Over the past few decades, there have been hundreds of books published discussing the best ways to invest your money. Most of these books focus on strategy rather than style or, to put it another way, asset allocation over which strategy to follow (growth, income, value, momentum and so forth).
Each of these strategies has its benefits and drawbacks. The one you follow depends on how comfortable you feel following a particular layout.
For example, you could go all out and follow Warren Buffett (Trades, Portfolio)'s advice to invest 90% of your money in an index tracker fund and the rest in Treasury bills. This kind of strategy would be suitable for investors at the beginning of their careers but perhaps not retirees who will be drawing down pension funds and do not want to sell stocks at the wrong moment if they need extra cash. What's more, this strategy might be unsuitable for beginners who are not used to volatility.
The goal of all of these strategies is, however, to protect your wealth. Every asset allocation strategy is designed with the single aim of limiting downside and maximizing potential profit with limited volatility.
The Permanent Portfolio
This brings me onto the Permanent Portfolio investor strategy. This plan of asset allocation was first published in the 1970s by Harry Browne, a U.S. writer and politician. It is designed with the simple goal of protecting your wealth in all environments in a straightforward way.
The Permanent Portfolio requires allocating your wealth into four buckets: 25% cash, 25% gold, 25% shares and 25% long-term government bonds.
I will not here try to assess whether or not this is the correct strategy for anyone. But it is interesting to take a look at this highly defensive set up and see if it does do what it says on the tin, i.e., protect and grow your wealth over the long term.
The idea is that in good times, the cash and equity component of the portfolio should do well, while in recessions long-term government bonds should outperform. Gold is included to protect your portfolio against Black Swan events. Gold also provides a great hedge against inflation, which was undoubtedly in the mind of Browne when he published the approach in the 1970s, a time when the world was experiencing elevated levels of price growth.
The returns stack up
At first glance, it is easy to write off this strategy as being too conservative, but the figures tell a different story.
According to portfoliocharts.com, which compiles the returns of various investment strategies over extended time periods, since 1970 the Permanent Portfolio has produced an average annual return of 5%. In comparison, a 60/40 stock bond portfolio has produced an average yearly return of 5.9% since 1970. Where the Permanent Portfolio really excels, however, is volatility.
The average standard deviation of returns since the 1970s is 6.9%, compared to the 60/40 portfolio standard deviation of 10.8%. The most substantial drawdown over this period was 14% and lasted five years where is the average drawdown for the 60/40 portfolio was 34% and lasted 12 years.
These numbers are quite impressive because they show just how profitable the strategy has been even though it is straightforward.
As we know that most investors lose money over the long term because they are scared out of the market when stock prices fall and miss virtually all of the profits on the way up, the fact that this strategy has almost zero volatility implies that many investors might benefit from using it because it protects them from themselves.
The Permanent Portfolio might not be glamorous or exciting, but these figures indeed show that if you want to protect and grow your money steadily over the long term, you should certainly consider using the Permanent Portfolio.
Disclosure: The author owns no share mentioned.
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