Modifications to my permanent portfolio

[ngcpa]

Last October I started a permanent portfolio with 2 major differences.  I didn't have a cash component, and I bought 14 individual stocks
instead of using an index.  I described this in a post at the end of last October:

http://gyroscopicinvesting.com/forum/ht ... ic.php?t=7

It has done very well and I decided to increase it.  Here are how the individual components performed:

Gold - I put 1/3 of the entire portfolio in GTU on 11/7/11.  It has dropped about 3.16% since then.  I bought IAU with the new funds and
as soon as GTU is selling at a much lower premium, I will sell the IAU and buy GTU.

Treasuries - I bought 3 treasuries (30-year, 29-year and 28-year) with equal amounts of 2/7 of the long term treasury allocation.  With the remaining 1/7 I bought TLT.  When I received interest during the year I bought more TLT.  This component did very well, it  gained 11.29% since I bought them in early November (11/7).  I sold the oldest treasury and bought a new 30-year.  I plan to sell the oldest each year and buy a new 30-year.  I increased each of the treasuries in equal amounts with the additional allocation.

Stocks – This component performed the best.  It gained 20.94% since 10/10.  Based on almost a year of analyzing stocks since then, I changed half of them.  I was originally planning to expand from 14 to 20 when I added funds, but decided to stick with 14.
I replaced 2 companies with ones in the same industry that I thought were more appropriate.  They were JBHT for CHRW (both trucking/transport firms) and SXL
for KMP (both pipeline limited partnerships).  I still own KMP and SJI (natural gas), but placed them in a different account (removed them from my PP).  I sold ARLP (coal limited partnership), BLL (packaging), FAST (metal fasteners), NKE (Nike sports apparel) and CHRW.  I added 5 stocks (besides JBHT & SXL) to my PP – AMZN (books), CAT (farm machinery), CHD (household products), EW (heart valves, etc) and FLO (food).  I kept AZO (auto parts), BCPC (chemicals), ROL (pest control), ROST (clothing), RYN (timber REIT), SKT (outlet REIT), SRCL (environmental) and SXL (energy pipelines). When I looked, I was rather surprised that I would have done as well just holding the entire stock index – VTSMX.  It gained 20.13% for the same period.  I would have thought I beat it by more.  I did rebalance just the stocks once in early March using 40% bands.  Recapping I now have AMZN, AZO, BCPC, CAT, CHD, EW, FLO, JBHT, ROL, ROST, RYN, SKT, SRCL and SXL

Overall – I had a gain of 9.69% for not quite a year.  I had the stocks in place on 10/10 and the treasuries and gold in place on 11/7.  I figure the annualized return would have been 11.6%.  I decided to go with 30% rebalance bands for the major components (my simulations had 30% working best with a 3 x 33%) and stay with 40% for the stocks.  When I added the funds, I kept the same ratios for the major components (36.7% stocks, 33.9% LT bonds and 29.4% gold) rather than adding the same amount to each or rebalancing.  I am very happy with the overall performance.

[AdamA]

Overall – I had a gain of 9.69% for not quite a year. 

How has the traditional PP done over the same time period?

Also, what would you do for cash in an emergency?

[Pointedstick]

I'm happy you're happy, but it looks like your stocks may be underperforming. From 10/10/12 to now, VTI went up 22.64% compared to your 20.94%. I also worry that you'll get clobbered once interest rates start to rise. With no cash, it will take a loooooong time for your treasuries to absorb the losses. Gold may plummet too if real rates start to poke above 2% again, and then you'll only have stocks to carry the remaining two falling assets.

[MediumTex]

As tweaked PPs go, that doesn't sound too bad, as long as you keep your hot hand at stock picking.

[Pointedstick]

Overall – I had a gain of 9.69% for not quite a year.

How has the traditional PP done over the same time period?

I would imagine not quite as well, since cash did basically nothing during that time and ngcpa's having more stocks and bonds would more than make up for having more falling gold.


ngcpa, Would you mind sharing how much you paid in commission fees to trade all those individual stocks? Is your stock return including that?

[craigr]

Stocks – This component performed the best.  It gained 20.94% since 10/10.

