Simplify Says We Should Rethink 60/40 And They're Right

Simplify posted a short paper in support of some of their liquid alternative funds around the idea of replacing 60/40 with 60, 20 in fixed income with the rest divided evenly between Simplify Managed Futures (CTA), Simplify Market Neutral Equity Long/Short ETF (EQLS) and the Simplify Quantitative Investment Strategies ETF (QIS). The description for QIS reads like it is along the lines of a multi-strategy, multi-asset fund.

I certainly an very critical of some of their funds but a couple of them appear to do what they purport to do. To their credit, the company is trying to democratize sophisticated strategies but in some cases there is something in the implementation that doesn't work or maybe the strategies just don't lend themselves to an ETF. The knowledge base is good and the ideas are interesting like the one in the paper we're looking at today. 

QIS and EQLS have very short track records, less than a year, and CTA isn't much older at just over two years. For what it's worth, CTA's chart looks very similar to AQMIX and EBSIX which we use here regularly for modeling portfolios which is a positive for CTA IMO. "Rethinking" 60/40 is always going to intrigue me of course so I wanted to play around with their idea with substitutes that have longer records for us to look at.

Benchmarking to the Vanguard Balanced Index Fund VBAIX which is a proxy for a 60/40 portfolio we can the following results.

It does offer improvement. The CAGR is 200 basis points better which is quite good although the standard deviation is about the same. A big chunk of the long term outperformance is attributable to 1000 basis points of outperformance in 2022. The two have been close every other year except this year where through April, the replication is ahead by about 400 basis points. 

Although I usually bag on Simplify, the blend they wrote about seems like a pretty good idea even if I wouldn't be in too much of a hurry to use their funds. A 60/40 portfolio, generically speaking, can get the job done. The 60/20/6.66/6.66/6.66 tracks pretty closely to  to 60/40 most of the time but sidesteps it when 60/40 hasn't done so well. It would be nice to have a better sample size before drawing a firm conclusion. I'll try to follow up on this one in a few months to see if anything has changed.

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.

Orthogonality On Steroids

Jared Dillian had a fascinating blog post titled The Life Hedge. Dillian is fairly well known in FinTwit. He spent time at Lehman Brothers, then was/is affiliated with John Mauldin and does other writing too. He has some unique ideas that are often very thought provoking. 

The post starts with looking at a scenario where an economic downturn occurs and someone gets laid off from their job while their investment portfolio gets cut in half. That's a double whammy and Jared points out the potentially high correlation to job loss and a meaningful decline in the stock market. This is very stressful he says and that 99% of country lives that way meaning high correlation between their job and investment account. There may never be a consequence for the risk of that high correlation but the risk is there is his point. 

Jared goes out of his way to not live with that overhang. He says his portfolio is constructed "in such a way that it might limp along or be flat during expansion, but explode higher during recessions." It is high on his priority list to be counter to the US cycle or as we've put it before, he wants to be orthogonal to US cyclicality. He goes into some detail on how he does this including having put options kind of like a tail risk fund of which there are a couple, he is also short US equities to a small extent and also long gold and other commodities. He says he is "diversified in ways you cannot imagine, across the world, in various asset classes."

A big part of his being able to do this emotionally is that he has trained himself to have no sense of missing out when US equities are going up which as we talk about all the time, they do far more often than not. He gives a nod to just being in cash right now which at 5% is more compelling that it has been in years. That's far behind what equities have been doing but 5% on cash is pretty good. 

Jared thinks his returns are about keeping up with the S&P 500 without obviously being long US markets. I am not doubting him but I tried to recreate a portfolio that kept up with the S&P 500 while being short the US and I couldn't find a way to get there. This makes me think there might be a lot of trading on his part or some outstanding stock selection. For example, if he has a basket of stocks doing as well as client holding Novo Nordisk (NVO) along with some Bitcoin while being short the S&P, then yes, he could be keeping up or doing better. The point is it would be tough to recreate his result just using broad based funds and a couple of alts but that doesn't mean we won't try.

I built the following three portfolios that I think come close to what he is describing but the results are nowhere close to the S&P 500. The portfolios are similar, but with tweaks and a couple of them include Bitcoin exposure which it seems plausible he'd own.

Portfolio 1

Portfolio 2

Portfolio 3

If someone had an interest in being net short US equities, I think client and personal holding BTAL would be better than things like the ProShares Short S&P 500 (SH) or the AdvisorShares Ranger Equity Bear ETF (HDGE) which both compound very negatively over the longer term whereas BTAL actually compounds positively by just a few basis points. 

The results

A quick note, Portfoliovisualizer totally overhauled its interface and I am still trying to figure it out. All three compounded positively over a decent number of years so that alone is a little surprising but they are far behind the S&P 500 Index which compounded at 12.1% for the same period. Whether coincidence or not, all three portfolios had higher returns, mostly, as inflation started to pick up in the last couple of years or so including being up close to 10% in 2022. They might then accomplish a version of Dillian's desire to be counter cyclical.

It is not clear to me why too many people would need to go to this extreme but it is a fascinating concept. He touches on an idea I first mentioned before the financial crisis about the fact that investment professionals are very exposed to the ups and downs of the markets. This is something Meb Faber talks about regularly as well. All investment professionals are levered to the ups and downs of markets. Their business and their own money potentially. My answer has always been to simply have a smaller allocation to US equities than most people and to use alternatives to greatly reduce the volatility of my bottom line number which allows me to not sweat the occasional large declines in markets. In addition to preferring to not be stressed out, the last thing clients need is for their advisor to be obsessed with their own portfolio at the expense of time and energy devoted to client assets. 

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.

"Tell Us What We're Supposed To Do"

The title of this post was a comment left on a retirement article at Yahoo that generally pointed to our collective desire to retire in our early 60's not matching up with our collective financial reality. If you read a lot about personal finance then this has been ingrained. Average retirement account balances are in the very low six figures even for people who are getting close to what is thought of as "normal" retirement age. At the same time, corporate downsizing and poor health is forcing the hand of many people into retiring early, whether they are ready or not.

