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The Permanent Portfolio Strategy - A reasonable return low volatility Strategy

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Old 15-09-2012, 08:29 AM   #1
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The Permanent Portfolio Strategy - A reasonable return low volatility Strategy

I decide to start a topic since it seems there are much interest in this area.

As a summary:

The Permanent Portfolio was created by a gentleman named Harry Browne and his associates in the late 1970s and it was a way to protect the money they had made as gold speculators. Harry Browne was getting out of the speculation business as he realized it was not a good long term strategy and he wanted to diversify his money. And in the United States at that time, the inflation was very bad because the government had taken off the gold standard and gold prices had gone up quite a bit. So they were looking to spread their money around in case the gold market crashed. They came up with this idea of designing a portfolio that was based on a wide asset diversification based on economic movements. This was fairly unheard of because most people were doing market timing and technical analysis and all sorts of stuff.

How it works:

It consists of four asset classes; cash, bonds, stocks as well as gold; and they are all equally weighted at 25% each. By equally allocating to each asset class, they balance out each other's volatility.

In portfolio allocation, you add uncorrelated assets so that you can smooth out volatility while enjoying good long term returns.

Bonds vs Stocks - Deflation vs Mild Inflation (Growth)
Stocks vs Gold - Mild Inflation vs High Inflation
Bonds and Cash - Do well in Deflation, do badly in Inflation
Gold - Do well in high inflation, reasonable in normal inflation, negative when the world has stability
Equities - Do well in mild inflation, very volatile in deflation


Long Term Returns

Here is how BigFatPurse implement the Permanent Portfolio

25% Stocks: STI ETF (ES3). Alternatively use Nikko AM STI ETF100 (G3B)
25% Bond: Singapore Government 30-years Bond (PH1S). Alternatively use TLT.
25% Gold: UOB Gold Savings Account. Alternatively buy physical gold bullion or coins after 1 Oct 2012, when 7% GST will be removed from investment grade gold.
25% Cash: Singapore Government 3-months Treasury Bills. Alternatively, use bank fixed deposit.



the Permanent Portfolio maximum loss in 2008 was -3.9%, compared to stock heavy portfolio which could have suffered up to 49% loss in 2008. Permanent Portfolio achieved the aim of “avoiding big loss”
in 2009 stock heavy portfolio could have boasted returns of 64%, compared to Permanent Portfolio’s 15% gain. Examining 2008 and 2009 data again, we see stock heavy portfolio losing up to 49% in 2008 and gaining 64% in 2009 – the 64% gain is not sufficient to recover the initial loss of 49% (stocks would have to grow almost 96% in 2009 in order to bring the value of stock assets back to 100%) and gives a total negative return of up to (-16.4%) in 2008 to 2009 for a stock heavy portfolio. Comparatively, Permanent Portfolio has a loss of -3.9% in 2008 and a gain of 15% in 2009, giving total positive returns from 2008 to 2009 of 10.5% instead. This extreme case highlights the advantage of avoiding big losses when designing an investment portfolio.
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Old 15-09-2012, 08:38 AM   #2
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Additional Readings

How has Singapore Permanent Portfolio performed in past 9 years?

Implementing My Permanent Portfolio

The World's Most Powerful Hedge Fund Manager Tells Investors How They Should Set Up Their Portfolios
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Old 15-09-2012, 08:47 AM   #3
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The World's Most Powerful Hedge Fund Manager Tells Investors How They Should Set Up Their Portfolios

Hedge fund god Ray Dalio, who runs Bridgewater Associates, is widely considered to be the most successful hedge fund manager in the world.
He recently sat down with CNBC's Maria Bartiromo to discuss a variety of topics at the Council on Foreign Relations and he had some advice for the average investor.

During the hour-long discussion, Bartiromo asked Dalio about portfolio allocation in terms of gold versus equity versus real estate and other asset classes.

Here's his advice that we've transcribed: (emphasis ours)
First, Dalio explains what you need to think about when setting up a portfolio. The key here is asset allocation.

"So I think I'm going to answer it in the following way that I think that is the right way for people to look at it. It's the way I look at it. I think that the first thing is you should have a strategic asset allocation mix that assumes that you don't know what the future is going to hold. And I think most people should...
"

In other words, if you're thinking of "beating" the market, as though it's a game, you're probably going to lose.

