Bogleheads

[MarcDeMesel]

MediumTex, thanks for your replies concerning LT capital gains.

I have researched it more in depth:

Interest rates on LT bonds were:

1978, 8.49
1979, 9.28
1980, 11.27
1981, 13.45
1982, 12.76


Capital gains or loses on LT bonds were:

1978, -1.2
1979, -1.2
1980, -4.0
1981, 1.9
1982, 40.4

In 1979, interest rate is up compared to 1978 with 0,8%, capital loses for 1979 were 1.2 + interest of 9.28% = -10.4%. To make up -10.4% one need to do +20.8%. So that's a serious hit for a raise of only 0.8% in interest rates. The same is true for 1980 and 1981, were loses were also 10% and 15%, for rises of 2% per year in interest rates. In 1982 interest rates fall 1% and market rewards with 30% capital gain + interest of +/-10% = 40%.

The tendency of the market is to reward an LT bond somewhat better when interest rates are falling than it punishes them when interest rates are rising. But the difference is not that much.


Another point to be made is that the average interest one received since 1972 for LT bonds has been considerably higher than 4%, it will probably be somewhere around 6%. So the capital gains 'incongruity' as you name it so well is responsible for only 3% extra yield per year on average (giving 6% average interest + 3% capital gains 'incongruity' = 9% on average).

That is how I can explain the amazing 9% yield on average for LT bonds since 1972.

True what you say about rebalancing. It's amazing how many smart decision one takes by simply and strictly rebalancing every year the portfolio.

Thanks a lot for your help MediumTex.
_________________
My blog about the European Permanent Portfolio: http://europeanpermanentportfolio.blogspot.com/

[Tramper Al]

[MediumTex]

[MediumTex]

One comment about PRPFX and long dated bonds:

Since PRPFX doesn't have anywhere near 25% of long dated treasuries, if treasuries are, indeed, in the beginning of the long-predicted bear market, then PRPFX might outperform the straight PP for several years, for the same reason that the straight PP outperformed PRPFX in 2008 when yields dropped.

For those who believe that treasuries are in the beginning of a bear market, now might be a good time to think about PRPFX.

As for me, I don't know what will happen, so I just stick with the straight PP, though I do have a small amount of PRPFX in my kids' Coverdell education accounts (it's a great fund for this sort of thing--low amount to open ($1,000) and you can add as little as $100 at a time).
_________________
"A Permanent Portfolio should let you watch the evening news or read investment publications in total serenity."
-Harry Browne

[koekebakker]

I've recently reread the 1999 edition Failsafe Investing, and I'm wondering what changes HB made in the 2003 edition about the PP's 25% stock allocation.
Somewhere I've read that he just advocated a broadbased indexfund like the S&P500, but did he recommend the use of multiple indexfunds as well?

Does anyone know what his thoughts were regarding to smallcap funds? It seems to me that the high volatility of a blend smallcap-indexfund, combined with the high correlation to the total market, fits in nicely with the PP strategy.
I'm considering putting 20% of my stock allocation in a blend smallcapfund.

[MediumTex]

[MarcDeMesel]

What happened to Terry Coxon?

He started the PRPFX Permanent Portfolio fund but is nowhere to be found in the company anymore. Was he kicked out by smart maneuvers?

I noticed he works for Casey research now, he wrote an excellent article 'nothing' about the bailouts.

Something that bothers me about the PRPFX Fund is: only a few months ago you could find detailed returns on the website since 1982, but now it's gone, they only show the last 10 years. I really don't like such tricks. But luckily I do remember them, since inception Average return was 5% for the fund since 1982.

I was very dissapointed with this performance since the PP from Harry Browne returned since 1982 10.5% on average. Transaction costs included would be 10.4%. That is a big difference.

If you take a big inflation period included, starting in 1972, Harry Browne's PP still returns 9,7% on average.

I don't know what the returns would have been of the PRPFX fund if it existed since 1972, I am sure the average performance would be higher than 5% since the PRPFX is indeed better protected against inflation than deflation.

Anyone ever did a simulation of the PRPFX composition since 1972?
_________________
My blog about the European Permanent Portfolio: http://europeanpermanentportfolio.blogspot.com/

[MediumTex]

[Snoopy]

Has anyone noticed lately the number of total views this thread has gotten?

By my guesstimation it has been viewed ~3,000 times just in the past day or so!

HB's ideas are certainly provacative and promote much interest.

Many thanks to all of the contributors who continue to make this such a great discussion!

[DP]

Hi,

[MediumTex]

I think craig used slightly longer dated treasuries for his cash piece. More like VFISX, as I recall.
_________________
"A Permanent Portfolio should let you watch the evening news or read investment publications in total serenity."
-Harry Browne

[DP]

Hi,
This analysis has me rethinking my investment in PRPFX. If I were to set up the permanent portfolio myself, I want to be a little more aggressive. Not to improve on the Permanent Portfolio, just slightly different objectives, or perhaps I'm just a little more optimistic.

