New Year's Eve ETF Spectacular!

Matthew Tuttle runs Tuttle Capital and T-Rex, both ETF providers that offer some interesting thematic and leveraged products. You might have heard about him or his company when he listed an ETF that shorted Jim Cramer's picks and one that went long Cramer's picks. Either way, he sends out a daily email and while his focus is shorter them than we talk about here, there are some longer term ideas thrown in too. Today's email had a look at some fund ideas they are kicking around, here are some that are more relevant to our conversation.

• New ways to generate income. We filed for a slew of cash secured put ETFs but also have something else up our sleeves.
• A no, or little bleed tail risk ETF
• Some new levered and inverse names
• Some new things in crypto

To the first one listed, selling volatility is a valid strategy but tricky as I always say. It is easy to get too carried away with selling vol though. I have one fund in my ownership universe that most clients own that although very far out of the money can still be sensitive to certain types of declines. I can't see ever having meaningful exposure to a single stock covered call ETF that yields 60% for several reasons even though they are fun to blog about. I obviously don't know what Matthew has in mind here but it is very worthwhile to keep informed on how the strategy being bundled into funds evolves. 

If you believe in first responder defensives, then his second point should resonate. The Alpha Architect Tail Risk ETF (CAOS) does a good job managing the bleed that could go with buying puts that expire worthless but I'm not completely convinced about how much it can go up in a broad market selloff. 

New levered and inverse names are more about blogging fun and "new things in crypto" is probably 80% blogging fun, 20% being curious about any asymmetric opportunities that could pop up. 

Since the quarter closed, I wanted to revisit the Tradr 2X Long SPY Quarterly ETF (SPYQ). Tradr also has a monthly version and weekly version. The intension with these is to remove the tracking issue that can go along with a daily reset fund like the long standing ProShares Ultra S&P 500 (SSO). We've been taking occasional looks at SSO for many years and while there should be no assumption of infallibility, SSO stays very close to 2X the S&P 500 for periods longer than a day. 

The first thing is that SSO, SPYQ and the monthly SPYM are all within a few basis points of each other and none of the three were up the implied 6.2% (SPY was up 3.1% implying a 2X fund could be up 6.2%). There is nothing on the Tradr website to indicate that any of its levered SPY funds paid a dividend while SSO had a $0.25 distribution which would nudge up SSO's return slightly. The Tradr funds appear to cost 40 basis points more than SSO.

That being said, using SPYQ to leverage down into a 60/40 portfolio appears to have yielded a better result than doing the same with SSO or just plain vanilla 60% into SPY. The Sharpe Ratios seem to be off so maybe the backtest is invalid. Whatever happened, this first quarter was not a catastrophe for SPYQ. We can circle back again to see how it continues to do. 

The realistic application (that may be a stretch) would not be 30% in a 2X S&P 500 fund because maybe the fund does exactly what it's supposed to do for years and then one day it malfunctions in some unforeseeable way causing serious problems. The context for ever considering these would be like 50% in very plain vanilla with 5% to a 2X fund leaving 5% for some sort of diversifier or maybe playing 40% plain vanilla, 10% in a 2X leaving 10% for diversifiers. 

The ReturnStacked guys updated their model portfolios and I wanted to revisit their ReturnStacked 60/40 that we've looked at several times before. All of the models are behind and advisor sign in so I won't detail what the portfolio is made up of but it is very leveraged in line with their portable alpha research. The model has eight funds in it and it looks like seven of them use leverage one way or another. 

Allocation wise, the portfolio has 62% in equities (about 1/3 is foreign), 50% in fixed income including 27% in intermediate treasuries and 60% in alts including 46% in managed futures. They are able to build the portfolio using leveraged funds including their own. In modeling out ReturnStacked 60/40 to compare it as follows, I switched out ReturnStacked Global Stocks and Bonds (RSSB) for PIMCO Stocks PLUS Long Duration (PSLDX) to make the backtest a couple of months longer.

The limited period available to study with the current portfolio configuration probably reduces the value of the CAGR numbers but there probably is some usefulness from the standard deviation though. Regardless of the leverage, approximately 1/4 of the assets in managed futures will frequently be difficult. Playing around with it, reducing the managed futures from 46% to 28%, which is still way more than I want, would improve the CAGR by 250 basis points. 

I would argue for the relative simplicity of Portfolio 2. I threw client and personal holding BLNDX in there as a stand alone because of its all-weather objective. And BTAL is also a client and personal holding.

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.

"Risk Happens Fast"

The Financial Times did a quick writeup on the Microstrategy ecosystem that looked at the volatility of the common and the great lengths that the 2x funds have had to go to in order to do what they are intended to do. The simple version is the the two 2x funds are so big that counter parties (banks) are not comfortable, or not able, to provide enough the swaps needed to keep up with how big the funds have become. They've had to turn to the options market which, as the article digs into, can be less precise. 

Here's the position run for the Rex Shares 2x Microstrategy ETF (MSTU).

The bottom six positions listed are call options. There are obviously different strike prices and they will all react differently to changes in volatility and the price changes of the common. Today, the common fell 8.19% while MSTU fell 16.40% so if using options to create part of the exposure is a problem, it wasn't a problem today. 

Here's a look at more of the ecosystem versus Bitcoin.

MSTY is the YieldMax covered call fund that tracks MSTR. In the middle of the chart, MSTY went ex-dividend for a whopping $3.08. These are fun to write about in theoretical terms about barbelling volatility and other out-there portfolio concepts but owning these is really a tough way to make a living. I've quoted Mark Yusko, one of the biggest Bitcoin proponents out there, many times as saying risk happens fast. The declines in the Microstrategy ecosystem over the last few weeks versus a 4% decline for Bitcoin, are a great microcosm of that effect. 

A quick pivot to firefighting. We had a legit structure fire on Sunday that required full turnout gear and airpacks (SCBAs). It was a chimney fire that was billowing heavy brown smoke, that's not good, when we got there. Two of us went in and then realized the most effective strategy would be to access the chimney from the back deck. There was smoke and rolling flames visible on the back deck.

