Portfolio Accumulation - Part 2

How you allocate your portfolio will depend on which of the four plans you select from the four choices outlined in Letter 4. You might like to re-read Letter 4 making sure you understand the four choices. We will discuss each.

If you select Maybury’s plan 1 (cash only)
Your only concern will be what form(s) of cash you wish to hold: T-bills, insured CDs, other safe deposits, or some combination of these. You won’t have an allocation problem. But as Maybury clearly explained, with this plan you are taking a major risk of further erosion in the purchasing power of your cash. I could be wrong, but based on what I see, and learn from the experts I trust, I expect the dollar to join the thousands of other paper currencies which have become worthless throughout history.

If you select Maybury’s Plan 2 (permanent portfolio only)
You will invest 100% in a permanent portfolio, a strategy for spreading risk that is outlined in Harry Browne’s book, Fail-Safe Investing.  You can either do this on your own or simply invest in the Permanent Portfolio Fund (PRPFX), and you will have no allocation problem.  The managers of this fund follow a slightly modified allocation strategy from Browne's original strategy (as mentioned in Letter 2). 

Below are the original and current asset allocations:

If you select Maybury’s Plan 3 (permanent and variable portfolios)
You will decide what portion of your portfolio to invest in the permanent portfolio (of Plan 2) according to your risk profile, and designate the remainder as your variable (speculative) portfolio. Having made that choice, you now face a new choice, how to pick the individual investments for your variable portfolio. For this you have four options:

• Subscribe to Maybury’s Early Warning Report (www.chaostan.com), and buy his recommended investments as he recommends them, holding them through thick and thin until he advises selling them. I would not recommend buying investments he recommended months or years ago (unless he repeats the recommendations), as many of the prices have changed materially, and your risk could be significantly higher.
• Follow some or all of my suggestions for investments as prescribed in Jay's Portfolio and Jay's Transaction Log based not only on Maybury's recommendations but also on the other experts I follow.  (Ignore my allocations on the left side and just focus on the suggestions on the right side.)
• Follow the suggestions of other experts as you read them and as the Lord leads you.
• Follow some combination of the above three options as the Lord leads you.

If you select Plan 4 as described in Letter 4 (follow Jay's Portfolio)
Then you will not invest in a permanent portfolio, but follow my portfolio allocations to the extent you are comfortable with them. My allocation plan is outlined in Letter 4 under the title My Allocation Plan, and further expanded upon in the remainder of this letter.  In the future, please refer regularly to Jay's Portfolio and Jay's Transaction Log.  It is my prayer that the principles given below, and in Letter 4, and in future letters, will be helpful to those who want to learn to manage their investments themselves.

I begin by introducing a concept which may be new to some of you, the principle of accumulation.

The Objective of Accumulation
Some of you may have looked at my portfolio and thought something like this: “His portfolio is based on the wisdom he’s gleaned from some of the great investors. I’ll just buy all the same investments, in the same proportions, and I’ll be off and running. After all, from this point on my performance will be exactly the same as his.” I suggest you not do this, mainly because you’re not in the same position I am in, even if you buy exactly the same portfolio. Most of the investments in my portfolio have substantial profits in them. Yes, I also have some that are down from my cost. But overall we have a very nice profit accumulated over the last 8 years, and this will act as a cushion when the inevitable downward correction occurs in our portfolios, which could, due to recent market action start when the market opens tomorrow.

If you’re just starting out, you don’t have that cushion. Therefore don’t buy a whole portfolio, accumulate it a little at a time. Buy only those investments which I designate currently as good buys, following all the allocation rules previously given, and keep the rest in cash awaiting new buy opportunities.

WISDOM FROM PETER LYNCH. This is a good place to remind us of the importance of patience. The average investor wants, or expects things to happen faster than they generally do. Peter Lynch was the great manager of the Fidelity Magellan Fund for many years. Here is a quote I got out of one of his books. I suggest you burn it into your mind. “When you buy a stock, you are buying it for what is going to happen three or four years from now, not what is going to happen three or four months from now.”  What happens in the next few months is usually already reflected in the price.

If I were responsible for investing a new sum of money today, I would proceed with extreme caution. It could easily be two years before I got it all invested. Almost all markets we have been investing in have had sustained up moves over the last five years. We are going to have major corrections. 

THINK ABOUT THIS: The whole objective of ACCUMULATION is to average your cost down. If that doesn't happen, then be thankful that you are making a profit on what you have (or not losing much), and you have money to buy better values.

Get Hold of This
I mentioned above that the markets are high and therefore more risky. I believe we could be entering a phase during which we will see increased volatility (fluctuations). This is true of all bull markets. And what is true of bull markets in general is especially true of commodity bull markets.

Rick Rule is an accomplished commodity investor. He’s not listed in Lesson 3, but he is often quoted by those who are. Here is a recent statement he made. “Commodities are notoriously, unbelievably, treacherously cyclical. They are much more cyclical than the average investor realizes. He sees a big increase in the price of copper and assumes the time has come to buy a copper-mining stock. What he doesn’t realize is that the time to buy the company was when the price of copper was low, not when it was high. The time to buy the miners is when they are cryin’ the blues, not when they are buying Dom Perignon. By the time the general public comes into the commodity market, it’s too late.” 

We need to hear this because our strategy is built on the assumption that we are in a long term commodity bull market which has at least 5 or 10 more years to run. Therefore, we will be making commodity related investments only when they have not yet gone up much, or they are well down from their highs. In other words, they are still undervalued. There are several which fit these criteria. We’ll be discussing them. Those which have started up, and which have formed a bull market trend channel, we will plan to buy only when they touch their lower trend channel lines. Be patient. I believe we will get more opportunities than you might expect.

A Better Definition of "Accumulate"
ACCUMULATE means to buy in several steps designed to take your investment from where it is now, up to your target position, each step being at a lower price than the first step, ideally lower than the preceding step. This is averaging down. The number of steps is arbitrary, generally 2 to 4. You have to use your judgment along with what we learn from the experts.

In the case of gold and silver, buying here might appear to be counter intuitive since they have gone up substantially. But they are both still excellent values. Adjusted for inflation, gold is down ½ or more from its 1980 high and silver is down about 80% from its 1980 high. In relation to the US dollar both are good values currently. Still, the fact they have moved up a lot makes them ACCUMULATE recommendations rather than BUY recommendations. If I did not own any, I would buy a 3.5% position in gold and a 7% position in silver, about 1/3 of the target positions of 10% and 20%, respectively. If you already hold some, adjust to buy in 2 or 3 steps to get to the target positions. Remember, ACCUMULATION is buying at lower prices to average your cost down.

I hope this is not too confusing. I believe it will get clearer. Since we’re on the subject of gold and silver, let me share some wisdom from Richard Russell. He began recommending gold and silver in 2000, and has continued to do so. Here is what he said in his Dow Theory Letters on November 2, 2007.

You may subscribe to Richard Russell’s Dow Theory Letters at www.dowtheoryletters.com.  And no matter which of the four plans you select, I recommend you subscribe to Richard Maybury’s Early Warning Report (see above).