SteadyOptions is an options trading forum where you can find solutions from top options traders. TRY IT FREE!

We’ve all been there… researching options strategies and unable to find the answers we’re looking for. SteadyOptions has your solution.

Put Permanent Portfolio


Harry Browne popularized the concept of the "Permanent Portfolio" decades ago by recommending an asset allocation of 25% stocks, 25% bonds, 25% gold, and 25% cash. In the 90's, the concept of "risk parity" also became popular with writings by Cliff Asness of AQR Capital.

Read more in Why Not 100% Equities and Bridgewater's "All Weather" Fund. Both are similar concepts attempting to create a more balanced portfolio that is better prepared to handle different economic environments by investing less in stocks and more in everything else. 

Options can be used in portfolios in many different ways, including to create leverage, which is one of the key tenets of risk parity. Active retail traders with margin accounts could fairly easily use the concepts in this article to create diversified portfolios with strong expected Sharpe Ratios by short selling puts on a small handful of ETF options in a sensible way (i.e. cash secured, or modestly levered in a disciplined and repeatable manner).

 

Let's first look at the Permanent Portfolio, from 1970-2017, represented by the S&P 500 for stocks (SPY when available), long term US treasuries for bonds (TLT when available), London gold price index for gold (GLD when available), and 1 month US T-bills for cash.  The portfolio is rebalanced annually. We are using the excellent website, Portfolio Visualizer (www.portfoliovisualizer.com), for our examples. 

 

Click on all images for greater clarity

Perm 70-17.png

Past performance doesn't guarantee future results

 

What is noticeable, and desirable, about the Permanent Portfolio asset allocation is the relatively steady long term historical performance with modest and relatively short lived drawdowns. It has been a stable performer due to the low correlations between stocks, bonds, and gold. But this also means the annual returns can vary substantially from stocks alone, which can be behaviorally challenging for some investors. Know thyself before making investment decisions.

 

By removing cash, portfolio visualizer will allow us to solve for risk parity of our three remaining asset classes. Since 1970, this would have been an allocation of approximately 42% treasury bonds, 33% stocks, and 25% gold. By eliminating cash in the portfolio, we would expect higher returns, but also modestly higher risk, which is in fact what would have happened.

 

Portfolio 1: Our original Permanent Portfolio asset allocation

Portfolio 2: Risk parity weighted allocation (holdings are balanced based on risk instead of dollars)

 

RPPP.png

Past performance doesn't guarantee future results

 

Using the ORATS "Wheel" backtester, we can backtest a Permanent Risk Parity Portfolio of 30 day short puts on SPY, GLD, and TLT since June 2008, while also adding the T-bill return to the portfolio since short puts simply require a good faith margin requirement by the broker instead of a cash outlay when holding the underlying ETF. 

 

Portfolio 1: Permanent Portfolio

Portfolio 2: Risk Parity Permanent Portfolio

Portfolio 3: Risk Parity Put Permanent Portfolio (cash secured, i.e., no leverage)

 

RPPPP.png

Estimated transaction costs of slippage and commissions are built into all ORATS Wheel backtests, therefore they have been accounted for in the put parity portfolio simulation, while portfolio 1 and 2 are gross of estimated transaction costs. None of the portfolios have accounted for the impact of taxes, which have differing impacts on investors. Consult with your tax advisor. Past performance doesn't guarantee future results.

 

Af first glance, it may appear that selling puts in place of holding the underlying ETF is unattractive. We'd argue that investors should think about portfolios in terms of both total returns and risk-adjusted returns, and the put parity portfolio produces the highest Sharpe Ratio. Since short puts can be levered to create a higher notional exposure in a margin approved brokerage account, investors seeking higher returns could apply a modest amount of leverage to create notional exposure around 150% to produce returns in line with the underlying ETF portfolio, while still maintaining the advantage of lower volatility.

Of course, investors could also lever an ETF portfolio by borrowing in their brokerage account, but typically at a much higher cost than the implied financing rate built into derivative contracts like options. Investors comfortable with the volatility of a 100% equity portfolio (15-20% annualized) could further lever positions to have the potential for equity like returns while still maintaining the attractive diversification characteristics of a Permanent Portfolio style asset allocation mix.

 

It should also be noted that if an investor prefers an option position that acts more like synthetic stock (ETF), an option "combo" or "risk reversal" position can be created by combining a short put and long call. All of these concepts can be tested with the ORATS wheel, which we encourage those interested to check out as it's a great tool for automated backtesting of many option strategies with around a decade of clean historical data on many equity option symbols. 

