This Is A Full Fledged Panic

Down 8 or 9% in two days is absolutely a panic. It might be justified or not, I don't know and I'm not trying to predict anything but this is a panicked reaction. If you want to call it a crash, go ahead although I don't know if that is the best word. My comment about panic is more about observing behavior that has repeated in cycle after cycle, it doesn't matter to me in real time whether the word is crash, correction or something else.

The selling today is far more of a washing out than yesterday. There were quite a few things on my screen that were up yesterday and that is not the case today. 

That doesn't mean it is over but the washout nature of today is better than if the market panicked higher at the open and then failed. A unambiguously down day coming after another unambiguously down day is a form of capitulation. Well known investor Mohamed El-Erian used the term "necessary and sufficient" on Bloomberg TV this morning. The signs of capitulation are necessary but what we've seen so far, may not be sufficient in terms of having any idea when this event will end. But it will end.

Wading through this sort of thing stinks but the observations in this writeup are based on how previous scary events have played out before. The details are always different. In 2008 people thought the global financial system was going to end. In 2020, people thought the world was going to end. The current event is so illogical that it might not make sense to try to articulate it yet.

Even though the details are different, the market manifestations are always the same. The market goes down a lot, scaring the hell out of people, then it stops going down maybe for no reason at all and then it starts to work its way back up, eventually making a new high. The only variable is how long that all takes.

The worst thing to do in a panic is to go along with that panic. We do not know the duration of this event but we do know the outcome. I've been writing pretty much this same email in event after event for 20 years and it always plays out the same way. It ends and then markets go back up. And I promise you that when this one ends, at some point later there will be another market event with different details but the same manifestations. 

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.

Tough But Fair

Markets got pasted today of course. I saw where this was the worst single day drop since one of the bad days during the 2020 Pandemic Crash. Ok, so a quick reminder that bad days have happened before, obvious statement. There have probably been more truly terrible market days than any of us could possible remember.

I have no idea when this will end, I don't understand the rationale of what is going on and I have no idea if this will be a serious one or be like the one last August which turned out to be nothing. 

People who are selling into this are too late in a way. Yahoo has the S&P 500 down 12% from mid-February high. If the bottom comes down 25% then selling today would look like a good trade but what I mean by too late is that the time to put on defense is when you don't obviously need it or maybe better put, before you need it. 

To the person who sold today, what if today was the bottom? It is far easier to endure these types of events when you don't have to be correct about anything in the middle of it. I sold one stock for clients a long the way closer to election because I was concerned that threatened tariffs would really hurt because they're heavy in Vietnam. The last increase of defense was in mid-February when I bought gold.

I've had positions in various types of alts with short duration fixed income as we talk about here almost every day. Most are doing what I would hope they'd do with managed futures being the biggest let down as we've been talking about for a while and today was a rough one too. The green one is a mutual fund and that is Wednesday's price, while the rest are all managed futures ETFs.

It is empowering to put something in place and see it mostly working, you're not going to bat 1.000 but if your strategy is mostly doing what you designed it to do then you need to mostly ride it out, not that there won't be any other action, it depends on how it plays out. The tough part, arguably tougher than now, will be when to start increasing long exposure. Maybe that means selling SH or maybe it means buying something or both. I've bought panic a few times before but not every time. 

To repeat from past posts though, the mindset should not be you are buying the bottom but that you are buying low and there is a difference. The S&P 500 was at 6000. If you can buy it at 4500, that is buying low, regardless of whether it goes to 4000 before going back up. 

Nate Geraci Tweeted out that "any sort of market, economic, or political “turmoil” offers a window into your financial advisor, portfolio manager, etc…" Tough but fair. If you are an advisor, what are you doing to try to make it better for clients. Hopefully what you are doing to make it better will be effective but at least you're trying. If you're not trying, then what are you even doing? Tough but fair?

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.

Endowments Are Struggling?

FT Alphaville wrote a doozy about The Death Of The Yale Model that included some harsh criticism about the way endowments and similar pools of capital use alternatives. Obviously they've evolved to go very heavy into illiquid alts and from the article, consultant Richard Ennis thinks it's a very bad idea. "Alts bring extraordinary costs but ordinary returns."