We dug into the chimney exterior and then sprayed water up, down and all around in there which worked but it took more than a few minutes. We also hit the roof over the deck, as shown in the picture. That's me in the red helmet. We managed to get the smoke to lessen considerably and go from brown to white (white smoke is much better than brown smoke). 

As this was happening our mutual aid response from two neighboring career departments arrived on scene. They worked to go in through the roof and work interior to actually take the incident from knock down (what we did) to actually being able to call it out. Relative to someone's house catching on fire, it was a big win. 

Volunteering as a firefighter is a great way to do just about everything they talk about for successful aging. If you're actively engaged with a medium or larger sized organization, you are maintaining social relationships. It's actually easier being part of an organization for anyone who leans shy or introverted, it's interaction with a purpose. We have thirty something firefighters, plus board members and other types of volunteers and we also maintain working relationships with the other fire departments and agencies (Forest Service and state forestry department).

Obviously there is the potential for maintaining a high fitness level. Full turnouts and airpack weighs close to 50 pounds. Working hard for an hour wearing all that gear is a great test of work capacity. The rate at which you breath down an air bottle before needing to swap out is another barometer of fitness. If you can work for a while with all that weight and not breath down a 45 minute bottle from 10 minutes are work, that's a good fitness win. 

These sorts of calls for service are a lot of fun for me which is also important. For years, I've described wildland and structure fires by saying you work your ass of for a few hours and accomplish something. 

I would encourage everyone to find some sort of volunteer outlet, all the better if it requires problem solving, social engagement and fitness.

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.

Back To The (Portfolio) Lab Again

Bloomberg has an article that takes a different approach to why bonds with duration are a bad way to go, making more of a fundamental case related to demography causing inflationary pressure leading to higher interest rates from here. If interest rates go up then bond prices will go down as a direct cause and effect. The further out a bond's maturity date, the more sensitive the price is to rising rates. A bond/note/bill that matures in a year or two has very little sensitivity to rising rates. It would take an extreme move up in rates to cause a big move in the price of a two year instrument, very extreme, but if that happened, the time needed to bail you out would be very short as opposed to be far underwater on an issue that matures in 2035 or 2040.

The argument I've been making has been simpler. The 40 year, one way trade is over. Bonds with duration are now more volatile than they used to be and that volatility is less reliable than it used to be making them a less effective diversifier for the equity portion of a diversified portfolio.

The article suggested allocating more to equities, perhaps emulating the Norwegian Sovereign Wealth Fund which the article said is 70% equities, 30% bonds. It also talked about going heavy into some sort of commodity exposure. 

The point from this chart is that no matter what sort of allocation decisions you make with regard to what to do with the 40, as in the 40% traditionally allocated to bonds in a 60/40 portfolio, don't get too far away from a "normal" equity allocation. The Bloomberg article included a couple of quotes about dialing down the equity exposure in retirement which has been the default approach but that chart shows why dialing down is a bad idea. 

The way we've talked about that here is to think about setting aside an amount of cash to correspond to some number of months of expenses you feel comfortable with. This is of course one way to mitigate sequence of return risk. The simplest example would be the person to retired at the end of 2007 and then 12 months later, the stock market was 39% lower. That person would be in some trouble without a cash buffer. With a cash buffer of two years or whatever, that sort of decline doesn't have to derail anyone's retirement plan. I don't think more than three years of planned spending set aside in cash is necessary because of how long bear markets tend to last before starting to recover but there doesn't have to be a single right or single wrong answer. 

We spend a lot of time here trying to explore the what to do with the 40 question. We've generally found several different ways to avoid interest risk and the volatility that goes with it but course that doesn't ensure outperformance. What I believe these ideas do is remove a source of potential negative surprises. I can't imagine why investors, as opposed to traders, would buy fixed income and hope for a lot of unpredictable volatility. Again, we're just removing the volatility.

It is fun and interesting to spend time trying to improve what we've learned so far about what to do with the 40 and I do think there is more to learn. Part of how to go about this is to dig into cross asset relationships and how things blend together.

Portfolio 1, the blue line, combines a couple of negatively correlated fire crackers rife with tracking error yet blending them together looks a lot like an absolute return strategy as captured with the red line. The point is not to mimic Portfolio 1, no one in their right mind should put that portfolio on but the idea is instructive to think about how a fund/strategy that contributes to a bottom line result for a cohesive portfolio as opposed to having a collection of individual holdings that you hope all go up. When I worked at Fisher Investments way back when they talked about having a valid portfolio versus a collection of investments, there's a difference and collections are far less robust and resilient. 

That brings us to an interview with Felix Zulauf in Barron's. As the comments pointed out, he's a perma bear but that doesn't mean there isn't something interesting to pull from the discussion. He talked about the version of the carry trade where you short yen to buy a higher yielding or riskier asset. Specifically he talked about shorting the yen to buy the NASDAQ 100 ETF (QQQ). This can be replicated with the ProShares Ultra Short Yen ETF (YCS) which is a 2x inverse fund. 

The tracking error of YCS has consistently favored YCS which doesn't mean it will continue to do so. Where Portfolio 3 should zero out, it's pretty close to doing just that. In five of the backtested years, the change was less than 1% in either direction but in 2023 and 2024 the net change was in the three's.

The first two portfolios in this next chart show Zulauf's idea exactly as he stated it. The long term result is interesting, for so much in QQQ they have much lower volatilities than I would have guessed. Looking year by year, portfolios 1 and 2 lagged by a lot in 2016, outperformed by a lot in 2022 (by going down much less) and 2023. Portfolio 3 as possibly a more realistic implementation was pretty close to VBAIX most of the time, outperforming by a lot in 2022. 

