New to Permanent Portfolio

[eufo]

Whether the bands should be wider or narrower depends a lot on price action that cannot be determined in advance. We can curve fit to the past, but it won't indicate what will work best moving forward. Obviously the best time to rebalance would be right when the prices are about to reverse, but one can never know that.

When I was working on an interesting rebalancing experiment a few years ago, it became evident that frequent rebalancing was a better approach to capture smaller price movements and keep allocations where we want them. The only caveat was avoiding excessive commissions or all gains would be lost in the friction.

I like the idea behind bands instead of timeframes, so I would aim for narrower bands to capture more gains.

For me, I'm still working and constantly pushing money into my portfolio, so I almost never have to sell anything... I just buy up whatever is lagging behind the other assets and let the rising assets ride. It hasn't gotten terribly out of balance yet, but I suppose that day will come where I will be forced to sell something that has run up too hot.

[Kbg]

I like the idea behind bands instead of timeframes, so I would aim for narrower bands to capture more gains.

This statement is demonstrably not true. It is true for a ranging market/set of instruments, it is not true for a trending market/set of instruments.

Pretend for a moment that stocks are in a five year bull market and gold is in a five year bear market. In this case frequent rebalancing would trim your best performing stock with a LOWER overall average exit price because you are exiting earlier in the up cycle and increase your worst performing stock with a HIGHER overall entry price because you are entering earlier in the down cycle. Now in our pretend land rebalance exactly at the end of year 5 and compare the results.

The only thing we know for sure is rebalancing keeps us closer to our ideal portfolio allocation and risk profile...that's it, nothing more. Well actually we know a bit more, more rebalancing drives up costs and causes more tax events in taxable accounts.

Dollar cost averaging is impacted by the same math. If you know the market is going to go up for an extended period (and we don't) dollar cost averaging is a horrible idea. If it goes down it is genius, but perfect genius is trading at the exact nose over/turn up points.

More to the point, what PPer was happy they faithfully rebalanced and bought more gold from mid 2011 to Jan 2016...my guess is exactly nobody or for that matter who was happy they faithfully rebalanced and sold more gold from 2006 to 2011. Again, likely nobody.

[tarentola]

I ended up believing my own propaganda (earlier in this thread), and added more of my VP cash and Euro high-yield stocks to the PP in December 2016. My portfolio is now PP 75%, VP 25% of total investments.

As my bond allocation was already low, I had to buy some bonds (without enthusiasm, given the likely direction of interest rates), to keep the portfolio within PP rebalance bands. Gold was already at 30% so I did not need to add any gold to the new PP. I have now gone from 26-18-30-26% stocks-bonds-gold-cash to 28-16-23-33%.

The Stocks section of the PP now contains:

• Euro HY shares 24% (Sanofi, Vinci, SES etc)
  MSCI Europe ETF 43%
  Emerging Markets ETFs 11%
  Japan ETF 10%
  Healthcare and Tech ETFs 12%

This was a result of combining existing investments into the PP and so is a bit complicated. I suppose it has the virtue of diversity. I will leave it for the moment but intend to go in the direction of simplification. The VP now holds only US (mostly) and UK high-yield shares, so I do have US exposure as well.

The Cash section now contains:

• short-term bond ETFs 21%
  a life assurance policy (cashable any time) 40%
  cash deposit account at local bank 17%
  cash in a dealing account 22% (for rebalancing)

... in fact all my cash except my current account (checking account which also feeds my debit card).

Withdrawals: I am retired with a small state pension so am depending on my investments for some of my income. I intended to withdraw 3% per year and I had set up my life assurance to make regular payments into my current account, but that was depleting an account which was paying 2% per year (a lot for a safe account these days in Europe) so I stopped it.

Now I just withdraw 3000 euros when my current account falls below 1000 euros (up to a maximum of 3% per year of course). This method has the advantage of keeping almost all my cash “in play”, with the possibility of gaining interest. Also a small current account small reduces the scope for bank card frauds.

