FSO Editorials: Modifying a Permanent Portfolio as Needed by Robert B. Gordon 06/16/2004

Modifying a Permanent Portfolio as Needed
by Robert B. Gordon, Sc. D.
June 16, 2004

In writing my lengthy series of essays on stable/volatile portfolios, it was never my intention to describe anything but permanent composition portfolios, subject only to periodic rebalancing to return to the original percentages. However I did not adequately cover in my writing all the problems that might be encountered by new investors. More experienced investors would be better able to make any modest adjustments that might be needed in their new portfolio. The purpose of this essay is to put every investor on the same level of ability to make any needed modifications.

Regardless of prior experience, any investor may find it necessary to adjust the ratio between stable and volatile components. There is no reason why this cannot be done at any time the investor feels the need. If my memory is correct, I believe that I gave examples of portfolios having ratios of stable asset classes ranging from 80 to 45% - a very wide range.

It is probable that many new investors will be most comfortable, at least at first, with the ratio of stable to volatile securities to start at 60% to 40% or greater. The needed adjustment can and should be made at any time it is deemed necessary by selling volatile securities, buying stable securities or doing some of both. We will give some examples later.

All of my investor readers should read the important message explained below. A portfolio with the proper ratio of stable to volatile elements for the investor/owner should be capable of undergoing a series of bull and bear markets without change, except for periodic rebalancing, which will bring important profits over time. However, it is very important that every investor have the very best stable/volatile ratio that is comfortable for them.

There is no real world permanent portfolio without rebalancing. The 33-year old portfolio, with that name and a brilliant record, has been rebalanced every month to retain its composition. Doing this is impractical for an investor interested in long-term gains or short-term gains in a practically managed portfolio. Without a well-planned scheme for rebalancing, any portfolio grows uncontrolled without planned profit taking.

Periodic rebalancing, from several times a year for a very volatile portfolio to once every few years for a stable portfolio, transfers profits from gaining sectors to losing sectors to capture existing and potential future gains in various sectors. This occurs as the natural result of simply returning each asset class to its original percentage. Nothing could be simpler. Please note that if this rebalancing is not done, these profits may be lost in future market actions of the portfolio.

Without rebalancing as above, the portfolio would, over a period of years, become very out of balance and lose all resemblance to its original composition. Volatile assets would probably become much larger than stable and the portfolio would become very different from the desired plan. So every one of our portfolios has always been planned and recommended for periodic rebalancing.

The 33-year old Permanent Portfolio fund, and the only one to carry that imposing name, contains 6 permanent asset classes: U.S. Treasury and Swiss Govt. bonds, gold and silver bullion plus aggressive index and natural resource stocks. It is rebalanced monthly, which is too frequent to build profitable gains. It is on our recommended list as being stable over the long-term because of its large holding in precious metals and aggressive stocks. Like others in its class, we like them for the long-term and expect to take rebalancing profits from them.

We consider the Permanent Portfolio fund is a valuable holding, but we think our flexible stable/volatile portfolio idea serves a much wider group of investors due to its tremendous flexibility and adaptability to profitable rebalancing actions. We are also taking advantage of recently available distinctive funds like the two Hussman funds and a broad list of short funds, which have only recently become available.

We hope that we can convince most of our investor readers to use at least a small amount of short funds in their portfolio. It is very difficult for anyone to accept the idea that they are not different except for the fact that they gain instead of lose in down markets. We hope that most of you will take that first step and see for yourself how easy to use and profitable they can be.

Everything that we have learned about the future stock market is that a bear market climate will probably exist for decades with alternate bull market intervals between the down markets. It will behoove everyone reading these words to get their balanced, permanent portfolio operating as they wish. It appears that there will be very good profit opportunities in the months and years ahead.

If any reader is not pleased with his or her portfolio, now is the time to make any changes. Later, there may be some need for minor modifications if some fund disappears or if the investor’s needs happen to change. But the time to do last minute tuning is right now. Not next month and definitely not next year.

Let’s cover how best to change the stable/volatile ratio in an existing portfolio. There are at least 3 ways to do this in an existing portfolio: (1) raise or lower the stable components, (2) raise or lower the volatile components, or (3) raise or lower both of them. The choice depends on whether the building of the portfolio is completed or not. If it is, then you must use method 3.

You can also use another method in some circumstances. To increase the stable percentage, substitute a stable fund for a long-tern stable fund which is counted as half stable and half volatile. Or similarly, to decrease the volatile percentage, substitute a long range stable asset for a volatile asset. Of course this is much easier to do in a portfolio with 8 asset classes and is one of many advantages in a large portfolio over a small portfolio.

I trust that most readers will wait for at least awhile before changing anything in the starting portfolio. It certainly will not be productive to make many changes until the market behavior is clearly understood.

Please read and memorize this section so you will know what to expect. Remember that the right portfolio for you will need no minor changes. In other words, it should go for months between changes and they should be for only two reasons (1) the need to replace a stock or fund for any purpose and (2) for a planned rebalancing action. A conservative fund should not need balancing much before two years, while a very volatile fund may need more than one a year.

New investors should not be alarmed that all of their funds are going either up and down in price. That is perfectly normal. What is not normal is for the stable funds to be going up or down more in percentage than the volatile funds. That could be because the price is ex-dividend or there is a stock split. Phone the fund and get an explanation before you get too excited. Do not call a broker, because in a no-load fund there are no brokers.

Let’s suppose the investor started with a stable ratio of 60% and decided to change it to 80%, a very conservative ratio.

EXAMPLE 1
Asset	60% Stable	80% Stable
Hussman Growth Fund	25%	40%
Prudent Global Income Fund	25%	30%
Permanent Portfolio	20%*	20%*
ASA Gold Stock	10%	10%
Oil / Gas Fund	10%	5%
Bearx Short Fund	10%	10%
Total	100%	100%
* Counts as half stable, half volatile

EXAMPLE 2
Asset	70% Stable	50% Stable
Hussman Growth Fund	30%	20%
Prudent Global Income Fund	30%	20%
Permanent Portfolio	20%*	20%*
ASA Gold Stock	10%	15%
Oil / Gas Fund	10%	15%
Bearx Short Fund	10%	10%
Total	100%	100%
* Counts as half stable, half volatile

Please note that these large changes, both up and down in stable percentages, are probably greater than most investors will ever make once their first portfolio was completed. Nevertheless, they can be made if ever needed.

Please send me your questions at any time and I will answer them to the best of my ability. As you know, it is probably better for most investors to start on the conservative side in their first portfolio. However changes can be made at any time and should be made if needed for your pleasure and peace of mind.