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[buddtholomew]

Under what circumstances does the PP produce a satisfactory return? The portfolio has been lagging a conventional allocation since 2009, correct? If it declines when equities rise and declines when equities fall, what am I missing?

Keep in mind that I am comparing the PP to my BH portfolio. The latter is beating the pants off the PP year after year. Do we need another financial crisis or inflation at 10% for the PP to return to its historical 7-9% nominal return?

[Kbg]

Under what circumstances does the PP produce a satisfactory return? The portfolio has been lagging a conventional allocation since 2009, correct? If it declines when equities rise and declines when equities fall, what am I missing?

Keep in mind that I am comparing the PP to my BH portfolio. The latter is beating the pants off the PP year after year. Do we need another financial crisis or inflation at 10% for the PP to return to its historical 7-9% nominal return?

You can measure a portfolio in many different ways, the two most common being return and risk and/or volatility. If you did ANY homework on PP it should have been quite apparent that for a great majority of the time PP lags a conventional port of stocks and bonds. It should also have been apparent that PP is way less volatile than a conventional stocks and bonds portfolio. So what are we measuring? And I am going to get a bit sarcastic here...are you measuring PP from March 6, 2009 forward? If so, you will be nothing but totally frustrated.

[Ad Orientem]

Under what circumstances does the PP produce a satisfactory return? The portfolio has been lagging a conventional allocation since 2009, correct? If it declines when equities rise and declines when equities fall, what am I missing?

Keep in mind that I am comparing the PP to my BH portfolio. The latter is beating the pants off the PP year after year. Do we need another financial crisis or inflation at 10% for the PP to return to its historical 7-9% nominal return?

Two quick observations. The PP is not designed to beat any other portfolio strategy. It is designed to keep you from losing your shirt when the next asset bubble pops. Secondly the 7-9% figure is the wrong one to look at. The correct figure is 3-5% above inflation which the PP seems to be delivering. The Bogleheads are not well protected from inflation if/when it returns.

But as others have noted, if you are losing sleep over the fact that the PP is not keeping pace with the latest hot asset, then by all means go 100% stocks if that is what you think will work. personally I think that seven years into the hottest bull market since the 1920's is not when I would be looking to overweight stocks in my portfolio.

But that's just me.

[barrett]

Do we need another financial crisis or inflation at 10% for the PP to return to its historical 7-9% nominal return?

For the PP to return 7-9% nominal on a rolling basis then, yes, we probably need inflation, but closer to the 4% range. I don't have the figures in front of me but I believe that inflation averaged about 4.4% over the last 40 years or so.

Though I don't use Quicken I do have more or less the same issue as Cortopassi. I don't understand how a PP investor does NOT have a pretty good idea how they are doing. The TV at my gym has the financial news on all day with gold, stock & 30-year bond prices ticking by every few minutes. I like reading stuff on this forum and I hear stock and bond numbers on NPR, etc. When stocks tank people talk about it. When gold tanks my wife asks me if we are OK. Low interest rates, Fed updates and so on are always in the news. Some basic math lets you know more or less where you stand even if you don't check balances every two seconds.

[Tyler]

Some of these criticisms border on the ridiculous. The YTD tracking error of PP vs SPY is practically a rounding error. If not the PP, then what? Stocks, bonds, and gold have all had a rough and choppy year so far. Nothing goes up all the time and sometimes everything treads water for a bit. If this kind of stuff bothers you, you should be in all cash or on whatever portfolio makes you feel better even if it may be riskier (100% stocks, 60/40, etc). Or maybe put some of your money towards anti-anxiety medication of counseling or something. All this worrying over nothing is likely far more detrimental to your finances than obsessing that your investment portfolio isn't doing as well as you'd like.

Alright guys, I've finally come around.  You've convinced me to alter my percentages a bit.  I'm going 5x20 Stocks/Bonds/Gold/Cash/Bitching with a momentum-based Xanax VP.  Whenever we cross above the 30-day moving average panic post count, I'm buying more pharmaceutical stock.

In all seriousness, it's critical to recognize that the angst in this thread has fundamentally nothing to do with the PP and everything to do with personal investing psychology and perspective.  No matter how you invest, always measuring "loss" against the most recent high while ignoring every gain as the new normal is a very dangerous psychological game.  Constant jealousy is similarly destructive. If you want to invest at all, you first have to slay those demons or they'll eventually drive you crazy and/or broke trying to trade against them.