Taking ideas from Harry Browne, Scott Burns (6 ways from Sunday) and Larry Swedroe, I came up with an allocation that is equal parts:
Small Cap Value
Emerging Market Equity
Long Term Gov't Bonds
Tips
Global Bonds (eg. RCWFX, avg duration 5years)
Gold

It's very diversified, still has some of the protections of the Permanent Portfolio, the stock selection is aggressive but a small allocation (Swedroe), much more international exposure (Burns ... and I never truly understood why HB didn't have some Int'l). It backtests well but I'm not looking to optimize a portfolio against history. I'm looking for something that can do well going forward. It does almost as well with T-bills rather then Global Bonds, and slightly better with 2-yr treasuries.

Any thoughts? How would you make the Permanent Portfolio slightly more aggressive?

Don

[craigr]

[craigr]

[DP]

Hi,

[koekebakker]

[MarcDeMesel]

[dumbmoney]

[MarcDeMesel]

DP, your calculation is correct. I made an error in mine, so the CAGR of Craig's PP since 1983 is indeed 8.16%, not 10.5% as I claimed. The 5% on average I had for the PRPFX since 1983 if I remember correctly was after costs, which is indeed unfair when compared to HB 4x25 without calculating costs. My apologies if I mislead someone.

So the difference between the PRPFX and HB 4x25 is since 1983 1.8% on average, excluding costs. 1.8% is on first sight not that much but 1000 dollars invested in 1983 would have given you with the PRPFX yielding 6.11% after 25 years 4,408 dollars whereas HB 4x25 yielding 8.16% would have given you 7,104 dollars, or 60% more capital.

In that time frame we had deflation periods in that interest rates went down by big amounts as well as inflation periods in that gold and silver did well. We will have to see what the future brings but on first impression, not only from a capital protection approach but also from a historical performance approach, Harry Browne made a wise decision in further finetunning the PP to his essentials.

I think it's also very important to see performance through the eyes of inflation. From what I - believe - true inflation has been, 7% on average since 1972, this means, for me, that the PRPFX was barely able to keep my buying power versus HB 4x25 that improved my buying power, slowly but steadily.

Even if inflation woul go balistic the coming years I think it will be hard for the PRPFX to catch up with HB's 4x25 considering HB's has already 60% more capital.

[Wonk]

[Wonk]

By the way, if it helps anyone else estimate real returns, I came up with a 4.66% avg annual inflation rate from 1973-2008 by using www.inflationdata.com. Not sure I entirely trust the "official" inflation numbers reported by the government, but its all we have.

So real returns of the different HB portfolios look something like this for the last 35 years (not including expenses/taxes):

4 x 25(money market): 5%

4 x 25 (ST bonds): 5.5%

3 x 33: 6%

By comparison, a traditional 60/40 stock/bond portfolio during the same period is about 5.6%.

The man, the myth, the legend...Harry Browne.

[MediumTex]

I have no idea why anyone still listens to Jim Rogers.

Lately, he's been right about as often as a stopped clock.

The idea that inflation is something that a government can simply decide to do is ridiculous. If that were the case, Japan would be like Zimbabwe.

Probably the most frustrating thing about listening to Jim Rogers is that his thinking is not even internally consistent--i.e., he says flee the dollar and buy the yen. If he thinks one ought to flee the dollar because of poor monetary and fiscal policy in the U.S., why on earth would one want to buy the yen, when Japan has for many years been pursuing the same policies the U.S. is currently experimenting with.

Fundamentally, he seems not to understand that serious inflation simply can't take hold unless it is accompanied by rising wages. Last time I checked, wages hadn't seen a serious rise in the developed world in quite a while. Thus, however strong the inflation thesis SEEMS to be, the fact that something OUGHT to happen doesn't mean that it WILL happen. Again, see Japan.
_________________
"A Permanent Portfolio should let you watch the evening news or read investment publications in total serenity."
-Harry Browne

[DP]

Hi,
Thanks for the replies. I think I'm going to rule out the Global bonds and go with the 2yr Treasuries, as a cash substitute. I suppose one way to look at my portfolio is to think of it as a 4x25 w/ SCV rather then TSM + variable portfolio with emerging markets and Tips. Or perhaps a 4 part portfolio with a double allocation of stocks, plus a variable holding of Tips.

Re.

