Interesting Finding

[moda0306]

I don't have the charts anymore to show this, but I've been trying to get my dad into the PP (He has WAY too much appetite for stocks for being 64 years old.)  It's so hard to convince him... like others have said, you can have the numbers, charts, etc right in front of the person and they still think it sounds riskier than their 60/40 allocation.

So I finally thought, "ok, what if I just get him into LT bonds & Gold to a point where he feels comfortable, just to make sure he's got some protection against huge stock losses"

What I found was amazing... I wish I would have saved the excel schedule I made, but I made a chart assuming 85% stocks, 10% LT bonds & 5% gold.  The LT bonds & gold didn't hurt the portfolio much at all in the 90's, but helped quite a bit during the 2000's and were huge in the 2008/2009 swings.  Your ability to use assets that 1) appreciate well over time and 2) don't correlate with each other, helps create amazing stability with even somewhat improved return.

Lesson: Even in small doses, the non-traditional components of the PP can vastly improve your risk-adjusted return.  Who would have thought that an 85% stock portfolio could be that much smoother than a 100% stock portfolio... In 2008, bonds and gold starting at 15% would have ended up being almost 40% of your portfolio by years end.  That all would have gotten rebalanced, and he just bought a bunch of stock super cheap.

It's not ideal, by any means, but it doesn't take much to help people out significantly.  If you can't get a friend or loved one to dive into the PP 100%, just try to get them to go into the scary assets a little bit (which assets, of course, depends on their current risk appetite).  It will prove to be a lot more helpful than you would normally think.

[dualstow]

Good to know, especially since I'm easing into the PP rather than jumping in. This is due more to a reluctance to sell off stocks to generate cash than it is a fear of taking the plunge. I'm pretty much sold on the PP, and it's heartening to read that just moving in the direction of this allocation might help me even before I'm at exactly 4 x 25%.

[moda0306]

I'm with you... I'm really trying not to "time" into the PP... it's more a matter of valuation and my appetite for risk.

I know you're supposed to look at the PP independently as "money you can't afford to lose" and everything else as a Variable Portfolio, but I can't help but want to tweak the PP to my risk appetite, and I like the 40/30/20/10 allocation: Stocks/LT Bonds/Gold/Cash... I'd maybe flip the bonds with gold, but I recently bought a home at a 30 Yr fixed interest rate in which I rent out a room, and I figure I'm quite a bit more exposed to deflation than inflation.

To me, if stocks have 8-15% ROI priced in, and bonds & cash only have between .5% and 3.9% ROI priced in (I don't know how to "price" gold), then, all things being equal, I'm going to lean my portfolio towards stocks, and use the rest as "insurance."  It's more volatile, but in the long run it (40/30/20/10 PP) has shown to return high enough above the PP that I'm willing to take the extra volatility... I even thought of going 75/12/8/5 at one point.  Like I said, it doesn't take much of the "insurance" (gold, cash, bonds) piece of the portfolio to smooth & improve the "prosperity" (stocks) part of the portfolio.... at least historically.

[dualstow]

Hmm, it sounds like you may not be entirely convinced. Correct me if I'm wrong, but I think if you below 15% in any one asset, it's no longer the PP. Maybe cash could be the exception. I might not be at 4 x 25 yet, but I'm certainly not shooting for a tweaked allocation.

I was listening to one of the old HB shows yesterday and a guy called in who had let both his gold and long-term treasury allocations slip below 15%. Harry laughed and said something like "This is anything but permanent."

I'm very nervous about buying gold. Of course I feel like I'm getting in at the top. But, as long as I have enough funds to buy an equal share -- no matter how big or small that piece may be -- a share each of the other assets, I will convert some of my original portfolio (aka stocks & bonds) into more permanent portfolio ingredients. That is, if I have enough to buy two krugs plus enough to buy treasuries, I will do that. I have enough cash and stock. Then again, I wonder if I should start fresh with a brand new purchase of Total Stock Market rather than the holdings that have already gone up for years, before I knew about the PP.

[moda0306]

A 40/30/20/10 portfolio probably wouldn't be as "permanent" as the 4x25, but with gold at 20 vs 25, you're not that much more exposed to inflation (and remember, I have my house rental, which I think skews my overall portfolio to being exposed to deflation, not inflation... though I know the risks in housing are different than gold).

But you could hardly call me WAY exposed to deflation with a 30% bond interest.  Cash is a weak piece to me... only when the Fed explodes rates to prevent overheating of the economy does cash prove to be the savior... it basically smooths out the rough patches in my book... rarely adds value, and doesn't deserve a 25% spot in my portfolio.

So I think if you look at it, I may be hoping for prosperity we'll never see, but with 60% of my portfolio geared for one form of economic problem or another, I don't think I'm going to really hurt.  Once again, I'm young and poor, so I don't necessarily see it the way other people do.  Even after looking at 2008 allocations, though, a 40/30/20/10 portfolio was much less volatile than any one piece alone, and outperformed the PP quite a bit.

[dualstow]

I recently turned 40. I'm not sure whether that counts as young or old here. ;-)
"Cash is a weak piece"
-- I basically look at the cash holding as a way to easily rebalance the other three assets, since one cannot easily exchange gold coins for treasuries. But, that's because my entire PP value is so small. Once everything is in PP components, I suppose I'll look at all that cash as a good thing when the stock market falls and as a folly when it rises.

[moda0306]

The problem for me with cash, is that LT bonds often serve as a better, if volatile, hedge against recession & deflation.  LT bonds can take a hit when LT rates rise, but when ST rates rise cash moves up by whatever current ST interest rates become. 

Here's a simple view of how I see it:

In a non-fed controlled world, a rise in rates might represent inflation fears (gold captures that) or maybe simply pulling out of a recession & long-term growth prospects looking up, so people will no longer accept a .5% return (stocks capture that).

In a fed-controlled world, interest rates can fall or raise a little differently... but more often than not you're going to be competing with the fed's cheap money.  Yes, in the late 70's in early 80's, cash had good nominal returns when the fed tried to tame inflation, but it's been a pretty big strain on the portfolio in the long-run.  The fed has a real hard time surpressing LT bond rates, because their lowering of rates and providing QE actually increases the risk of inflation long-term, so LT bonds have a "defense mechanism" against the fed.

When I see only 2 years of losses in 40 years of the PP, I tell myself, "ok, you can handle more volatility than this... is there any weak part of the portfolio that can go?"  And the answer is obvious.... "Cash."

Each other play is a ballsy play that has a big "risk premium" that, when put together, provide stable, lucrative returns.  Cash is always competing with the fed, and it's the "scared man's play."  A 6-month emergency fund is all it's going to get out of me.