Should You Prepare For A Lost Decade?

We spend a lot of time here trying to study and learn about how to make portfolios more robust to various types of risks including market risk (bear markets) and event risk (usually resulting in fast declines). One market risk might be a so called lost decade. A report from Gorman, Keel and Randazzo went into depth on lost decades. 

I added the green rectangle because that doesn't look very lost to me, but the red rectangle would seem to fit the bill. If you were around for the lost decade of the 2000's you know first hand that even in a lost decade, there will be pockets of the market that will do at least ok, if not better than ok. 

In the 2000's, dialing up foreign exposure was pretty important for example. Someone who builds a portfolio that includes individual stocks would reasonably have at least a couple that would do just fine if we have another lost decade. There are now more ways to build a portfolio that includes all weather types of funds or tools that would allow investors to build their own all weather portfolio to succeed in a lost decade. 

Ares tried to make an argument for (private) infrastructure to play a role in a lost decade (my interpretation) because they say it tends to go down less, has fundamental tailwinds behind it and doesn't necessarily rely on a favorable economic cycle. It's not that infrastructure is reliably countercyclical but money can still be spent on infrastructure development and various forms of tolls can still be collected. 

Maybe private infrastructure can offer crisis alpha or maybe it's just volatility laundering but I wouldn't count on getting crisis alpha from infrastructure stocks or ETFs. I use PAVE for clients with part of the thesis being, we need to invest a lot into our infrastructure, I believe the money is going to be spent no matter what is going on, even if it happens in fits and starts. I've talked frequently about my belief that publicly traded financial financial markets are also part of the infrastructure theme as toll takers. I use CBOE in this context which also benefits from VIX trading volume despite getting kicked very hard over the last couple of weeks or so. In 2022, PAVE and CBOE were only down 7.18% and 2.17% respectively but I am saying I would not rely on that to repeat....great if it does. 

The Ares paper explores leveraging up with a sort of portable alpha strategy to add 20% in infrastructure to a 60/40 portfolio. Here's how I built their idea out.

Compared to plain vanilla 60/40 comprised of SPY and AGG.

It does outperform but with more volatility and the max drawdown was much higher. The infrastructure portfolio went down less in 2022 but down more in every other significant drawdown available to look at. 

According to Copilot, the main driver of the outperformance is the leverage, then avoiding duration with FLOT and MERFX (both client holdings), we always avoid duration in these exercises, with the infrastructure exposure being the least important driver. While I believe in infrastructure, I am skeptical that it can do the sort of long term heavy lifting implied in the Ares paper. 

Kind of funny, on the flip side of a lost decade for equities, Robert Pozen made the case for 90% equities instead of 60%. We can get a sense of what 90/10 would look like versus 60/40 from the last two previous lost decades cited above. I'll use the IEI ETF for the fixed income allocation, testfol.io can't go back as far as we need with AGG.

If there is a lost decade anytime soon, I wouldn't want to rely on bonds helping as much as they did in the last two lost decades. In the most recent lost decade, the SocGen Trend Index compounded at 13.43%. The index was not around in the 70's but Gemini theorized that managed futures trend would have done better than 13.43 from 1968-1974.

Having some managed futures seems like a good idea to help with a lost decade and I would consider more than one fund to build out this part of the portfolio and maybe a higher volatility managed futures fund should be considered. 

Gemini thinks that global macro, equity market neutral, merger arb, commodities and reinsurance would also work in a lost decade. 

Selling volatility doesn't seem like a great idea but Gemini said that covered calls might be a strategy that could work. 

There isn't a great sample size to study on that point but I certainly wouldn't go heavy if at all into crazy higher yielders. 

It makes sense to think about what you'd do if equities start to sputter. Getting the timing exactly right seems like a low probability outcome so I wouldn't make dramatic changes. Dialing down equities a little and dialing up diversifiers a little can work to improve results in a lost decade without being completely left behind in case it's just a lost month. 

The information, analysis and opinions expressed herein reflect our judgment and opinions as of the date of writing and are subject to change at any time without notice. They are not intended to constitute legal, tax, securities or investment advice or a recommended course of action in any given situation. 

Is The Options Market Giving Away Money?

A reader left an interesting comment on this week's Striking Price column in Barron's. The article was about SpaceX. The reader said he sold deep in the money calls against the stock, really deep at $110, he didn't say where the common was when he put the trade on. Despite being that deep in the money, there was a ton of time premium in the price of the option.

