Are You Ready If Rates Go Up?

Jonathan Hoenig Tweeted this out

Yields have been trending higher of course which historically has spelled trouble for stocks. Someone else on Bloomberg this morning (didn't catch who it was) said that 4.5% is not great, 5% would be trouble and pegged 4.80% as being where trouble starts. Maybe but I would take it as there potentially being some sort of adjustment period for stocks. There's no way to know how long any sort of adjustment period would last or how much stocks might drop if at all.

Any of this playing out means bond prices go down and we might be able to take today (Friday) as a microcosm for what this "adjustment period" might look like for plain vanilla 60/40.

AOR is an ETF proxy for plain vanilla 60/40.

Repeating for the 1000th time, just avoid duration. The four blanked out funds above are all huge ETFs, not obscure, that we write about all the time. They avoid duration risk and don't feel the pain of things like TLT when rates rise. 

Cullen Roche gave a quick post mortem on the collapse of the QVR Hedge Fund which focused on volatility. This specific point is relevant to today's conversation.

1) Tail risk hedging is really, really hard. There’s a reason the classic 60/40 stock/bond portfolio remains the most popular allocation in the world: the 40% in bonds is still the simplest, most reliable positively asymmetric long-term hedge most investors can implement. It’s not perfect, but it’s “good enough” for the vast majority of people who just want durable diversification without needing to be geniuses.

Cullen is far more comfortable with bonds with duration than I am. Something like 60/40 can be all the things Cullen says but my argument is that there is a better chance of being all those things by avoiding duration in the 40. And as noted above, there are many ways to replace the duration with less volatility, a little more yield and still diversifying the risks versus putting 40% in UTEN, TLT or the like. I would also add short term individual issues into the mix if you're comfortable. 

Unrelated, here's a doozy of an ETF filing.

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