So the PP cash component, in addition to the benefits often cited in this forum, can contribute to a personal money management system for a retiree. No more standing orders: I just have to check my current account and top it up occasionally.

Usually I do not spend all the 3% and it remains in the PP cash reserve, but I keep an account of it so that the unspent balance can be earmarked as a fund for later spending on travel, house maintenance or whatever.

I have also unitized the portfolio so I can track progress in a way that takes account of withdrawals.

In summary: a VP, a PP and a current account. Nothing remarkable about any of this, but I am enjoying a huge feeling of relief since I completed this setup. I feel I have a stable portfolio that will now require little intervention and I take much less interest in what the markets are doing from day to day. Now I just have to psych up to buy more bonds...

PS thanks to Xan for taking over the hosting of this indispensable forum

[mathjak107]

[glow][/glow]I am not a fan of counting other sources of cash which have other purposes like insurance as a proxy for the dedicated cash which has definite functions in the pp or gb.

If you need life insurance you should not be removing money and if you don't need it then you should not have insurance.

Things tend to not work out as we wanted when we try to use the same money for dual purposes.

The cash in the pp has a definite job to do. The cash or short term bonds act as a barbell for the long term treasury's. It also acts as options to buy stocks at lower prices but with no expiration date.

Using your life insurance as cash is like using social security as a proxy for bonds .

I am retired but our spending cash has nothing to do with what we hold as cash in our portfolio.

[ochotona]

I like the idea behind bands instead of timeframes, so I would aim for narrower bands to capture more gains.

This statement is demonstrably not true. It is true for a ranging market/set of instruments, it is not true for a trending market/set of instruments.

Applause! "Let your winners run, cut your losers short"

[mathjak107]

i agree , trends tend to go on for a while as opposed to flashes in the pan like brexit and the election which were really hicups .

rebalancing to much just takes money out of what is going up . unless you are a great market timer odds are pretty good to frequently rebalancing will hurt you .

[tarentola]

If you need life insurance you should not be removing money and if you don't need it then you should not have insurance.
...

Using your life insurance as cash is like using social security as a proxy for bonds .

I am retired but our spending cash has nothing to do with what we hold as cash in our portfolio.

I should have explained that here a life assurance policy is often used for savings as there is some tax relief on it. My intention here was savings, not insurance.

[JohnnyFactor]

Needless to say, I really chose the wrong moment to buy gold.

The odds of an asset going down as soon as you buy it is almost 100%. The PP is a "cover all bases" portfolio. Something is always going up and something is always going down.

[blue_ruin17]

Needless to say, I really chose the wrong moment to buy gold.

The odds of an asset going down as soon as you buy it is almost 100%. The PP is a "cover all bases" portfolio. Something is always going up and something is always going down.

And yet, you must bite the bullet and recognize that you must invest in all assets equally from the start, no matter how "over-valued" or "under-preforming" or "totally insane" an asset appears to be.

You just never know when a hated asset might come to your rescue.

It reminds me of a certain Eastern parable, one version of which goes something like this:

There is a Taoist story of an old farmer who had worked his crops for many years. One day his horse ran away. Upon hearing the news, his neighbors came to visit.

"Such bad luck," they said sympathetically.

"We'll see," the farmer replied.

The next morning the horse returned, bringing with it three other wild horses.

"How wonderful," the neighbors exclaimed.

"We'll see," replied the old man.

The following day, his son tried to ride one of the untamed horses, was thrown, and broke his leg. The neighbors again came to offer their sympathy on his misfortune.

"We'll see," answered the farmer.

The day after, military officials came to the village to draft young men into the army. Seeing that the son's leg was broken, they passed him by. The neighbors congratulated the farmer on how well things had turned out.

"We'll see" said the farmer.

"Stocks are overvalued!"

We'll see.

"Bond rates can only go up!"

We'll see.

"Gold is going to take a decade to un-wind!"

We'll see,"

"With rates near 0%, cash is trash!"

We'll see.

[Kbg]

According to some sources 85% of hold time your portfolio is in drawdown and 15% is peaking from the previous high. Get used to things going down.

