What it means
Most investors pick a mix of stocks and bonds and hope the economy cooperates. Browne started from a different question: what could happen to the economy, and what would protect savings in each case?
He identified four conditions, which are prosperity, deflation, recession and inflation. His answer was to hold 25% in each of four assets.
Stocks are meant to do well in prosperity, long-term government bonds in deflation, cash in a recession or tight money, and gold during inflation. No single asset needs to be predicted, because the mix is intended to hold up without forecasts.
The portfolio is rebalanced, usually once a year or when an asset drifts well away from 25%. Rebalancing means selling a little of the assets that have risen and buying more of those that have fallen, which enforces a buy low and sell high discipline.
It also keeps the risk of the mix steady. The approach suits people who value stability over the highest return.
The portfolio will usually lag a pure stock portfolio in a long bull market, but it is designed to fall less in a crash. Investors should expect modest returns with lower swings, and that suits those who cannot tolerate large losses.
A nuance is that the past performance of any mix depends on the period studied, and the four-way split is a rule of thumb rather than a law. Investors should consider taxes, costs and their own goals, and some use variations with different weights.
In practice
Real-world examples.
Example
A retired teacher with $400,000 wants a portfolio that will not collapse in a crash. She splits it into four parts of $100,000 each and reviews the split once a year. Each review takes about an hour and costs very little.
Example
A small business owner keeps his personal savings in a four-way mix, so that a weak year for his company, which depends on the stock market, does not also wreck his investments. The gold and bond holdings offer a different pattern of returns.
Example
An investment adviser uses the Permanent Portfolio as a benchmark to show a client how a simple, low-cost mix with only four holdings compares with a more complex fund. The simple mix often proves hard to beat after fees.
Formula
Calculation
Portfolio value = sum of the values of the four assets
Rebalance target for each asset = total portfolio value / 4
Suppose an investor starts with $100,000, so each of the four assets holds $25,000. In a year stocks rise 20% to $30,000, bonds fall 5% to $23,750, gold rises 10% to $27,500 and cash earns 2% to $25,500. The total is 30,000 + 23,750 + 27,500 + 25,500 = $106,750, a gain of 6.75%. To rebalance, each asset is reset to 106,750 / 4 = $26,687.50.Case study
Seen in the real world.
Ashford Family Office is an illustrative, fictional firm advising a client, Priya, who had lost sleep over the swings in her all-stock portfolio of $600,000. She wanted growth but could not bear a fall of more than 15%.
The adviser proposed a four-way split of $150,000 into each asset. In a hypothetical downturn where stocks fell 30% and the other three assets were flat, the portfolio would lose 150,000 x 0.30 = $45,000, or 7.5% of $600,000.
Priya accepted the lower expected return in exchange for a smaller worst case. The illustrative lesson is that diversification across assets with different drivers can reduce the damage from any single shock, though it also limits the gains in a strong stock market. Priya now reviews the split each January and rebalances if any asset has moved more than five percentage points.
Watch out
Common mistakes.
- Assuming the portfolio is risk free, when each asset can fall in a given year.
- Forgetting to rebalance, which lets one asset grow to dominate and changes the risk of the mix.
- Expecting it to match a stock portfolio in a strong bull market, when the cash and bond holdings will hold back returns.
Questions
People also ask.
Who invented the Permanent Portfolio?
It was developed by Harry Browne, an investment writer, and he described it as a way to protect savings under any economic condition.
How often should the portfolio be rebalanced?
Many followers rebalance once a year, or when an asset moves more than a set amount away from its target, so the trade-off is between costs and drift. Frequent trades can trigger taxes and fees.
Is gold necessary?
Gold is the part that is meant to protect against inflation, so replacing it with another asset changes the design, although some investors do so. Anyone doing so should understand which risk the gold was covering.
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