Usually when there are calls that are that far deep in the money, there isn't much time premium (time premium is where changes in volatility are reflected) because the odds of the stock cutting in half or whatever are very remote. 

With markets closed it is easy to take a look at where the stock and a couple of options are pricing without it being completely different 10 minutes from now. On Friday at 4pm, SPCX common closed at $185.00. The January 100 call was bid at $90.90 so the time premium was $5.90. With something like this you could compare $5.90 to how much interest you might get on the $9410 you'd need to put this on as a buywrite. That annualizes out to a "yield" of almost 11%.

The trade runs into problems if the common drops below $94.10 ($100 minus the time premium taken in). If SpaceX drops to $110 or $120, the buywrite would still intact and be profitable when the option expires, the call sold gives up everything that happens above the strike price. You might be sweating it, if the common was at $110 or $120 next month, you'd still have a long time to go. The reader called his strategy "conservative." He believes he is avoiding the volatility in the stock prices but is benefitting from the options volatility. 

Obviously, there is no way to know what will happen to SpaceX' price between now and the January expiration but to the title of this post, the options market doesn't give money away. I take the time premium in our example to mean that the market thinks the stock could go below $100 between now and January. 

If it works out, then the reader did a great job of exploiting SpaceX' volatility but either way it's a fascinating trade. 

The information, analysis and opinions expressed herein reflect our judgment and opinions as of the date of writing and are subject to change at any time without notice. They are not intended to constitute legal, tax, securities or investment advice or a recommended course of action in any given situation. 

Steep Hill To Climb

We had a very challenging wildfire yesterday. Walker Fire trucks are red and the Forest Service are green.

It was very close to the road which made it easy for us to find but it was down an insanely steep hill. I've never done any sort of fire activity on such a steep hill.

We got there just a couple of minutes before PNF 633, it was on federal land so they had command of the incident which was probably a good thing, no obvious obstacles to ordering up air support. 

Now, on to today's post. Alpha Architect has put out a lot of content and information lately promoting its High Inflation And Deflation ETF (HIDE) as a substitute for managed futures. There is some amount of trend following in the HIDE process and part of the pitch is HIDE can be a way to avoid the fallout when managed futures struggle or otherwise do poorly. The most recent incidence of this was the few months going into the Tariff Panic in early 2025. 

You can see from the drawdown chart that when DBMF and QMHIX get colds, HIDE barely gets the hiccups. 

The tradeoff is that in 2022, HIDE might have been down based on replicating it. A reasonable expectation for managed futures is that it will hopefully go up when markets have longer, slower declines. HIDE seems like it is setting a different expectation. 

Here's a fun idea.

The funds will take any dividends earned by the underlying equity portfolio and use them to buy Bitcoin. Or you could just buy Simplify US Equity PLUS Bitcoin Strategy ETF (SPBC). Or you could just buy a Bitcoin ETF. 

What will be the yield of the equity portfolio? A little over 1%? Maybe? I don't know why this would be someone's best choice to add Bitcoin. 

A couple of weeks ago, we looked at a portfolio from Finomial that they called Leveraged Equity + Diversifiers Portfolio. Today I got an email about their review of Leveraged Equity + Diversifiers Portfolio II. The differences between the two is slight.

Version 1 has pulled away the last couple of years, I think the difference can be attributed to the position in FEGIX which includes mining stocks. Gold miners tend to have bigger moves in both directions than just plain gold. 

The results are compelling. The Finomial portfolios have had quite a bit more growth with about the same volatility as putting 100% in the S&P 500 often with smaller drawdowns. The Finomial portfolios are 100% equities with alts on top. 

There's never been any sort of hideous path for SSO versus the S&P 500 but it's not impossible going forward, 50% in SSO could be difficult at times. That said there a couple of concepts here that I think are useful and overlap with what we talk about and do here. One is the willingness to include traditional mutual funds in the mix. ETFs are generally the better wrapper but not in every instance. I don't think it is logical that one wrapper must always be best and I don't think ETF-only models make the most of what is out there. In building or managing your own portfolio, if a mutual fund is the best way to capture some exposure, use the mutual fund. 

The other thing is that I'm learning from a project I am working on for the Del E. Webb Foundation is that these are "institutional caliber" portfolios. That doesn't guarantee results and that doesn't mean portfolios like this can't be poorly assembled but these sorts of things really are sophisticated concepts that are accessible for individual in their brokerage accounts.

The information, analysis and opinions expressed herein reflect our judgment and opinions as of the date of writing and are subject to change at any time without notice. They are not intended to constitute legal, tax, securities or investment advice or a recommended course of action in any given situation. 