"In other words, let's say, I play the game of betting against others. So it's like I'm going on the poker table and if I'm smarter, and I know how difficult that game is, so very few winners. And like if I'm not engrossed in it and if we're not engrossed in it, I'd be worrying about it and I do worry about it when I am engrossed in it. So the average investor and most people should not be playing that game. They're going to lose at the poker table."
This is why Dalio emphasizes the importance of a balanced portfolio, especially in terms of risk.
"So what that means, they should have a properly balanced portfolio. Now the most important thing is that is that they balance... They make a mistake in terms of dollars invested and with a bias with what's done well in the past and they don't realize that risk. They should balance it in terms of risk.

"Let's say stocks have twice the volatility, more than twice the volatility, of bonds and when they own a portfolio and structure a portfolio that way they tend to have concentrated risks. And I think what they need to do. I would recommend reading, read, on the subject of risk parity, read on our website, we have an explanation on how to balance risk, but they key thing is that there are basically four economic environments. There are two main drivers of asset class returns-- inflation and growth."
Here simplifies how inflation and growth affect the prices of asset classes based.

"Assets all price based on, you could look at the pricing of asset classes and calculate what the discounted growth rate is and what the discounted inflation rate is. And what causes assets to move is surprises to that. So when growth is faster-than-expected, stocks go up. When growth is slower-than-expected, stocks go down. When inflation is higher-than-expected, bonds go down. When inflation is lower-than-expected, bonds go up. OK.
Dalio says it's important for the average investor to understand inflation and growth and their effects. That's why he suggests having four different portfolios to achieve balance.

"What I'm trying to say is that for the average investor, what I would encourage them to do is to understand that there's inflation and growth. It can go higher and lower and to have four different portfolios essentially that make up your entire portfolio that gets you balanced. Because in every generation, there is some period of time, there's a ruinous asset class, that will destroy wealth and you don't know which one that will be in your life time. So the best thing you can do is have a portfolio that is immune, that is well diversified. That is what we call an all-weather portfolio. That means you don't have a concentration in that asset class that's going to annihilate you and you don't know which one it is...
Again, the reason you should have a balanced portfolio is you don't know what the future holds, says Dalio.

"Well, I'm saying based on the notion that you don't know which one it is. And therefore,..when you say 'which should it be today?' It should be balanced today like it is in the future and it should have that mix of assets. And now you get into a whole conversation...But you need to achieve balance..."
Watch the full hour long video below:

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Old 15-09-2012, 11:29 AM   #4
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I love reading ur posts Drizzt.
Thanks for sharing
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Old 15-09-2012, 11:50 AM   #5
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in 2009 stock heavy portfolio could have boasted returns of 64%, compared to Permanent Portfolio’s 15% gain. Examining 2008 and 2009 data again, we see stock heavy portfolio losing up to 49% in 2008 and gaining 64% in 2009 – the 64% gain is not sufficient to recover the initial loss of 49% (stocks would have to grow almost 96% in 2009 in order to bring the value of stock assets back to 100%) and gives a total negative return of up to (-16.4%) in 2008 to 2009 for a stock heavy portfolio. Comparatively, Permanent Portfolio has a loss of -3.9% in 2008 and a gain of 15% in 2009, giving total positive returns from 2008 to 2009 of 10.5% instead. This extreme case highlights the advantage of avoiding big losses when designing an investment portfolio.
Isn't this assuming that you hold on to all your stocks during the entire downturn.

In reality, wouldn't most people sell off during the downturn and buy back when market recovers? Of course you can't perfectly sell at the highest and buy at e lowest but perhaps u lose 10% in the downturn and earn a modest 30% in the recovery. That will give u a 17% return.
It might not be possible for a hedge fund to move its huge fund around so much but this is possible for an individual investor.

