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Raining On The All Seasons Portfolio

Investors are hungry for success stories, especially tales that include high returns with low risk. And the investment industry is always happy to stoke that appetite. One of the most popular stories today is the so-called All Seasons portfolio, whose virtues are trumpeted in the massive bestseller Money: Master the Game , by motivational speaker Tony Robbins. The book has been out since last November, and I thought the hype would blow over quickly, but I’m still getting inquiries about it, so I thought I’d take a closer look. The All Seasons portfolio was created by Ray Dalio of Bridgewater Associates , one of the largest hedge fund managers in the world. It’s based on Dalio’s similarly named All Weather fund , which reportedly has more than $80 billion USD in assets. The portfolio has the following asset mix: 30% Stocks 40% Long-term bonds 15% Intermediate bonds 7.5% Gold 7.5% Commodities In a backtest covering the 30 years from 1984 through 2013, the All Seasons portfolio had an annualized return of 9.7% (net of fees) and only four years with a loss. Its worst year was a modest -4% in 2008. With a risk-return profile like that, it’s no wonder so many investors have been attracted to the All Seasons portfolio. In fact, a service run by Robbins’ own advisor has been swamped with requests from investors who want a piece of this seemingly miraculous strategy. So, is the All Seasons portfolio really a recipe for stellar returns with minimal risk? Or is it just another example of investors chasing hypothetical past performance? The reasons for the seasons The All Seasons portfolio is based on the idea that asset prices move in response to four forces: rising economic growth, declining economic growth, inflation and deflation. In each of these economic “seasons,” some asset classes thrive and others suffer. For example, when growth is strong and inflation is low, stocks are likely to perform well, whereas commodities and gold benefit from rising growth and rising inflation. Bonds do well when economic growth and inflation are both falling. By including all of these asset classes in your portfolio, you’ll do well under all conditions. It’s like travelling with sunscreen, an umbrella, a swimsuit and a parka. There’s nothing wrong with this general idea: most investors understand that a portfolio should include asset classes with low (or even negative) correlation . Nor is it an original thesis: it’s very similar to what Harry Browne wrote in the early 1980s. Browne’s Permanent Portfolio was also based on the principle that you should hold asset classes that would thrive during four economic scenarios: stocks for prosperity, cash for recessions, gold for inflation protection, and long-term bonds for deflation. (If you’re interested in learning more, read Part 1 and Part 2 of my 2011 interview with Craig Rowland, co-author of The Permanent Portfolio .) Was the performance really remarkable? But while the premise of the All Seasons portfolio is reasonable, there’s nothing astonishing about its performance during the last 30 years. Moreover, anyone expecting it to deliver 9.7% with low risk in the future is likely to be disappointed. The returns were unremarkable. A 9.7% annualized return doesn’t mean much unless you compare it to the alternatives. The truth is that all diversified portfolios performed well during the last three decades. Despite the carnage of the dot-com bust at the turn of the millennium and the financial crisis of 2008-09, most of those 30 years were extremely kind to stocks. Late 1987 to the spring of 2000 saw the longest bull market in history, and the one we’re enjoying now ranks third all-time. From 1984 through 2013, the S&P 500 returned a whopping 11.1%. And what about bonds, which make up 55% of the All Seasons portfolio? In the US, long-term government bonds returned 9.4% during the period. In Canada, they did even better: the FTSE TMX Canada Long-Term Bond Index returned 10.3% over those 30 years. Once you consider the context, a 9.7% annualized return since 1984 isn’t remarkable at all. Anyone