Style Is Tricky

Sorry I haven't posted in a few days. It's been very busy (good busy) and I haven't seen a whole lot that would spur a blog post. Here's a quick something though. 

The weighting is microscopic but still, what's the deal? Dave Nadig weighed in. It's a long article so the TLDR is "SpaceX was added to the Schwab U.S. Large‑Cap Value ETF (SCHV) not because it looks cheap, but because the Dow Jones style methodology couldn’t classify it as growth—so it defaulted into value by process of elimination."

That comes on the heels of our conversation the other day about the VLUE ETF having 22% in Micron. If Dave is right, it's value because it's not growth, then to the point we made the other day, there's not much utility to the growth or value labels. 

That may not matter as much with an actively managed stock picking fund. To buy that sort of fund is to buy the manager. The SpaceX weighting is so small in SCHV that if the company went out of business tomorrow, it probably would not be detectable in the NAV but for anyone trying to build a style oriented portfolio, it is tricky, maybe trickier than it should be. 

The information, analysis and opinions expressed herein reflect our judgment and opinions as of the date of writing and are subject to change at any time without notice. They are not intended to constitute legal, tax, securities or investment advice or a recommended course of action in any given situation.  

Are Index Funds Too Big?

First a follow up to an idea from a couple of months ago about creating some sort of fund that would make constant bets on Kalshi or Polymarket. The idea was not so much hold bets through to the conclusion but to use an algorithm to scale in and out as prices change. The hope would be some sort of uncorrelated, absolute return outcome that maybe did a little better than T-bills.

The NY Times wrote about something not that close but sort of close. The article was about arbitraging between two markets when they price outcomes differently. If between the two markets the yes and the no outcome add up to less than a dollar, then a combo bet could be placed to capture the pricing discrepancy, very much hitting singles. The article profiled a mathematician who the Times reports has made over $1 million in the last three years. 

The arb isn't betting on outcomes it is exploiting inefficiencies and discrepancies. 

Torsten Slok is concerned about the enormous size of the three largest index ETFs; VOO, SPY and IVV.

Two different AIs corroborated that index funds (ETFs and mutual funds) comprise 20-30% of the US market. Jack Bogle thought it would be problematic if it ever got above 50%. 

I think it is important to understand that indexes have flaws and drawbacks and it is prudent to know when to deviate from tracking too close to the index. With 50% in tech plus communications, I believe this is one of those times. I have no idea if anything bad will happen but the concentration of risk in those two sectors seems obvious. 

And we'll close out with a fire department buddy who is my age but retired. Part of his post-retirement routine is that he picks up shifts at his church as an EMT during Sunday Services which is not uncommon for larger churches. I believe he has done similar work at the arena in Prescott Valley that has concerts and is the home field for our indoor football team. 

Another former fire department colleague used to get event gigs for EMS down in Phoenix, mostly concerts and festivals. The last time we had a serious fire here was the Crooks Fire in 2022. The community was evacuated and our station house hosted one of the divisions working on the fire as well as the structure protection group. 

As part of this contingent working from our firehouse, there were two EMTs and an ambulance. The EMTs sat in front of our station house on their phones or tablets just hanging out waiting for someone to need help. They were doing nothing wrong, their job was to be on standby and wait in case someone got hurt. There are also teaching/training opportunities for people with EMS credentials.

The point here is there can be plenty of ways to pull together a useful income in an area that might be as relevant to you if needed as EMS is to me. None of these EMS opportunities strike me as punching clock on a regular basis. Taking shifts with the ambulance company would feel like giving up some independence. 

The information, analysis and opinions expressed herein reflect our judgment and opinions as of the date of writing and are subject to change at any time without notice. They are not intended to constitute legal, tax, securities or investment advice or a recommended course of action in any given situation. 

Value Funds That Load Up On Tech

Barron's had an interesting writeup about value funds having done well this year including the iShares MSCI USA Value Factor ETF (VLUE). It is up a whopping 44% this year versus 7% for the iShares S&P 500 Value ETF (IVE). 

When you see that sort of dispersion, I think the first question to ask is what the hell is causing that sort of outperformance (or lag as the case may be)? In the case of VLUE, it owns Micron (MU) at a current 22% weighting. MU is up 243% YTD so at 22% of the fund, it has not been rebalanced yet. Barron's neglected to make the point about Micron but several reader comments made the same observation I am making. The number two stock is Cisco (CSCO) with just under 5% of the fund.