[DP]

Hi,

[ziggy29]

[MediumTex]

[Lbill]

craigr - You could use one of the leveraged stock index funds to pump up the volatility of that portion. Actually, this discussion is reminding me of the Bridgewater All-Weather portfolio again. The concept there, as I understand it, was to use leverage to equate the volatilities of portfolio assets. For example, bonds diversify the returns of stocks because of their low correlation to stocks, but the low volatility of bonds relative to stocks simply dampens returns, because portfolio beta is still driven by the more volatile stock portion (ie, the beta of a 60/40 stock/bond portfolio is almost as high as a 100% stock portfolio). If you leverage bonds to make that portion more volatile, then you enhance the diversification effect because the bond portion now has an equal "oomph" to the stock portion. Using LT Bonds does this to some extent because they are the most volatile treasury bond asset. However, you could also do it by using one of the leveraged treasury ETFs (albeit with a higher management fee). Bottom line is to combine non-correlated assets that have the same level of volatility. Then no single asset drives portfolio returns; that's sorta what PP is trying to do IMO. The Bridgewater fund tries to do the same thing with a wider selection of assets and using leverage, but the underlying idea seems to me to be quite similar.
_________________
"Whenever you find yourself on the side of the majority, it is time to pause and reflect." ~ Mark Twain
"A foole and his money is soone parted." - J. Bridges, 1587

[craigr]

[ziggy29]

[stratton]

[Lbill]

craig - I wasn't so much recommending leverage as pointing out the underlying similarity I see between PP and the theory behind the Bridgewater All-Weather Portfolio . Some might find it informative to learn about the thinking behind it and how that might be relevant to PP. I agree with you that leverage is not a good idea for the average investor.
_________________
"Whenever you find yourself on the side of the majority, it is time to pause and reflect." ~ Mark Twain
"A foole and his money is soone parted." - J. Bridges, 1587

[Lbill]

Just was curious about this and found the following for the last 10 years of data:

Fund----------Asset----------Beta---------STDEV
VTSMX.........Stocks...........100%..........16%
VUSTX.........LT Treasury....-10%...........9%
VTISX..........ST Treasury....-5%............2%
CEF.............Prec Metal.......-5%............22%

(used CEF as proxy because GLD does not go back 10 years and I've confirmed that GLD and CEF are very highly correlated)

As you can see, the Betas of LT, ST Treasuries and Precious Metals are all very low, near zero. This means that all of these assets have little stock market risk (are uncorrelated with stocks), and they all represent excellent diversifiers for market risk.

Looking at Standard Deviation (volatility) we see that Precious Metals have the highest volatility (22%), followed by Stocks (16%), and then Treasury Bonds. This means that the allocation to Precious Metals is probably the principal driver of the returns of a portfolio made up of equal portions of Stocks, LT Treasuries, ST Treasuries, and Precious Metals. The next driver would be Stocks, with a volatility of 16%. In fact, we see this from the correlations of each of these 4 assets to the total returns of the portfolio:

CEF = 82%
VTSMX = 44%
VUSTX = 43%
VFISX = 27%

The fact that LT treasuries correlate almost as highly with total portfolio returns as stocks is simply due to the fact that total portfolio returns are influenced by ST Treasury returns and LT is highly correlated with ST (72%). With a 3 X 33.3% PP (ST removed), the portfolio correlations are:

CEF = 82%
VTSMX = 47%
VUSTX = 38%

These correlations confirm that the "drivers" of total returns are lined up with their volatilities: Precious Metals, Stocks, and LT Treasuries in that order.

According to Bridgewater, an "optimal beta" portfolio is one in which the SDs of each component asset are nearly the same. An optimal beta portfolio will produce the greatest degree of diversification at a given level of portfolio volatility and should therefore produce the highest expected returns. This is because there is no dominant driver of portfolio returns.

In the case of PP, it is implicitly tilted more heavily to benefit from economic conditions that would favor precious metals (inflation, monetary risk) and nearly equally tilted toward stocks and Treasury securities.

Even though PP is not a theoretically "optimal" portfolio, it is probably a lot closer than many of the portfolios that most investors hold - which are typically tilted toward the risk and rewards of stocks, even when stocks are held together with bonds. In the traditional portfolio made up of 60% stocks and 40% bonds, the returns are 99% correlated with the returns of stocks alone.

One could try to "optimize" PP by tweaking the weights of the 4 assets a little. I got pretty close to equal correlations for PM, Stocks, and LT treasuries (54%, 58%, 54% respectively) with the following weights:

Stocks...25%
LT.........30%
ST........35%
CEF......10%

This approach lowers the allocation to PM significantly, and has two problems: the recalculated weights are based on historical correlations over the period of time selected. Correlations are notoriously unstable over different time periods; and it will work only when more weight is given to ST - the least volatile asset - which will lower both the expected returns and volatility of the portfolio. An "engineered" approach to optimal beta that does not dilute the portfolio would probably require the use of some sort of leveraged treasury ETF instead of LT treasuries, but we just don't know how this would fare in practice.
_________________
"Whenever you find yourself on the side of the majority, it is time to pause and reflect." ~ Mark Twain
"A foole and his money is soone parted." - J. Bridges, 1587