[stuper1]

Hey blue ruin, great post. Of course I'd heard that parable before, but it really is appropriate for thinking about permanent portfolio performance. It seems that at least one asset is always looking bad, and that the asset that goes up to help is often the one least expected to do so.

[eufo]

With regards to my earlier statement about preference to narrower bands to capture gains... let me put some qualifiers on that. My calculations were based on a non-taxable account using commission free ETFs. Taxable accounts or situations that would involve a lot of friction (trading fees) should be broader banded to avoid grinding away capital.

Markets trend and they countertrend. We never know which it's going to be. Assuming no friction or taxes... in a countertrending instrument, frequent rebalancing creates a gain from no movement. This is enough reason to enjoy frequent rebalancing in my mind.

Letting winners run is more profitable right until they turn over and suddenly we're overweight in something that often is seeing a steep decline, while likely underweight something that is making a huge comeback. Broader bands rely more on market timing than narrow bands, because to truly enjoy the fruits of broader bands, they need to be near reversals. If we miss the reversal by even just a percentage point, we may give all those potential gains right back.

We can't know the future, so, in my opinion, it's best to stick as close to our preferred asset allocation as we can (within reason).

[eufo]

With regards to my earlier statement about preference to narrower bands to capture gains... let me put some qualifiers on that. My calculations were based on a non-taxable account using commission free ETFs. Taxable accounts or situations that would involve a lot of friction (trading fees) should be broader banded to avoid grinding away capital.

Markets trend and they countertrend. We never know which it's going to be. Assuming no friction or taxes... in a countertrending instrument, frequent rebalancing creates a gain from no movement. This is enough reason to enjoy frequent rebalancing in my mind.

Letting winners run is more profitable right until they turn over and suddenly we're overweight in something that often is seeing a steep decline, while likely underweight something that is making a huge comeback. Broader bands rely more on market timing than narrow bands, because to truly enjoy the fruits of broader bands, they need to be near reversals. If we miss the reversal by even just a percentage point, we may give all those potential gains right back.

We can't know the future, so, in my opinion, it's best to stick as close to our preferred asset allocation as we can (within reason).

I agree. There have been times when larger rebalancing bands resulted in higher returns, and the opposite has also occurred. I think it mostly comes down to preference. I like the idea of establishing a percentage rebalancing threshold, and then sticking with that, whatever one decides on. Personally, I lean toward the larger bands, because I've lived through some pretty large market downturns. And I hate buying more of the stuff and watching it go down. In other words, it's easy to sell winners, but it's hard to buy losers. Keeping the bands relatively large is probably going to result in less short-term regret.

You're right that it mostly comes down to preference. Even in my taxable account I prefer more narrow. I use tax harvesting to ensure the most tax friendly lots are being sold. I'm not sure if I'm leaving money on the table there, but even if I am, I just feel more comfortable being closer to my preferred allocation.

It's funny that you say it's easier to sell winners than buy losers, because I feel almost the opposite. It's hard for me to sell on the way up. I do it, but I hate doing it. Conversely, I love buying on the way down. It's still a little painful when I buy and then a sharp downward leg occurs IMMEDIATELY after a buy, but for me, it's an easier process emotionally than selling.

[yankees60]

Seems like eufo was the only one here in favor of narrow bands while all else were in favor of wider bands.

Everyone still singing the same tune?

Vinny

[Smith1776]

Seems like eufo was the only one here in favor of narrow bands while all else were in favor of wider bands.

Everyone still singing the same tune?

Vinny

I'm personally in favour of 20%/30% rebalancing bands as well. Tax efficiency be damned.

In the original HBPP thread I think it was determined that the overall behaviour of the portfolio wasn't drastically different if you went for 20/30 rather than the traditional 15/35.

[senecaaa]

Seems like eufo was the only one here in favor of narrow bands while all else were in favor of wider bands.

Everyone still singing the same tune?

Vinny

Instead of personal preferences it would be cool if this is back-tested somehow. Someone must have done this?