who stayed invested in a diversified portfolio would have seen similar results. The risk was not “extremely low.” OK, maybe the returns of the All Seasons portfolio were in line with a traditional balanced portfolio, but risk was much lower, right? In an article for Yahoo Finance , Robbins reports that the standard deviation of the portfolio during the 30-year period was 7.63%, which he declares is “extremely low risk and low volatility.” I’m not sure investors would agree with that assessment. If a portfolio has an average expected return of 9.7% and a standard deviation of 7.6%, that means in 19 years out of 20, its annual return can be expected to range between -6% and 25%. That’s not “extremely low volatility”: it’s about the same as that of a traditional balanced portfolio. In our white paper Great Expectations , my colleague Raymond Kerzhéro and I found that a portfolio of 40% bonds and 60% global stocks had a standard deviation of about 7.8% over a similar period (1988 to 2013). What about the fact that the All Seasons had only four negative years, all with only modest losses? Robbins and Dalio frequently compare the All Seasons portfolio to the S&P 500, which certainly saw much larger and more frequent drawdowns. But this is a totally inappropriate benchmark, as the All Seasons portfolio includes just 30% stocks. Dalio’s portfolio holds 55% bonds, which are far less volatile than stocks. More important, bonds only lose value when interest rates rise, and from 1984 to 2013, the yield on 30-year Treasuries fell from over 11% to about 3.5%. Any bond-heavy portfolio would have seen rare and modest drawdowns during that period. There were many disappointing periods. The long-term returns of almost any diversified portfolio look impressive, but unfortunately you can’t buy 30 years of performance in advance: you have to earn those returns by doggedly sticking to your plan even when it disappoints. And let’s be clear: the All Seasons portfolio would have tried your patience many times. While the portfolio never suffered huge losses, it would have significantly lagged a traditional balanced portfolio during the many periods when stocks delivered double-digit returns. That’s why this strategy – and the Permanent Portfolio, for that matter – had few followers during the 1980s and 1990s. A portfolio with just 30% stocks would have been met with derision during that long, giddy bull market. Gold would have been even harder to hold. Sure, it glittered during the most recent financial crisis, but during the 21 years from 1984 through 2004, the real return on gold in Canadian dollars was -2.3% annually. Would you have had the guts to hold it through two money-losing decades? Don’t make the mistake of thinking it’s easy to stick with a strategy when it underperforms during strong bull markets, as the All Seasons portfolio is almost certain to do. Bridgewater’s own All Weather fund returned -3.9% in 2013 , one of the best years for stocks in recent history (the MSCI World Index was up almost 34% in Canadian dollars). My guess is that Dalio’s clients took little comfort in the fact that strategy performed well in historical backtesting. Couldn’t stand the weather My goal here is not to beat up on the All Seasons portfolio specifically: on the contrary, I wanted to show that in many ways it’s not fundamentally different from other balanced portfolios. My concern is that the All Seasons portfolio is presented as a magic formula that will dramatically outperform a traditional stock-and-bond portfolio with far less risk. The very name implies that it will perform well during all market conditions. But that wasn’t true over the last 30-plus years, and it’s even less likely to be the case during a period of low interest rates. (No one knows where rates are headed, but it’s absurd to expect 9% or 10% returns on bonds when yields are 1% to 3%.) A well-diversified, low-cost portfolio executed with discipline offers your best chance of enjoying market returns with moderate volatility. But there’s no secret recipe, no optimal asset allocation, and no reward without risk. Be skeptical of anyone who suggests otherwise.