"A whopping 65 per cent of the average large US endowment fund is now invested in alternatives of some kind" which might seem like a lot but it's not like this just started last quarter. For the last few years, more than half has been common from my casual observation.

The article noted that "endowments lagged 70/30 indexed portfolio." If stocks are the thing that goes up the most, most of the time and you have more than half your portfolio, or endowment or whatever in something that goes up less than stocks, yeah, performance may not be what is hoped for. 

It wasn't clear to me where 70/30 came from as a benchmark but 80% S&P 500/20% client and personal holding BTAL looks pretty good against 70/30. In the backtest below, the VOO/BTAL combo outperformed 70/30 in eight out of 11 full and partial years.

This entire concept goes back to Jack Meyer who ran the Harvard Management Company and a little more famously to David Swensen at Yale but as the article points out, most investors have not been able to replicate Swensen’s more well known results.

Alts, here the context is always liquid alternatives, are precise tools as opposed to core allocations. Most of the alts we look at here are doing what I would hope they would do which is good although managed futures has struggled due to how choppy some of the bigger markets have been. 

Twenty years ago, yes it has been that long, I blogged about not going too heavy into REITs, MLPs or gold. Then a few years ago when managed futures became popular again, I had the same message, don't go too heavy, you never know when they won't "work." When the current event ends and we move on to the next adverse market event, maybe managed futures will be the star like in 2022 and things doing well now will struggle the way managed futures has been this year. Keep allocations small and diversify your diversifiers. 

Who knows if this will carry over into the regular session tomorrow but it's probably a good time to dust of an important concept. Every now and then the stock market goes down a lot (we are nowhere close to down a lot at this point) and scares the hell out of people. Then, it stops going down and works it's way back to make a new all time high. The only variable is how long that all takes. 

As far as what is going on now and appears to be moving markets, the logic is lost on me but at some point the event ends and the market goes back up.

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.

Why Use Two Funds When You Can Use 18 Instead?

In the last few days, I've had the opportunity to look at a couple of different model portfolios from different places and providers that I would describe as being overly complex. I'm not going to call them out publicly or anything but I think we can learn some things. 

As you can see, there are 18 ETFs in the model and it outperformed by a hair, nothing wrong with that, but it clearly looks identical to the basic two index fund portfolio I used. Managing and rebalancing an 18 fund portfolio for an extra $404.49 for a $10,000 starting point over 7 1/2 years may not be worth the effort. 

Having 50% in one broad equity index fund and 50% in an aggregate bond fund might be too simple but 18 funds to take the same path to the same result doesn't seem like a good tradeoff. A different path, like maybe a path with less volatility, to the same result would be a different story but that's not what's happening here obviously. 

The next one is a little more fun. 

It doesn't go back very far but here is the year by year.

Their allocation works, meaning how much they put into stocks, fixed income, commodities and alts. Even the unleveraged version has done well, about 4% better than VBAIX in just eight months with quite a bit less volatility. 

With their actual model, there seems like there's an element of being too clever by half. It's different than the first example where there are 18 funds to do the same job as two funds could do. The model only has eight funds, I built my versions with six funds which I don't think is a discernable difference but most of the funds they use very complex with a lot of different things going on. 

This is one reason to spend time looking at other people's, in this case, models. There are things to learn or reiterate. When possible, keep things simple. Not everything can be simple. Relative to plain vanilla equity and T-bills, managed futures are not simple. They can be understandable without being simple. 

This second model has way too much in alternatives for me. Yes it has worked, backtest with managed futures often look great, but the consequence of it going wrong would create a mess of anguish for clients, an unnecessary mess of anguish. In this context, we've talked a lot about my preference to hedge a lot of simplicity with a little complexity. If you read about this sort of portfolio construction you might read 60/20/20, stocks, fixed income and alts, or 50/30/20 and others. 

Is 20% in alts a little complexity? That's in the eye of the end user but it is very easy read about a lot of very smart and sophisticated strategies and sophisticated applications of those strategies and go overboard with allocations to these products. I would encourage learning a lot and doing a little. 

Stocks are going to be the thing that goes up the most, most of the time. Let them do the work, let limited exposure to alts smooth out the ride a little bit. 

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.