Low‑Volatility Carry Engine

Bob Elliott posted on Bluesky that "rate rises have been the most common prick that pops bubbles throughout history." There is certainly visibility for the FOMC to start hiking after that last bit of inflation data and based on what Fed Fund Futures are now pricing in for 2027. Who knows what will actually happen but there is a path to hikes.

To the second half of Bob's quote, is there now a bubble? Maybe, but that is more difficult to determine versus observing there are excesses and a few warning signs. The sector weightings of the S&P 500 is something we've been talking about lately and the current tech weighting or tech + communications which I think might be a better way to look at it is certainly excessive. The capex numbers being thrown around and the debt being issued to fund that capex also seems excessive. 

Maybe these signs of excess won't matter, maybe there will be no consequence but portfolios and retirement outcomes are not threatened by what can go right which is why it is so important to look for signs of obvious excess and make decisions about whether to address the threat. 

It's not practical to avoid 47% (tech + communications) of the S&P 500 in a portfolio that needs some equity market growth. I do think being underweight is feasible, I've been in the 20's in terms of percent with most of the exposure coming from a sector ETF, an individual stock and EMXC has evolved into having a lot of semiconductor beta.

Completely avoiding bond duration is much easier because the positive attributes have been pretty easy to replace. Replacing the positive attributes of tech stocks would be more difficult.

SPXT is the S&P 500 excluding the tech sector. So it includes some tech adjacent names like Amazon, Google, Netflix, Meta and Tesla but still compounds quite a bit lower than the full S&P 500. Maybe you could overcome the 400 basis points but I think that path is more difficult than simply underweighting. 

Against this backdrop, Owen Lamont had some interesting things to say about global equity diversification. The short version is that globalization of trade has made global equity diversification less effective but now because the trend toward globalization is reversing it should make global equity diversification more important. 

I'm not sure I agree with the premise that the value of global diversification has been diluted by globalization. That implies that correlations have gone up and that returns have been less differentiated which hasn't been the case assuming he is going back further than the start of this year.

But, foreign equity exposure is still very important and if any of the chatter about the Thucydides Trap has made your radar, anyone not having any foreign exposure should probably do some work there. I don't take Thucydides literally, at least I hope that is not the outcome, but it seems like the current administration's policies are designed to make us less globally relevant. That would be a big negative, creating visibility for another decade like the 2000's where select foreign outperformed domestic. Broad foreign outperformed by a little but some select pockets outperformed by a lot.

The threatened drags from there being a consequence to the excess in tech, globalization happening without the US and let's throw in visibility for higher interest rates raises the question about how to make portfolios a little more robust or all-weatherish. 

Like we've been talking about, the way that products have developed, there isn't a need to completely turn a portfolio inside out against these risks because they might never matter. Adding a little managed futures for anyone who doesn't have that exposure is probably a good idea. The negative themes we've isolated today are probably slower moving as opposed to the Tariff Crash which is more conducive for managed futures to do well. Long time readers know I am a believer in adding negative convexity like with BTAL. That's certainly not for everyone but adding negative convexity is an effective way to make portfolios defensive without selling anything or selling very little. 

And a fun item to close out. Obviously we spend a lot of time on what to do with the 40% that typically goes into bonds in a 60/40 portfolio. I was doing a little work on the concept with Copilot and it came up with two different descriptions for my approach of no duration, instead using alts as bond substitutes and keeping duration very short in more traditional income sectors. Copilot called the strategy a low‑volatility carry engine and a risk‑controlled carry portfolio.

Carry means several different things but in this context it refers to the yield earned. 

SHRIX invests in catastrophe bonds and I'd say is an extreme example of low volatility carry and YieldMax Netflix (NFLY) is a pretty extreme example of high volatility carry. I threw T-bills in just for a little context. The SHRIX lines (I use a different cat bond fund IRL) are what I am trying to get out of the 40, or whatever percentage, that would usually go into bonds. 

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