[Pointedstick]

Though I don't use Quicken I do have more or less the same issue as Cortopassi. I don't understand how a PP investor does NOT have a pretty good idea how they are doing. The TV at my gym has the financial news on all day with gold, stock & 30-year bond prices ticking by every few minutes. I like reading stuff on this forum and I hear stock and bond numbers on NPR, etc. When stocks tank people talk about it. When gold tanks my wife asks me if we are OK. Low interest rates, Fed updates and so on are always in the news. Some basic math let's you know more or less where you stand even if you don't check balances every two seconds.

That's easy. I don't go to a gym, I don't listen to NPR, I don't watch or read the mainstream news, and none of my friends, family, or acquaintances are really very interested in finances (maybe that's a wacky outlier).

I find out how individual assets are doing when people bitch and moan here on this forum, mostly. But individual assets are irrelevant. The portfolio as a whole is the only thing that matters. It is truly pointless to look at the individual assets in your portfolio that are doing well and wish you had more of them, or look at the ones that are doing badly and wish you had less of them. You might  as well wish it were raining when the sky is clear or wish it was clear when it's raining.

[Pointedstick]

If it is impossible for you to be content with the PP when stocks are surging, you should probably have a more conventional portfolio, if only because it will be easier to stomach poor performance when everyone else is experiencing it too. I understand the pain, I really do. But the PP simply requires a bit of a contrarian attitude: you underperform when everyone else is getting rich, and you truck merrily along when everyone else is panicking and losing their money.

It's no coincidence that this forum and PP members tend to be more libertarian in outlook than average: if you're free-thinking contrarian in one field, it's probably an overarching personality trait of yours. Without that trait, I can see how the PP would be a very, very challenging portfolio to stomach. If that's not who you are, you should consider abandoning it and adopting a portfolio more attuned to your psychology. Know, however, that once this current bubble pops, you're going to be just as unhappy as everyone else.

[Bean]

Portfolio envy, the bane of the Permanent Portfolio. 

Just because you are seeing stocks rise, folks are forgetting a fantastic attribute to the PP that makes me feel like I am a mad investment scientist.  I always buy whatever asset is below 25% and then when it goes up, I feel like a genius getting something on sale relative to other investments.

[iwealth]

Portfolio envy, the bane of the Permanent Portfolio. 

Just because you are seeing stocks rise, folks are forgetting a fantastic attribute to the PP that makes me feel like I am a mad investment scientist.  I always buy whatever asset is below 25% and then when it goes up, I feel like a genius getting something on sale relative to other investments.

To be fair, it's not as if rebalancing is unique to the PP. Boglehead folk rebalance as well as take advantage of tax loss harvesting by moving between different stock and bond funds. Div growth people "rebalance" their dividends into the entirety of their portfolio or buy new stocks. Even some guy that holds 100% VTI is constantly rebalancing if he reinvests dividends or new money at the current price, high or low.

The real benefit of the PP (IMO) is being market agnostic. A "sleep-well-at-night-no-matter-what-happens" portfolio. If this portfolio brings you stress, then it really has no advantages whatsoever. By design it's very likely to underperform a 60/40 allocation over long periods of time. So what's the point?

[Cortopassi]

I believe the point might be -- with all this QE and low interest rates, are we in a scenario that HB did not anticipate, or where the PP may necessarily not function as expected?

Coming from a history of really only investing in stocks, this was my general understanding of the four areas:

--Stocks generally always go up, with some nasty downturns every, say, 7-10 years
--Bonds (I thought) were supposed to be inversely correlated to stock, they would tend to go up more when stocks went down and vv.
--Cash, which in the not too distant past, could get 5% in a money market, now makes zero.
--Gold, in times of inflation goes up, otherwise stagnant or down.  Inflation, at least the perception of it, is well controlled.

Are we in some Twilight Zone paradigm where it is completely possible that stocks have peaked, bonds are near a peak, cash pays zero and gold is "controlled" so that for the foreseeable future the PP doesn't work very well?  I have no other option to give that is better, however!!!

Being market agnostic is what I wanted, I am not sure with zero interest rates it all works the way he planned?

