PP in a Great Depression Scenario

[bedraggled]

Though the PP has performed well for 40 years (9%+), has anyone calculated its theoretical performance for the years 1929-1941?  Follow-up questions: "How might the PP perform if 2 components, specifically stocks and gold, were devastated for 5 years? 10 years?

Thanks for considering the thought.  I may retire and I ponder the future of my retirement nest egg.

[Ad Orientem]

The Depression of 1929-41 is difficult to chart with the PP since gold was monetized in those days. But I recall some attempts being made in very old threads that concluded that the PP sustained minor real losses, holding up better than any other portfolio that was not all treasuries. A better scenario to chart would be the multi-decade Japanese deflationary depression. That too has been examined using the PP and the results again suggested something close to a break even end result.

Remember that the PP is not designed to profit in an SHTF scenario. It is designed to keep you from sustaining severe losses. The only way to profit in a truly catastrophic economic crisis is to know (or more likely guess) in advance what the crisis will be, and then pile into the one asset that will soar. That however is a very high risk game and one not recommended for the faint of heart or those with less than very substantial sums that can risk huge losses if their wager proves them a fool.

[Xan]

I had thought that the conclusion of the Japanese PP analysis was more positive than that.  IIRC, it was earning something like 1.5-2%, which you could say is close to break-even.  But this was in an environment when inflation was -2%.  So the PP was achieving something like 4% real, which is pretty good, and far better than most any other portfolio.

[Ad Orientem]

I had thought that the conclusion of the Japanese PP analysis was more positive than that.  IIRC, it was earning something like 1.5-2%, which you could say is close to break-even.  But this was in an environment when inflation was -2%.  So the PP was achieving something like 4% real, which is pretty good, and far better than most any other portfolio.

Perhaps my memory has failed. I thought the charts showed an deflation adjusted real return of around 1-2%.

[bedraggled]

Excellent responses from all three of you.  Thanks!  Where might I find the results of the Japanese PP experience?  Martin Weiss's books written in the last 5 years give thoughts on economic depressions from a few angles.  The public library is a good place to get his stuff.

[barrett]

Bedraggled,

You can see some Japan data here:

http://europeanpermanentportfolio.blogs ... folio.html

What strikes me about these tables though is that they don't seem to take rebalancing back to a 4X25 AA into account. The PP returns shown just assume that you start each year with an identical allocation to each asset. With all the bouncing around in gold and stock values, there should have been some sell high/buy low opportunities in Japan. Also note that LTTs really saved the Japanese PP in the deflationary 1990s.

Sure wish those data went through 2013. Also check out the Iceland scenario at the bottom where stocks dropped 90% in 2008.

These comparisons are only useful up to a point though because gold is priced in USD and exchange rates play a big part in how that component performs.

In a scenario where gold and stocks both go down in value in a standard 4X25 PP, it's similar to what happens to 50% of your assets in a 50/50 BH portfolio. But in a PP, you start off that down period with a bunch of cash, so you would be in a position to buy gold and stocks at suppressed prices. And LTTs might help out too, depending on what is going on with interest rates in your scenario.

[bedraggled]

Pugchief,

Point on Weiss well stated.  Weiss along with several opt his peers have gotten it wrong on this new depression.  I look at them as teachers.  I learned much from many of these writers but timing has been a problem for many of them.  As Craig R said in the book, when all were predicting a  poor scenario for 2009-2010, the markets dumbfounded everyone.  I started reading Harry Browne more than 30 years ago and have always admired his thinking.  I put my aunt in prpfx in 1984 after HB's assertions.  Too bad they stayed only a few years.

My neighbor, 75 years old, suggested earlier this year many authors and newsletter writers are correct on markets for a long time but then hit a substantial cold streak. 

barrett,

THanks for the link.  You explain it all nicely.

Ad Orientum & Xan,

THis forum is a great place to learn.  I am grateful for your thoughts.

[rickb]

Bridgewater's All Weather Fund is conceptually very similar to the PP.  In this paper they suggest the normal All Weather mix would have had a drawdown of about 40% from the 1929 high to a subsequent low in 1932.  This is much better than the nearly 70% drawdown of a conventional 65/35 stock/bond mix, but still "materially negative".  Because of this large drawdown, Bridgewater apparently uses a "depression gauge" telling them when to switch into what they call their "Safe Portfolio" (Gold 10%, T-Bills 30%, IL Bonds 40%, T-Bonds 20%), which would have experienced a drawdown during this interval of what looks (from their graph) to be about 7%.  They apparently split the All Weather Fund's assets into a "normal"/"safe" mix according to what their depression gauge says about the likelihood of an imminent depression.