Digging in a little more on Portfolio 3, I used a min volatility ETF because of the extra beta that the portfolio gets from 20% into QQQ but by removing the fixed income volatility, we can have 70% in equities with less volatility than VBAIX. Between QQQ and YCS, I'm not sure that is a small slice to carry but I think Zulauf's idea helps the portfolio, at least looking backward, especially in the the last four years where YCS was up 22%, 29%, 28% and 23% respectively. If we stop the back test at the end of 2020, Portfolio 3 compounded at 9.64%, 50 basis points better than VBAIX but the standard deviation was only eight basis points lower. Still valid but inferior versus the longer term result that benefited from the recent shocking decline in the yen.

The risk here is that if YCS can go up twenty whatever percent four years in a row, it could go down that much too. There is a 2x long yen ETF with symbol YCL. Subbing that in to get the effect of four bad years in a row...well this result is surprising. With YCL, Portfolio 3 would have compounded at 8.91% versus 8.32% for VBAIX you see above and the standard deviation of the YCL version of Portfolio 3 was 9.74%. YCL was down in those four years, and while it benefitted a little from tracking error, the best year of the previous four was a drop 17.75%. 

The annual returns for both YCS and YCL for the previous four years are huge for currencies. The yen could go on a long run of strength (not a prediction, merely outlining the risk) but that might not hold Portfolio 3 back that much based on the YCL example. 

I am also intrigued by the idea that YCL and YCS, FXY is 1x long yen, appear to have no correlation to equities and a very low correlation to VBAIX which is a proxy for a 60/40 portfolio. 

Portfolio 3 with YCS has some merit so let's compare it how to the type of portfolio we usually build for blogging purposes to see what that looks like. 

The results are remarkably similar. Portfolio 3 sort of blends 1 and 2 together and you can see a slightly higher return with a slightly higher standard deviation.

Today's post doesn't solve anything, it starts something, it starts looking at whether currency can be used as a diversifier. At this point, we don't have an answer but I don't think it's an obvious "no."

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.

Barron's Warns About Bonds

Barron's has a couple of different articles about trouble ahead in the bond market (longer duration) and what to do about it. This is right in the strike zone of what we talk about all the time here. At the start of the year, there were a lot of calls to buy further out the curve because with all of these Fed cuts coming, rates were going down they said. There turned out to not be that many Fed cuts and bond yields have churned around quite a bit with the 10 year treasury peaking at 4.9% in October 2023, bottoming out at 3.6% in September of this year and currently sits at 4.61%.

Unlike iShares bond ETFs which target ranges of maturities, the US Treasury ETF suite target just a single year, including the US Treasury 10 Year Treasury ETF (UTEN). The chart compares to iShares 10-20 Year Treasury ETF (TLH).

The chart tracks from when the yield on the ten year bottomed out in September. A one percent increase in the yield with this sort of maturity is going to result in a large price decline. My assertion has been that retail investors want bonds to kick off an income stream without moving in price and that is not what you get with this sort of ETF.

From its all time high in July 2020, TLH is down 41%. The price might literally never recover. I don't see how it can get back to that level unless the ten year's yield goes back to 58 basis points. I don't know what interest rates will do but going below 2% ever again seems like an incredible long shot. If rates go up then the current 41% decline from the peak will get worse. Even if you forget about the past, I'm saying that from here, if rates go up then funds like UTEN, TLH and the others will go down a lot more. Taking on that risk to get a yield in the mid-fours makes no sense to me. 

If Torsten Slok from Apollo is right, it might get worse causing a 2022 repeat for 60/40 portfolios. In what amounts to a long Tweet, here's what Slok said.

As opposed to trying to support or refute Slok's argument, I think it is more productive to make sure the portfolio is resilient in case things shake out exactly like he says or if he's right for the wrong reason. He thinks rates across the curve are going up. Who knows if that will be right but avoiding bonds with duration mitigates this threat. 

If 2022 actually repeats (it won't be exact even if 2025 is a lousy year), swapping out the AGG-like exposure for T-bills back then and doing nothing else would have reduce the decline by 652 basis points.

There are plenty of fixed income segments that trade very similarly to T-bills as well as alternatives that are fixed income proxies. If you use alternatives though, diversify your diversifiers in case something goes wrong with one of them. From there, adding just one reliable first responder defensive can help. Think of the equity portion of your portfolio as 100% (not of your dollars, just whatever dollars are in equities). If you took 5% of the equity allocation and put it into an inverse index fund, it would actually lower the net long exposure to 90%. There would be 95% in equities with the inverse index fund directly offsetting 5%.

This second step gave a 181 basis points improvement over S&P 500 plus T-bills and the decline is about half the decline of VBAIX which is a proxy for a more traditional 60/40 portfolio. The odds of your portfolio not going down at all in a down 20% world are not very good. The way we used to frame this for blogging purposes was that we're trying to avoid the full brunt of large declines.

What we've described is reasonably simple in terms of portfolio holdings. When to implement these tweaks is more difficult. Assuming you're not buried in longer term bond funds or individual bonds, the decision to shorten duration is less difficult. Just do it. If you are buried, well thankfully I'm not in that position. If it's individual bonds, time will bail you out eventually. If bond funds, like we mentioned above, they might never come back. For the stock component, there are many valid ways to tell you when to reduce exposure using moving average studies, again our example was swapping just 5% out in favor of an inverse fund. Don't emotionally bank on your indicator being the single best one that takes you out at the very top. That might be the case but probably not. 

Just a little more context here is that yes, many indicators can convey greater risk in equities, equities might keep going up anyway. As noted above, small tweaks can go a long way to improving performance without causing the portfolio to completely sit out a large rally.

Yes, an inverse index fund could have a tracking problem but -1x S&P 500 has a decent track record for staying close, you could use client personal holding BTAL instead.

If you go narrower than broad based index funds and you can find a stock that you think functions as a reliable first responder the way I do with client/personal holding CBOE, then that would hopefully help too. We haven't even talked about 2nd responders like managed futures but as a follow up to the other day, this is much closer to simplicity hedged with just a little complexity. 