Just asking.

[Bean]

To be fair, it's not as if rebalancing is unique to the PP. Boglehead folk rebalance as well as take advantage of tax loss harvesting by moving between different stock and bond funds. Div growth people "rebalance" their dividends into the entirety of their portfolio or buy new stocks. Even some guy that holds 100% VTI is constantly rebalancing if he reinvests dividends or new money at the current price, high or low.

The real benefit of the PP (IMO) is being market agnostic. A "sleep-well-at-night-no-matter-what-happens" portfolio. If this portfolio brings you stress, then it really has no advantages whatsoever. By design it's very likely to underperform a 60/40 allocation over long periods of time. So what's the point?

I should have been more specific.  I don't feel like a standard BH portfolio is diverse enough to truly minimize volatility, nor is it well positioned for macro/global economics in the future.  In particular the slow erosion of US currency dominance that has enabled the exportation of inflation.

Of course I could be completely wrong and that is why I still keep a sizable portfolio with a BH allocation.  Strategy Diversification!

[iwealth]

I believe the point might be -- with all this QE and low interest rates, are we in a scenario that HB did not anticipate, or where the PP may necessarily not function as expected?
....
I have no other option to give that is better, however!!!

Maybe. And exactly.

Therefore, much ado about nothing.

[Pointedstick]

--Stocks generally always go up, with some nasty downturns every, say, 7-10 years

I would not at all say that they always go up. from 1966 to 1973, stock pretty much moved sideways. That's a long time for them to not be going up. 2000-2007 was a net-negative period, with three straight difficult down years. Etc. If stocks "generally always go up", we'd be idiots for not putting all our money in them, with maybe some cash to ride out the panics.

--Bonds (I thought) were supposed to be inversely correlated to stock, they would tend to go up more when stocks went down and vv.

No, bonds are often correlated with stocks. This is why Boglehead portfolios can do so well; many times both stocks and bonds are going up… of course they can both go down too.

Are we in some Twilight Zone paradigm where it is completely possible that stocks have peaked, bonds are near a peak, cash pays zero and gold is "controlled" so that for the foreseeable future the PP doesn't work very well?  I have no other option to give that is better, however!!!

Being market agnostic is what I wanted, I am not sure with zero interest rates it all works the way he planned?

Just asking.

It works fine. When all the assets are peaky or manipulated, it's an even better idea to hedge your bets. If stocks and bonds both explode, that money has to go somewhere. If it goes into gold, we're okay. If it goes into cash, everybody's screwed since cash doesn't really rise much (Harry Browne called this condition "tight-money recession") but it'll be over soon. Really nothing survives that condition unscathed.

[dualstow]

If it is impossible for you to be content with the PP when stocks are surging,

One thing's for sure. A lot of people won't love the pp until stocks are plummeting. But will they still be in the pp when it happens?

[sixdollars]

It's hard for me to really understand that "missing out" feeling at the moment since stocks seem to be at all time highs (I guess you never know though, they could still keep going up before another big plunge...).  To me, over-weighting my portfolio into stocks right now would really cause me to lose sleep, so it's hard for me to empathize with those of you who are feeling particularly Bogleheadish nowadays.  Well, to each his own.

[dragoncar]

If it is impossible for you to be content with the PP when stocks are surging,

One thing's for sure. A lot of people won't love the pp until stocks are plummeting. But will they still be in the pp when it happens?

I can't love the PP when it's plummeting.  I can be satisfied if it plummets less than S&P500.

But I can't love the PP when it's underperforming the S&P500, either. 

The problem here is really when the PP tanks harder than S&P500, when it goes negative in "up years," and so on.

[Pointedstick]

I can't love the PP when it's plummeting.  I can be satisfied if it plummets less than S&P500.

But I can't love the PP when it's underperforming the S&P500, either. 

The problem here is really when the PP tanks harder than S&P500, when it goes negative in "up years," and so on.

Exactly. The "tracking error" requires that you be willing to diverge from the mainstream. You need to be suspicious of what "everybody else" is doing, not envious of it. One person sees stocks at all-time highs and says, "Wow, this looks like a bubble that's about to pop. I'm glad I'm not following the herd," and another person says, "Oh boy, stocks are doing great but my portfolio's lagging. I wish I'd been following the herd all this time!"