Correct me if I'm mistaken.
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Old 15-09-2012, 11:58 AM   #6
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That's the problem with investors. Most would sell during a downturn. This should not be the case. Investors should be buying when everyone is selling and selling when everyone is buying. Understandably, this is very hard to achieve.
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Old 15-09-2012, 01:47 PM   #7
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That's the problem with investors. Most would sell during a downturn. This should not be the case. Investors should be buying when everyone is selling and selling when everyone is buying. Understandably, this is very hard to achieve.
Ideally, sell when everyone's done buying and buy when everyone is done selling?
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Old 15-09-2012, 01:58 PM   #8
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The key to this is rebalancing

Say your allocation stays at

25% - Stocks
25% - 30 year SGS bonds
25% - GLD ETF
25% - Cash

in the run up in the 2000, your GLD and Stocks portion would have balloon to 30-35% each. An annual rebalance would have made u sell them off to increase ur cash and bonds

when u are deep in crisis, ur portion of bond + cash should be much larger than ur GLD and Equities. to bring ur Equities alight u should be buying them up when the amount falls.
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Old 15-09-2012, 02:03 PM   #9
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Craig Rowland of CrawlingRoad.com have this nice thing to say about the permanent portfolio:

You mention the Yale endowment fund, in 2008 they took a tremendous loss. It lost almost a third of the value of the endowment. Most people can’t lose a third of their life savings and stay in the markets. So another thing I’ll talk about too, is that the Permanent Portfolio by having this four way split, is a very stable portfolio. The worst loss it had up to this point was about -5% in 1981 and in the 2008 market crash, it was basically flat for the year, it didn’t lose anything. What I find for most people, they need to avoid big losses, because as soon as they get those big losses, they’re going to abandon the strategy at the worst possible time, right at the market bottom when they shouldn’t be doing anything. And again linking my experience as an entrepreneur, I’m used to taking high risk and so I have a certain mentality that most people don’t have. I’m the guy who’s buying stocks during market panics. I don’t want buy when everyone is talking about them and what I find in the Permanent Portfolio is that it forces peoples’ mentality, because when the stock markets crash, you’re always going to have another asset going up in value and you can use that money in order to rebalance.
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Old 17-09-2012, 01:09 AM   #10
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Drizzt, nice job starting this thread. Hope Permanent Portfolio strategy can help certain people learn passive portfolio investment as an alternative.

I started Singapore version of this portfolio since Feb 2012 for my cash account, and since April 2012 for my CPF account. Both are earning about 5.5% profit after 5 or 6 months, excluding cash. Including cash, portfolio is about 4% profitable. Not too bad considering holding and not doing anything much for half a year.

I started this portfolio because it offered protection against major losses, and returns are reasonable also. Couple of months back, I started a blog where I put details and my research about a Singapore version of Permanent Portfolio here:
http://singapore-permanent-portfolio.blogspot.sg/
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Old 17-09-2012, 10:30 AM   #11
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The key to this is rebalancing

Say your allocation stays at

25% - Stocks
25% - 30 year SGS bonds
25% - GLD ETF
25% - Cash

in the run up in the 2000, your GLD and Stocks portion would have balloon to 30-35% each. An annual rebalance would have made u sell them off to increase ur cash and bonds

when u are deep in crisis, ur portion of bond + cash should be much larger than ur GLD and Equities. to bring ur Equities alight u should be buying them up when the amount falls.
Thanks for your sharing...

My ideal permanent portfolio before 40 years old is:

50% stocks
10% Bonds
15% Physical Gold, Physical Silver
25% Cash

No hard and fast rule, cash portion usually have more, but when stocks go down at last year, then cash go down, stocks portion goes up.
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Old 17-09-2012, 10:51 AM   #12
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i think it is more of a buy and hold approach. during last year your stocks can be down to 40%. to bring it back to parity, cash at 30% may be redeploy to stocks to 50%. that is basically trying to buy low.

i would think that 65% of ur networth have a chance to go 50% in bear. thus your entire portfolio can go down like 32%.

no hard and fast rule. but its tilt towards an inflationary scenario.
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Old 17-09-2012, 09:20 PM   #13
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This is more or less what is prescribed in The Richest Man in Babylon.
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Old 18-09-2012, 12:31 AM   #14
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This is more or less what is prescribed in The Richest Man in Babylon.
I thought that mainly prescribed saving a portion of your income first, before spending the rest, and taking that savings to help you make more money. Didn't talk about bonds and stocks right?
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Old 18-09-2012, 01:20 PM   #15
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Stocks = business
Bonds = lending money
Property
Gold

These are the prescribed vehicles in The Richest Man In Babylon.
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