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The stock ticker outside the Bank of Montreal building at King St. West and Bay St. in downtown Toronto illustrates the continued drop in the wake of COVID-19 developments.Fred Lum/the Globe and Mail

When stocks crash, plenty of investors will panic – again.

We’re simply not used to seeing huge declines – at least not for long. The March, 2020, pandemic-induced crash was relatively short-lived, as was the correction in late 2018.

Since 2009, U.S. stocks have skyrocketed. But Robert Shiller’s respected CAPE ratio (a measurement of stock prices compared with inflation-adjusted corporate earnings) spells trouble ahead.

Based on this measurement, U.S. stocks are priced higher than they were in 1929. They’re not far from their record peak, which occurred in 2000. U.S. stocks crashed that year when the dot-com bubble burst. When measured in Canadian dollars, it took more than 13 years to fully recover from that turn-of-the-century crash, with the 2008-09 global financial crisis factored in.

Something similar could happen again. Personally, I would prefer to see stocks fall. I have an income and I’m only 51. If stocks plunge, I could then get better deals. And when markets recover, I can reap those rewards. Those who are younger than me should feel much the same. Warren Buffett says investors with at least five years to add money to the markets should prefer falling prices.

Obviously, not everyone would celebrate if stocks crashed. But if they did, the Permanent Portfolio – designed to perform well in all economic conditions – could help protect you.

Historically, this type of portfolio has been relatively stable and earned decent returns. From January, 1988, to January, 2021, a Canadian version of the Permanent Portfolio saw an average annualized return of 7.4 per cent. Over those 33 calendar years, its worst performance was negative 0.5 per cent in 2013.

But the portfolio’s individual ingredients might seem a little crazy to many investors. For example, it calls for a 25-per-cent allocation to long-term bonds. In isolation, long-term bonds are about as useful as a beach ball to a sinking boat. If inflation rises, the price of a chocolate bar will outpace long-term bonds.

The Permanent Portfolio also calls for 25 per cent of holdings allocated to gold – a commodity that’s more volatile than most people think. Measured in Canadian dollars, the price of gold plunged 25.6 per cent in 1975; 42.1 per cent in 1981; 27.3 per cent in 1983; 35.1 per cent in 1988; and 23.4 per cent in 1995. It’s not something the gold bulls talk about too much.

Gold is also a weak, long-term performer. If someone invested $1 in gold in 1801, it would have been worth about US$84 at the beginning of 2021. In contrast, a US$1 investment in U.S. stocks would have grown to about US$34.5-million over the same period. Yet, the Permanent Portfolio’s next ingredient could look stranger still.

It calls for 25 per cent in cash or short-term government bonds. With cash paying paltry interest and short-term bonds earning barrel-scraping rates, short-term bonds might also look nuts.

The final 25 per cent is allocated to stocks.

However, these allocations aren’t as silly as they might appear. After all, how the components perform in isolation is irrelevant. How they work together is much more important.

When the late investment writer and politician Harry Browne first created the Permanent Portfolio in 1981, he said it would deliver smooth investment returns because the prices of the components often move in opposite directions. And it turned out he was right.

Consider how $10,000 would have performed in a global stock market index, beginning in January, 2000. Measured in Canadian dollars, it would have dropped 9.5 per cent that year. It would have plunged a further 9.5 per cent in 2001. And it would have fallen a whopping 18.4 per cent in 2002. After three years, that $10,000 would have shrivelled to $6,684.

Meanwhile, a Canadian version of the Permanent Portfolio would have gained 4.4 per cent in 2000, just less than 3 per cent in 2001 and 6.6 per cent in 2002. Over the same three years, $10,000 would have grown to $11,454.

In 2008, when Canadian, U.S. and international stocks plunged, the Canadian version of the Permanent Portfolio would have gained 2.4 per cent.

Fortunately, you can build this portfolio with ETFs trading on the Toronto Stock Exchange.

For example, you could split the 25-per-cent stock allocation between Vanguard’s FTSE Canada All Cap Index ETF (VCN-T) of Canadian stocks and Vanguard’s FTSE Global All Cap ex Canada Index ETF (VXC-T) for global stocks.

You could put 25 per cent in long-term bonds with the iShares Core Canadian Long-Term Bond Index ETF (XLB-T). And for your short-term bond allocation, you could put 25 per cent in BMO’s Short Federal Bond Index ETF (ZFS-T). The final 25 per cent could include an allocation to the iShares Gold Bullion ETF (CGL-T).

The Canadian version of the Permanent Portfolio averaged about 7.5 per cent per year from 1988 to 2021. That would have seen $10,000 grow to about $109,000.

And its worst year (2013) saw a drop of just 0.5 per cent.

I do, however, have one warning. Investors shouldn’t switch to the Permanent Portfolio if they think stocks will crash only to choose something else when they foresee smooth sailing. Nobody can predict the future. Instead, choose this portfolio if it matches your temperament, and then stick to it.

As always, and with every allocation, the market itself isn’t the investor’s biggest threat. The most dangerous foe, instead, faces you in the mirror every day.