…And both of those viewpoints would be valid. The trick is knowing which person you are and arranging things accordingly. One wouldn't recommend a Smart car to someone who works on a farm; likewise the PP maybe isn't a great choice for conformists, conventional thinkers, people who have difficulty with loneliness, liberals, and conservatives. That doesn't leave a lot of people, and maybe that helps to explain why the PP is such an eclectic and unpopular portfolio.

[Mark Leavy]

Tracking Error

I define tracking error to be the deviation from a straight line linear growth.  Comparing it to some other index/portfolio doesn't make a lot of sense to me.

[img width=800]http://i62.tinypic.com/9acxao.png[/img]

The above image is a vanilla HBPP from, March 26, 2004 to May 1st, 2015, rebalanced with standard 15/35 bands.

The vertical axis is a log scale.

A linear best fit of the last 11 years of the PP (not corrected for inflation) has a line with:

CAGR of 10.78%
The average deviation from that best fit line is 5.43%
The maximum deviation from that best fit line is 12.74%
The maximum draw down (peak to trough) is 12.67%
The current deviation from that best fit line is 10.84%
The current actual CAGR is 9.83%
The current draw down (peak to trough) is 2.47%

I think this would be a better graph if I added inflation.  I'll probably do that next week sometime.

For those that like to look at your portfolio every day, this is the way to do it.
Update your spreadsheet.  Now look at the graph. (Not the sea of red or green in today's numbers)

Does it look like the underlying model is falling apart? Is something unprecedented happening?

No? Cool. It's all working.

[Edit - Added a linear chart, in case log scales are confusing to anyone]

[img width=800]http://i60.tinypic.com/nef94x.png[/img]

[barrett]

I think this would be a better graph if I added inflation.  I'll probably do that next week sometime.

Mark,

If you can do that, it would be most appreciated. My guess is that the reason we are currently below the line of best fit is because inflation is so low. The CAGR would be expected to go down in such an environment. We all know that big nominal returns make us feel good but that only real returns matter.

[Pfanni]

The problem is that stocks and bonds move in lockstep quite some time, which explains the good performance of anything 60/40 or Bogleheads over the past decades.
Ray Dalio himself stated that a 60/40 is basically a one-way bet on stocks, which is why he doesn't like that portfolio.

What most people just don't seem to grasp is the way 3rd world countries have subsidized our standard of living as well as our portfolio returns ever since China opened up to world trade in the early 80s.
Early 80s was high nominal returns on bonds, yet declining inflation by importing cheaply manufactured goods from offshore countries. We have ever lower inflation and ever lower interest rates because of Globalization. The FED would love to see 4% inflation and the funds rate at 4%. But they can't seem to accomplish this in the face of Globalization.
Side effects included the disappearance of breadwinner, blue collar middle class jobs all through the western world (jobs went offshore over time).
We cannot import cheap goods, yet keep the bad stuff (their relative standard of living) out. Any meaningful uptick in middle class income in the western world would lead to relentless outsourcing once again.
Thirty years of supply-side economics, even Bush senior himself called it Voodoo Economics, have done the utmost damage - one cannot trade with mercantilist nations.
The good news is that we all gonna wind up on the same page, globally speaking, with a much, much lower standard of living and finally we will have fair trade and start over.
(As a side note I think the riots and problems of Baltimore are like a canary in a coal-mine..the problems of these black communities show the way the whole country is headed..the poverty freight train won't exclude the white middle class in the long run).

That's why I think PP is suitable for my view of the world. At some point, deflation will take over big time, 30yr bonds will be king, then the money helicopters will come to stave off deflation, then gold will be king. The timing of course will be impossible to predict, but PP doesn't require timing.

[Kriegsspiel]

What most people just don't seem to grasp is the way 3rd world countries have subsidized our standard of living as well as our portfolio returns ever since China opened up to world trade in the early 80s.

Early 80s was high nominal returns on bonds, yet declining inflation by importing cheaply manufactured goods from offshore countries. We have ever lower inflation and ever lower interest rates because of Globalization. The FED would love to see 4% inflation and the funds rate at 4%. But they can't seem to accomplish this in the face of Globalization. Side effects included the disappearance of breadwinner, blue collar middle class jobs all through the western world (jobs went offshore over time).

