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Q & A:

November, 2008

Q: What convinces you that Pimco’s Commodity funds are safe?

Q: I see the heavy emphasis the Plumb Performance Portfolio places on PIMCO’s Commodity Real Return Fund (PCRIX for those who have the substantial minimum investment, PCRDX for those who don’t).

According to the prospectus, the fund makes substantial use of derivatives; invests a substantial portion of its assets in a special PIMCO subsidiary fund registered in the Cayman Islands; uses structured notes; and so on.  It seems that all of these things are evidence of (for lack of a better word) an “exotic” fund structure.  I don’t understand the “structure” or risks of “structured” notes.  I assume that PIMCO established an entity in the Caymans to do something that PIMCO would not be allowed to do in the United States––but I don’t know what that “something” is, or what additional risks it may raise (both in and of itself, and in the presumably lax regulatory atmosphere of the Caymans).  And these days, when I see the word “derivatives,” I am automatically wary. . . . So I can’t tell if this is one very clever fund––or an accident waiting to happen.  I am not talking here about the simple risk of poor returns based on commodity market prices but, rather, about risk issues raised by the unusual structure of the fund itself.

Considering the sizable role of PCRIX/PCRDX in your portfolio, I take it that none of these points concern you very much, and that you must think this fund is quite safe.  So my question is: Why?

A: Unfortunately, I worry about everything.  That’s why I make it a rule to avoid investing in anything I don’t understand.  Given the sizable allocation of our personal portfolio to PCRIX, I have spent an inordinate amount of time studying it.  The points you bring up concern Pimco’s “RealReturn” strategy wherein they use derivatives to mimic an underlying index (in this case DJAIG) and invest the collateral in fixed income securities (in this case TIPS).  They also employ the RealReturn strategy in the funds I use for U.S. equities (PXTIX) and REITs (PRRSX).

Given our large allocation to these funds, I had to get very comfortable with them.  I’ve had numerous discussions with experts who are both pro and con PCRIX.  Even those who don’t like the fund do not dislike the structure.  They dislike it because they think the diversification and return potential of the fund is overrated.  They don’t buy into the idea of trying to ride a long-term bull market in commodities and avoid the subsequent bear market.  I’ve also had discussions with Pimco’s RealReturn Product Manager, Bob Greer, about PCRIX and the RealReturn strategy, in general.  With respect to the Caymans, I think this is for the same reasons that most corporations incorporate in Delaware, or lots of companies opening facilities in Ireland—tax advantages.  I do have a lot of confidence in Pimco, but we’ve seen how quickly once strong firms can deteriorate.  Still, in the nearly six years I’ve been investing in this fund, it’s done exactly what they said it would do.

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Plumb's Guide to Investing

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Over the years, many people have asked me for investment advice. This section is my answer to the question, “Chip, what are you doing with your portfolio?” It details the portfolio I use to implement my investment strategy— the Plumb Performance Portfolio©

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Further details and return history about the Plumb Performance Portfolio.

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  • May, 2011
    Q: Can you comment on building positions within the PPP?
  • June, 2010
    Q: How does the gold/silver ratio impact your allocation?
  • April, 2010
    Q: How important is it to adjust my allocations monthly?
  • January, 2010
    Q: What about individual TIPS vs. a TIPS fund?
  • November, 2009
    Q: Do you see REITs as totally miserable?

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“...an investor who proposes to ignore near-term market fluctuations needs great resources for safety and must not operate on so large a scale, if at all, with borrowed money. Finally, it is the long-term investor, he who promotes the public interest, who will in practice come in for the most criticism, wherever investment funds are managed by committee or boards or banks. For it is the essence of his behavior that he should be eccentric, unconventional and rash in the eyes of average opinion. If he is successful, that will only confirm the general belief in his rashness, and if in the short run he is unsuccessful, which is very likely, he will not receive much mercy. Worldly wisdom teaches that it is better for reputation to fail conventionally than to succeed unconventionally.”

– Lord John Maynard Keynes


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©2009 PlumbReport.com

The opinions as to portfolio allocation and specific investment vehicles contained herein are solely the opinions of the author and are not intended to be specific recommendations which would be suitable for every investor. The suitability of any specific investment or recommendation is dependent upon many subjective factors and characteristics of the individual investor including, but not limited to, particular investment objectives, risk tolerance, investment horizon or timeline, net worth, overall portfolio allocation and income needs. Specific investments may be suitable for some investors and yet unsuitable for others due to different needs and objectives. All readers should carefully consider their individual objectives and needs and should consult with their investment and financial advisor as to the suitability of any particular investment. The author specifically disclaims any liability or responsibility for any losses, which may result from any investment or allocation referenced herein.