Re: Setting Up a Brand New Permanent Portfolio
Posted: Thu Nov 20, 2014 2:34 pm
Hi tdepaula!
There is a lot of advice on this thread (and in this forum in general) about keeping a separate PP in each separate account, with the aim of simplifying rebalancing. In your case, I don't think that's necessary. Correct me if I am wrong, but you will have a regular taxable brokerage account with $44,000 in it and a nontaxable individual 401k with $3,600. So a total PP value of $47,600. Split four ways, that's $11,900 per asset class. I suggest keeping just one asset class, perhaps the most taxable (gold ETF?), in your individual 401k. But for simplicity, let's consider your current situation with a stock index in that account ($3,600). That leaves $8,300 for stocks in your regular account. So, a split of about 30% stocks in the 401k and 70% in the taxable account. (Each of the other three assets is $11,900 in the taxable.) Why do I suggest this approach? Assuming 35/15 rebalancing bands, even if you have to rebalance three times in a row out of stocks you won't have to touch the 401k. And with rebalacing occurring these days about once every three or four years, that means it would be maybe a decade before you would need to sell anything in the 401k — if ever. (Has there ever been an instance of four consecutive rebalances out of a single asset?)
Here's my logic: Starting from a balanced PP, assume stocks go up to 35% of the portfolio; you sell 10/35 (28.6%) of your shares to get back to 25%. In your current case, 28.6% of $11,900 would be $3,400, which you could take from your taxable account ($8,300) without having to touch the 401k. After the next rise in stocks, you would again sell 28.6% of your shares; each time you retain 71.4% of your shares (100 – 28.6%), so two rebalances would mean retaining 51.0% (0.714^2) of your initial shares, and three would mean retaining 36.4% (0.714^3). Because you began with 30% of your shares in the 401k, you have enough shares in the taxable account to do all your rebalancing there.
I believe this approach is simpler than having a separate PP in each account. I'm going to go out on a limb and make the following rule: If an account contains less than 9.1% (36.4% of initial 25% holding) of the total value of your PP, then you can put just one asset in it and never have to worry about touching it until it's time for an extremely rare fourth consecutive rebalance out of that asset. This 9.1% rule (actually, 9.11%, so let's call it the "9/11 rule") can apply to four different sub-accounts: one each dedicated to gold, stocks, bonds, and cash. The remaining 63.6% can be in a single account used for all rebalancing.
My apologies if the numbers are confusing — lots of percentages of percentages!
There is a lot of advice on this thread (and in this forum in general) about keeping a separate PP in each separate account, with the aim of simplifying rebalancing. In your case, I don't think that's necessary. Correct me if I am wrong, but you will have a regular taxable brokerage account with $44,000 in it and a nontaxable individual 401k with $3,600. So a total PP value of $47,600. Split four ways, that's $11,900 per asset class. I suggest keeping just one asset class, perhaps the most taxable (gold ETF?), in your individual 401k. But for simplicity, let's consider your current situation with a stock index in that account ($3,600). That leaves $8,300 for stocks in your regular account. So, a split of about 30% stocks in the 401k and 70% in the taxable account. (Each of the other three assets is $11,900 in the taxable.) Why do I suggest this approach? Assuming 35/15 rebalancing bands, even if you have to rebalance three times in a row out of stocks you won't have to touch the 401k. And with rebalacing occurring these days about once every three or four years, that means it would be maybe a decade before you would need to sell anything in the 401k — if ever. (Has there ever been an instance of four consecutive rebalances out of a single asset?)
Here's my logic: Starting from a balanced PP, assume stocks go up to 35% of the portfolio; you sell 10/35 (28.6%) of your shares to get back to 25%. In your current case, 28.6% of $11,900 would be $3,400, which you could take from your taxable account ($8,300) without having to touch the 401k. After the next rise in stocks, you would again sell 28.6% of your shares; each time you retain 71.4% of your shares (100 – 28.6%), so two rebalances would mean retaining 51.0% (0.714^2) of your initial shares, and three would mean retaining 36.4% (0.714^3). Because you began with 30% of your shares in the 401k, you have enough shares in the taxable account to do all your rebalancing there.
I believe this approach is simpler than having a separate PP in each account. I'm going to go out on a limb and make the following rule: If an account contains less than 9.1% (36.4% of initial 25% holding) of the total value of your PP, then you can put just one asset in it and never have to worry about touching it until it's time for an extremely rare fourth consecutive rebalance out of that asset. This 9.1% rule (actually, 9.11%, so let's call it the "9/11 rule") can apply to four different sub-accounts: one each dedicated to gold, stocks, bonds, and cash. The remaining 63.6% can be in a single account used for all rebalancing.
My apologies if the numbers are confusing — lots of percentages of percentages!