Cutting to the quick, if someone wants to retire and their income sources, probably Social Security, maybe a pension, and a hopefully sustainable amount from their accumulated savings, aren't enough then something will have to give. They either keep working in their career, take a post-retirement career where maybe they earn less but supplement their income or spend less money. 

In past posts, we've talked downsizing into a smaller house and getting cash out of the trade. That is possible but I believe has become harder to do with the huge run up in housing prices. We've also talked about moving to a foreign country which I believe is now harder to do as the world is a little less stable. Ecuador has been very popular in this context but the stability has deteriorated in the last couple of years. Anyone interested in moving some place, I stand by my suggestion of not selling your house here in case you need to come back and renting it out for the income. 

There was another comment that I really liked.

It framed some of my beliefs very well. Both vlad and Keith are expressing different aspects of independence. Owning your time, setting your own schedule might have to be the lens through which "retirement" is now viewed. Not fair and any other sentiment like that is probably correct but fair doesn't matter. There's no feel good coming to help people. As an ongoing theme here and paraphrasing Joe Moglia, no one will care more about our retirement than us. 

So it is up to use to solve our own problem. My first introduction to this idea, and I've blogged about it 100 times, was moving to Walker more than 20 years ago and seeing people make their retirement work because they had to, they had no choice. From those observations, I know it can be done but it really is a lot of bottom up work to understand expenses now and in the future, figure out how to get to "retirement" with hopefully no debt, understand how engage with markets, understand basic personal finance or maybe not so basic as I am referring to Social Security and RMDs, a big one for me obviously is to dial in the health aspect of this by lifting weights and cutting carbohydrate consumption and figure out how to create an income stream to supplement SS, a pension maybe and accumulated savings.

Hopefully that doesn't come across as any kind of short cut, I don't think it is. Assuming that this is not the only finance reading you do, your level interest probably puts you in a better spot than most people. The combo of lifting weights and cutting carbs actually is a short cut. If you're overweight and you start today, the odds of you being down 20 pounds a month from now are very high. If you start lifting weights today, you'll have the biggest gains early on then slowly plateauing out to maintenance and incremental gains. 

This is a challenge to solve and I think there is great life purpose to be had from figuring out a path to your individual desired outcome. 

Because it's related, Yahoo had another article about Social Security, different from the one I mentioned the other day and it has the updated projections that mentioned but did not link to, that SS is now looking at a 17% cut now starting in 2035. I spelled out my thinking in that recent post but basically I think across the board cuts are very unlikely, means testing seems more plausible but that only future payees will be impacted like everyone born from 1975 onward maybe, those folks will be 60 in 2035. I would model out what impact a reduction would have on you as part of the work I described higher up. 

One other thought that I didn't mention the other day but that I have mentioned before is that if they really do cut SS across the board-ish, one way to do it would be to eliminate spousal benefits, not survivor benefits, but spousal. As an example, the way it maps out for us is my age 70 amount (I plan to wait) is $4600, my wife would take it at 64, getting 50% or $1400 of what would have been my age 64 benefit. So we would not get her $1400 and if I died first, she would get the $4600. 

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.

Overly Academic?

Corey Hoffstein had a thought provoking Tweet thread that started with "leveraged portfolios are subject to variance drain." The conversation went on to compare the effect of variance drain in leveraged portfolios, which is what the ReturnStacked ETFs do, versus variance drain in more common, long only portfolios. 

Variance drain is a fancy term for the potential underperformance that could be caused by volatility working against a portfolio's result. Corey goes on to "prove" his point in the thread. When I see things like this, I will ask myself whether this can actually help what I do or is it overly academic which creates the possibility of being too clever by half. 

The theory of leveraging up is probably correct but as we've looked at before, actually pulling it off in a fund is not simply a given. I've questioned the ReturnStacked funds as well as ETFs from Simplify, they are leveraged but the benefit, for now, is hard to find. Here's another example with the Simplify US Equity PLUS GBTC ETF (SPBC). It is 100% S&P 500 plus 10% in the GrayScale Bitcoin ETF (GBTC).

Portfolio 1 is straight SPBC, Portfolio 2 is a build it yourself version that does leverage up and Portfolio 3 is an unleveraged version of build it yourself. The comparison does a couple of different things. The lag of SPBC is larger than the expense ratio of the fund. Its best year was no where near as good as the other two portfolios, its worst year was worse than the other two, it had the biggest max drawdown and it's Sharpe Ratio is quite a bit lower. 

The leverage as SPBC is using it, makes it worse. Portfolio 2 sort of supports Corey's point with the build it yourself leverage helping returns. But SPBC disproves his point along the lines of Karl Popper. All the positive results can't prove something, but it only takes one negative result to disprove it.

I don't feel the need to apply Popper literally, more like back to SPBC itself where something isn't quite right with how they implement the strategy. Maybe there is a friction with how the fund is rebalanced. That would be the easy thing to point to but I might be wrong. 

Back to the original question of an idea being overly academic. We can each decide for ourselves whether Corey's point should influence us in any way. AQR seems to do a good job incorporating leverage and there are others like maybe WisdomTree, but it is difficult to do and I would not jump in too enthusiastically with investment dollars. I am all in on studying these and wanting to learn more but my actual exposure is quite limited. 

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.

Same Strategy, 4 Different Objectives?

A new, interesting and expensive fund popped up on my radar from something I saw on Twitter, yes I am still calling it Twitter.

The Invenomic Institutional Fund (BIVIX/BIVRX) is a long/short equity fund that has been around since mid-2017. The fund's literature goes out of its way to note that it only positions in domestic stocks. It has a 5 Star rating from Morningstar and in its five full year plus two partials, it has had two huge up years. It was up 61% in 2021 and in 2022 it was up 50%. All the other years it was up ranging from 3+% to 16% except for this year, it is down 5.97% through the end of April.

As I try to understand what the fund is attempting to do, I come to the conclusion it wants to be a high beta, out-performer. That is what it has been doing for the most part. To keep this consistent with past blog posts, I would say high beta outperformance is the expectation it is setting. 

