Buzzword Alert!

Hedgeweek reported on an expected uptick in portable alpha strategies offered by investment firms and hedge funds. Portable alpha is just a fancy term that ties in with return stacking and capital efficiency. Basically you allocate most of a portfolio to beta, plainer vanilla, not necessarily just Vanguard Balanced Index Fund (VBAIX) but you could and then add some sort of alpha seeking strategy on top of the beta. This typically means incorporating leverage one way or another. 

The old school way to build this yourself would be to use the PIMCO Stocks PLUS Long Duration (PSLDX). It is leveraged up such that it offers 100% equity exposure and 100% long bond exposure. The fund has been around since 2007. Assuming an investor wants long bond exposure (I do not), putting 50% of their account into PSLDX and putting the rest in a cash proxy would equal a full portfolio and a lot of cash to manage sequence of return risk. Obviously this is using leverage but the idea doesn't leverage up really if the other 50% is just in cash.

But this example means that some or all of the "extra" 50% could be deployed across alpha seeking strategies like maybe some sort of stock picking, long short or any number of alternative strategies with whatever amount of money the account holder felt was prudent. 

I went old school with this example, Fidelity Blue Chip has been around since the 80's and client/personal holding Merger Fund has been around forever too. Fidelity Blue Chip is a stock picking fund with a five star rating but it can be very volatile and Merger Fund is long/short of course that trades like an absolute return strategy.

Over the long term, this first attempt does add long term outperformance, compounding 150 basis points better than VBAIX but you paid for it with that max drawdown and standard deviation. Not only is FBGRX volatile but so too is PSLDX. The example explains the concept I believe but this seems like tough way to ride through a market cycle. 

Let's look at a few other approaches.

NTSX is the WisdomTree US Efficient Core ETF. It leverages up in such a way that a 67% allocation equals 100% into VBAIX. Floating rate in this instance is pretty much a cash proxy and QLEIX is an alpha seeking long short equity fund so this portfolio is leveraging up. The second portfolio listed was an attempt to create something that would have the same standard deviation as Vanguard Balanced Index without leveraging up which I then built upon to create the third portfolio. 

Lowering the amount in floating rate did not change the result for the third portfolio so I believe the addition of managed futures for that one is adding portable alpha without leveraging up. The third one has a higher CAGR than VBAIX by a good bit with a standard deviation that is slightly lower. 

The 2022 numbers are pretty consistent with previous blog posts. A major component of the returns here can be attributed to avoiding bond duration. While all these backtests we do look good, if two weeks ago, bond yields started a six month run down to 3%, all the backtests will start to look weak in terms of CAGR. The portfolios we experiment with avoid duration so when duration does well again, all of these idea will probably lag but the standard deviations would probably still be lower. 

The point of this post is not to necessarily try to run this type of strategy but it's a way to look a little differently at how strategies mix together and to create a better understanding of how to use leverage more effectively than just simply leveraging up like you're using margin.

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.