There was an ETF filing for the Strive Bitcoin Bond ETF. The short version is that it will buy Microstrategy convertible bonds. A little more detail is that the fund can use swaps and options to create the exposure in addition to the actual convertibles. The fund will also be able to hold convertibles from other companies who do the same strategy of issuing convertibles to buy Bitcoin. 

I don't believe Microstrategy has any connection to Strive but the fund would seem to be creating an outlet to place more bonds. Who knows where a saturation point of demand might be for these converts but a fund that allows access for retail investors to something where there previously was no access will probably attract assets. 

That doesn't mean anyone should buy this fund if it ever lists however. The bonds have no yield. The strategy of issuing converts with no yield to buy Bitcoin has been "working" because Bitcoin has been going up leading to Microstrategy going up even more in percentage terms, because it is a leveraged Bitcoin play, which draws in more buyers as the price goes up. If it's not a pyramid, I don't know how it's not a pyramid. Anytime Saylor describes it, he is always fast talking and very jargon heavy with at least one term he made up; Bitcoin Yield. There's no scenario where I want any part of the Microstrategy ecosystem. 

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.

Boxing Day ETF Spectacular!

At the start of December, Simplify ETFs listed the Simplify Gold Strategy PLUS Income ETF (YGLD). It is in part a proxy for gold with derivative income strategy overlay. At the moment, most of option positions are short put spreads on some broad indexes as well as MicroStrategy (MSTR). 

With this sort of multi-asset/strategy fund it would make sense that a prospective investor would expect that it will be a proxy for the underlying, gold in this case, to at least some extent. If YGLD looks exactly like gold but with a high income overly then maybe a small piece of a gold allocation to YGLD would make sense. But looking exactly like the underlying isn't realistic. Where most of the options are index options, that should mean most of the income is 60/40 but check with the fund company. If YGLD looks nothing like gold, what does it look like and does what it looks like have a place in a diversified portfolio? 

With less than a month under its belt, I'd say it certainly has resembled the GLD ETF (pink line) with more volatility in both directions but it is way too early to draw any conclusion. 

A similar product is the Simplify Bitcoin Strategy PLUS Income ETF (MAXI). I have a small position that I have been test driving for a while. MAXI's put positions are very similar to YGLD but not identical. 

On a total return basis, MAXI is pretty close to underlying Bitcoin through the end of November, you can decide if it's close enough. On a price basis though, YTD Yahoo Finance has Bitcoin up 133% versus 49% for MAXI. Is that close enough or should MAXI be thought of as a proxy for something else? As I've mentioned before in talking about very high yielding derivative income fund, I have been reinvesting MAXI's dividend.

The argument for YGLD is not yet apparent. The argument for MAXI is that there is some upcapture compared to Bitcoin. Some sort of combo of Bitcoin and MAXI heavily favoring plain Bitcoin could be a way to squeeze some yield out of an allocation that doesn't otherwise have yield. In terms of barbelling yield like we talked about the other day, MAXI seems to do that and YGLD might have the same result. Here's how barbelling a small slice into MAXI with T-bills as an income sleeve looked.

Dividends are not reinvested. Below is the income they each produced.

The 95/5 blend is intriguing. It produced a yield of 6-7% in a 4-5% world with only 5% exposed to risk assets. The risk here is Bitcoin cutting in half, or worse, again. A 60% decline in Bitcoin might result in a 3% drag on the portfolio which could possibly be offset by the fund's income. If that big of a decline happened to Bitcoin at the same time as some sort of meaningful stock market decline, the impact should be worse as selling put spreads is a bullish strategy that would be adversely effected by a crash.

The MAXI example is flawed because despite the "78% distribution yield" per the website, the fund is up on a price basis. I would not expect that most of these can stay ahead of their payouts. Barbelling like this can still work by reinvesting a portion to buy more shares. And of course this may not be attractive from a tax efficiency standpoint for a taxable account and if the payouts from the fund(s) you choose are taxed as ordinary income. 

The other day, we looked at a couple of off the wall alternative assets including music royalties and we looked at the Hipgnosis Song Fund. A buddy told me about another music royalty fund that still trades.

It's so small that I'm not going to name it to avoid pumping, not even a micro cap or a nano cap, this thing is like a pico cap (had to look that one up). It has a high yield which makes sense and a negative correlation to the S&P 500 but the volatility is surprising. From the start of the backtest, through 2021 it had five years of huge outperformance. In 2022 it fell a little more than the S&P 500 and has lagged the previous two years. 

The behavior of this pico cap fund is intriguing enough for me to want to be on the lookout in case something like this that is more investable ever comes a long. It's worth learning a little about in case this space ever evolves. As I mentioned the other day, people are making money in this space and it is getting bigger, Pink Floyd just sold its rights to Sony for $400 million. Securitizing a portion of that along with royalties from other artists doesn't seem like that far of a stretch none which means it must be a good portfolio holding, I don't know yet and that is probably several years off if ever. If you're playing the long game and are naturally curious, I would keep tabs on this space. 

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.

Christmas Eve Retirement Planning

Yahoo had an article "what to do with your retirement savings in a market selloff." It's a timely article as the FOMC news sent the S&P 500 careening down to levels not seen since November 15th. Yes, I am being snarky. Paraphrasing Cliff Asness, if your retirement plan is thrown into upheaval when the stock market goes down 3%, you might want to rethink your retirement plan. 

To address the premise of the Yahoo article, this is an asset allocation question. If you have the correct asset allocation, there's probably nothing to change in the face of a 3% move in the stock market, regardless of direction. 

Where we're talking about retirement and every so often I share details of our (my wife and me) planning process. I'm coming up on a milestone age kind of soon, soon enough to impact my planning for 2024 and 2025. 

