A Permanent Portfolio

If you talk to most financial advisors, you will get the advice to invest in stock mutual funds because “stocks always go up over the long haul” or because “stocks are still the best long-term investment for getting high returns”.

You have probably heard some variation of these things, at least from the financial news media on television or in print (digital or otherwise).  Some advisors might throw in advice to diversify with a small percentage of foreign stocks, and depending on your age, maybe some bonds too.  You may even hear the occasional recommendation to own a small portion of gold – usually 5 to 10 percent at most.

For those who have a good understanding of economics and money, we know that this advice is not always sound.  We have boom and bust cycles due to central bank tampering of interest rates and the money supply.  There are risks of stock market crashes and currency depreciation.  There are a lot of scenarios in which our investments are vulnerable.  If someone in Japan had taken this advice to buy stocks for the long haul in 1989, they would still be down by about half in Japanese stocks nearly 3 decades later.

That is where the permanent portfolio comes in.  This was described in Harry Browne’s book Fail-Safe Investing.  Harry Browne – who passed away in 2006 – was the Libertarian Party’s nominee for president in 1996 and 2000.  He had a history of giving financial advice, including his prediction in the early 1970s that there would be a devaluation of the U.S. dollar.  He was rare in that he had an accurate understanding of the nature of money.  He also understood the many different economic environments brought on by governments and central banks and the need to protect your financial assets.

The permanent portfolio is designed to weather virtually any economic environment.  I like to call it the “sleep-at-night portfolio”.  You can go to bed not worrying whether there will be a major market crash the next morning or if the Fed (or any central bank) is going to announce some new monetary scheme.

The portfolio is relatively simple to understand.  It is broken into four parts as follows:

  • 25% stocks
  • 25% gold
  • 25% long-term government bonds
  • 25% cash (or cash equivalents such as a money market fund)

If you live in the United States, the investments should all or mostly be in U.S. stocks and U.S. bonds for those allocations.

You buy U.S. stocks to benefit from an environment of prosperity.  Stocks can also benefit from periods of monetary inflation where hot money is driven into stocks.

You buy gold to benefit from a weak U.S. dollar and significant price inflation.  In periods of high inflation (think the 1970s), gold tends to do well.  It will typically rise above and beyond the price inflation rate in these periods.

You buy long-term government bonds to benefit from a period of recession or depression/ deflation.  In a deflationary depression, interest rates will tend to go down, driving up the price of long-term bonds.

You also hold 25% in cash or cash equivalents to stabilize your portfolio in periods of recession.  It will also benefit in periods of deflation.  In a recession, cash is king.  You can use this portion of your portfolio to buy the investment classes that are down.

These four investment classes do not cancel each other out over longer periods of time.  All of these asset classes tend to go up over long periods of time.  But in any economic environment, one or two of the investment classes will tend to pull up the underperforming ones.

Also, with the permanent portfolio, it is important to occasionally rebalance the portfolio.  If any one investment class strays too far from the 25%, then it is time to rebalance.  This would mean if it goes about 10% higher or lower than its 25%.  For example, if stocks became 35% or more of your portfolio, it would be time to sell some stocks and buy one or more of your classes that have fallen below the 25% mark.  If stocks became 15% or less of your portfolio, then you would buy more stocks using some money obtained from one or more of your investment classes that was above 25%.

This is a disciplined way to buy low and sell high.  You are always selling assets that have risen in value while buying assets that have fallen in value (unless all four have moved in the same direction).  Even in a scenario where everything is up, you would still sell the asset that is up the most, assuming it is now way above the 25% mark.

The portfolio will give you stability and growth over time.  You are not likely to get hit too hard in any economic environment.  Of course, this does not include a doomsday scenario where the entire financial system goes belly up and there is a breakdown in the division of labor.  In such an extreme case, not much will protect you except skills and stored food.

The permanent portfolio tends to have an inflation bias.  It will tend to perform better in an environment of higher price inflation.  Of course, this can be seen as a great benefit of the portfolio, as we want higher nominal returns when our money is depreciating in value.

When we are in a period of relatively low growth and low price inflation, the portfolio will tend to not do as well.  The low interest rates can also mean less interest income for the bonds and cash portion.  The five years or so preceding 2017 is actually a good example of this scenario where the portfolio gave off relatively low returns, especially as compared to U.S. stock indices.

I believe the permanent portfolio is the best setup out there for protecting your financial assets while providing some growth.  Its primary goal is safety, with some growth thrown in.  Maybe there is something better out there, but I haven’t found it yet.

As Harry Browne stated in his book, you can still speculate with money, but it should be with money you can afford to lose.  If you want a relatively low-risk investment, then you should go with a permanent portfolio, or at least something similar.  I recommend a minimum of 50% of financial assets being invested in a permanent portfolio setup.  Conservative investors should go much higher.  There is nothing wrong with putting all of your financial investments into the permanent portfolio.  This would not count real estate investments or a business.

You can also buy a mutual fund that somewhat mimics the permanent portfolio.  The symbol is PRPFX.  It does invest small percentages in silver and Swiss francs, and it also targets particular companies for the stock portion (as opposed to broad index funds).  Still the mutual fund does a decent job of mimicking the traditional permanent portfolio setup.  It is a convenient way to invest for many.

For the gold portion of your investments, you can invest in physical gold or electronic equivalents.  My recommendation would be to have possession of a few gold coins for emergency and anonymity.  For the rest, you can invest in gold certificates or exchange traded funds (ETFs).  You should not buy gold stocks, as these do not necessarily follow the price of gold.  If you want to invest in gold stocks, this should be part of your speculative portfolio.

In today’s world, you could really buy nothing but ETFs and set up something similar to a permanent portfolio.

Most people are not good investors.  Some will get lucky in a bull market and attribute this luck to skill.  It usually ends badly.

Again, my recommendation is to have at least a majority of your financial assets in a permanent portfolio setup as discussed above.  You can still speculate with a small portion of your money.  You can swing for the fences with your speculations.  But you can still sleep at night knowing that most of your assets are safe in almost every economic environment.  You probably work hard to earn and save money, so you should respect your savings and keep it safe from the games of politicians and central bankers.

Combining Free Market Economics with Investing