[Xan]

I found the discussion about the PP in Japan which I think Ad and I were both attempting to remember.  It's summarized pretty well in this post by Craig:
http://gyroscopicinvesting.com/forum/pe ... /#msg43613

[barrett]

What strikes me about these tables though is that they don't seem to take rebalancing back to a 4X25 AA into account. The PP returns shown just assume that you start each year with an identical allocation to each asset. With all the bouncing around in gold and stock values, there should have been some sell high/buy low opportunities in Japan.

Sorry, this was useless drivel from me. Thinking this through, clearly the assumption is that assets are sold back to 4X25 at the beginning of each year.

[LC475]

Though the PP has performed well for 40 years (9%+), has anyone calculated its theoretical performance for the years 1929-1941?  Follow-up questions: "How might the PP perform if 2 components, specifically stocks and gold, were devastated for 5 years? 10 years?

Thanks for considering the thought.  I may retire and I ponder the future of my retirement nest egg.

I recall some attempts being made in very old threads...

Here is the main one I could find:

http://gyroscopicinvesting.com/forum/va ... portfolio/

Here MachineGhost posts a chart he's made, wonderfully going back to 1928.

[img width=500]http://img502.imageshack.us/img502/368/ ... age001.gif[/img]

Conclusion: Did fine during the Great Depression.  But did very poorly during WWII.  If that chart is accurate.

[Xan]

I'm not sure how it's possible to meaningfully compare a portfolio containing gold and cash in the gold-standard era against one in the fiat money era.

[LC475]

I'm not sure how it's possible to meaningfully compare a portfolio containing gold and cash in the gold-standard era against one in the fiat money era.

Different persons will find meaning in different things.  A failure to find meaning most often comes, in my experience, from a failure to understand.

Here is a question that I find meaningful:

Could a similar event to the Great Depression occur today?

Here is another question that seems to me to contain some meaning:

How would the Permanent Portfolio likely perform should such an event occur?

It could be that the question "How did a portfolio of the S&P 500, long-term Treasury bonds, gold bullion, and treasury bills perform in the actual Great Depression that we already went through less than a century ago?" has some relevance to those first two meaningful (to me) questions.

[Xan]

Here is a question that I find meaningful:

Could a similar event to the Great Depression occur today?

With you so far.

Here is another question that seems to me to contain some meaning:

How would the Permanent Portfolio likely perform should such an event occur?

Absolutely an important thing to think about.

It could be that the question "How did a portfolio of the S&P 500, long-term Treasury bonds, gold bullion, and treasury bills perform in the actual Great Depression that we already went through less than a century ago?" has some relevance to those first two meaningful (to me) questions.

Here's where I think you're off the rails.  You can make a portfolio matching that description pre-1971, and you can make a portfolio matching that description post-1971, but they are fundamentally different portfolios.

[LC475]

Here's where I think you're off the rails. 

Well thank you.  Why don't you tell me how you really feel?

Could you define these "rails," explain to me where these "rails" are, and then please guide me back to them.  I'm so hopelessly lost, you see.

You can make a portfolio matching that description pre-1971, and you can make a portfolio matching that description post-1971, but they are fundamentally different portfolios.

  Oh, I see so one portfolio with some assets in 2009 is fundamentally different than a portfolio containing the identical assets, but in 1999, because conditions have changed.

Oh, whoops, did I mis-speak?

No, that's not what you're saying at all.  Let me try again: one portfolio some assets in 1982 is fundamentally different than a portfolio containing those identical assets, but in 1928, because conditions have changed.

And because some conditions have changed, that means all conditions must have changed.  In fact, they've changed so much, that not only is nothing from the one time relevant to the other, nothing from that time is even meaningful!  We can't even parse it.  Does not compute.  No meaning.

Did I get that about right?  Am I back on the rails?

[l82start]

i think its primarily a gold=cash, cash=gold problem. in order to use depression era stats to see how the PP will do in a modern depression, you have to take into account that the way gold reacts now is different than the way it does when it equals cash (volatility). if remember correctly there have been depression era back-tests done using other commodities to mimic the modern volatility of gold and they showed (as well as a proxy could show) that the pp did fine..

somebody may remember where those back tests got posted and provide a link.. 

[Xan]

It's not that conditions have changed; definitions have changed.  In 1971, the dollar stopped being defined in terms of gold.  That makes 1971 a fundamental turning point in portfolio analysis.  I'm not just being arbitrary here.

All I said was that I'm not sure how to meaningfully compare a pre-1971 "PP" with a modern PP, and you seem to be flying off the handle.  Chill.

