while stocks and bonds plummet. Allowing you to buy them at a large discount. This increases your yield over longer time periods.

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