A different long/short equity fund that I don't think I've mentioned before is the AQR Long/Short Equity Fund (QLEIX). It is also a 5 Star fund that is very expensive. It's been around a little longer but I believe it sets a different expectation. Its performance is far less volatile as closer to low volatility equity exposure or high performing absolute return but with a CAGR that is less than BIVIX and a standard deviation that is less than BIVIX.

Arbitrage strategies are typically long/short one way or another, I use merger arbitrage for clients and the expectation I think being set there is a horizontal line on the chart that tilts upwards. Whatever is going on in the world, my expectation is that it will be up a little with very little volatility. 

The fourth type of long/short to mention is the AGFiQ US Market Neutral Anti-Beta ETF (BTAL) which is a client and personal holding. Its expectation is that it will have a negative correlation to the broad US indexes. 

All four are long/short but all do different things. BIVIX and QLEIX are kind of close but nothing like the other two. 

In the same period, the Merger Fund (MERIX) which is a client and personal holding compounded at 3.63% with a standard deviation of 3.10%. They all look very different and do different things in a portfolio. BTAL lowers correlation very reliably. MERIX lowers volatility very reliably. The following tracks BTAL, QLEIX and BIVIX weighted at 20% with the other 80% in the Vanguard S&P 500 ETF (VOO).

The most interesting thing is that despite BIVIX being much more volatile than QLEIX, a 20% allocation to each has the same standard deviation when paired with 80% VOO. The BTAL blend is as advertised in terms of lowering the correlation.

I've never used long/short to try to add outperformance or volatility to a portfolio. QLEIX has had a couple of serious down years which would be ok for BTAL but there is somehow less reliability, in how I view things, in trying to outperform with a long/short strategy. 

The bigger take is about expectations, understanding what a potential holding should do. It may not do it all the time but is the performance reliable enough to hold on to? If something should be a horizontal like that tilts upward, does it actually do that? If so, how frequently? QLEIX helped in the decline of 2022 but not in the decline in 2018. Does that matter? That is up to the end user. BIVIX creates a good first impression to be sure but no plans for now to do anything other than try to learn more about it.

A quick note is that shorting stocks is expensive which contributes to why these funds appear to be expensive. 

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.

Digging Deep

On this week's ETF IQ, they had a quick segment on the YieldMax ETFs. These are the single stock, covered call ETFs that have extremely high yields that we mentioned yesterday. We've talked about these quite a few times noting that they have trouble outpacing their distributions and that the YieldMax TSLA ETF (TSLY) has already done a reverse split. I said that I'd do a quick look at how many of them are actually in positive territory on a price basis after looking at the YieldMax NVDA ETF (NVDY) which has been up 29% over the last year versus a gain of 210% for the underlying. 

Of their 24 funds, only a few have been around for a year and I also looked at funds in their second batch of funds that came out last summer.

In case the symbols aren't clear, APLY corresponds with Apple (AAPL) which is up 8% in the same time period, AMZY corresponds to Amazon (AMZN) which is up 41% since AMZY's inception, GOOY is Google (GOOG) up 29%, NFLY tracks Netflix (NFLX) which is up 40%, OARK tracks ARK Innovation ETF (ARKK) was down 17% and FBY tracks Meta (META) which was up 44%. 

The dispersion between the common and the covered call version is very wide. It's not that they are not working as intended but how they are supposed to work means they are not proxies for the common stock. I obviously don't know whether all of them will go down and then reverse split but that is very much on the table. If you bought NVDY hoping it would tread water and have a big payout, then you're pretty happy. If you thought you were buying something that would sort of track NVDA then you're pretty bummed for having chosen the right company but the wrong way to own it. 

If you've looked into any sort of covered call fund, you know the potential for the upside to be capped at the strike price of the call sold against the stock. Here are a couple of examples I found that show the underlying taking off without the covered call version. 

LQD is a widely held corporate bond ETF and LQDW tracks that fund with a covered call overlay.

IVV tracks the S&P 500, and IVVW sells options against IVV. IVVW hasn't been around very long but long enough for what you see in the chart. Again, it's not that I think the funds are malfunctioning or executing poorly, I think we're just seeing known drawbacks playing out. Hopefully the drawbacks are known to the holders of these funds anyway. 

On plenty of occasions I've said something like I think there could be a way to incorporate one of these in to a portfolio to add a few basis points of yield without completely missing normal market returns.

VOO is the Vanguard S&P 500 ETF and XYLD is the Global X S&P 500 Covered Call ETF. I chose XYLD because it has a long track record. The growth numbers assume dividends are not reinvested. The 80/20 mix compounded at 8.00% which is clearly not the CAGR of VOO by itself but pretty good for someone needing to be sort of close. 

Allocating just 20% to XYLD had the effect of more than doubling the portfolio's income in recent years versus just boosting it nicely in the early years of the backtest. 

Mixing 80/20 doesn't seem like an obviously terrible idea but going very heavy into covered call funds is probably not a great idea. Where they are selling volatility that arguably makes them an alternative strategy. We've talked about volatility as an alternative asset class/strategy which to my way of thinking makes them a complimentary exposure if anything, certainly not a core exposure. 

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.

Let's Have Some Fun(d)!

YieldMax promoted the one year anniversary of the YieldMax NVDA Option Income Strategy ETF (NVDY). The fund is a single stock, covered call fund with a crazy high yield. More correctly, it is synthetically long the stock, buying a call and selling a put for the stock exposure and then selling a call against that combo.

The chart compares it to the underlying common stock and a 2X version from GraniteShares. To get the total return of NVDY, you could add in the dividends which total $13.63 or 69% and the fund has almost doubled compared to a 210% gain for the common and 370% for the 2X. I always say with these covered call funds to plan on reinvesting most of the dividend because they can't outgrow the huge yield. NVDY has been an exception that proves the rule and it took 210% for the common to do it. Something like NVDY could fit into certain portfolios I suppose but it is hard to argue it is a proxy for NVDA, but it does benefit from NVDA's volatility. We know that the Tesla fund from YioeldMax has already reverse split, I will try to do a study of their older funds to see how many are keeping up with their payouts.