I hate being Darth Vader...but the Vanguard Total Stock Index turned in almost identical performance (20.35% as of today) since 10/10/2011 with zero trades and stress over researching companies. I see you found this as well:




Have you thought about just switching to the index to simplify things? I am happy the portfolio is working for you.

[ngcpa]

ngcpa, Would you mind sharing how much you paid in commission fees to trade all those individual stocks? Is your stock return including that?

My stock returns included the commissions.  They are $ 7.95 a trade (I have it at Fidelity).  The most I paid in commissions was
24 x $ 7.95 or about $ 200.  I originally bought some of the stocks (some I already owned and just transferred to new different account).
I also had 1 rebalance which I think was 12 trades (a few were near the mean, so I just left them alone).  This is not a lot as I started with 3 x $ 70,000 or $ 210,000.  To me .1% is just noise.

Also, what would you do for cash in an emergency?

I also have a Vanguard account with money in their Wellesley and GNMA funds.  I write checks from the GNMA fund as I need cash and
transfer funds from Wellesley to GNMA a few times a year.

Have you thought about just switching to the index to simplify things? I am happy the portfolio is working for you.

It might sound arrogant, but I feel I can beat a stock index.  I have consistently for quite a while.  I think it is a lot harder for a mutual fund to do it as they have to deal with redemptiuons and can't be quite as nimble.  For most of the past 10 months, I was a lot further ahead of the index.  That is why I was surprised to see I only beat it by a little at the end.

[dragoncar]

Interesting, thanks for sharing.

I'm considering just going to a low-cash PP -- something like 30/30/30/10.  I think this works well for accumulators like me where 10% is basically a hefty emergency fund.  Instead of letting cash accumulate and rebalancing, I'll just invest in lagging assets.

Why did you choose a 3-bond ladder + TLT instead of just buying 30-years every year?

[MachineGhost]

What is your stock picking strategy?

[ngcpa]

Why did you choose a 3-bond ladder + TLT instead of just buying 30-years every year?

In case I needed to rebalance, I felt it would be easier to sell some TLT than treasuries.

[ngcpa]

What is your stock picking strategy?

I had to change it a lot from what I used to do.  I used to look for very low volatility stocks like NJR, SJI, BLL, DLR and NHI (mostly
REIT's and utilities) that paid a decent dividend and had good steady growth.  Look at a 10-year graph of any of these and you
will see how steady they have been.  I still own a bunch of them, but not as part of my PP.  It was hard for me to wrap my mind
around the idea that for the PP, volatility is good.  Actually I had a lot of good candidates from stocks I looked at before, but rejected
because they wre a little too volatile for me.  Stocks like RYN (Rayonier) and AMZN (Amazon) I would never have owned in the
past.  Although they have good businesses and  great growth, they have been quite volatile.  I also do a lot of simulation runs with
candidates along with gold & treasuries.

[sophie]

You seem to have done OK with the stocks - did those returns include dividends?  Let me ruminate a bit on the second part of your strategy: eliminating the cash portion.  Although there have been a few years since 1972 in which cash was the best performing asset, I can see the argument for eliminating it.  Cash mostly lags the other three assets, and opportunities to buy the volatile assets at fire sale prices may not come along often enough to make up for the difference in performance.  I would predict higher returns and higher volatility for the modified version of the PP.

Here's what ETFreplay had to say for returns since 10/10/11:
Standard PP:  VTI, TLT, GLD, SHY (25% each).  Return 7.3%, volatility 6.3%
Modified PP:  VTI, TLT, GLD (33% each), 1% SHY.  Return 9.5%, volatility 8.2%

Running these same portfolios since November 1994, I got:
Standard: Return 107%, volatility 9.1%
Modified:  Return 133%, volatility 11.3%

Of course, this tests only periods of prosperity and falling interest rates with the odd stock market crash, so it probably does not cover all possible behaviors of the modified portfolio.

You might consider what you'd do if interest rates recover and cash starts providing better returns.  By definition that's a period of inflation and rising interest rates, so everything except possibly gold will be doing poorly.  So you'd have no cash to invest unless you sell assets when they're down.  Also, are you really comfortable with counting Wellesley, and GNMA as the equivalent of emergency cash?

