Today’s post on Yahoo Finance discusses an “all weather” portfolio recommended by one of the most famous hedge fund managers. The portfolio strives to achieve an equal distribution of risk across macro periods of inflation, deflation, high and low economic growth.
The portfolio consists of:
- 30% stocks
- 15% intermediate-term government bonds
- 40% long-term bonds
- 7.5% gold
- 7.5% commodities
The portfolio has a large fixed-income component relative to equities to get close to a risk parity (yet, it does not use bond derivatives). The portfolio should be rebalanced at least annually.
Let’s use the Portfolio Service of the Alpholio™ App for Android to analyze this all weather portfolio. To do so, let’s construct a portfolio of ETFs that represent the above asset classes:
- 30% iShares Core S&P 500 ETF (IVV)
- 15% iShares 7-10 Year Treasury Bond ETF (IEF)
- 40% iShares 20+ Year Treasury Bond ETF (TLT)
- 7% iShares Gold Trust (IAU)
- 8% PowerShares DB Commodity Index Tracking Fund (DBC)
These ETFs were selected to have the earliest possible inception dates and lowest sponsor fees (expense ratios). The time span of the analysis is limited by the inception date of DBC. An alternative commodity ETF, the iShares S&P GSCI Commodity-Indexed Trust (GSG), became available about five months after DBC, therefore the latter was chosen. Since about 8% of DBC tracks gold, the weight of IAU is lower than that of DBC by one percentage point (due to the limitation of setting widgets, the app only accepts whole percentage weights).
Here is the setup for the analysis (the Dates, Return Frequency and Rebalance Frequency sections can be expanded by tapping their respective headers):
Here are the analysis results for the above portfolio with monthly returns and quarterly rebalancing:
With semi-annual (i.e. every six months) rebalancing, the all weather portfolio performed slightly better in terms of the higher annualized return and Sharpe ratio as well as smaller maximum drawdown:
Annual rebalancing yielded no further improvement in the annualized return or Sharpe ratio, but reduced the maximum drawdown to 12.1% and lowered the beta to 0.20.
For reference, here are the results for a traditional balanced portfolio, comprised of 60% SPY and 40% of iShares Core U.S. Aggregate Bond ETF (AGG), with monthly returns and semi-annual rebalancing in the same analysis period:
Compared to the traditional balanced portfolio, the all weather portfolio had all the desirable characteristics: a higher annualized return and Sharpe ratio, coupled with a significantly lower beta and maximum drawdown. However, the above analysis covered a prolonged period of decreasing and historically low interest rates that drove the returns of intermediate- and long-term bonds, the dominant positions in the portfolio. In an environment of rising interest rates (generally expected to begin next year) and falling commodity prices (already taking place), a risk-parity oriented portfolio, even with no bond leverage, may suffer.