Back in January the Cambria Tactical Yield Fund (TYLD) started trading. It's kind of a risk on/risk off fixed income ETF. The strategy looks at yield spreads between T-bills and various income sectors like corporates, high yield, TIPS, REITS and so on. When spreads are narrow, the fund will own T-bills and when spreads are wide, it will own those income sectors. As I read the prospectus, TYLD is allowed to own some T-bills and some from income sectors. Since it started, it has just owned T-bills. 

It's Cambria, so I don't doubt the research but it would be very difficult to try to back test this. The idea makes intuitive sense to me, sort of applying trend following to top down income sector selection. I am a long way from wanting fixed income exposure that is AGG-ish in the slightest but the idea is interesting enough to share here and to follow it to see what markets look like when it makes its first rotation into an income sector.

A reader left a comment with the following portfolio equally weighted at 25%. A lot of sophisticated and expensive funds that blend together for an interesting result, it's somewhat all weather but compounds better than many all weather-ish funds tend to do.

I think the names are self explanatory, two of which I'd never heard of. It backtests to 2014.

It never had a down year which I wouldn't get too excited about, even all those years, that could be a matter of luck. What is interesting is that it is close to traditional 60/40 in terms of growth with about half the standard deviation. I'd say the same thing if it was VBAIX that was slightly ahead in terms of growth. I trust the standard deviation as being repeatable moreso than the CAGR. I am also struck by how heavy it is in various forms of long short.

LCSIX is a multi-manager fund which probably accounts for some of its 2.18% expense ratio. Click through to the fund page and then the fact sheet to learn a little more. According to the fact sheet it has a 0.62 correlation to managed futures so it is similar but different and a 0.24% correlation to equites, so a little closer to equities than managed futures. Carry looks like it is a small part of the fund, one of the six managers mentions it on its fact sheet blurb. 

I wanted to circle back to the FIG Replication portfolio. I've been critical of the actual FIG ETF, the Simplify Macro ETF, it is really struggling but I think the fund's idea for asset allocation works for the most part. I built the FIG Replication using a recently launched fund for the fixed income proxy which was short sighted, I thought about and realized there are plenty of fixed income funds that go back further in time that don't take interest rate risk so I rebuilt the fund with the iShares Treasury Floating Rate Bond ETF (TFLO) as follows.

Again, those percentages are how I believe FIG has allocated its assets, using different holdings of course. Let's compare the longer version to simple VBAIX.

The CAGR is a little better than VBAIX and similar to the Reader Portfolio but the standard deviation is a little higher than the Reader Portfolio. Repeated for emphasis, I think the allocation idea works but there's something in FIG's implementation that doesn't work.

Back to Cambria, when I was looking at TYLD I remembered the Cambria Trinity ETF (TRTY) which is also something of an all-weather/macro fund that allocates 35% to trend, 25% each to equities and fixed income and 15% to alternatives which is in the ball park for a lot of these types of funds. Like other funds in this category it too seems like it struggles a bit. Below is TRTY compared a home made version of their allocation with essentially the same funds as Longer FIG and VBAIX.

The result between TRTY and the replication I built is dramatic. We don't spend a ton of time talking about Sharpe Ratios but yikes, that is a huge difference for the same asset allocation. 

The idea that one macro fund could be all-weather enough to be the only holding is appealing on some level but as we have seen, they can be difficult to execute. 

A quick administrative note is that when I build these sorts of portfolio combinations to look at, I try to use funds that I don't actually own for clients whenever possible. AQR Managed Futures (AQMIX) is a good example. I use it for modeling because it is a good representation of the group, not necessarily the best, and it has been around for a while making for decently long backtests. I own a fund for clients that is similar to TFLO but am glad I thought of it instead of the much newer AGRH for the FIG Replication that I hope to revisit and now also the TRY Replication that we build today. 

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.

The Battle Of When To Take Social Security

Barron's had two articles about retirement, one about Social Security and one saying that most workers don't want to work past 62. The sentiment of that second one, there are articles all the time that say different things about the desire to versus the need to work and so on. The better framing of this IMO is to have a Plan A of what you intend to do and then some sort of backup in case your hand is forced somehow (layoff or health) or you get to some age and decide you've got to do something different. 

If you want to retire at 60, great, do the planning and the work but be adaptable if something doesn't work out. Plan to work until 72? Ok what is your backup if you can't. The important thing is knowing what you actually care about and then figuring out how to plan toward that outcome. My own pitch is that these things become much easier when you have a workable Plan B. 

The first article gave an update about when and by how much the looming cuts in SS payouts will be but it had different figures than what I saw earlier this week, sorry no link. The first thing I read said the cuts had been pushed back to 2035 and that now it was pointing to only a 17% cut realizing the precise details change every year. 

The article didn't talk about how unlikely it is that a cut will be implemented all or nothing with everyone taking an x% cut on day one. Current retirees should not expect a cut (the article did say that) and there is some birth year that cuts, if they really happen, would be imposed like everyone born after a certain year, maybe 1975 or something? Of course cuts actually happening is very unlikely. At some point, fearing for their jobs, it is a good bet that Congress would intercede. Planning around the idea of them failing is prudent but total failure is a low probability outcome. 

I will again interject the idea of means testing though, I think that is more plausible for higher income people or those with more assets. Got a million bucks (in today's dollars) and not quite 50 years old? Yeah, you might get means tested. 

There were two thoughts on claiming strategies, one I liked and one I thought was cringe. Don't make changes to what you have in mind for when to take it over concerns about a cut. That makes sense, and there is plenty of time to Plan B in case that turns out to be wrong. Someone born in 1975 or later to stick with my made up example could face a cut regardless of when they take. Born in 1980 and it does end up cutting reduced, it would be reduced whether the person born in 1980 takes it at 62 or 70. The advice I thought was cringe was implying that everyone should wait as long as possible to take it. "there's a clear payoff to delaying as long as possible." 

