I am a strong advocate for having a permanent portfolio as described by Harry Browne in his book Fail-Safe Investing.
I can’t say that it is necessarily a timeless strategy, but it seems to be a pretty good formula for the long run. If the U.S. government ever threatens to seriously default (aside from inflation) on its debt, then we may have to reconsider.
I recommend that you have at least 50% of your financial assets in a permanent portfolio setup, or something similar. This would not include real estate investments, ownership in a business (not including stock ownership), or home equity.
It is a portfolio designed to help you sleep at night. You don’t have to fear what the stock market, or any other market, is going to do the next day. If there is a stock market crash that drops stocks 20%, your portfolio will probably go down. But the cash and bonds portion will likely help offset a large portion of the losses.
If you are a more conservative investor, you will probably want to have even more than 50% of your financial assets in a permanent portfolio setup.
Although I recommend this portfolio, it hasn’t been doing all that well over the last 5 or so years. It served its purpose in the 2008/ 2009 financial crisis, but it has been rather weak since then.
It is hard to get a good accurate figure because you are supposed to rebalance the portfolio. People will rebalance at different times. In addition, the 25% allocated to each asset (stocks, bonds, gold, and cash) are approximations.
I like to track the permanent portfolio mutual fund. The symbol is PRPFX. It does not precisely mimic the portfolio as described by Harry Browne. Still, it is close enough to use as a measuring stick.
The 5-year average return for PRPFX is just 1.12%. The share price of the mutual fund is actually lower than it was 5 years ago, but it does pay out dividends.
The only reason it is positive at all over the last 5 years is because of 2016. As of right now, the year-to-date return is 14.21%.
I have read in various articles that all (or most) asset prices are inflated right now. Stock markets are at or near all-time highs in the U.S. The U.S. dollar has still been relatively strong. Gold has started to surge lately. And bonds continue to do well, as long-term yields continue to fall.
With all of this, you would think that the permanent portfolio would be doing really well. For 2016, it has done really well. But prior to 2016, this wasn’t really the case.
This is easily explainable though. The permanent portfolio, which is well designed for all economic environments (inflation, deflation, recession, and prosperity), has a bias towards inflation. The portfolio will tend to generate higher returns during times of higher price inflation.
This is how it should be. You want higher nominal returns in an environment of higher price inflation. Since your purchasing power is declining, you need higher nominal returns to compensate for this.
While there has been significant monetary inflation from 2008 to 2014 as measured by the adjusted monetary base, this has not translated into high consumer price inflation. Perhaps the CPI is understated, but it is still relatively low as compared to the rest of the era of the Fed.
It makes sense that the permanent portfolio returns have been low in an era of low price inflation and low interest rates. Gold makes up 25% of the portfolio. PRPFX has a little silver mixed in, which is worse in terms of volatility. Gold has done poorly over the last 5 years, except for its recent surge in 2016.
In addition, the low interest rates mean smaller dividends. Falling rates are good for bond prices, but the low interest rates hurt the payouts from bonds and the cash portion. We all know that savings accounts pay close to nothing these days. Therefore, the cash portion is basically ineffective in terms of providing any return at this point.
The main purpose of having cash is to lessen the blow of a recession, and to also buy assets if they fall in price and you need to rebalance.
I personally do not have all of my eggs in one permanent portfolio basket. I like the investment though and I highly recommend it, but it is tough during this period of low interest rates.
I don’t like fooling with the portfolio, but I have previously suggested tweaking it a little if you can make it fit your needs better. Instead of having the full 25% in cash and 25% in bonds, it could make better sense to take a small portion and pay down mortgage debt (or other debt), especially if the interest rate is high enough.
You have to be very careful with this strategy though, as things can change quickly. If you pay down your mortgage, you are tying up this money. You cannot use this money to buy cheap assets in an economic downturn. You also can’t use it as emergency money, unless you are planning to sell your house or refinance.
In conclusion, I know that the permanent portfolio has been disappointing for some over the last several years. But it has still served its purpose of preserving wealth.
You have to be patient and realize that the economy won’t stay like this forever. We will see a stock market crash, or a spike in interest rates, or a spike in price inflation, or maybe a combination of some of these things at some point in the future. When we hit more turbulent times, you will be thankful that you have your money in a permanent portfolio designed to weather almost any storm.
Great article. What does you suggest for the bond portion? Since the portfolio wants long term bonds, Would you buy a 30 year bond and then sell it in 10 years and buy another 30 year bond?
You can buy a long-term bond fund or ETF. For example, look at TLT. It tracks 20+ year Treasury bonds.
https://www.ishares.com/us/products/239454/ishares-20-year-treasury-bond-etf
Great article! What do you think of the risk of all permanent portfolio components getting hit (except cash) if the Fed does indeed hike rates aggressively? I’d think bonds, gold and stocks would all take a hit.
If we go into recession, it is quite possible that all three could take a hit. But if consumer price inflation remains relatively low, then bonds will probably still do well (lower long-term rates) despite the Fed hiking its target rate (short-term). One of the things that Harry Browne said about the portfolio is that recessions are generally short-lived. They will turn into a bigger depression (good for bonds), or end up with higher price inflation (good for gold), or return to prosperity (good for stocks). It is important to have cash to lessen the blow of a recession, plus you can use it to buy the other assets when they all go down.
I see suggestions on the internet of building a permanent portfolio out of ETFs. But if all hell breaks loose and the market goes down by say 50% and you want to make adjustments in your portfolio, would ETFs trade at their ‘net asset value’ like a mutual fund? or would the trade at a discount like a close-end mutual find? Is this one of the reasons the PERM ETF has only Total Assets $8.4M?
Anything is possible, such as a total collapse of the financial system. But you have to use mostly paper assets regardless to build a permanent portfolio. The one exception of course is gold. I think it is a good idea to have some physical gold as part of the portfolio. You can also have a little physical cash, but it is not recommended to have a lot. When it comes to stocks and bonds, you are stuck with ETFs, mutual funds, or some kind of paper asset. If things get that bad, then you will be relying on your gold and cash anyway.
When interest rates are suddenly increased and the 25 % bonds become 15 ‰ then let’s say the cash is now 35%. How can we invest 10% cash to buy high priced current bonds? How does it work?
If interest rates were to spike, then bond prices would go down. In your example, you would use a portion of your cash to buy long-term bonds to rebalance your portfolio. The bonds would actually be low in price at that point, as bond prices and interest rates move inversely. That is one of the benefits of the permanent portfolio. When you rebalance, you are selling the assets that are higher and buying the assets that are lower. It is a good way to essentially force yourself to buy low and sell high.
Hi admin,
My doubt is if the interest rates increase and my bonds which I hold will be reduced in value. At the same time, if I use my cash to buy new bonds, since interest rates are high, the new bonds will cost more right? So, will it be like I buy bonds for high price?
If interest rates increase, then the value of the bonds decreases. When you use cash to buy more bonds for your portfolio, you are buying them when they are down in value.
Let’s say a 30-year bond has an interest rate of 3%. The following month, interest rates rise to 4% for 30-year bonds. That 30-year bond with an interest rate of 3% is now worth less. You can buy that bond for cheaper now that rates have gone up.