A big point being made was that the line between value and growth appears to be blurring as more and more tech is showing up in value funds. The tech sector comprises 42% of VLUE, for IVE it is only 22% which seems kind of high. Apple is the largest holding in IVE at almost 8%, tech adjacent Amazon is second at 4%. The DFA US Large Cap Value Fund (DFLVX) has only 14% in tech for context. 

iShares has several large cap growth ETFs. BGRO and ILGC both have 52% in technology. If both growth and value are heavy in tech and tech adjacent, the odds of doubling up on the same stocks are pretty high as well as having just a ton of tech. Apple and Amazon are both top four holdings in growth funds BGRO and ILGC along with value fund IVE but don't appear to be in VLUE.

I've never done anything with funds that target growth or value. I think managing sector weightings is very important and if the lines are blurring between growth and value then managing sector weightings becomes harder to do. If someone buys VLUE today thinking they're going to get X% of their tech from the fund, whenever MU gets rebalanced down it will change the tech exposure of the portfolio. VLUE is 42% tech with half of it being one stock. 

It's a lot simpler to use sector funds and some thematic funds for any portfolio that doesn't use individual stocks. Utilities are always going to be utilities and a defense contractor themed ETF is usually going to be a mix of industrials with a little bit of specialized tech thrown in unless the name indicates otherwise. 

Quick pivot to the behavioral challenge of spending down from a retirement account. When you build up some sort of account balance, retirement or otherwise, it creates a sense of security. Pulling from that account combined with seeing it shrink doesn't sound easy to me. Over the last many years, chances are someone taking a reasonable amount out has seen their account balance still grow because of how well markets have done. Taking 4-5% out is very unlikely to result in running out of money early but with a decade like 2000-2009, taking 4-5% out could have easily cause the balance to decline. 

Looking back in hindsight, yes just staying the course was the obvious thing but maybe not so easy to actually stick to at the low in 2008 or early 2009. 

This is something I've long recognized in myself. I think it will be emotionally challenging to pull money out whenever the time comes but my thinking on this has evolved a little, maybe someone will find this helpful or useful.

More than just generally spending down if the market sequence is not great causing discomfort, I think when the time comes, there will be some number in my account that would be difficult to go below. Right here, right now there is number that makes me feel comfortable and the dollars above that are gravy. I'd be ok spending the extra, spending the gravy. If I can continue to work to RMD age, 75 in my case, that's still quite aways from here so I have no idea what my comfort number would be by then between price inflation and hopefully account growth (price appreciation and any contributions I might make) or obviously what my gravy number will be but this is a useful tweak to my thought process. 

You can't take out $15,000/mo from a $1.8 million account and expect it to last but if you have that much money when you retire, it would be nice to take your $80.000-$90.000/yr without being constantly stressed out about it. 

The information, analysis and opinions expressed herein reflect our judgment and opinions as of the date of writing and are subject to change at any time without notice. They are not intended to constitute legal, tax, securities or investment advice or a recommended course of action in any given situation. 

Prioritizing Peace Of Mind

A few days ago we looked at an article about whether or not to end up as the richest person in graveyard. Basically, dying with too much leftover could lead to regret for people when they get to a very old age. The article from William Bernstein and Edward McQuarrie gave permission to have a lot of unspent money at the end because going through with that sort of safety net, even if unspent, has utility, it has value. They validated the idea of moving financial security further up the priority list. 

This week, the WSJ reported on Fidelity moving toward allowing target date funds to partially convert into immediate annuities. I am not a fan of annuities, I've never sold one and I am not licensed to sell annuities. Anything bad you can say about them, I am likely to agree.

That said, there are positives to annuitizing a portion of a retirement portfolio. I think this will come at some point without getting tied up with a complex insurance contract. One point that I made ages ago, more anecdotal actually, was that people I knew who had annuities love them. 

Someone living a $6000/mo lifestyle, getting $3500 from Social Security, maybe they can peel off a chunk of their IRA into an immediate annuity to generate a $1000/mo income stream while having most of their retirement money still in their brokerage account where they maintain control of the assets. The lifestyle in this example might be $6000 but if SS plus the $1000 annuity stream covers the fixed expenses, then that might reasonably create utility, value, for the end user in the form of peace of mind. 

So if you want an annuity, go buy an annuity if the trade offs would be worth the peace of mind. 

The information, analysis and opinions expressed herein reflect our judgment and opinions as of the date of writing and are subject to change at any time without notice. They are not intended to constitute legal, tax, securities or investment advice or a recommended course of action in any given situation.