There are endless different scenarios to dictate when an individual should start Social Security. The idea that everyone should take the same action doesn't make sense to me. I think everyone should understand how it works in terms of the size of the monthly check going up the longer you wait, knowing that is important but holding out to some older age isn't the  answer for everyone. There's no wrong answer assuming someone is making an informed decision. 

The comments are always worth reading on these articles and more of them favor taking it early than waiting. Back to making sure you're informed, taking it before your full retirement age while still working is not a great mix for tax reasons. Go learn about that before taking it early. 

There were two interesting ideas in the comments I want to touch on. One is to offset SS pay cuts by lowering or even eliminating the tax owed on IRA distributions. In the early years of taking an RMD it would be a nice offset but it wouldn't equal out in too many instances but later in retirement it would become more meaningful as the RMD percentage increases. Those are different pots of money by the way. Cutting that tax doesn't take from the SS program. Yes, it's accounting but that's how it works. 

The other idea was to take it at 62, put that money right into the stock market and presumably live off savings, passive income or have earned income below $22,320. There seems to be a lot variables here but lets just keep it simple for now and assume someone's age 62 payout it $2000/mo. They'd be able to put in all $2000 in for three years before Medicare starts. 

I backtested May, 2015 to May 2018 which included one pretty good year, one average year and portions of two years that were flat. If that number seems too big, it isn't. For 36 months, this person put in $2000 per and then got some growth. Then at age 65 in May, 2018 this person would start having Medicare deducted, let's assume $200 which is a little high leaving $1800 to keep buying VFINX every month for, let's say the next five years until age 70.

So now they have $313,000 in this account in May, 2023 at age 70 from SS going into VFINX, actually more because starting in 2018, the $1800 would have been a higher number due to COLA. If they had waited until age 70 to take SS instead, they would be getting $4400, less $200 (still too high) for Medicare, so $4200 versus $1800 plus 4% of $313,445 which is $1044; $2844 versus $4200. 

If the $1800 monthly SS check starting at age 65 is adjusted up by 3% per year from age 62 then he would have been putting $1966 per month for five years (that actually pads it a little), bringing the total up to $327,165 so still not as much as waiting but please let me know if there is an error in my process. 

There are other reasons to take it early and they either resonate enough for you to take it early or not. I continue to plan on waiting until 70 not for any numerical reason but to leave my wife the largest survivor benefit possible if I die young-ish. But I would suggest she take it early (for her) at 64 and two months, the same time that I turn 70.

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.

It Ain't Easy Being Macro

John Authers' column the other day was titled It's Dangerous To Stay Out Of Stocks. I think that is consistent to the conversations we have about stocks being the thing that goes up the most, most of the time. An investor needing something close to equity market returns for their financial plan to work needs something of a "normal" allocation to equities. Maybe that's 50% or maybe 60% but it's not 20%. Not that 20% is universally wrong, not everyone needs close to equity market returns for their financial plan to work.

For all the blog posts about about how to build alternatives into a portfolio, the idea from my perspective is how to compliment the equity allocation in a manner that is more effective than traditional fixed income exposure which hopefully leads to a better long term, risk adjusted returns. 

The process then is to sift through a lot of funds and strategies to learn about and at this point, it should be reasonably clear that this is a fun hobby that just so happens to support my day job. The other day we mentioned that the Simplify Macro Strategy ETF (FIG) has been struggling. Since its inception in June, 2022 it has compounded at -3.16. It appears to be trying to deliver an all-weather sort of result so negatively compounding through a period that includes a year like 2023 where stocks were up a ton creates the impression that something isn't right with how FIG implements a macro strategy.

FIG is not intended to negatively correlate to markets, they want it to be "a modern take on the balanced portfolio, built to help navigate today’s toughest asset allocation challenges." So far, it hasn't done that. More productive than bagging on FIG is to start to ask questions about funds that try to take on macro strategies. It is not easy to do based on how many of the funds have done poorly. 

In the post from the other day about FIG we looked at the following replication:

• Vanguard S&P 500 ETF (VOO) 35%
• AQR Managed Futures (AQMIX) 12%
• iShares Interest Rate Hedged US AGG ETF (AGRH)  25%
• Catalyst Millburn Hedge Strategy (MBXIX) 21%
• iShares Gold Trust (IAU) 7%

It compounded positively a little better than Vanguard Balanced Index (VBAIX) which is a proxy for a 60/40 portfolio with a much lower standard deviation. I am not too excited about that back test, it only goes back two years, a little less actually, the point is that macro could have worked during FIGs time line. But I think that it might make more sense to build it yourself if some sort of macro looking portfolio is important to you. 

Another macro fund that came a few months after FIG from Fidelity has also been struggling since its inception, down even more than FIG.  

There are a couple of macro funds that have done well, the point is to be selective. The prompt for this post was some disillusionment toward FIG on Twitter from a couple of people who had been favorably disposed when it launched. A point I try to reiterate here is to give alternative funds time to prove out. The more complex, I'd argue the more time you might want to give something to prove out. 

Macro strategies can be very complicated. If you spend the time looking, I think you'll find more funds struggle than not. The DIY approach is interesting. The time frame for the one bullet pointed above in interesting but again very short. I will try to circle back to it in a few months to see how it is holding up or maybe more correctly to see how it is keeping 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.

Can FIRE Coexist With All-Weather?

ETF Think Tank had a fun article looking at a bunch of specialty ETFs in pursuit of building a FIRE (financial independence/retire early) portfolio. The article was right up my alley as far as looking beyond the standard VTI, AGG and so on. The point is not read the article and then run out and buy those funds but is there anything to learn from the article about portfolio construction or how assets blend together? Maybe yes, maybe no but even if no, articles that explore in this fashion are worth the time.

The article veered away from simple equity beta instead preferring anchor around risk parity, managed futures and hedge fund replication. There aren't a lot of risk parity mutual funds or ETFs with decently long track records. The AQR Multi-Asset Fund (AQRIX), looks like it used to be called AQR Risk Parity and looking under the hood it looks like that is the strategy. There are plenty of managed futures funds that go back close to ten years but hedge fund replication is tougher to find. In the last few years, a lot of funds that could full under that description have listed but the older ones tend to be very low volatility products without much upside capture but as you'll see, I found one with decent upside participation.