A 13.7% Yield From GreenHunter Resources Preferred Shares

GRH’s oilfield waste water disposal business is running at full capacity and expanding rapidly despite low oil and natural gas prices. GRH-PC is a cumulative preferred issue that now yields 13.7%. Gary Evans has successfully built valuable midstream assets at MHR and is doing the same thing at GRH. GreenHunter Resources (NYSEMKT: GRH ) was initially formed by Magnum Hunter founder Gary Evans with the goal of developing alternative energy sources. The company soon realized that biomass and other “green” energy technologies were unprofitable and has exited that business. GRH is now focused on developing cost effective and environmentally friendly oilfield fluid management solutions. GRH-PC is a par $25 cumulative preferred convertible issue. GRH-PC has a 10% coupon and dividends are paid monthly. It now yields 13.7% at a recent price of $18.25. See prospectus for additional details. GRH-PC dividends were classified as Return of Capital for 2014, which provides some tax advantages. ROC dividends lower your cost basis, but are not taxable as income when received. Given that GRH has accumulated substantial tax losses, GRH-PC dividends are likely to remain ROC for quite some time. Why is GRH’s oilfield waste water disposal business running at full capacity (turning away business in fact) even with low oil and natural gas prices? GRH initially developed operations in several regions, but made the wise strategic decision to focus on Appalachia. Disposal wells in other regions were sold and equipment was moved. This resulted in lower Q1 revenues, but paves the way for future profitable growth. Appalachia is a region where the permitting of disposal wells is a difficult and lengthy process. Waste water must often be trucked for long distances at high cost to be properly disposed of. The scarcity of attractively located disposal wells and the difficulty in building more is a key competitive advantage for GRH. Many GRH customers have signed “take or pay” contracts. They are required to pay for access to the company’s disposal capacity, even if they don’t actually use it. GRH serves customers in the Utica and Marcellus fields. These are among the best fields with the highest returns on drilling. Drilling reductions have been less severe for the Utica and Marcellus fields than for other regions with higher production costs. GRH is doing some innovative things that are years ahead of its competitors. Several new disposal wells are coming online over the next few months that are expected to increase their water disposal capacity by about 50%. These wells are being connected to a central offloading terminal by a network of wastewater pipelines. This is an extremely efficient system that will give GRH a significant cost advantage. GRH has also been building a network of barging terminals along the Ohio River and expects to start barging waste water to their central disposal terminal later this year. Barging is a great solution for the pollution and traffic problems associated with trucking. Note that barges are already being used to transport oil and other cargos that are far more hazardous than oilfield water. GRH estimates that barging is about 25% cheaper than trucking. Ironically, barging has been opposed by some “environmentalists.” Some extremists believe we should shut down virtually all oil and natural gas production, but this is just not practical. GRH is developing the right infrastructure for the safe, cost effective and environmentally friendly disposal of waste water. What are the advantages of owning the GRH-PC preferred stock as compared to the GRH common stock? While GRH is building some unique and valuable midstream assets, it’s been a painful growth process for common stockholders. Preferred holders have continued to receive generous monthly dividends while the GRH common has been diluted to raise additional capital. The preferred dividend was maintained even when cash got extremely tight. Fortunately liquidity has improved greatly as GRH closed a new $16 million secured credit facility on 4/15/2015. Cash flow has been challenging for GRH, but should also improve dramatically over the next few quarters as new disposal wells and barging come online. GreenHunter Resources was founded by Gary Evans and he controls a majority of the GRH common stock. The preferred stock is senior to the common stock, so it’s comforting to know that insiders have such a large stake in the company. Gary Evans is better known for founding Magnum Hunter Resources (NYSE: MHR ). MHR also has a strong record of continuing to pay preferred dividends even when liquidity gets tight ( see my recent MHR article ). The MHR preferred issues rallied when MHR announced plans to sell some of their midstream assets for $600 million-$700 million. Many of my newsletter subscribers (see additional article disclosure) are long-time investors in the MHR preferred issues and were not surprised to see Gary Evans come through. GRH-PC is a smaller issue and is not nearly as well known as the MHR preferred issues. Gary Evans has already shown a knack for building valuable midstream assets at MHR and appears to be doing it again at GRH. MHR preferred stock investors should consider the “other” Gary Evans yield play. Editor’s Note: This article covers one or more stocks trading at less than $1 per share and/or with less than a $100 million market cap. Please be aware of the risks associated with these stocks. Disclosure: I am/we are long GRH-PC,MHR-PD. (More…) I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article. Additional disclosure: The author is the publisher of the Panick Value Research Report. The Panick Report is focused on high yield preferred stock issue, email mrpanick@yahoo.com for the 2 week free trial.