[Pointedstick]

Before 1971, gold was cash. Its value didn't rise and fall like it does today. Prior to 1971, a portfolio with 25% each in stocks, bonds, gold, and cash would not perform any materially differently from a portfolio that consisted of 25% stocks, 25% bonds, and 50% cash. Gold wasn't an investment back then. It was cash. So you couldn't count on it to perform the role of a freely-tradable investment, like we do today.

[barrett]

To my way of thinking gold would have been worse than cash prior to 1972 because you couldn't invest it and earn interest. Gold would have lost out to inflation of the dollar which, as we know, was quite high starting in 1966.

Also, the period starting in 2008 was something more than a "tight-money recession", wasn't it? Not really a Great Depression but worse than the usual.

[Pointedstick]

To my way of thinking gold would have been worse than cash prior to 1972 because you couldn't invest it and earn interest. Gold would have lost out to inflation of the dollar which, as we know, was quite high starting in 1966.

Not only that, but FDR was gonna confiscate it! It's more correct to think of pre-1971 gold as not so much an investment but more a tool of government monetary control.

[LC475]

In 1971, the dollar stopped being defined in terms of gold.

Oh, did it now?

[Xan]

In 1971, the dollar stopped being defined in terms of gold.

Oh, did it now?

Who peed in your Cheerios, dude?

Your thoughts on the validity of "PP" results pre-1971 led me to believe there might have been some confusion on to the importance or timing of the end of the gold standard.

Can some third party read my posts and see if I said anything to warrant the violent sarcasm being hurled my way?  LC475 seems to think I've been attacking him or something.

[Pointedstick]

In 1971, the dollar stopped being defined in terms of gold.

Oh, did it now?

LC475, please try to tone down the sarcasm. There's no reason to be rude. And besides, Xan's right.

https://en.wikipedia.org/wiki/Nixon_Shock

[moda0306]

Let's also not forget that a sovereign fiat currency's long-term treasury bonds are going to potentially perform differently than one of a currency that is tied to gold, and has higher risk of an interest-rate/default-risk spiral.

Therefore, in situations where the economy is predicting disinflation for years going forward, it will predict very low fed-set interest rates long into the future, and therefore set long-term rates to reflect that (aka, set them low).  If there's a hint of fear over default risk, this effect could be very different, or much more dampened, since the market might put a high risk premium on federal debt held for decades into an uncertain future.

I tend to think that to the degree that the depression would have played out similarly had we had a similar monetary system to today (though I don't think it would), our LTT's back then would have been much more like they are today... a sort of leveraged indicator on future interest rate predictions based on how the fed reacts to lagging economic growth.  Back then, it was sort of just another bond in the market.

If we were in 1929, you would NOT want to be holding 50% of your portfolio in bonds of a country that hasn't yet pledged its allegiance to setting the floor of stability of a sovereign fiat currency regime.  You'd have wanted a diversified safe bond portfolio (IMO).  Today, we're dealing with a different scenario, where we've handled the inflation & principal risk aspect of fiat bonds by holding gold & stocks, but we are doing this within a currency regime where we are almost 100% the government essentially can't default on its debt (nominallly) unless it tries to.  I actually still like the idea of holding REAL gold back then, but for a different purpose (like the 1933 confiscation and repricing).  It wouldn't have been the canary in the coal mine it is today, but it would have been useful.

... just my humble, not so concise analysis .

[Ad Orientem]

Thoughts on a HBPP in the 1930's (Great Depression) and World War II (1941-45)...

One reason why an actual HBPP probably would have done quite well in the deflationary depression years is that it was 75% cash and bonds (50/25) with only 25% in stocks. And then you get to add in the pure luck of having half your cash (gold) arbitrarily revalued from $22.67 oz. to $35.00. So you get an instant book profit of a little over 40% on that part of your PP at a time when the stock market is looking like Hiroshima right after we dropped the bomb. (We will ignore the inconvenient fact that privately held gold was nationalized right before the big increase in price. Perhaps you had yours stashed in Switzerland?) All of this means you are doing quite well in a deflationary nightmare world.

Alas nothing good lasts forever...

When World War II rolls around the same formula that made you a mint during the depression will kill your portfolio. World Wars, for those who are not great students of history, are ALWAYS inflationary. Often brutally. And with gold pegged at $35.00 oz you are in effect stuck with 50% in cash, 25% in long bonds and only 25% in stocks. That's a recipe for huge inflation adjusted losses.

But yeah, the HBPP would have been a whole different animal before 1971. Which is why a return to a hard money regime is probably the only thing that could make me abandon it.