PP Rebalancing Triggered by Hitting a Lower Band is Rare

[MediumTex]

Just something to think about for people who are rebalancing right now due to gold's drop.

Another thing to think about is that it is rare for any of the PP's assets to see declines of more than 40%.

In reviewing the 40 year history of PP data that we typically use, the worst decline in any of the assets was the 1982-2000 bear market for gold.  If you take out the spike that culminated in the previous all-time high for gold of around $800 in 1980, and instead use $650 as the high (which was the highest point it ever reached for more than a few weeks leading up to and following the spike to $800), you see a maximum drawdown during that terrible 18 year bear market of 65% (using $225 as the low), which is really bad, but it was never enough to sink the whole portfolio, and that's what really matters.

Right now, we are sitting on a 35% decline in gold from its 2011 highs.  Anything could happen going forward, but history suggests that further dramatic declines in gold (or any PP asset) following a 35% decline are unlikely (though certainly not outside the realm of possibility).

[craigr]

Portfolios that are diversified usually have an asset that is a total dog. This year it's gold (and bonds to a lesser degree). In other years it was stocks. This is just how it goes.

The alternative is to have a portfolio where everything is going up at the same time. This works well until the assets all decide to go down at the same time. That really piles on the losses. And of course picking the assets that will go up all the time is the tough part. I think the Callan Periodic Table of Investing Returns shows the difficulty of picking assets ahead of time. One year's big winner could easily big next year's big loser:

http://www.callan.com/research/download ... %2f655.pdf



Even with the gold slide, overall portfolio impact is muted. I have been investing a long time now and I've never been a winner every year. There are only two kinds of investors that make profits each year:

1) The lucky.
2) The liars.

Losses in any investing strategy are possible. Each investor needs to decide what is best for their personality. If they can stomach no paper losses whatsoever, then a 100% cash portfolio is a good option.

And of course, everyone fixates on the developed stock market doing well this year. But most investors do not own just the developed stock market (which would be very risky). Other assets like domestic bonds, international bonds, emerging market stocks, TIPS, commodity funds, etc. are all having problems. Gold is the worst of the bunch, but it's not alone. The Fed is doing a lot of things to manipulate the money supply behind the scenes and this can make the markets very unstable. Because of this, I'm happy to be widely diversified even if short-term there is pain.

I run this portfolio because I feel it offers a good balance of risk vs. reward. I have lost money short-term with it (probably -15-20% in 2008's crash). But long-term the losses have been muted and I have avoided large drawdowns that are serious threats to other approaches I've used in the past. I wish I could be a winner each year, but investing just doesn't work that way...

[dragoncar]

Sorry if I missed it, but what is the take away from this?  I assume you would advise rebalancing if at a band, and not rebalancing if not.  What impact does the rarity of hitting the lower band have on strategy?

You mention 2008 draw downs.  It is upsetting that our current draw downs are quickly approaching those of the worst  financial crisis in recent memory, but without any accompanying crisis.  I guess maybe we can call this th great gold crisis of 2013.

[craigr]

You mention 2008 draw downs.  It is upsetting that our current draw downs are quickly approaching those of the worst  financial crisis in recent memory, but without any accompanying crisis.  I guess maybe we can call this th great gold crisis of 2013.

If gold fell to zero tomorrow morning it would still be less of a drawdown than a typical stock/bond portfolio experienced in 2008. I knew people that lost 1/2-1/3rd of their life savings in that crash. They also got so burned they stayed out of the markets entirely and had almost no recovery since.

So the point of the Permanent Portfolio for me has never been that it will never take a loss because no portfolio strategy or investor can say that. Rather, it's to distribute the risks in a way where taking a large loss becomes less likely and still provide opportunity for growing the core capital over time.

For gold to continue going up in price forever would mean that the U.S. economy overall would likely be in very bad shape. All things considered, I'd rather the stock market doing the heavy lifting even if that means I take some lumps short-term on gold falling.

Like Tex, I don't recall rebalancing when hitting a low band on an asset myself. Not to say it won't happen, but mostly I've had to rebalance on the high side out of something and into lagging assets.

[cnh]

Sorry if I missed it, but what is the take away from this?  I assume you would advise rebalancing if at a band, and not rebalancing if not.  What impact does the rarity of hitting the lower band have on strategy?