Inflation is also highlighted and it makes sense conceptually. Someone retiring at 40 or 50 is likely to endure some inflationary periods. The article looked at three ETFs each with very different attributes. IWIN from Amplify owns equities that should benefit from inflation like materials and REITs. There was another fund that hedges rising interest rates that has symbol RISR. It owns derivatives and it did great in 2022. The last one was CPII which appears to be a variation of inflation expectations kind of like ProShares Inflation Expectation (RINF) which does have a long track record. 

The last category of funds considered were the newer derivative income ETFs (selling calls, puts or combos) that have crazy high yields. Conceptually, adding a source of high yield makes sense for income but as we've looked at many times, these types of funds can't keep up with their payouts and seem likely to go down, reverse split and repeat. In the real world, if you want to dabble in this space, plan on reinvesting most of the payout. 

I don't think the premise of the article was to build a portfolio with just these three broad categories, more like add these exposures around the edges but let's have a little fund with what this would look like. 

The funds differ from what was mentioned in the article but allow us to test it for quite a few years. The ETF Think Tank FIRE Portfolio has a lower CAGR than 60/40 but also has a much lower standard deviation. 

In the above comparison you can see I'm comparing to Ray Dalio's All-Weather. I also looked at the Permanent Portfolio (25% each to stocks, bonds, cash and gold) and for the period studied, PP compounded at 5.55% with a standard deviation of 7.55. Of the four, only the ETF Think Tank FIRE was higher in 2022.

Looking at the results built with very limited choices for the reasons I mentioned earlier, the ETF Think Tank FIRE seems more all-weatherish to me which is not a bad thing but may not be so hot for a 40 year old looking at maybe a 50 year time horizon. As an all weather sort of portfolio, I think it actually looks pretty good. 

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.

Appropriately Skeptical, Genuinely Curious

The ReturnStacked ETFs crew sat for a podcast that covered a lot of ground and I pulled out a couple of nuggets to write about.

They talked a little bit about carry as an investment strategy and they have two funds coming out soon that include carry. One fund will be 100% stocks and 100% carry and the other will be 100% bonds and 100% carry. So like their other funds they will be leveraged. Carry is kind of a nebulous term because there are several different exposures that are referred to as carry. One is a long short strategy of commodity futures that goes long futures in backwardation (rolling to the next month is done at a credit) and short futures that are in contango (rolling to the next month is done at a debit). The other more common one is going long currencies with high yields like the USD or Aussie dollar and short low yielding currencies like the yen or Swiss franc. 

While they were talking about carry, I looked to see whether there was an ETF doing the commodity version and I found the iShares Commodity Curve Carry Strategy ETF (CCRV). It appears to be a long only fund though that tracks closely to the Invesco DB Commodity Tracker (DB) which is one of the oldest broad commodity funds. CCRV might be a fine hold but it is a commodity proxy and I was curious to see how just the carry aspect does. If you know of such a fund, please leave a comment. 

My interest in carry would if it ends up being an uncorrelated return stream and then from there, whether blending it with equities or fixed income into one fund gives any sort of useful result. I don't know when the ReturnStacked funds with carry will list but I'd need to see them trade for quite a while to draw any sort of conclusion. 

One thing that was abundantly clear is they are all in on their belief about using leverage in the manner that the ReturnStacked ETFs do. That conviction is important of course but it is also important for anyone studying their funds, or other products built on unyielding faith, to be able to sift through information objectively and be appropriately skeptical. 

Their first two ETFs are struggling for reasons I've spelled out before but that does not invalidate the concept. We've coopted their use of leverage to talk about leveraging down but they very quickly mentioned another way to incorporate leverage into a portfolio. A big part of their strategy is keeping the stock/fixed income allocation the same and then using leverage to added something on top. For them, something means alternatives and that is what their first two funds do with managed futures and what their next two scheduled funds with carry. 

One of them quickly mentioned just adding a fund from AQR or another similar fund provider, PIMCO has some funds that do this too, to access what is hopefully prudent leverage. Putting 5-10% into a complex alternative that uses leverage is closer to what I do but it does run counter to the ReturnStacked premise of stacking on top. That's ok of course, take bits of process from various places to create your own process although I think I've been doing longer than they've been around. 

They mentioned the model portfolios they maintain. You need to be an advisor or other investment professional to access them so I am not going to share the holdings. They used to have a version of what is now the Return Stacked 60/40 on a different website that was not behind any sort of wall if you want to look for it. Return Stacked 60/40 like its predecessor is a complex list of funds that are themselves very complex (most of them). 

I built in Portfoliovisualizer with a couple of tweaks that I think are true to the portfolio in order to test it a little further back.

In 2022, the replication went down 7.27%, 60/40 was down 16.87 and Portfolio 3 which I'd say is simplicity hedged with some complexity was down 8.12%. You can decide for yourself which one is the most interesting but Portfolios 1 and 3 are pretty close with one being very simple.

A final point from the podcast, they talked about conversations they have with advisors who are just now learning about these sorts of portfolio construction concepts. The ReturnStacked guys made it sound like these advisors haven't had access to this sort of information or education which I can believe but I think the onus falls on the advisor to be curious enough to seek out new (to them) concepts as opposed to waiting for someone at their firm to get around to it years after the fact. It seems like everyone was talking about managed futures in 2022. It was curiosity that helped me find the strategy right after the Rydex, now Invesco, Managed Futures Fund started trading at the onset of the financial crisis. 

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.

ETF Democratization Continues

A whole bunch of fund stuff today.

First from the FT, it looks like there will be a parade of ETFs from hedge fund managers, packaging their respective strategies into ETFs. The article focused on the Tremblant Global ETF which will have the epic symbol of TOGA. The FT also said that Man Group, Gotham Asset Management, Ionic Capital Management and others were going the same route. Part of the drive is for more AUM but of course the fee structure will have to come way, way down for the ETFs to have a shot of being marketable. 