I'm a huge believer in being prepared in case things go unexpectedly sideways from what you had in mind. We've all seen countless articles about people being forced out of work in their 50's due either to company issues resulting in a layoff or the like or some sort of health issue being the cause. Not everyone in their 50's will be able to find work that reasonably replaces their income. In terms of you gotta do what you gotta do, if that means taking some sort of work for half the pay to make ends meet, ok do it. 

For quite a few years, I talked about our trying to build up our savings outside of retirement accounts in case somehow my hand was forced in some unforeseeable way in my 50's which almost happened. At 50 years old, you're 9 1/12 years from being able to access IRA money without a penalty. Obviously the context here is some sort of unexpected outcome and hopefully avoiding being forced to access retirement money early. If something bad does happen but you can avoid the 10% penalty of taking money out before 59 1/2, that's a small win. Yes, there is a thing called a 72T distribution but there are restrictions and complexities.

If something came out of left field, we have enough savings in taxable accounts that would last quite a while especially considering we have decent income from our rental. One important point is if you find yourself out of work and living off of savings meaning no earned income or very little earned income, health insurance through healthcare.gov will be very inexpensive. 

At this point, I am 10 months from 59 1/12. For most of my 50's, we did build up non-qualified savings. With 10 months to go before accessing IRA money without penalty, if something bad happens after 59 1/2 and there is no penalty to access IRA money from that point on, there is a strong argument to plow as much as you can into some sort of IRA/401k. At 50 or 55 I would say no but at some point when 59 1/2 gets close, go heavy into IRAs. If you contribute money at 57 or 58 or 59, you're obviously deferring taxes. If you need that money unexpectedly at 62 for example, yes you would pay the tax to get it out but if you don't end up needing to access that money, the tax can be deferred until you have to start taking it which for now is 73. 

Part of making this decision is to understand whether you might have a higher income when you retire. I would suspect that most people reading this are in the 22% bracket or the 24% bracket. The 24% bracket, married filing joint will top out at $394,000 in 2025, the 22% bracket will top out at $206,000.

What are your sources of income likely to be at RMD age? For me

• Social Security
• RMD
• Rental Income
• Reduced Investment Management Income

The Social Security Administration wants everyone to know their expected benefit. Factor in a benefit cut if you think that is prudent. If you're IRA is $3 million (Bitcoin would have to do something miraculous for that to happen to me) your RMD would start pretty close to $110,000. How big do you think you IRA will be at 73? Spreadsheet it out. What is a reasonable expectation of your RMD amount? We have rental income that I can't imagine growing by more than 50% by the time I'm 73. I don't spend time soliciting new business for my practice, I get a referral every so often or a blog reader, and I am younger than most of my clients so there is a path to a considerably smaller practice in my 70's. If the incident management work ever happens, I probably would be done doing that past RMD age. Do you have other potential sources of income? If so, try to quantify them. 

I make a fine living but there is no reasonable scenario where I will be making more after I retire. Anecdotally, that is a very rare thing but figuring out where you fall in this regard is important. If I knew that some $250,000 gig was waiting for me at age 70, that would kick me into another bracket and I'd be less aggressive with 401k contributions because reducing RMDs would be important if possible, I'd be paying less on what I earn now than what I'd be paying later in that scenario.

For anyone who really does find themselves with a tax problem due to a high retirement income (expected or unexpected), qualified charitable donations can help. Annual donation limits are $105,000 and they can satisfy the RMD burden. Another way to reduce the RMD burden is with a qualified longevity annuity contract (QLAC). Yes, it's an annuity product so it probably expensive and complicated, far more so than QCDs (QCDs don't cost anything and brokerages like Schwab and Fidelity will know how to process them). Despite the expense and the complexity, there will be some people for whom those tradeoffs with the QLAC are worth it to pay less in tax or at least defer it. A QLAC, current limits are $200,000 per person, allows for deferring the RMD on the money invested to be deferred until age 85.  I have one client who has been doing QCDs for a long time and since I am not licensed to sell insurance products, I've never had a conversation with a client about QLACs. 

A little context about the RMD table is that around 93 or 94, the RMD percentage reaches 10% of the account balance. Anyone lucky enough to live that long combined with one of those scenarios where market growth combined with a low withdrawal rate could have more money at 93 than they did at 73 could wind up with "too much money." Maybe at 73 this person had $1,000,000 in their IRA and back then their RMD would have been $37,000+/-. In the circumstance I just spelled out, at 93 they could have $1,200,000 with an RMD of $120,000. 

For our own situation, if somehow my wife and I end up "burdened with too much money," I imagine we'd go heavy with QCDs to Walker Fire (my volunteer gig) and United Animal Friends (her volunteer gig). 

Since I haven't mentioned it elsewhere in this post. I'm not a huge fan of Roth conversions for the simple reason that not too many people will be in a higher tax bracket when they retire. Ed Slott (Google him) feels otherwise if you want to find his argument and decide for yourself. Of course, if you find yourself with no earned income or very little and can convert for free or at a very low effective tax rate, it makes plenty of sense. 

In your 50's, I don't think you need to have it all figured out but it will makes things much easier to have it somewhat framed out, that is a general framework of what you expect for income sources, rough estimate of savings, how you'd spend your time, an honest look in the mirror about health prospects and maybe most important is the ability to Plan B or otherwise adapt if some part of your plan doesn't go as expected. That's all probably relevant for other ages too.

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. 

A Panic Sale Waiting To Happen

This is a little bit of a follow up to yesterday where I mentioned the Global Asset Allocation as mentioned in a paper by Meb Faber. Today, Meb Tweeted out a reference to the Atlas Lifted report from Robeco which references a similar idea, the Global Market Portfolio which is allocated as follows.

I was able to find this version of what Meb was talking about in his paper. Meb's GAA includes commodities which are conspicuously missing from Robeco.

The overlap with yesterday's post is to reiterate the extent to which broad based diversification has lagged the S&P 500 for an extended period. 

I built out the following to replicate the Robeco allocation, GAA by Meb and then a portfolio consistent with yesterday's post about setting without completely forgetting. 

