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Many retirees or investors close to retirement are seeking all weather portfolios that have reasonable returns. They favor investments that can generate dividends or interests while in the meantime achieving reasonable capital appreciation to beat inflation. In our opinion, Harry Browne's permanent portfolio concept lays out the solid foundation for these portfolios.

The concept deals with the possible four corner economic cycles:

Major economic scenarios are covered in the four corners. For each corner, investment securities should be selected to directly benefit from each scenario. For the inflation corner, gold and commodities have been the direct hedge against (or beneficiaries from) inflation pressure. These are the securities chosen in Harry Browne's permanent portfolio (see Permanent Portfolio ETF Plan for more details). However, two drawbacks exist in investing gold or silver:

  • gold and silver are very volatile. Many conservative investors or income seeking investors are reluctant to use them.
  • gold and silver do not generate fixed income or dividends.

Fortunately, for fixed income investors, inflation protected bonds (such as TIPs for inflation protected Treasury bonds or I-bonds) are also direct hedge against inflation. A somewhat more aggressive portfolio can use Real Estate Investment Trust Securities (REITs) which generate regular dividends. However, REITs are a long term inflation hedge but are not as directly linked to inflation as gold and silver.

The following presents a portfolio that is named as Permanent Income Portfolio. This portfolio is suitable to conservative income investors. The following are the portfolio components:

Dividend-Stocks: Vanguard Dividend Stock Appreciation VDIGX or ETF VIG: 12.5%

REITs: Vanguard REIT index fund VGSIX or ETF VNQ: 12.5%

TIPS: Vanguard Inflation Protected Securities VIPSX or ETF iShares TIP: 25%

Long-Treasury-Bonds: Vanguard Long Term Treasuries VUSTX or ETF iShares TLT: 12.5%

Long-Corp-Bonds: Vanguard Long Term Investment Grade Corporate Bonds VWESX or ETF iShares LQD: 12.5%

Short-Term-Bonds: Vanguard Short Term Investment Grade Bonds VFSTX or ETF CSJ: 25%.

The following are the performance comparison:

Portfolio Performance Comparison (as of 4/23/2012)

Portfolio/Fund NameYTD
Return
1Yr AR1Yr Sharpe3Yr AR3Yr Sharpe5Yr AR5Yr Sharpe
PRPFX4%-0%46%15%161%8%69%
SPY9%4%25%19%105%0%-0%
VBINX6%6%39%15%130%3%19%
Permanent Income Portfolio3%12%227%14%228%6%81%
Harry Browne Permanent Portfolio3%10%141%13%180%8%94%

See complete detailed performance comparison>>

Compared with Harry Browne's Permanent Portfolio, this portfolio uses TIPS instead of gold and silver for the 25% inflation corner. Furthermore, it uses both dividend paying stocks (VIG or VDIGX) and REITs for the stock portion (the growth portion).

However, investors should be aware that TIPS does not provide good deal of regular interest income (the principal appreciates along with CPI/inflation, which is price appreciation). Furthermore, they have been bided up steadily since their introduction in 1997. Investors can also consider other inflation hedge securities such as floating rate bonds or some excellent real return mutual funds.

There are many other ways to construct a portfolio based on the four corner foundation. For example, increasing the growth corner would increase a portfolio's overall risk profile.

This portfolio shows that it is possible to construct an income generating lower risk permanent style portfolio. It is the first step for income investors to explore along this proven path.

Source: 6 ETF Permanent Income Portfolio