 

Jesse Blom is a licensed investment advisor and Vice President of Lorintine Capital, LP. He provides investment advice to clients all over the United States and around the world. Jesse has been in financial services since 2008 and is a CERTIFIED FINANCIAL PLANNER™. Working with a CFP® professional represents the highest standard of financial planning advice. Jesse has a Bachelor of Science in Finance from Oral Roberts University. Jesse oversees the LC Diversified forum and contributes to the Steady Condors newsletter. 

 

What Is SteadyOptions?

Full Trading Plan

Complete Portfolio Approach

Diversified Options Strategies

Exclusive Community Forum

Steady And Consistent Gains

High Quality Education

Risk Management, Portfolio Size

Performance based on real fills

Try It Free

Non-directional Options Strategies

10-15 trade Ideas Per Month

Targets 5-7% Monthly Net Return

Visit our Education Center

Recent Articles

Articles

  • Anchor Maximum Drawdown Analysis

    One of the most common questions asked about the Anchor and Leveraged Anchor strategies relates to “what’s the most I can lose on the trade.”  Fortunately, that’s a fairly easy number to calculate for any one given time on a known portfolio.  A yearlong dynamic calculation is a bit more difficult. 

    By cwelsh,

    • 0 comments
    • 139 views
  • Options: Debt and Net Return

    This is the last in a series of articles about how dividends affect option value and volatility. In picking stocks for options trading, what are your criteria? Analysis of dividends, debt and net return – all fundamental tests – help identify strong value companies (and lower-volatility options) versus weak, high-risk stocks.

    By Michael C. Thomsett,

    • 0 comments
    • 244 views
  • Can you "Time" the Steady Momentum PutWrite Strategy?

    As a financial advisor, investment advisor, hedge fund manager, model developer, and newsletter signal provider for over a decade now, I've had the opportunity to see quite a bit of human nature in action.

    By Jesse,

    • 0 comments
    • 278 views
  • How Steady Momentum Captures Multiple Risk Premiums

    Our Steady Momentum PutWrite strategy attempts to outperform the CBOE PUT index, which writes cash secured puts on the S&P 500. An investable version of this strategy can be purchased with the ETF PUTW. The historical data for PUT extends back more than 30 years, highlighting how writing puts can be an attractive strategy.

    By Jesse,

    • 0 comments
    • 478 views
  • The Effect of Dividends on Options Pricing

    The theory of dividends and underlying stock prices is simple: The underlying price is expected to decline on ex-dividend date, by the amount of the dividend. As a result, option prices should decline as well. Under this theory, calls for higher dividend stocks should be valued lower and puts should be valued higher.

    By Michael C. Thomsett,

    • 0 comments
    • 361 views
  • 5 Ways To Identify Fake Forex Broker Reviews

    Many traders or future traders shop for a broker to work with and find endless reviews on the web, and not all are genuine. Here are 5 ways ways to separate the good from the bad. There are lots of sites that specialize in forex broker reviews and lots of talk about brokers in various forums.

    By Kim,

    • 0 comments
    • 215 views
  • 3 Dividend traps to Watch For

    Dividends are almost universally viewed as positive aspects of stock selection and options trading. The higher the dividend yield, the more positive. But does this ignore some dangers in dividend trends? In fact, there are three ways in which dividends can mislead traders and create positive impressions when in fact, the news is negative.

    By Michael C. Thomsett,

    • 0 comments
    • 301 views
  • Dividends and Options

    Steady Options has received numerous inquires into how dividends impact options, option prices, and the owners or option contracts. The impact of dividends should be understood by any option contract trader.  Fortunately, the rules for option contracts and dividends are clear and straightforward. 

    By cwelsh,

    • 0 comments
    • 326 views
  • When Can You “Trust” a Backtest?

    There's a joke in the financial industry that "nobody has ever seen a bad backtest". There certainly are bad ones, but nobody ever markets them. They just get thrown in the trash. Even academics can fall prey to this.

    By Jesse,

    • 0 comments
    • 267 views
  • Increasing Yield Through Covered Calls

    When starting out with options, a natural place to begin is with covered calls. It’s a very easy to understand strategy for those that are familiar with stock ownership. The strategy involves buying a stock in lots of 100 shares. The total size will depend on you account size and how much exposure you want to take.

    By GavinMcMaster,

    • 0 comments
    • 370 views

  Report Article

We want to hear from you!


There are no comments to display.



Create an account or sign in to comment

You need to be a member in order to leave a comment

Create an account

Sign up for a new account. It's easy and free!


Register a new account

Sign in

Already have an account? Sign in here.


Sign In Now

Options Trading Blogs