So far this year, stocks have given investors a white-knuckle ride. By February, global stocks had dropped more than 10 percent. By April they recovered. But then they went nuts. Some blame Great Britain for voting to leave the European Union. Three days after the United Kingdom’s June 23rd referendum, U.S. stocks fell 5.4 percent. International stocks dropped almost 10 percent.
But at least one investment strategy, at least this year, is leaving others in its wake: the Permanent Portfolio. By June 30th, it had gained 11.5 percent.
As a portfolio, some part of it is almost certain to rise, even in the worst markets. It combines gold, stocks, long-term bonds and cash in equal proportions. The mix never varies.
Permanent Portfolio Allocation
- 25% Cash
- 25% Long Term Bonds
- 25% Stocks
- 25% Gold
It has had just five losing years since 1972. Its worst drop ever? That was in 1981, when it fell 4.1 percent. The portfolio assuages fear when there’s market chaos. In 2008, when global stocks went off a cliff, it dropped just 0.7 percent.
In their excellent book, The Permanent Portfolio, authors Greg Rowland and J.M. Lawson showed that this unconventional strategy would have averaged a compound annual return of 9.6 percent per year from 1972 until 2012. Using portfoliovisualizer.com, I updated the results to June 30th, 2016. The portfolio’s average annual compound return would have been 9.1 percent over the 44 year period.
But the permanent portfolio isn’t perfect. When stocks rise strongly, it can fall far behind. It may never catch up. Let me tell a story.
Imagine Mr. and Mrs. Jones. They’re an irritating couple who live next door. They brag about everything. In 1987, they have a baby. Two weeks later, you welcome a baby too.
During a rare evening out together, you and the Jones’s walk past a disheveled old man on the ground. He’s sitting next to an open hat. You each give him a dollar. That’s when you learn that the guy is rich. He hands you and the Jones’s envelopes. Each contains $10,000. “Invest it wisely,” he says. Then a chauffeur picks him up.
You invest your haul in the Permanent Portfolio. “It hardly ever drops,” you tell Mr. Jones. He thinks you’re crazy. Jones puts $6000 in Vanguard’s S&P 500 Index. He puts $4000 in Vanguard’s Total Bond Market Index Fund. You both decide to rebalance once a year.
Five years later, your children are in Kindergarten. Snoopy Mr. Jones pokes his head over the fence and asks about your money. His portfolio of stock and bond indexes is worth $18,255. Your Permanent Portfolio lags. It’s worth $14,370. Jones walks away smiling. But you think you’ll have your day.
Seven years later, your children enter middle school. “What’s your portfolio worth?” asks Mr. Jones. “I’ll show you mine,” he smirks, “if you show me yours.” His initial $10,000 has grown to $47,800. What’s your Permanent Portfolio worth? Just $24,495. Mr. Jones laughs.
Two years later, your children enter high school . By now, the balanced index portfolio is 50 percent ahead. Your portfolio keeps pace over the next couple of years. But you fail to make up ground.
In 2008, global stocks crash. You drop less than 1 percent. But you can’t afford to gloat. Overall, you’re still well behind Jones’s balanced portfolio of index funds. By the end of the year, Jones has $57,713. You have $46,170.
As global stocks recover, Jones rips out of sight. By the time your daughter graduates from college and starts her first job, you have $51,013. The Jones’s have $76,081.
Six and half years later, the gap widens further. By this time, your daughter has a son. Your Permanent Portfolio is worth $71,509. The Jones’s, with their balanced portfolio of index funds, have $121,569.
The Permanent Portfolio is stable. It makes money almost every year. But risk and reward are joined at the hip. There’s no such thing as a risk-free portfolio that keeps pace with the market–or with a balanced index fund. Just cling to that idea when stocks are making waves.
Permanent Portfolio vs. Balanced Index (60% Stocks/40% Bonds) vs. S&P 500 Compound Average Annual Returns
|1987 – 1992||1992 – 1997||1997 – 2002||2002 – 2007||2007 – 2012||2012 – 06/30/2016||1987 – 06/30/2016|
|Balanced Portfolio: 60% Stocks/40% Bonds||+8.8%||+11.9%||+9.81%||+5.9%||+4.4%||+8.4%||+8.82%|
|Source: Portfoliovisualizer.com; The Permanent Portfolio, by Greg Rowland and J.M. Lawson|
Andrew Hallam is a Digital Nomad. He’s the author of the bestseller, Millionaire Teacher and The Global Expatriate's Guide to Investing: From Millionaire Teacher to Millionaire Expat.