In my last blog post I introduced the AppliedValue (AV) portfolio, which was constructed using the tools available at portfoliocharts.com. Preliminary analysis of AV portfolio pointed to the importance of Gold as an asset in the portfolio and its effect on damping the portfolio volatality without impacting the average annual returns.

I was curious whether I could find data from a different source to validate or contradict my findings above. After some google search, I landed on another quite interesting website, engineeredportfolio.com, in particular the blog post titled: Solving the Great Diversification Debate: Gold, Commodities, Treasuries or REITs.  To quote verbatim from the conclusion of the post: “Gold deserves a place in virtually any investment portfolio (that does rebalancing) to reduce risk in the portfolio.  It is counter intuitive; but it has historically offered the best diversification benefits.” The authors reach this conclusion based on the following chart,

The chart plots annualized returns for a various portfolio mix, which are annually rebalanced, using historical data spanning the time periods, 1972 through 2016,  as function of volatality (and downside risk) metrics.

It is clear from above chart that the presence of gold mix in a portfolio, offers returns that approach those of pure stock fund, but with significantly lower volatality. These findings are music to my ears. However, it is worth noting that, a pure gold portfolio not only exhibits higher drawdown risk but also significantly increased volatality.

The later observation, in my opinion, is tied to the conclusions drawn by this Forbes article as to the correct allocation of gold for any portfolio is  zero percent. The author of the Forbes article argues that the time period between 1969 and 2016, (very close to the time period for the chart presented above), is cherry picking. On average, the author argues, gold just keeps with inflation and is very volatile. But, this is exactly the finding from above chart as well, i.e., pure gold portfolio is a bad investment strategy. A balanced portfolio should, in theory, comprise of uncorrelated diversified assets, not necessarily assets that on their own produce low returns with higher volatality. Gold, amost all the other asset classes, exhibit these characteristics, as can be seen from the following table,

Having convinced myself that the construct for AV portfolio with non-trivial gold allocation is sound, I decided to further investigate AV performance, focusing on a more recent time period of the past 10 years.

For starters, I chose the following ETFs to construct the AV portfolio

In Figure below, we show correlation of assets in the AV portfolio as well as cumulative returns for each asset in the portfolio over the last decade.

A few points worth noting from above are:

1. Although value as a style of investing has not performed well over the last 5 years, see here and here), small-cap value ETF has managed (for the most part) to track the broad market gains.
2. Emerging markets and gold have struggled the most over the past decade, producing 24.2 % and 33.2 %  cumulative returns (as of this writing) relative to a massive 214.8 % cumulative returns for the S&P500 index fund
3. Gold continues to exhibit negative correlation with US based assets. Interestingly,  gold and emerging markets equity have exhibited no correlation over the past decade.
4. Correlation of REIT with markets seem to have grown stronger over the past decade

Figure below, shows the growth of $10,000 invested in the AV portfolio (annually rebalanced vs not) in comparison to pure gold fund, pure US- large cap equity fund. While, it is clear that cumulative returns for the AV portfolio (rebalanced or not) has lagged the broader US  markets substantially, the average annualized returns still amounts to about 7.85 % (and 8.35 % for unbalanced AV portfolio) which is remarkably consistent with the returns produced over the last 50 years of about 7.7%,  as I reported in my previous blog post.

Finally, the chart below shows the evolution of individual ETFs in a rebalanced AV portfolio over the period of 10 years. Rebalancing, is a counter momentum strategy, which allows for portfolio to accumulate more stocks of asset that is not performing well at the cost of assets that are performing well. This action tends to produce long-term stability for the overall portfolio at some cost to market returns, especially in bull-markets such as the one we are currently experiencing.

In conclusion, the findings from my own analysis and those reported in my previous blog using data from portfoliocharts.com has prompted me to make some changes to my retirement portfolio.

Over the last few days, I have done just that and the excel spread sheet below is a summary of one of my re-calibrated retirement portfolios. At the time of this writing I still have about 1.29 % of portfolio funds in cash, resulting in some mismatch between the desired fund weighting and the actual fund weighting in my AV portfolio.

My plan going forward is to rebalance this portfolio annually, starting from Jan of 2020, for a period of atleast 5 years. I hope to correct the observed mismatch, which will only grow with time, when I rebalance again in the first week of the new year.

Lets see how things turn out at the end of 2025. I anticipate that my initial investment of $X should produce average annual return of atleast 7.5 %, for a cumulative return of 43 % over a period of 5 years.