[tarentola]

Michael Kitces has an article which concludes that it is best to check frequently and rebalance opportunistically at 20% bands.

A 2007 study in the Journal of Financial Planning by Gobind Daryanani entitled “Opportunistic Rebalancing” studied rolling 5-year periods from 1992 to 2004 and found that the optimal rebalancing threshold was at a relative threshold of 20% of the investment’s original weighting. Setting the thresholds narrower, such as only 10% or 15% bands, produced less favorable results, as did rebalancing bands that were 25%. The goal, again, is to set a threshold that is ‘far enough’ out to allow investments to run near extremes, but not so far that they run to extremes and bounce back again, without ever triggering a buy or sell trade.

https://www.kitces.com/blog/best-opport ... hresholds/

Presumably the 20% figure would be applicable to the PP, as the study was done on a comparable multiple-asset class portfolio (large-cap US, small-cap US, REITs, commodities, and intermediate-term bonds).

[senecaaa]

Michael Kitces has an article which concludes that it is best to check frequently and rebalance opportunistically at 20% bands.

A 2007 study in the Journal of Financial Planning by Gobind Daryanani entitled “Opportunistic Rebalancing” studied rolling 5-year periods from 1992 to 2004 and found that the optimal rebalancing threshold was at a relative threshold of 20% of the investment’s original weighting. Setting the thresholds narrower, such as only 10% or 15% bands, produced less favorable results, as did rebalancing bands that were 25%. The goal, again, is to set a threshold that is ‘far enough’ out to allow investments to run near extremes, but not so far that they run to extremes and bounce back again, without ever triggering a buy or sell trade.

https://www.kitces.com/blog/best-opport ... hresholds/

Presumably the 20% figure would be applicable to the PP, as the study was done on a comparable multiple-asset class portfolio (large-cap US, small-cap US, REITs, commodities, and intermediate-term bonds).

Very interesting!

So, 20% would mean 20-30% for each asset class right? Quite a bit narrower from what HB recommended.

[tarentola]

So, 20% would mean 20-30% for each asset class right? Quite a bit narrower from what HB recommended.

Yes, that is my understanding of it as well. HB suggested rebalancing at 15% or 35% of the portfolio, so +/- 40% rather than +/-20%.

[stpeter]

So, 20% would mean 20-30% for each asset class right? Quite a bit narrower from what HB recommended.

Yes, that is my understanding of it as well. HB suggested rebalancing at 15% or 35% of the portfolio, so +/- 40% rather than +/-20%.

Great find! The original paper is well worth reading:

http://resource.fpanet.org/resource/09B ... yanani.pdf

What do our resident permanent portfolio experts think of this research?

[stpeter]

So, 20% would mean 20-30% for each asset class right? Quite a bit narrower from what HB recommended.

Yes, that is my understanding of it as well. HB suggested rebalancing at 15% or 35% of the portfolio, so +/- 40% rather than +/-20%.

Great find! The original paper is well worth reading:

http://resource.fpanet.org/resource/09B ... yanani.pdf

What do our resident permanent portfolio experts think of this research?

Also note that the original paper recommends both a "rebalance band" (for HBPP, that would be 20%-30% of the portfolio rather than HB's 15%-35%) *and* a "tolerance band" (which is the target to which you rebalance an out-of-balance asset instead of rebalancing everything back to the 4x25% benchmark). As a simple example, let's say the rebalance band is 10% and the tolerance band is 5%; if stocks go down to 19% of the portfolio and gold goes up to 31% whereas bonds are 27% and cash is 23%, you wouldn't rebalance everything back to the benchmark of 4x25% - instead, you'd rebalance stocks up to 22% (halfway between 19% and 25%) and gold down to 28% (halfway between 31% and 25%) but leave bonds and cash alone. This reduces the number of trades you have to complete, and seemingly also gives you more flexibility in case a downward or upward trend continues (let's say stocks continue to decline and go down again from 22% to 18% of your portfolio - just rebalance again).

I'm not yet sure what I think of this approach, but it seems plausible.