Kind of related, blogger Nomadic Samuel highlighted four funds that have decently long term track records of outperforming the S&P 500. Outperforming the broad market is also the objective of TOGA and I'm guessing the others that might come behind it. When a fund or strategy does have a long term track record of outperformance, it is natural to wonder if it should be bought. 

The first fund he mentioned was Boston Partners Long/Short Equity (BPLSX).

Based on those numbers alone which go back to 1999, yeah, I want to learn more. Here's the year by year though.

Over 25 years, it has only outperformed the S&P 500 11 times. That is not a bad result but might be less than you'd think when looking at the CAGR numbers. I outlined the four years that account for just about all of the long term outperformance. In 2000, BPLSX outperformed by 69%, in 2001 it outperformed by 37%, 22% in 2002 and 46% in 2009. For the last ten years, BPLSX's CAGR is a little more than half of the S&P 500. The fund could absolutely have another monster year in the next bear market but based on the fund's history, the outperformance is not a little bit every year, it comes from the occasional huge year. 

One of the other funds he mentioned was the Fidelity Contra Fund (FCNTX) which Portfoliovisualizer can take back to 1985, 40 years including a partial for 2024. It has outperformed 23 out of the 40 years. In most years FCNTX was close to the S&P 500 either way.

There were a few big years of outperformance for FCNTX in the early 90's but much closer in most years since. It has continued to outperform for the last ten years, but it is worth noting that in 2022 Contra Fund was 1000 basis points worse than the S&P 500. The point is not that either fund is good or bad but more about understanding how a fund works and to gain some insight on what drives returns. 

The other day, an email came in pitching a tax lien fund. It's for accredited investors, there's a huge minimum investment, I believe the fund is gated and I'm sure quite expensive. Without digging in to see if they mark to market (a huge issue with private funds), the returns look great and uncorrelated. The market for weather related derivatives on the CME has grown substantially and that offers the potential for uncorrelated returns too. We've looked at the CBOE S&P 500 Dispersion Index in previous posts as potential investment products offering uncorrelated returns. Stone Ridge has a mutual fund that owns an art portfolio which, again, potentially offers uncorrelated returns.

Stocks are the thing that goes up the most, most of the time. That point is the anchor, for me anyway, in thinking about how to build and maintain a portfolio. Everything else we talk about is about trying to add some sort of effect to the return/volatility profile of the anchor asset of equities. Having small exposures to negatively correlated assets can be very beneficial to managing portfolio volatility but too much allocated to negative correlation becomes a hindrance instead of a helper. 

We talk about volatility in a similar manner, adding assets with very low volatility can also be very beneficial but again, too much and it becomes a hinderance over the course of an entire stock market cycle. 

So in addition to a portfolio sleeve for negatively correlated assets and another sleeve to low volatility, I believe a sleeve to truly uncorrelated assets also makes sense. I have a couple of funds in my ownership universe that I believe are truly uncorrelated. I don't expect them to outperform equities over the long term, the attribute of doing their own thing can be beneficial to the overall portfolio.

I have no interest in the tax lien fund that was emailed to me, and I can't see buying an art mutual fund but the Dispersion Index is interesting on its face, weather derivatives seem interesting too and there are others to spend time learning about. I'd take in information about any of these, including ones that are less interesting on their face, like tax liens and art. 

This post all ties into a point I've been making since I started blogging about ETFs and mutual funds evolving to offer access to more sophisticated strategies and exposures. democratizing what retail sized investors can invest in. The hedge funds I mentioned at the top are the simplest expression of that. Actual hedge funds in an ETF wrapper? That is democratization. That doesn't mean you or anyone should want that particular exposure, that up to each of us to do the work to figure that out but having the choice is unambiguously positive. 

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.

Early And Successful Example Of Capital Efficiency

For a few years in the 2010's, I had a side gig working for ETF provider AdvisorShares. One of my regular tasks was a quick, monthly call with each fund manager reviewing what happened and maybe getting some sort of forward look from them. One of the funds, Morgan Creek Global Tactical ETF with symbol GTAA, was managed by Mark Yusko who runs Morgan Creek Capital. I quote him every so often, he likes to say that risk happens fast which is a great line. 

It just clicked in my head that he employed capital efficiency in the running of GTAA. That term never came up with me but that is what he did. He used 3X levered ETFs which made room for a few other things including gold which I specifically remember. VettaFi still has a sheet up with the holdings from when it closed if you want to see the details.

You probably know at least something about the risks of using 3x levered funds. The objective is 3x on a daily basis so they reset daily. The way they compound could end up lagging in a catastrophic fashion, be way ahead or be pretty true to the underlying. There's no way to know and there have been instances where the compounding did hurt and other periods where it helped. If I recall correctly. GTAA always had some positioning in 3x funds, they obviously understood the risk and took it anyway with no problematic consequence. 

When I put together that they were running a capitally efficient portfolio I decided I wanted to play around with the 3x funds little bit here. We've done some work with 2x funds but very little with 3x.

None of the portfolios are leveraged up. Portfolio 1 is plain vanilla, Portfolio 2 uses 3x funds such that 15% in SPXL is intended to replicate 45% into SPY in Portfolio 1 and so on, leaving 67% left over to go into T-bills. Portfolio 3 takes a page from the ReturnStacked playbook by putting 15% into managed futures and 10% into client/personal holding BTAL which are both tools to manage portfolio volatility. 

Portfolios 2 and 3 lagged badly in 2020 but that corrected in 2022. Interestingly the unleveraged Portfolio 1 was down much more than the portfolios using the 3x funds.

Even if Portfolios 2 and 3 hadn't outperformed in 2022, the benefit to them is that with so much in T-bills, the portfolios are pretty bullet-proof against an adverse sequence of returns. They were built with the intention of trying to be market equaling but with fewer dollars exposed to risk assets. We've referred to this objective before as leveraging down. 

