Crisis Alpha?

Eric Crittenden, manager of the Standpoint Multi-Asset (BLNDX/REMIX) sat for a podcast with Jason Buck from Mutiny Fund who we looked at last week for deriving the Cockroach Portfolio. Early in the pod, the term crisis alpha came up to describe managed futures, more like managed futures is one example of crisis alpha. The simple definition of alpha is the extent to which a portfolio outperforms its benchmark. It can be more nuanced when you start to consider how much risk is taken to generate the alpha.

We started talking about managed futures at the onset of the financial crisis when I allocated to what was then Rydex Managed Futures (RYMFX), the name has changed but it is still the same fund. Managed futures has been very consistent having a negative or at least very low correlation to equities. So holding it forever is pretty difficult to do. Stocks go up most of the time so managed futures, aka trend, should go down most of the time. That's the history and I have no reason to expect anything different whenever the next bull market starts. 

But that is why they referred to managed futures as crisis alpha, it does well during stock market crises. It might be antifragile but it is not all-weather due to its performance during stock market rallies. BLNDX/REMIX (client and personal holding) blends equity exposure and managed futures in such a way that they hope is all-weather. In its first two tests, the pandemic crash and this year so far, it seems to live up to that hope, draw your own conclusion, talk to them if you want to learn more. 

In the above linked post about the Cockroach Portfolio, we talked about using descriptive terms for asset classes that give attributes of the asset class like calling cash stability or something like that. Crisis Alpha seems to fit this bill, I like the term. 

Holdings to allocate to Crisis Alpha could include tail risk which is funds that buy puts, inverse index funds or other funds that sell short, long short which has a couple of different approaches (client holding MERFX functions as low duration bond proxy while client holding BTAL is meant to go up when stocks go down and can go up stocks go up but not always), obviously straight managed futures like RYMX, CTA, DBMF or WTMF could work here and per last week's post I am starting to learn about medium term VIX ETFs. I think gold can live in this bucket too but you'll get plenty of pushback on that if you do enough reading. What doesn't work is Bitcoin. In a given crisis it could go up a lot or like now, down a lot, with no rhyme or reason. It is uncorrelated, not negatively correlated and there's a difference.

Maintaining some permanent allocation to Crisis Alpha as positives and negatives. On the positive side is it adds an element of all-weather to a portfolio that bonds have failed to do on this go around. That idea draws influence from the Permanent Portfolio but the PP is overly reliant on long bonds. We've been talking for years and years about the risk of owning bonds at very low yields. I certainly had no idea if there would ever be a consequence for that risk but the risk has long been there.

The downside of a permanent allocation to Crisis Alpha is it will be a drag on the portfolio most of the time.  Can you live with that? It is easy to build a process where you increase exposure to Crisis Alpha like when the S&P 500 goes below its 200 day moving average (DMA) or maybe when the S&P 500 gets too far above it's 200 DMA, I added just a little Crisis Alpha in Sept, 2021 under that premise. 

Just because it is easy to devise a process doesn't mean the trade will turn out to be correct but it is a form of trading discipline.

Personally, I have no problem holding on to something like BTAL for the long term. TAIL is less certain because that type of crash protection becomes a lot less important after a crash. If we're now on our way to a 40% decline in the S&P 500, then at some point down there, removing hedges makes sense. I've already removed a little bit of protection.

Some sort of permanent allocation to Crisis Alpha makes sense but my approach would be to dial it up and down not target a static 10% (just an example) or whatever. In the first sentence from the above referenced post I made a joke about not being the only one obsessed with an all-weather portfolio that didn't include risk parity. Always a work in progress but Crisis Alpha seems like it could be part of the solution.   

How about that sunset tonight?