DeepSeek Deep Sixes Markets

I wanted to follow up on a couple of ideas from recent posts, which I'll do, and then address the market action today. I had this idea last night for an example of how a small slice into a crazy high "yielding" derivative income fund could help with barbelling portfolio yield. I built out the following using names we use as examples all the time, adding a 5% allocation to YieldMax Netflix (NFLY) and compared it to the Vanguard Balanced Index Fund (VBAIX). 

The YieldMax website says NFLY yields 40% and while that number moves around due to lumpiness in the monthly distribution and movement in the price of the fund, taken as a static number, 40% from a 5% holding implies getting 200 basis points of yield out of a pretty small portion of the portfolio. The context the other day was a portfolio looking to generate a 4% withdrawal rate. There's no reasonable, near term threat that Netflix could go out of business (over the very long term, anything goes) but I might expect the common stock to go down more than the broad market whenever the next bear market comes and there is no reason to think NFLY would be spared in that scenario. Splitting the 5% to NFLY with 2.5% into two different crazy high yielders would help diffuse any sort of unforeseeable idiosyncratic risk that one name might have.  

Cutting in half when the S&P drops 35% would not surprise me so that might quantify the risk of decline which differs from whether or not NFLY can keep up with its distribution. So in some sort of bad run for equities broadly, I'm framing out where NFLY's impact could be a negative 250 basis points which would be a bummer but not catastrophic for the overall portfolio.

The portfolio as constructed, yielded 6.25%. Portfoliovisualizer has a mistake with VBAIX' yield for 2024. From Yahoo, VBAIX paid out $1.03 for the year and started 2024 at $43.91 which puts the yield at 2.3%.

Now to today's pukedown in the market. The DeepSeek news could be very big if the first reports are close to being correct. I obviously don't know, and we don't know whether today was the start of something serious or whether it is soon to be forgotten which is exactly what we said about the dip in early August. 

I grabbed this screen shot toward the end of the day.

First, the 2x did exactly what it's supposed to do, almost to the basis point. The challenge in getting capital efficient exposure with half the money into a 2x fund is there is no way to know what the path will be going forward. The sequence returns in the coming days or weeks could result in NVDL doing better than 2x the common, worse than 2x the common or be right in line. 

In 2023, NVDA was up 239% while NVDL was up 431% so the 2x was off by 47 percentage points, not basis points, percentage points. Is that close enough though? In 2024, NVDA was up 171% versus 344% for NVDL so it was only off by two percentage points which I'd say is pretty close. Despite the clear boilerplate about not holding these funds long than one day, plenty of people do. Maybe they shouldn't, but they do. 

NVDY's decline makes sense. For a fast move like today, the income shouldn't be expected to help. Over a longer period the income could help in a total return sense, I say could help but even that is not certain. 

A little more broadly about the market, again I do not know how serious the DeepSeek news will be but today as a microcosm shows the risk of going too heavy into whatever is hot in markets, AI related stocks on this go around. Do you have any sort of defensive positions or hedges? How did they do? The list I track, including what I use for clients were pretty much flat for the ones that should be flat and up for ones that should be up except for managed futures which were down varying amounts. Gold too was beat up a little bit.  

If you use defensives and you don't have 20% in managed futures (I think 20% is too much) then hopefully you were down less than the broad market. If you were down less, then that is the payoff for allocating a small slice to holdings that might cause frustration when things are going well. 

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