I ran through this logic myself at one point, and ended up agreeing with HB that cash does serve an important role in the portfolio.  Like the other assets, you won't miss it until it's too late.  I have to say that the reasons usually cited in cash's defense never rang true for me, but they weren't the deciding factor.  The peace of mind once that large chunk of cash was in place was the ultimate argument.

[ngcpa]

You seem to have done OK with the stocks - did those returns include dividends?

Yes, Fidelity will allow you to reinvest dividends at no charge, and I always do.

I would predict higher returns and higher volatility for the modified version of the PP.

My simulation runs have predicted the same, but the higher volatility is not that bad compared to the increase in returns.

You might consider what you'd do if interest rates recover and cash starts providing better returns.  By definition that's a period of inflation and rising interest rates, so everything except possibly gold will be doing poorly.  So you'd have no cash to invest unless you sell assets when they're down.

Personally, I don't believe we are going to have a period of rising interest rates for a long time.  I may not even live to see it (I am 67).

are you really comfortable with counting Wellesley, and GNMA as the equivalent of emergency cash?

I don't really count it as the equivalent of emergency cash, but I do live off of this money along with social security.  It is there in case
I need it.  I used to use GNMA in the Wellesley role and their Prime reserve as the GNMA role, but I wanted to earn more on this money
when interest rates got ridiculously low.  I would rather do what I am doing than sell stocks or other investments when I need cash.
Since I was self employed, I am used to having this kind of setup.

I ran through this logic myself at one point, and ended up agreeing with HB that cash does serve an important role in the portfolio.  Like the other assets, you won't miss it until it's too late.  I have to say that the reasons usually cited in cash's defense never rang true for me, but they weren't the deciding factor.  The peace of mind once that large chunk of cash was in place was the ultimate argument.

When money markets were paying 6% or even 3%, I could see it, but when it is paying near 0, I can't see holding much.

[stone]

ngcpa, I'm rooting for your individual stock strategy. I'm wondering whether you might start to see out performance versus the cap weighted index once the "rebalancing bonus" effect has time to bed in. After one year and one rebalance of the stocks, I guess the "rebalancing bonus" won't yet be apparent. Only once individual stocks have drifted down and then back up again relative to one another will you have harvested that "rebalancing bonus".  Thanks for keeping us updated.

[ngcpa]

ngcpa, I'm rooting for your individual stock strategy. I'm wondering whether you might start to see out performance of the cap weighted index once the "rebalancing bonus" effect has time to bed in. After one year and one rebalance of the stocks, I guess the "rebalancing bonus" won't yet be apparent. Only once individual stocks have drifted down and then back up again relative to one another will you have harvested that "rebalancing bonus". Thanks for keeping us updated.

 

Stone: Thanks for the kind words and thanks again for your recommendation on 10/31/11 about rebalancing the individual stocks.  I
didn't consider doing that until you suggested it.  In the past I have beaten the index by a lot in down markets.  I am not so sure
that will happen again as now I have more volatile stocks, but as you suggest the rebalancing should help.  I'm with you on being
not impressed with cap weighted index funds.  With highly specialized cap weighted index funds I especially feel this is true.  As an
example consider the Powershares Water Resources ETF (PHO).  It has 28 stocks and the 5 largest holdings represent about 40% of
the fund.  I suspect one could take a close look at the 28 stocks (or even the 5 largest), pick the 2 or 3 you consider best and just
buy equal amounts of each.  Not only would your stocks probably perform a lot better, but you would also save the .66% expense
ratio yearly.  I guess people don't have the time or the confidence in being able to evaluate individual stocks.

[stone]

ngcpa, I'm relieved that my encouragement hasn't led to disaster anyway . Something I saw goes along with what you were saying. The GMO web site has a pdf:
Profits for the Long Run: Affirming the Case for Quality
http://www.gmo.com/America/

It basically says that by simply excluding obviously dreadful companies you can improve on an index.

I think you are right about people not typically having the time to keep abreast of what various companies are up to. I'm in that situation but like you say, if its something you're doing anyway out of enthusiasm, why not make the most of it.