BTAL is a client and personal holding. And the results compared to the S&P 500.

Comparing a multi-asset portfolio against 100% equities is obviously not an apples to apples but the context is the frustration that sets in when a valid asset allocation can appear to struggle so much on a relative basis. "Well, why I don't I just buy the S&P 500?" 

Part of the lag of the two global allocations is they are both underweight equities versus something like the Vanguard Balanced Index Fund (VBAIX) which is a proxy for a 60/40 portfolio. For the above backtest, VBAIX had a CAGR of 9.01%, standard deviation of 10.58 and a Sharpe Ratio of 0.69.

An investor going through some sort of process that determines that 45% equities is right for them is going to be bummed out when stocks go up a lot. An investor who goes through some sort of process that determines 85% equities is right for them is going to be bummed when stocks go down a lot. 

Now layer on top of that the machinations of what is driving the S&P 500 lately as shown below.

That's not quite a Mag 7 chart but the signal is similar. The market is distorted. That is not unprecedented but history shows that chasing these sorts of distortions ends badly. 

RSP is an ETF that equal weights the S&P 500, GSPC is the S&P 500 Index which is of course market cap weighted and MAGS is an ETF that just owns the Magnificent 7 stocks. The MAGS are driving the S&P 500. As big as the gains have been for MAGS, think back to the summer where you can see that decline. From mid July to the bottom of that dip, RSP fell 3.2%, the S&P 500 fell 8.4% and MAGS fell 18%. Having an allocation to something that moves like that makes sense in the context of constructing a diversified portfolio but going heavy into that sort of volatility is a panic sale waiting to happen. 

Going back 24 years, VBAIX compounded at 6.99%. $10,000 invested on November 30, 2000 would have grown to $50,820 according to testfol.io. That result, combined with an adequate savings rate and no panic selling along the way is enough to get the job done. VBAIX is far from optimal in my opinion but it still can get the job done. For plenty of people, the 6.45% backtested with the Robeco portfolio can get the job done. The important thing is remembering that is you have built a valid allocation strategy with weightings chosen to meet your needs, that's going to get the job done over a longer period even though it will absolutely frustrate you here and there over shorter periods. 

The Invesco S&P 500 Momentum ETF (SPMO) always backtests well but I can almost promise you that going heavy into that one alone will lead to two or three different occasions out in the future of "Goddammit, why do I own that fund?"

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. 

Set But Don't Forget

We're going to cover a lot of ground with this post. We'll start with a paper from Cambria with the amazing title of The Bear Market In Diversification. The TLDR is that the basic building blocks for how to build a diversified have lagged badly behind the S&P 500 for a long time causing frustration for some investors. Here's a great chart to illustrate the point.

GAA stands for Global Asset Allocation and it has been lagging for 15 years. The other thing that stands out from this chart though is how much smoother the ride is for GAA. GAA consistently had smaller drawdowns. It's not quite apples to apples because GAA includes bonds but the point of frustration setting in when doing the "right thing" lags for an extended period. 

That leads to a Tweet from Krishna Memani who worked at Oppenheimer for a long time and who has been running the Endowment at Lafayette College since 2020.

Cliff Asness retweeted it and chose rhetorical violence in taking Memani down calling this a "stupid argument." Cliff goes on to ask "do you actually think just doing what’s worked better over the last 30 years automatically is what will work better going forward?" Of course that is what diversification is all about. There's no way to know what happens next, what will lag or what will do very well. Diversification offsets the consequence of guessing what will work and being wrong. 

We spend a lot of time here on how to diversify to try to smooth out the ride and how to hold up better when markets have a year like 2022 or 2008. For us, that includes alternatives. Barron's had an article about alternatives sought by the "super rich." Kind of what we talked about Friday, these ideas are expensive and create a sense of exclusivity which I would avoid but where part of the story is trying to find uncorrelated return streams, maybe it's worth spending a little time learning about the exposures.

Included in the article were aging whiskey which I don't what that is, like maybe something to do with leasing the barrels? Another one was music royalties. Hipgnosis Song Fund traded in London for a while before some sort of buyout.

If another music fund ever lists, I'm not sure Hipgnosis' results would cause some new fund to automatically be a buy but people do make money in this space. I can believe that the royalty stream could be uncorrelated but that doesn't mean a publicly traded fund would trade in line with the royalty stream.

There were a couple of other ones mentioned including parking lots. We all know someone who has said "parking lot's are cash cows." I found one stock that is a parking lot business, Mobile Infrastructure Corp (BEEP). BEEP came about from a SPAC deal and for now, it is a REIT that pays no dividend. It has mostly trended from the upper left, to the lower right before rocketing up by 50% in the last couple of weeks perhaps thanks to a refinancing package. 

From my perspective, there's no reason not to learn about these things even if there's no catalyst to ever step in but one of them could turn out to be the next catastrophe bond fund (I'm saying that as a positive as I have begun moving clients into that space).

Also from Barron's an article about to how to prepare for a potential uptick in stock market volatility. The article was so empty, I'm not even going to link to it but there were two comments to mention. One said to just buy a low volatility fund and another said to sell call options. 

This brings us to the heart of today's post about trying to build a set but don't completely forget portfolio. The first part is the core of the idea which is broad based equity beta. It almost doesn't matter because whatever you choose is going to be suboptimal 2/3rds of the time if not more. To the above paragraph, low volatility and covered call funds will be suboptimal more than 2/3rds of the time. That doesn't mean they are invalid for every investor's circumstance. 

We've looked at some covered call funds that really don't capture any upside. If you want or need some market upside, don't buy a fund that's never had any. Market cap weighting is probably the simplest way to go, it certainly will get the job done assuming no panic but it will often be suboptimal versus other ways to access the broad market including momentum and quality, there was a time where equal weight and buybacks had decent runs outperforming. Some sort of all world proxy fits the bill too. 