We cannot import cheap goods, yet keep the bad stuff (their relative standard of living) out. Any meaningful uptick in middle class income in the western world would lead to relentless outsourcing once again.

Thirty years of supply-side economics, even Bush senior himself called it Voodoo Economics, have done the utmost damage - one cannot trade with mercantilist nations. The good news is that we all gonna wind up on the same page, globally speaking, with a much, much lower standard of living and finally we will have fair trade and start over. (As a side note I think the riots and problems of Baltimore are like a canary in a coal-mine..the problems of these black communities show the way the whole country is headed..the poverty freight train won't exclude the white middle class in the long run).

That's why I think PP is suitable for my view of the world. At some point, deflation will take over big time, 30yr bonds will be king, then the money helicopters will come to stave off deflation, then gold will be king. The timing of course will be impossible to predict, but PP doesn't require timing.

It's funny, when you describe it like that, it sounds like global capitalism is pushing us ever more towards the communist ideal. Westerners are getting poorer, developing countries are takin' urr jabs and getting richer, so everyone is getting more equal.

[ochotona]

It's funny, when you describe it like that, it sounds like global capitalism is pushing us ever more towards the communist ideal. Westerners are getting poorer, developing countries are takin' urr jabs and getting richer, so everyone is getting more equal.

In perfectly competitive markets, economic profits are zero in the long run because new players are able to enter a market, take market share away from the leaders, usually with a lower price for their particular offering.

[dualstow]

...
Ray Dalio himself stated that a 60/40 is basically a one-way bet on stocks, which is why he doesn't like that portfolio.

Doesn't it depend on what kind of bonds one holds?

(As a side note I think the riots and problems of Baltimore are like a canary in a coal-mine..the problems of these black communities show the way the whole country is headed..the poverty freight train won't exclude the white middle class in the long run).

It's certainly a problem, but gosh I hope you turn out to be wrong on that.

[Pointedstick]

...
Ray Dalio himself stated that a 60/40 is basically a one-way bet on stocks, which is why he doesn't like that portfolio.

Doesn't it depend on what kind of bonds one holds?

(As a side note I think the riots and problems of Baltimore are like a canary in a coal-mine..the problems of these black communities show the way the whole country is headed..the poverty freight train won't exclude the white middle class in the long run).

It's certainly a problem, but gosh I hope you turn out to be wrong on that.

I don't think it's quite as dire as all that, but Pfanni's position seems largely correct to me. It's is in fact exactly what Austrian economics predicts: as the market becomes freer and more competitive, prices fall, introducing broad-based deflation. Of course they overlook that wages and interest rates are prices, too. In a deflationary environment, it seems silly to expect wages to rise or nominal interest rates to be much higher than zero.

The potentially unfortunate problem with more competition is that it might turn out that your competitors aren't up to snuff. In a global market, this means that the most globally efficient firms will win, but of course if few of those firms are in your country, there's a big problem. In terms of averages, his doesn't seem like it portends doom for the USA since we have a lot of globally-competitive firms here. But for the below-average, this is indeed a very dire situation, since they're not only competing with their fellow citizens, but rather the whole world.

In the end, the "great equalization" seems inevitable, but once dire poverty has been mostly stamped out and the global minimum standard of living is much higher, then all of the sudden there's no cheap labor anymore, and domestic production will probably return. That's when the robotic production revolution will really take off, and the below-average will be screwed again. Perhaps we'll have a citizen's dividend by then.

[Pfanni]

If you want to read up on this whole third world-deflation theme, I highly recommend this blog:

http://ponziworld.blogspot.ca/2013/03/t ... virus.html

As long as there is a differential in cost/price between the two markets, then the arbitrage makes money. In the context of global trade, the transaction requires buying labour only in the lowest price locales, and selling the finished product to the developed economies, capturing the spread between the standard of living between these two worlds.
Of course, however, all arbitrage strategies are self-destructing, because the act of systematically buying in one market and selling in the another market converges prices such that the arbitrage is no longer profitable.

(the writer deserves a Pulitzer!!!)


Be careful, the blog is oozed with (vested) pessimism - nevertheless this blogger hits the nail on the head.
I don't know why that blogger isn't more popular. One of the very best around IMO.