The Permanent Portfolio
Former US Libertarian Party presidential candidate, investment analyst, author, and radio host Harry Browne spent a significant portion of his life putting together and promoting a simple and inexpensive investment portfolio that allows you to protect and grow your wealth throughout all the economic cycles he identified:
- Prosperity (rising GDP and productivity, low unemployment, relatively stable prices)
- Inflation (rapidly rising consumer prices, CPI at ~7% or more)
- Recession (a temporary reduction in GDP, temporarily rising unemployment)
- Depression (an ongoing reduction in GDP, very high sustained unemployment, falling consumer prices)
He suggested that at any point in time one of these will be more prominent than the others. He wrote about it in his book Fail Safe Investing which I highly recommend.
To be set up for solid portfolio growth (a steady 9% per annum at very low volatility) and protected no matter which of those economic cycles prevail, he came up with the following composition of 4 assets, split evenly (25% each):
- Stocks (do great in prosperity)
- Gold (does great during inflation and can also do well during depression)
- Long Term Government Bonds (do great depression, and can also do well in recession and prosperity)
- Cash (does well in recession, especially if short term interest rates are high, and provides a neutral interest earning safety net at all times)
Once you’re invested in the assets you don’t need to do much, unless one or more of the assets exceed 35% or drops below 15% of the overall portfolio composition. In that case you sell off the winning assets and restore the original 25% balance.
Given that we live in an uncertain world, Harry Browne recommended that you invest the money that’s precious to you, that is the money that you don’t want to gamble or speculate with, in this manner. Any other money you’d be comfortable putting on a Black Jack table for example you can speculate with however you wish. That would include things like some hot company stock, gold in isolation, government or corporate bonds in isolation, Bitcoin, real estate, etc.
Note the important distinction he makes: investing is accepting returns that are available to everyone, speculation is to outsmart everyone else because you have the ability or knowledge to see things that the combined brainpower of global market experts is unable to see.
My Permanent Portfolio
In June of 2015 I decided to take the plunge and invest this way. I wanted to share how I’ve been doing so far, but also give people an idea as to how well the portfolio has performed over the long haul.
First off, I live in the US so my asset composition is commensurate. But the portfolio has been back tested in many other countries with comparable results. So I have a US-centric approach in mind, but you can just as well apply the exact equivalent approach in your currency area, it really doesn’t matter.
First off, let me elaborate on the assets I have picked to implement this strategy. It is important to point out that this is an all or nothing deal. The portfolio doesn’t work if any of these assets is missing. That doesn’t mean that I’m telling you not to try something different (or giving any investment advice at all for that matter), just that you’re on your own in that case. Harry Browne has spent years perfecting this approach. No matter what your general approach to investing, there are most likely one more more assets in this portfolio that you will absolutely hate buying at any given point in time. This is by design.
In the US I don’t think there is a more perfect brokerage for this portfolio than Fidelity. You can buy all financial assets needed completely commission free, and the free ETF there (ITOT) has ridiculously low management fees. So here we go:
- Stocks: Harry Browne recommends an S&P 500 index fund, or to put it more generally: invest in a fund or ETF that represents the broadest possible snapshot of the entire stock market in your country, and for diversification split it across 2 or 3 different funds if possible. I split it across the following ETF tickers: VTI, ITOT, SCHB.
- Gold: Buy 1 oz (or whatever largest size makes sense given the amount you’re investing) gold coins at any coin dealer of your choice. Generally you should expect a 2-3% premium. Personally I use APMEX. They also buy back your gold any time and at a fair price. Store your coins in a safe at home or a safety deposit box at a bank (or spread it for diversification). If you have a lot, consider storing some of your gold abroad for even more diversification.
- Bonds: Harry Browne recommends the longest possible credit risk-free government bonds available in your country. In the US this would currently be the 30 Year Treasury Bond. After 10 years, sell your bonds and replace them with the newest issue. If the government in your country offers longer term bonds then buy those. It is important to buy the most long term interest rate sensitive government bonds in order to enjoy the protection they offer when interest rates plummet and you most need them (recession/depression). Yes, I know we’re libertarians and we hate investing in government bonds, right? Wrong. By foregoing this asset we forego an important tool to protect us from the harm and volatility inflicted by the very government policies we hate. And when we’re financially exposed and at risk, we’re less calm and less effective in spreading our ideas of peace and freedom. I doubt that many of us would seriously suggest restricting our lives by living cash free altogether. A government bond is nothing but an interest bearing version of government cash. In the US there’s also an ETF available if you can’t buy the bonds directly: TLT.