For fun, I plugged GTAA's holdings as reported by VettaFi into Portfoliovisualizer to compare to VBAIX which is a proxy for a 60/40 portfolio. GTAA does not appear to have been leveraging down, I'd say they leveraged up . Factoring in the notional exposure of the 3x funds, GTAA looks like it had 125% in equities including a huge overweight to tech. There was also a little global macro in there with a couple of currency ETFs and a couple of idiosyncratic bets too with gold as maybe a hedge. 

One way to implement a capitally efficient portfolio is to use the cash leftover after implementing the core exposures, which in this case are 3x SPY, 3x QQQ and 3x TLT, is to seek out alpha opportunities which is what GTAA appeared to do. Assuming no changes in the holdings, GTAA absolutely destroyed VBAIX. GTAA was of course managed actively, the static assumption is just for this blog post.

The volatility was much higher of course and in 2022 it went down 33% but it's hard to quibble with the long term result. 

If I am right about weaving in global macro into GTAA, that is pretty complicated versus plain vanilla stock versus bond allocation decisions. If you want that element in your portfolio, it probably makes more sense to outsource it to a mutual fund of some sort. It is also important to really understand the tradeoff that goes with alpha seeking which is (probably) more volatility which at times will be uncomfortable. 

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.

Solve Your RMD Problem Before It Happens

Barron's wrote about the mess of required minimum distributions (RMDs) from IRAs. The age that we have to start is slowly going higher which is a good thing but criticisms of RMDs being unnecessarily complicated are more than fair. 

The comments were useful as is often the case. One sentiment that popped up a few times was the threat of RMDs kicking people into higher tax brackets. Barron's audience certainly skews wealthier but this threat is worth digging into in order to better frame what the real risk is.

Tax brackets from Nerd Wallet. While I am not sure which tax bracket their readers view as being problematic, I am guessing they are not worried about the jump from 12% to 22%, I have to believe hey collectively make much more than that. As a quick reminder, if you move into a higher bracket, that higher rate only applies to dollars above the threshold. If taxable income married filing joint is $402,901, you're only paying 32% on the $19,000 that is above $383,901, dollars below $383,901 are taxed at the lower rates.

Trying to piece this together, how much will your Social Security be? In today's dollars, my max benefit (spousal plus mine) would be close to $72,000. If all we got was SS, our taxable income wouldn't be anywhere near $72,000 but let's not even worry about that. How big is your non-Roth IRA likely to be? Have you looked at how RMDs are calculated?  Someone who is today 78 years old with a $5.2 million IRA will have an RMD this year of $236,364 according to Nerd Wallet. Are you likely to have a $5 million IRA? As of 2021, ProPublica said there were 28,000 IRAs that were that big or bigger. With an RMD of more than $200,000, yes you might very well get pushed up into a higher tax bracket. 

What about a $2.5 million IRA? How likely are you to get to that level? The RMD this year for a 78 year old for that sized IRA would be $113,636. Getting to $2.5 million won't be accessible for most people of course but someone who is 50 or 60 with a pretty decent 401k balance still putting in $20-$30k/yr and planning to work a while longer going through at least one more full cycle could easily see their balance get close to doubling from here. What would your balance likely be if the stock market doubled over the next 10 years, don't forget to factor in contributions? 

Mentally account that Social Security is your first income source, it is most likely taxed at 12% (the effective rate would be far less but let's not even worry about that). A $100,000 RMD, which would be huge for early retirement, plus Social Security is not even $200,000. The combination of SS and RMDs will be it in terms of income sources for many people, maybe even the majority. 

There are other types of income streams like rental income, royalties, long term capital gains and even dividends and interest from taxable accounts but those don't count toward your earned income and so while they are taxable they can't push you up into a higher bracket but double check with your accountant. Someone getting Social Security, with a large RMD and who gets a lot of active income could get pushed up into a higher bracket. If you do take a job, or stay in your old job, how much are you likely to make? It is hard to see someone making $150,000 all of sudden jumping up to $500,000-$600,000. If that does turn out to be your situation, then yes you will get bumped into a higher bracket but in that scenario you are making the decision to take that job with that income. I'd say it would be the rational decision but still a choice you'd be making.

In looking at your situation, how likely is your earned income to increase? If it is likely to go up, how much will it go up? If you're making $100,000 now and somehow you end up bringing in $150,000 after you "retire," that's a great outcome and you'd owe more taxes. 

Back the $2.5 million IRA. At age 90, the RMD this year would be $204,918. Someone who only takes out the minimum from their IRAs faces the real possibility that their balance doesn't go down and very well could see their balance go up. The Vanguard Balanced Income Fund (VBAIX) which tracks a 60/40 portfolio has compounded at 7.33% over the last 20 years. Taking out 4% per year, the compounding was still positive at 3.09% increasing the balance by 79% over the 20 years. Whatever the odds that someone is gainfully employed, making a lot of money at 80 (low?), those odds for a 90 year old are reasonably much less. A $200,000 RMD at age 90 plus SS gets you into the 24% bracket.

There are a couple of simple planning ideas that could help address the problem that Barron's readers talk about. One that will have the most impact at younger ages is to get money into Roth accounts. You can contribute to Roth accounts all along the way of course, subject to income limits, but there is more bang for the buck at younger ages. Because of how money compounds, the money we sock away between 25 and 35 or 40 will likely compound to be a large portion of our balances when we retire. At those ages we are likely to be earning less which further adds to the attractiveness of Roths. Then at older ages we might be making more and traditional IRA/401ks would probably make more sense. I'm sure you could yeah but me on this point but in general terms this point is salient.

Once you are taking RMDs, if you are making too much, it would be worth learning about qualified charitable distributions (QCDs) which reduce the tax owed on RMDs because the distribution goes to some sort of charity or the like. It looks like the limit for 2024 is $105,000. Making a couple of assumptions, cutting your RMD in half, or more, would go a long way to reducing the threat of RMDs pushing you into a higher bracket. 

I don't think this is a problem that affects too many people but this seems like a corner that is kind of easy to look around in terms of assessing whether it might be an issue for you and then trying to figure out whether it makes sense to change something in your equation and then how to actually do it. For what it's worth, my small sample size of clients, this has not been a common issue. 

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.