One year and half ago I wrote about the Permanent Portfolio 3.0. I just realised I never did one… on the Permanent Portoflio 2.0, so here we are. Not sure if this would qualify me for a career as a Hollywood screenwriter, I guess my writing choices are less convoluted than some Disney sagas?
Most investment advice rests on assumptions people rarely stop to question. Stocks always win in the long run… except when they spend a decade going nowhere. Bonds are the safe part of your portfolio… except when inflation eats your returns alive and you’re left wondering what exactly you were being protected from.
Diversification is supposed to be the free lunch of investing. The problem is that during the moments you need it most, think 2008, everything tends to fall apart at the same time. Correlations that looked reassuring on a spreadsheet have a way of converging toward 1.0 right when your portfolio can least afford it.
Then there’s inflation, the risk that rarely gets the respect it deserves. A heavy bond portfolio might look stable for years, right up until rising prices quietly hollow out its real value. By the time most investors notice, the damage is already done.
The Permanent Portfolio takes a different approach. Rather than doubling down on stocks and bonds, it spreads across assets that tend to respond differently depending on what the economy is doing. That’s not just diversification for its own sake, it’s a deliberate attempt to avoid having your whole portfolio vulnerable to the same thing going wrong.
By aiming to generate steady returns across various market conditions, the All-Weather approach aligns well with long-term investment goals. Its design to mitigate extreme losses in downturns and capture gains in upturns contributes to a more consistent compounding effect over time.
The track record is worth noting. Portfolios built this way have historically held up better during volatile stretches than traditional stock-bond mixes. They’re not perfect, but they’re designed to stay functional across inflation, recession, and everything in between — which is more than most conventional portfolios can honestly claim.
For long-term investors who want growth without the stomach-churning drawdowns, there’s something genuinely useful here.
The Permanent Portfolio 2.0
Surprise surprise, it’s the “naive” portfolio introduced so many times on these pages.
The above results are all inflation-adjusted. The Sortino ratio improvement here is hard to ignore. If you care about how a portfolio holds up when things get ugly, as you should, it’s tough to do much better than this.
Let’s compare it to a 50% VT / 50% IEF:
Is the added complexity of PP 2.0 worth it?
It really comes down to who you are and what you’re trying to accomplish.
If you’re still in accumulation mode and confident you won’t need to touch the money anytime soon, the 50/50 approach can work just fine. The question worth asking yourself is simple: how likely am I to need this money while the portfolio is underwater? In accumulation, that risk is manageable. The practical effect, if you are forced to sell, is that you’re paying a bit more for each dollar of future wealth (you are selling more assets): not ideal, but not a dealbreaker either.
Decumulation is where things get serious. A bad sequence of returns early in retirement can wreck an otherwise solid plan, which means volatility, max drawdowns, ulcer index (whatever you want to call it) suddenly matters a lot more than it did when you were still adding to the pile.
And let’s not forget the psychological side, because it’s more important than some people admit. A lot of investors drawn to this type of portfolio aren’t built for wild swings. The PP 2.0 keeps drawdowns remarkably shallow. Sure, it can grind sideways for years — 2011 to 2019 is a good example — but for plenty of people, a long stretch of going nowhere beats the experience of watching their portfolio drop 40% and trying not to make a terrible decision on the way down.
The PP 2.0 push the return distribution to the right. Which is the right direction to take.
I keep coming back to the Permanent Portfolio concept because I think it’s the best starting point for almost any investor. In its basic form, it’s about as efficient a return generator as you’re going to find. If 16% swings make you lose sleep, the answer isn’t a different portfolio: it’s more financial education. The world is moving in a direction where everyone is increasingly responsible for their own financial future. The safety nets are fraying, and waiting for someone else to figure it out for you is not a strategy.
What makes the PP such a useful foundation is how easy it is to adjust without sacrificing efficiency. Want less risk? Add cash and scale everything down proportionally. Want more? That’s where leverage comes in: margin loans, futures, leveraged ETFs, each approach has its tradeoffs, but the goal is to keep the relative weights intact while turning up the dial.
You can also go in another direction and make the portfolio more robust by layering in additional diversifiers. This part is harder to explain, especially in a concise manner, but the rest of this blog is essentially about this topic (see the PP 3.0). The mistake most people make is evaluating each new ingredient in isolation: does this asset have a better Sharpe ratio than what I’m replacing? That’s the wrong question. What matters is whether the portfolio as a whole ends up with a better risk-adjusted profile than it had before. Individual ingredients are less important than what they do to the recipe.
Europoors
The portfolio’s apparent overexposure to the dollar is less of a problem than it looks. Gold does a lot of the heavy lifting here. Both the euro and gold tend to move in the same direction against the dollar, when the greenback weakens, both generally benefit.
But it’s not a clean, lockstep relationship, and the chart below makes that clear. Gold isn’t just a dollar hedge. It’s a hedge against the entire fiat currency system. Which means there are periods where the euro and the dollar are essentially on the same side of the trade: both losing ground to gold, or both gaining. The dollar and the euro are rivals, but when confidence in paper money erodes broadly, that rivalry becomes a lot less relevant.
I’d love to show you a backtest here, but the tools just aren’t there for EUR-based investors.
The good news is that DBi recently listed an EUR-hedged version of DBMF, ticker MFEH. Drop that into the trend following sleeve and Europoors can finally build a version of this portfolio that isn’t at the mercy of FX swings. EUR-hedged world index ETFs are easy enough to find, so the full setup is now within reach.
But…
Now for the honest part, because every strategy has one.
You can’t just mimic the elegance of the original Permanent Portfolio, because the trend following sleeve needs some diversification to work properly (would not suggest slapping DBMF and calling it a day). That said, the cash sleeve is basically a choose-your-own-adventure slot. Use it for 10% trend following and keep 15% in cash. Swap in some REITs. Go deeper into diversifiers like carry strategies or catastrophe bonds if you’re feeling so. The flexibility is a feature, not a bug.
When correlations behave the way the model assumes, this portfolio hums along nicely. But in genuinely unprecedented market dislocations, correlations have a way of doing whatever they want, usually moving toward 1.0 at the worst possible moment. When that happens, the diversification benefits you were counting on can temporarily evaporate, and losses can stack up faster than expected.
And in a ripping equity bull market? The PP 2.0 will lag. That’s not a flaw exactly, it’s the direct consequence of not being all-in on stocks. But it’s worth being honest about. If your neighbour is bragging about his 100% equity portfolio during a three-year melt-up, this portfolio is going to feel frustratingly tame. The tradeoff is that when his portfolio eventually gets cut in half, yours probably won’t be.
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