You mention 2008 draw downs.  It is upsetting that our current draw downs are quickly approaching those of the worst  financial crisis in recent memory, but without any accompanying crisis.  I guess maybe we can call this the great gold crisis of 2013.

I'm sure somebody will correct me if I'm wrong, but I think the main take-away is "Have some perspective and try not to panic." I suspect this topic may, in part, be in response to numerous other comment strings lamenting the recent asset declines, particularly gold, long-term bonds and the permanent portfolio as a whole.  I suspect the message is that a steady course and rebalancing if at a band is what's called for.

Concerning the 2008 draw-downs, your experience must be very different from mine.  In 2007-2008 I held most of my retirement-related assets in one of the widely recommended target allocation funds appropriate for my (middle) age.  My draw-down over about 6 months was on the order of 35-40 percent.  My 4X25 ETF-based permanent portfolio is -3.88% in the 6 months YTD. So...no...I don't see the current "crisis" as even close in terms of damage when compared to the permanent portfolio.  I confess that I find the current angst over the permanent portfolio a little bizarre in the context of 1987, 1999-2000 and 2007-2008.

[dragoncar]

Concerning the 2008 draw-downs, your experience must be very different from mine.  In 2007-2008 I held most of my retirement-related assets in one of the widely recommended target allocation funds appropriate for my (middle) age.  My draw-down over about 6 months was on the order of 35-40 percent.  My 4X25 ETF-based permanent portfolio is -3.88% in the 6 months YTD. So...no...I don't see the current "crisis" as even close in terms of damage when compared to the permanent portfolio.  I confess that I find the current angst over the permanent portfolio a little bizarre in the context of 1987, 1999-2000 and 2007-2008.

PP drawdowns were apparently "-15-20%" in 2008.  So the -8% we are looking at now is getting there, without the accompanying crisis.

Luckily I was in cash back then.  Unluckily, I didn't know when to get back into the market.

[craigr]

PP drawdowns were apparently "-15-20%" in 2008.  So the -8% we are looking at now is getting there, without the accompanying crisis.

I don't know there isn't a crisis coming that will reverse everything by year end. Then again, stocks could close the year +30% and make the gold losses less painful.

On the Diehards forum there are a lot of threads about investors wanting to dump bonds, losses in TIPS, dumping emerging market stocks, etc. Gold is in the spotlight, but it's not the only asset on the ropes. The only people really content this year so far are going be those in 100% developed market stock funds. But that kind of portfolio carries its own particular risks.

I'm not sure what everyone's experience level is with all of this and I suspect it's quite varied and emotionally much different for each. In 2008 stocks lost -40% in value. In 2009 bonds lost over -21% in value. Gold has been on a near 10 year winning streak so it's just perhaps time for it to take the whipping. But I want assets in my portfolio to move against each other. I don't want them moving all up at the same time and that's what was going on with the Permanent Portfolio recently.

The problem is as investors we don't know which asset is going to break and go the other direction. So it's easy now to look back and have the Schadenfreude told-you-so's dancing on one asset's grave. But when diversified properly there is always going to be a loser and there is always going to be a winner. Problem is we don't know which is which ahead of time. We can look back and listen to the doomsday gurus talking about Dow 3,000 but they were wrong. Then we can listen to the gold haters talking about gold at $250 and they could be wrong as well. Then again we have the bond haters predicting very high interest rates at any time now. There is always going to be someone and some asset that was the right choice after the fact. And there is going to be one that is wrong. The reason I don't concentrate my bets is so I can profit in case I'm right, but also protect myself in case I'm wrong. I know when I invest I am eventually going to be wrong in some areas. So I just mentally accept it, no matter how painful it is, and focus on the good parts and know that "this too shall pass."

[Thomas Hoog]

Like Tex, I don't recall rebalancing when hitting a low band on an asset myself. Not to say it won't happen, but mostly I've had to rebalance on the high side out of something and into lagging assets.

If my memory doesn't fail me. I hit the low band of stocks in march 2009. So I sold Gold and bought Stocks. Looking behind, that was a great move, althought the credits goes to the systeem of rebalancing and no my great predication of the future.