"Things I Think I Think"

There's an idea that if you can't argue the other side of what you believe, that you don't really understand what you think you believe. As a dumb example, I am a lifelong Celtics fan. Are the Celtics the greatest team ever or is it the Lakers? I think I can make the argument for the Lakers despite believing the Celtics are the greatest team of all time. 

Sort of related, Cullen Roche regularly blogs 3 Things I Think I Think which is an outlet for him to challenge his beliefs. 

On Friday, I listened to the Trillions podcast. Matt Kaufman from Calamos was the guest and the primary topic was the Calamos Autocallable ETF (CAIE). I wrote about CAIE a couple of times and those posts were some combo of being skeptical and negative. So far though, the fund has done very well. Despite paying out just over 1%/mo, the price has mostly kept up with the S&P 500. 

The product is complex. Listen to the podcast to hear Matt explain things but basically, the S&P 500, as the underlying reference security would need to fall 40% for there to be problems. That doesn't happen very often.

The S&P 500 is the reference security but CAIE targets a volatility that is about double the S&P 500. That sounds scary but the fund is comprised of 52 different autocallables such that one matures every week and get replaced by one maturing later. 

The distributions are allowed to be taxed as return of capital. You'll find differing opinions on that but I think it is a positive. The distributions lower your cost basis so there will likely be capital gains tax due when shares of CAIE are sold. 

I have a theory about how CAIE can keep up with the S&P 500 on a price basis despite having a large distribution. The higher volatility (which I am saying is essentially 2X leverage) allows one X to be the price appreciation and the other X to be the distribution. This does create a path to drawdowns being larger which you can see in a couple of instances on the chart. If the S&P 500 drops 40% from when CAIE was priced (if I understood Matt correctly) the distributions will be suspended until the S&P 500 gets back above the 40% decline line. 

Many times before, I said something like if a product yields 8% in a 4% world, there is some element of risk. That isn't necessarily a bad thing but I think you need to understand the risk you're taking.

I don't own CAIE anywhere. To be direct about it, I do not yet understand the risk, I'm not sure what can go wrong beyond the 40% decline suspending the distributions. If the S&P 500 falls 25% and lingers down there for an extended period, I would expect CAIE's price to fall a lot but the distributions would continue to flow. There might be counterparty risk with JP Morgan who is on the other side of the autocallables.

This is worth learning about, I may never connect on this, we'll see but these are interesting to me intellectually if nothing else which is a challenge to how I view complex products. 

The expectation I would have is equity volatility with a lot of "yield." While it has only been a few months, I am intrigued by the idea that it may have solved the erosion problem that derivative income funds tend to have. 

Here's some crazy portfolio ideas I played around with that are relevant to this post.

Whether these are great or whether they stink, they're pretty close to VBAIX but don't do any favors with respect to volatility. 

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