The ETF That's Breaking The Market

It looks like the ReturnStacked crew is spooling up a fund that will lever up to have equity and merger arbitrage exposure. They wrote an extensive paper about merger arbitrage and toward the end was a section called Potential Applications to Return Stacking. They've done this sort of thing in the process for bringing managed futures and carry funds to the market. 

A few weeks ago, maybe more, they solicited input on Twitter about what exposures investors would like to see stacked in the manner they do with their funds. Quite a few people said managed futures. I'm guessing they looked into it and found compelling backtested results. I might be adding 1+1 and getting eleven with the idea that a stocks and merger arb return stack is coming but it seems like good bet. 

The idea of using their funds to have extra cash in a portfolio is intriguing but it's not always additive. If the Return Stacked US Equities & Merger Arb ever gets listed, it might have symbol RSSM. Merger arb and managed futures are both very useful exposures for how I build portfolios. Below, I'm trying to stack both exposures and then add them in without leverage, both compared to plain vanilla 60/40.

I'm taking a page out of their playbook in terms of using Aggregate Bond Index exposure even though I do not use that in client accounts. They often talk about maintaining 60/40 and adding alt exposure on top to avoid tracking error. I'm pretty sure that is not a good way to frame it, but they do so we're going with that. For the unleveraged version, 48% went to VOO and 32% went to AGG. MERIX is a client and personal holding. 

Both variations of the stack appear to be superior to plain 60/40. Using leverage gives a better growth rate while the unleveraged version gives a much smoother ride. The worst year column in the table refers to 2022 for all three. 

If RSSM (that would be funny if that turns out to be correct) lists and someone wanted to go all in on the ReturnStacked concept, it would be important to count up the equity exposure from each fund to avoid more equities than intended. I worked with 10% to the alts so whatever number someone might want to each alt, that's also how much equity exposure is being added with the ReturnStacked products. 

A couple of paragraphs ago, I said the idea of using the leverage just to maintain cash for sequence of return risk is intriguing but you could also just have cash set aside outside of the unleveraged investment portfolio and keep things much simpler. 

Barron's offered up a brief primer on catastrophe bonds. It's almost a carbon copy of my post from August 9th right down to referencing the far more in depth article by Larry Swedroe. As I said on August 9th, this is a space to learn about. I mentioned three funds in that post, because that's all there is for now for single strategy exposure. The Stone Ridge Hi Yield Reinsurance Risk Premium Fund (SHRIX) and the Embassy Fund (EMPIX) are only available through advisor managed accounts unless there is some random platform out there that I don't know about so please comment with that information. The Pioneer Cat Bond Fund has so many symbols that one of them could be available for retail access, I'm not sure. Of course the Brookmont Catastrophic Bond ETF (ROAR) would be available to retail accounts at the online brokerages if it actually lists. 

Catastrophic bonds don't correlate to anything and the way the bonds are structured, it involves treasury bill collateral and insurance premiums, they don't really take on any duration which means limited  interest sensitivity and the cost to insurance companies to transfer this risk is pretty high which is of course good for the funds. 

The above chart is from that last post too. The decline in late 2022 for SHRIX was the consequence of Hurricane Ian. It took eight months to get back to its highwater mark but there was no disruption to the dividend. EMPIX as a new fund was not fully invested by the time Ian hit so it would not be correct to conclude it came through that unscathed, more like untested. As a note, I am test driving EMPIX in one of my accounts.

I'm developing a bit of an obsession with the Defiance Daily Target 1.75X Long Microstrategy ETF (MSTX). I mentioned it yesterday for having a rough debut not getting close to 1.75X of what Microstrategy (MSTR) common stock did. I looked at it during the day and...

...again, not very close. By 4pm on Friday though it was only off by five basis points. I have no interest in buying this, the fascination is over whether it is too volatile to package into a levered ETF. Katie Greifeld mentioned MSTX in her weekly newsletter. She cited the GraniteShares 3X Long Microstrategy Daily ETP which trades in Europe with symbol LMI3. Greifeld said that with Microstrategy up more than 100% this year, LMI3 is down 84%. Yikes. The common refrain to holding leveraged ETFs is the compounding of the daily reset could cause major problems for periods longer than one day and that is mostly true, a little less so for 2X versions of broad based indexes but they could blow up in the future. The thing I am curious about is whether intraday compounding will be too much for MSTX. No conclusions after two days of course but this thing is wild. 

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