[MarcDeMesel]

[MarcDeMesel]

[Wonk]

[ziggy29]

[Lbill]

A further word on the instability of correlations across different time periods. Wow, can they vary. I used Simba's spreadsheet to look at the correlations of stocks, LT, and Gold to total portfolio returns. Here's what I found:

1972-2008
VTSMX = .39
VUSTX = .20
Gold= .75

Over this time period, which encompasses the great bull market in gold in the 1970s and the long slumber from 1982 - 2002 we see that the ups and downs of Gold would have been the principal driver of PP portfolio total returns. The annual SD for gold over this period was 31.56% - a very large volatility. By comparison, the SD for stocks was 18.84% and for LT Treasuries it was 11.24%. Once again the volatilties line up with the correlations to Total Returns, with the most volatile assets being the largest drivers of total returns.

1985-2008
VTSMX = .69
VUSTX = .50
Gold = .34

Over this time period, the annual SD for Gold was only 13.94%, for Stocks it was 18.75%, and for LT Bonds it was 10.73%. Again the most volatile asset for this period (Stocks) was most highly correlated with portfolio returns.

The correlation of Stocks, LT Treasuries, and Gold to Total Portfolio returns, as well as their annual volatilities, are quite different depending on the time period being considered. During some time periods, Gold seems to have been the principal driver of PP returns; during others Stocks and Long Bonds were the principal drivers. It would be difficult to predict these in advance in order to use PP asset correlations to "tweak" the PP into a more neutral tilting.
_________________
"Whenever you find yourself on the side of the majority, it is time to pause and reflect." ~ Mark Twain
"A foole and his money is soone parted." - J. Bridges, 1587

[Wonk]

[MediumTex]

[MediumTex]

One sort of poor man's PP (even though it would have higher fees) that I have thought about now and then would be to take a good quality balanced fund like OAKBX and mix it with some GLD and call that close enough.

Maybe something like 85% OAKBX and 15% GLD.

I always think about what I would say if a widow or orphan asked me for a simple and safe way to invest. I would recommend the PP, but it takes a little nerve to do it and some can't stick with it. If the PP wasn't an option, I would probably recommend PRPFX or the approach I describe above.

VWINX is not bad as well, though its exposure to financials would have had me very spooked last year.

How about this: 50% VTSMX and 50% VUSTX? That's pretty simple and probably reasonably safe. Maybe 45% VTSMX, 45% VUSTX and 10% GLD.

These are all really just PP permutations, though.

PRPFX is probably the way to go for the widow and orphan crowd, especially those that need tax efficiency.
_________________
"A Permanent Portfolio should let you watch the evening news or read investment publications in total serenity."
-Harry Browne

[MarcDeMesel]

[stratton]

[Roy]

[MediumTex]

[MediumTex]

The following are just a couple of PP-related insights that helped me to embrace the PP concept more fully and which I thought I might share with anyone who is interested.

First, when "trying on" different approaches to investing, I always imagine that I have 10 times the amount of money that I actually have and decide how I would feel about a given allocation methodology if the numbers were much larger. If I would not be comfortable with an allocation strategy if I had more money, maybe I am not being realistic about my risk tolerance for the amount of money I actually have. I do not subscribe to the idea that one's risk tolerance should be a function of the amount of money they have to invest. Others differ on this matter, but that is my opinion. If a 5% loss is my pain threshold, that should be true whether it is $1,000 or $100,000. Again, just my personal view.

Second, when thinking about allocation methods and the suitability for my own investments, I always ask myself what I would tell my grandmother on how to invest her funds. Often, what one would tell his grandmother is more reflective of his own risk tolerance than he might realize. One way to test this thesis is to pretend you had recommended an allocation to your grandmother five years ago. Take a look at how that set of investments would have performed relative to the way your own investments performed in the last five years. It's just sort of an interesting exercise.

Both of these approaches help to clarify the wisdom of the PP, in my mind anyway.
_________________
"A Permanent Portfolio should let you watch the evening news or read investment publications in total serenity."
-Harry Browne

[GA Ray]

I've been reading this thread with interest, but have never posted. One question I have and apologize if it has been asked is can high grade Municipal bonds be used in place of LT Treasuries for investors in the highest tax bracket? The return difference would be fairly significant over time.

[stratton]

[craigr]

[GA Ray]

Thanks for the prompt replies. Would you invest in TLT, or purchase 30 year bonds directly? Also, in this low rate environment, would you simply keep the 25% that would be allocated to T-Bonds and invest in SHY and wait until rates inevitably rise?

Thanks again for taking the time to answer my questions.

[craigr]