- Cash: Harry Browne recommends 1 year or shorter term Treasury Bills or a money market fund that invests only in such securities. Some people chuckle at this requirement, but during the 2008 financial crisis these were the only truly safe cash equivalent assets. Money market funds which included commercial paper and similar assets or plain bank deposits were actually riskier than pure Treasury investments. Some money market funds dropped below their face value and some banks faced bankruptcy where the FDIC had to make depositors whole (up to the FDIC insurance limit only, that is). There is no FDIC insurance maximum or anything like that with Treasury Bills. That’s why you need them in your Permanent Portfolio. At Fidelity there’s a nifty feature called “Auto Roll” which allows you to buy Treasury Bills directly and have the proceeds re-invested in the same type of security upon maturity. Another close ETF proxy would be SHY.
Permanent Portfolio Performance
Now on to how these assets have performed since I’ve started investing, from July 2015 through April 2016:
Nothing spectacular here, cash has fluctuated mildly in light of several discussions about the Fed’s stance on short term rates, but generally this asset doesn’t change all that much in such a short period as you can see above. It has gained about 0.23% during this period
Stocks have fluctuated rather wildly and if your money was mostly in stocks, even though they have rebounded recently, you would have lost about 4.7% on average during this period.
Gold has performed very well throughout this period, gaining about 6.9%.
… and last but definitely not least:
Long Term Government Bonds
Long Term US Treasury Bonds are the big winner for this period, having pulled the portfolio up by gaining about 13.7% in value as rates have dropped from 3.20% to as low as 2.5%.
So adding all of this together to a hypothetical $10,000 beginning portfolio value, this is how the portfolio has performed overall.
Permanent Portfolio (all assets above combined):
As you can see the the Permanent Portfolio during this period has gained about 4% in total. So it has outperformed the total stock market by about 8%, and that without me having to lift a finger during this entire period!
I know this is just a short period, but if you look at studies of how it has performed in the long run you’ll find that it has returned an average of 8.87% per year, and with remarkably low volatility at that. In the example I’ve linked to above, for 1971 through 2013 the standard deviation (a volatility measure) is 7.74% while the stock market has had a volatility of 17.75%, making the Permanent Portfolio about 56% less volatile! Its max drawdown, meaning the worst year you ever had to suffer during that period was -5.56%, while for a pure stock portfolio it was -37.02%. This is the whole point of the Permanent Portfolio: You get to enjoy a solid growth portfolio without having to worry about losses for any extended period of time. Compare that to a pure stock portfolio where over a decade or more (in Japan it’s been almost 30 years of losses at this point) you had to suffer significant hits to your net worth.
Finally, I want to list some other benefits I find in this portfolio:
- It’s cheap in that you can obtain very low cost funds and don’t need to trade much.
- It’s tax efficient: Since you’re not trading much there’s not a whole lot in capital gains taxes to pay. Furthermore we’re not focusing on dividend stocks here so there’s no big tax liability for the payouts. The majority of the portfolio’s growth is achieved via price increases of its assets. If you have the opportunity to move some of it into a tax deferred account (in the US it’s an IRA or a 401k), Harry Browne recommends to put the Cash and the Bonds in there so you can enjoy some tax free compounding interest growth. Personally at this point in the US interest rates are so low that I don’t put the cash into my IRA, but rather the Long Term Treasuries, to the extent that I can.
- It’s liquid: All assets in this portfolio are easily liquidated, so you’re in a financially sound position at any point if you have the majority of your assets invested this way.
- It allows you to hold a lot of cash without losing to inflation: Cash is arguably one of the most hated assets in today’s investment world. Very few strategies recognize its importance throughout the investor’s lifetime. But holding cash allows you to write big checks quickly when unexpected things happen without having to sell off assets and incurring tax liabilities or other problems. To me personally this is a unique and invaluable benefit of this portfolio.
- It allows you to hold lots of gold which in turn gives you the ability to store and diversify your wealth globally without much counterparty risk
- You can relax: After a little while this portfolio leaves you very relaxed and objective about future market developments. I love checking in from time to time to see which asset has outpaced the others now and then, but I remain open to all future possibilities. I’m not married to one particular market hypothesis and don’t need to worry about timing the market.
- It automatically makes you buy low and sell high: Due to the rebalancing mechanism you realize gains when assets have performed well and you get to pick up depreciated assets without having to strategize and guess when and how much to sell and buy.
That’s all, feel free to ask question in the comments below!
Edit: I played around with this nifty portfolio simulation tool and constructed a version of the PP here that maps the performance from 1972 through 2015, in case anyone’s interested. Just FYI: This model assumes annual rebalancing which diminishes returns as compared to 15/35 rebalancing bands, and it also probably doesn’t assume pure 30 year bonds, but rather something like TLT with a slightly lower return, but it still gives you a close approximation.
This post was written by Nima Mahdjour.
The views expressed here belong to the author and do not necessarily reflect our views and opinions.
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