PRIDX: A Good Way To Invest In High-Quality Small Caps

Summary A recent research study found that higher-quality smaller companies have outperformed higher-quality larger companies. PRIDX has generally outperformed its global small/mid cap benchmark. PRIDX has been experiencing fund inflows and strong relative strength. Overall Objective and Strategy The primary objective of the T. Rowe Price International Discovery Fund (MUTF: PRIDX ) is long term growth of capital through investments in common stocks of rapidly growing, small to medium-sized companies outside the U.S. They look for high-quality growth stocks that can compound returns beyond the typical one- or two-year time horizons of most investors. Smaller companies throughout the world can react relatively quickly to changes in the marketplace and the economy, which may give them an edge to capitalize on investment opportunities faster than their larger counterparts. The fund has a fairly high risk profile because of its investments in small caps and some less-developed countries. Aside from market risk, there are also risks associated with unfavorable currency exchange rates and political or economic uncertainty abroad. Fund Expenses PRIDX is a no-load fund. The expense ratio for PRIDX is 1.21% which is higher than I like, but not bad compared to other actively managed international small/mid cap funds. Minimum Investment PRIDX has a minimum initial investment of $2,500 in a taxable account, and $1,000 for a group IRA. Past Performance PRIDX is classified by Morningstar in the “Foreign Small/Mid Growth” or FR category. Compared with other mutual funds in this category, PRIDX has performed fairly well. These are the annual performance figures computed by Morningstar since 2007. 2007 2008 2009 2010 2011 2012 2013 2014 YTD PRIDX (%) 16.57 -49.93 55.69 20.47 -14.08 26.00 24.37 -0.43 10.80 Category (FR) 12.03 -49.02 49.24 23.04 -14.72 22.20 26.61 -5.40 9.75 Percentile Rank 34 58 17 77 31 11 60 15 56 Source: Morningstar Mutual Fund Ratings Lipper Ranking : Funds are ranked based on total return within a universe of funds with similar investment objectives. The Lipper peer group is International Small-Cap 1 Yr – #19 out of 168 funds 5 Yr – #31 out of 122 funds 10 Yr – #11 out of 67 funds Morningstar Ratings : Category is Foreign Small/Mid Growth Overall 5 Stars Out of 130 funds 3 Year – 4 Stars Out of 130 funds 5 Year – 4 Stars Out of 113 funds 10 Year – 5 Stars Out of 67 funds Fund Management Justin Thomson has managed the fund since August, 1998. He has an M.A. from the University of Cambridge. Regional Exposure (as of May 31, 2015) Europe 41.3% Pacific Ex-Japan 26.1% Japan 21.2% Latin America 2.7% North America 1.7% Middle East & Africa 1.0% Country Exposure (as of May 31, 2015) Japan 21.2% United Kingdom 15.7% China 8.4% Germany 5.8% India 4.1% France 3.4% Spain 3.4% South Korea 3.0% Australia 2.9% Switzerland 2.9% Comments PRIDX is a good way for individual investors to gain exposure to rapidly growing small/mid cap companies outside the U.S. It would be very difficult and costly for retail investors to purchase most of the stocks in this fund individually, given the complexities of foreign stock exchanges, currency conversions etc. I discovered PRIDX from a relative strength trend model run on the funds in the Citigroup 401K plan. PRIDX has recently popped up to the top of the list, and there are also signs that the fund has been attracting inflows lately. Here are some recent assets under management figures for PRIDX taken from the fundmojo web site: Feb. 2015 $3.53 Billion Mar. 2015 $3.88 Billion Apr. 2015 $4.12 Billion May 2015 $4.28 Billion I believe that if new money continues to flow into international small cap funds, it will boost the performance of the underlying stocks in the PRIDX portfolio. Back in January, hedge fund AQR and Tobias Moskowitz, a finance professor at Chicago’s Booth School of Business, published a research paper entitled ” Size Matters, If You Control Your Junk “. It found that small companies have outperformed larger companies when the quality of the companies is taken into account. Of course, it is well known that businesses with steady earnings greatly outperform highly speculative penny stocks. But when comparing companies in the same industry, the small, high-quality companies have outperformed larger, high-quality companies. I believe that PRIDX is a good way to invest globally in stocks of smaller, higher-quality companies. If it continues to attract inflows, this should benefit fund performance. Disclosure: I am/we are long PRIDX. (More…) I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.