I would not pick value as a proxy for broad based equity beta but not because it has underperformed for so long. Well sort of due to the underperformance. Where growth has been so dominant, I could see the tables turning to favor value for an extended period and if you are on the wrong side of that you could end up getting left far behind or compounding the problem by switching at the wrong time. I think it's just simpler to avoid this decision and go with a broader exposure for broad based equity beta.

The next allocation in this set but don't completely forget is a first responder type of defensive. This can be anything that reliably goes up when stocks go down. For me this is AGFiQ US Market Neutral Anti-Beta ETF (BTAL) which is a client and personal holding. In the models below, every back test has a 5% weighting to BTAL. I don't think a huge weighting to a first responder is crucial. This slice of the portfolio will go down more often than not, it is a tool to smooth out the ride.

Next up is an exposure to second responders like managed futures, long/short, gold (commodities) or some sort of macro strategy. Ideally this sleeve would have a low to negative correlation to equities but might not necessarily go up on a day like last Wednesday. The idea is that these can go up over slower, more protracted equity market declines.

The last slice would be horizonal lines that tilt upward. This could include arbitrage, catastrophe bonds, floating rate, even T-bills as examples. 

• Broad based equity beta 65%
• First responder 5%
• Second responder 10%
• Horizontal line that tilts upward 20%

Conceptually, this is not that far from 60/40. The first responder exposure allows for increasing the equity exposure as a form of leveraging down as we've described it before. All the models below have the above weightings but I bet 70% equity would work too. 

Referencing the weightings above, all of the portfolios have 65% in equity beta. Where equity beta is the driver of returns, I've labeled the portfolios accordingly. They all have 5% in BTAL and for the second responders and horizontal lines that tilt upward I'm using different ones in each portfolio. The names don't matter too much but you can play around with those yourself. 

Yes the ACWI version lagged by a good bit but had the lowest standard deviation so that's something but that doesn't translate into a better risk/reward as measured by the Sharpe Ratio. Foreign will outperform domestic as some point. Buying ACWI now is a bet on reversion to the mean. Early on, the MCW and Quality versions outperformed VBAIX slightly, probably just due to having a little more equity exposure and all three of them significantly outperformed in 2022. 

In should not be surprising that the minimum volatility version has less volatility and a lower return. The min vol version was only down 1.76% in 2022 which is fantastic but the tradeoff is years like 2020 when it was up 85 basis points while all the others ranged from up 10.83% to up 17.90%. The min vol version is valid longer term but 2020 would have been a challenging time to hold. 

The final ones attempt to diversify some of the idiosyncratic risk of just using one factor or one second responder and so on. Northrup Grumman and CBOE are client holdings. We've mentioned those two names in this context before because they have some first responder traits. 

The version with momentum had the highest return by quite a bit. Market cap weighted plus NOC and CBOE had the second best return but had the best Sharpe Ratio. A couple of them lag performance-wise but that tends to coincide with less volatility too which is a decent trade off. 

A key point of understanding that will become apparent if you play around with the ideas yourself is that anything that you would gravitate to would be suboptimal more often than not. The equity factors tend to take turns having the best performance. A first responder defensive is going to go down frequently. Some will have more bleed than others but if you're first responder is leading the portfolio, chances are things aren't going very well in the world. Second responders can provide long periods of frustration. Looking at the history of a backtest is different than enduring a dry spell. Managed futures is a phenomenal diversifier but has been in a funk for awhile. The current funk is nowhere near as long as the languishment of the 2010's though. 

Where we allocated 10% to second responders, only one of the models has all 10% in managed futures. In real life, I don't have that much. When managed futures was enjoying its 2022 glory there were of course many calls to put huge weightings into managed futures which is a behavior we've seen before with MLPs and REITs before the Financial Crisis. A couple of managed futures funds are doing well this year but trying to guess which one will be the stand out is difficult to do and if you split 20% of your portfolio between 5 of them, you'd probably feel the same frustration of owning just one that was languishing. 

The portfolio above that I called blending three funds for each category except BTAL and adding NOC and CBOE has 12 holdings. Adding some asymmetry would add one or two more to that number. It would be easy to shave one or two off in the broad based equity beta sleeve but I think diversifying your diversifiers for second responders, if the weighting you choose is large, and horizontal lines that tilt upward is important in case something goes wrong. Where just 5% is allocated to a first responder, I believe there is less need to diversify that sleeve. 

One last thought before closing out. Where we've been talking about a portfolio that has four quadrants, that seems sort of Permanent Portfolio-ish. Let's move a little closer to that idea by equal weighting broad based equity beta, second responders and horizontal lines that tilt upward. We'll keep BTAL about the same. 25% in BTAL would pretty much neutralize the equity beta. Two different versions;

 MERIX is a client and personal holding. 

They both look pretty good but if we stop the backtest at yearend 2021, they both lag VBAIX by 350 basis points annually. 

Where I called this set but don't completely forget, there would be work to maintain those general weightings.  If some sort of asymmetry like Bitcoin was added and started to pay off though, I would let that grow without rebalancing. Chances are anyone taking on this on would also want to have some sort of cash bucket too.  

Does any of this meet the burden of simplicity hedged with a little bit of complexity? That might be a push if 35% of these portfolios are in various products that offer alternative return streams but maybe we can get there in a subsequent post.

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. 

Zweig Weighs In On Complexity

Earlier this week, we took a very quick look at the new ReturnStacked Bonds & Merger Arbitrage ETF (RSBA). In support of the launch, they published a paper looking at adding alts in to the bond allocation to improve overall results. Of course they looked at alts for which they have funds, bonds with managed futures (RSBT) which is their oldest fund, bonds with carry (RSBY) and the new RSBA. The odds of learning from their research are always good. 

I've been skeptical of the premise of leveraging up to add exposure to alternative strategies. The idea is innovative so it's worth trying to figure out how they could help. 

I am using DBMF for managed futures for this post because it uses a replication strategy which is what RSBT does for managed futures. RSBT uses AGG for bond exposure. No one is going to put 100% into RSBT but that sets the table for how the fund as done. 100% AGG/100% DBMF should be a reasonable comparison, again no one allocates this way but it is a simple comparison. 50% RSBT/50% cash is unleveraged, that might fit the bill of leveraging down to collect extra interest which can be valid in certain instances.

The next two screenshots take several different approaches to trying to work RSBT into a portfolio to try to make it work.

Between all the variations I could think of I couldn't get to a compelling outcome, if there is a another approach that will cast a better light, please leave a comment. 

Kind of related, Jason Zweig wrote an article about what I'll call the dark side of alternatives. Here's a list of some of what Jason is talking about in his article.

investments with “guaranteed” yields of 15% or more that evaporated, now being investigated by federal and state authorities;

“interval funds” that charge lavish fees but let you take money out only a few times a year;

illiquid portfolios that sometimes do change hands—for 75% or less of their reported value;

funds purporting to offer high returns at impossibly low risk; 

nontraded companies that don’t even exist claiming to have sold more than $344 billion in imaginary shares;

brokers hawking illiquid shares and debt in companies they control, without disclosing their conflicts of interest;

private real-estate funds that lock money up and open the door for only a fraction of investors to sell at a time.

First, hopefully it is clear that any alternatives we talk about here are ETFs or mutual funds, accessible through brokerage accounts without any sort of lock up or gating. Part of the story with any alternative is the complexity of the strategy or exposure and whether it is worth it. Something that creates a sense of exclusivity like including the word private is certainly something to ask questions about and I would say avoid. 

A couple of the mutual funds in my ownership universe are only available through an advisor which I am not crazy about. The general idea with that restriction seems to be the belief that do-it-yourselfers aren't sophisticated enough to understand the exposures. There are plenty of advisors not "sophisticated" enough to understand the exposures. Puh-lenty. 

For my money, a limited exposure to alternative ETFs/mutual funds is the way to go. I've invested a ton of time trying to understand a lot of these types of funds, allocating to a few to help smooth out the ride. Repeating for emphasis from countless other posts, to the extent you even believe in alts, they should be used in moderation to help manage equity volatility. Equity is the thing that goes up the most, most of the time. A portfolio consisting of a lot of alternatives, hedged with a little equity or put differently, a portfolio with a lot of complexity, hedged with a little simplicity is likely to get left behind. Quite the opposite of seeking outperformance, I expect the alts to go up less than equities or go the opposite direction which can mean going down. 

We spend time here dissecting things like RSBT trying to find whether that form of complexity can actually help. Their stock and managed futures product might be more effective but I am not seeing it with the complexity of the bonds and managed futures product. 

Closing out on the Zweig article, read the comments. Always read the comments. 

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. 

Did Anything Work On Wednesday?

 First, I wanted to recap how a few pockets we look at regularly here did in Wednesday's carnage.

The first group are permanent-ish portfolio funds. I am including HFND here but thought of it after the fact. For what it's worth, Vanguard Balanced Index Fund was down 2.17%. The FIRS number may not be accurate because the last trade was right before the Powell presser. I bought a few shares of FIRS out of blogging curiosity, not to buy for clients. It may or may not turn out to be a good representation of the Permanent Portfolio but I'm not worried about it blowing up.  

Next up are a few YieldMax fund with their reference securities. They YieldMax funds did go down less but they still took on plenty of downside capture.

A couple of indexed based derivative income funds. ISPY is one I own too, it was spared just a few basis points in the decline. With less dramatic declines, ISPY usually holds up better than the index. WDTE sells put options. I'm not sure about WDTE specifically but PUTW which also sells puts has had mixed results with going down less. In the 2020 Pandemic Crash, PUTW went down in lockstep with the S&P 500 but in 2022 it was only down 10% versus 18%.

Client and personal holding PPFIX which also sells puts got hit pretty hard. They emailed me first thing this morning. The huge spike in the VIX required them to mark a couple of positions to market that they believe will self correct (snap back) quickly. We'll see. A smaller portion of the drop was attributable to their risk management process dictating the sale of a "couple of positions." This is a perfect example of why you diversify your diversifiers. I would reiterate that the spike in VIX yesterday was huge. 

The next batch are horizontal lines that tilt upward. MERIX went ex-dividend, the fund was actually unchanged. It goes ex on the third Wednesday of December every year. These all did what you'd hope they would do but again, there can be no assurances. MERIX and EMPIX are in my ownership universe. EMPIX is due to go ex-dividend today.

Managed futures were a mixed bag yesterday. The standalone fund I use did relatively poorly but was down much less than the S&P 500. Not calamitous but not great either. This is another example of why you diversify your diversifiers.

Invesco S&P 500 Momentum (SPMO) was down 3.2%. We don't talk about the quality factor much but the GMO US Quality ETF (QLTY) was down 2.6% and the Invesco S&P 500 Low Volatility ETF (SPLV) was down 2.05%. And of course Bitcoin got hit hard and is still struggling today.

Finally, a follow up on the GraniteShares YieldBOOST TSLA ETF (TSYY). The fund sells puts on TSLL which is a 2x long Tesla ETF but TSLL is not a GraniteShares product, TSLL is a Direxion fund. The GraniteShares 2x TSLA fund has symbol TSLR. GraniteShares also as a 1.25x TSLA ETF with symbol TSL. TSLL has far more volume than TSLR so kudos to them for going for what is probably a deeper market with TSLL.

The holdings for TSYY were posted this morning. With TSLL in the mid-$30 most of the day yesterday, before Powell, TSYY appears to have sold puts at $28.06 that expire on January 3rd but please leave a comment if you read that differently. Those puts would be assigned below $28.06 or expire worthless (that's what you want to happen when you sell puts) if TSLL stays above that price. 

Here's what's happening today in the TSLA complex.

If the YieldBOOST funds can live that far out of the money then some sort of barbelled fixed income strategy as we discussed yesterday seems less crazy but the dividends will still be ordinary income.

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.