Against this backdrop it is somewhat surprising how many new defensive ETFs have recently come out or have been filed for. There has been the WisdomTree Managed Futures ETF (WDTI) which an absolute return product, RBS has come out with two ETNs that are essentially long the index when it is above the 200 DMA and out when it is below (there is a large cap version and more recently a mid cap version), iShares filed for minimum volatility ETFs and after coming out with the Cambria Global Tactical Allocation Fund (GTAA) AdvisorShares is coming out with the the Active Bear ETF (HDJE) which will sell short individual stocks.
Frequently new products come based on the short term sentiment of the market as evidenced by past debuts of certain commodity and metals ETFs throughout the commodity bull market, and the number of traditional mutual funds that promised to hedge the downside after the bear market was well under way.
As I have mentioned quite a few times, some exposure to a fund that should have some sort of zigzag effect is a worthwhile hold with the proper understanding that during a raging bull market it will be a drag on the portfolio. When the market was near what turned out to be the low I commented repeatedly that the time to get out of stocks or load up on defensive funds was not after a huge decline, that it was unfortunate for anyone learning they had the wrong asset allocation but it was too late for gutting a portfolio. The time for lightening up (the context being people who freaked out two years ago but managed to hold on) would be after, say, a 95% rally. Of course people who were freaked out might very well forget what two years ago felt like--this is quite common, people somehow forget that markets go down and how afraid they were when it did go down.Maybe we should take the recent wave "defensive" funds as a contrarian indicator that the market will go much higher from here. To paraphrase myself from when the market was in freefall, the odds of a large rally are less after a large rally. In very late 2008 I wrote a 2009 outlook post for Seeking Alpha where I got filleted for applying that same idea to large declines as I thought a very large rally was coming. That was a little easier because of how one way the fear was versus now where while the mood on Wall Street is pretty decent, the mood on Main Street is pretty lousy.
Perhaps the best thing now is for people who were freaked out before to take a good look in the mirror. Anyone who rode all 56% down with the SPX or worse by virtue of portfolio composition at the time, now has much more in their portfolio. If this is you and you freaked out, were desperate and were bargaining with yourself should you now think back to what that was like and revisit what your ideal target asset allocation should be? Doing this now is better than waiting until the next large decline and I promise you there will be a large decline at some point in the future.
The best course in my opinion is a normal equity portfolio with some objective trigger point for defensive action but of course this requires being able to sleep at night no matter what is going on. After a 95% rally, specifically predicting a large correction is less important than not panicking should one come along and catch you off guard. You may not be able to trade around a correction that scares people but you can be mentally prepared.
14 comments:
January of every year - it's the time to look at your asset allocation. My bonds/cash total in the portfolio is higher than I'd normally like, but at this point I'm not sure that there's anything I'd like to invest it in.
Thanks for bring up the absolute return idea - I haven't looked at that in a while.
Roger, I more or less rode the market down and back up, with a few swap-trades along the way (selling one asset to harvest the loss and buying a similar one). I recall at the time thinking that if/when the market came back, I would lighten-up on stocks and buy bonds. With interest rates now as low as they are, I now think bonds are far more risky than stocks; moves that I make today tend to be growth stock to value stock swap-trades. I would welcome your thoughts on this strategy. Thanks.
Fear sells. Thus, a plethora of doom and gloom newsletters, cable television commercials touting gold,and the occasional dried food reminder to stock one's cave in order to survive some global meltdown. There is money to be made catering to this view.
And if there is money to be made, investment houses will attempt to get their share.
To each, his own.
T
the longer the maturity the more risky a bond is. a two year note will today have a very low yield but if rates skyrocket then the price of that two year note would not go down very much which is why we are heavy in short dated paper, hoping to get a higher yield in a year or two.
my own belief is that proper asset allocation is crucial. a slight overweight at any give time is one thing like having 70% in equities versus a 65% target whereas 75% in equities versus a 50% target is completely another.
greed sells too I believe
I rode all the way down and then all the way up, but lost a mutual fund that was liquidated in the month the indexes were right at the very bottom! A 76% loss written off, and I learnt that specialized (small) funds aren't always a good idea. There wasn't another sub-Sahara fund to switch into and I didn't have access to my online broker anyway.
I certainly remember the creeping feeling of doom, watching crowds and wondering if they knew of the possible tsunami coming which was going to affect their lives so drastically.
I'm now around 20% bonds and that is falling as stocks go up and I also buy more stocks. Ideally I'd be 100% stocks and 20% bonds is too high (long-term horizons) but I guess you can't get it all right.
Roger, this is Anon 8:41 again. So, with short-term bond ETFs and consumer staples ETFs producing approximately the same yields, you would still allocate some percentage to the bonds, even though the consumer staples stocks have a potential to rise in value? Seems to me that interest rates can only go up mid-to-long-term from where we are now and your current bond holdings (even short-term bonds) are going to lose more value than the yield will compensate for. Just my thoughts. Thanks.
Against pretty much all earning benchmarks, markets are at their average levels. I see benign levels of risk where others are still in full panic-mode. If you filter out the minute-by-minute flapping and hysterical whining in the media about jobs and houses you'll see companies are doing ok.
Re; those ETNs: When I see "ETN" I'm reminded of my Cotton ETN - 'COTN' on the FTSE - that was my largest holding and lost 99% of its value in a day when Lehman went under. Almost a week and 20 pairs of underpants went by before trading in it resumed.
stocks that should be low in volatility are not the same thing as bonds are they? i don't think so anyway. i don't agree with the argument of buying high yielding stocks as bond substitutes, IMO they are completely different in terms of volatility profiles. not that a portfolio should not have high yielding stocks, just that they are not bond proxies.
The investment industry is like the military: fighting the last war. A few years ago, Wall Street was flogging mortgage reits, etc., etc. Now for the past year or so, they've been pushing 'defensive' products. Just look at the pages of Barron's filed with new 'we'll-defend-your-money' products from fund companies. Where were these products when they truly were needed, say 2006, 2007, etc.
Beyond that, after an enjoyable 95% up, the possibility of some kind of down seems to be growing. Maybe it is time for a defensive product or two.
Reflecting on Stephen Drone's comment, cash is by no means trash.
BillM
Doesn't take much to stampede an overbought market, that's for sure.
I have been reading, "The Quants: How a New Breed of Math Whizzes Conquered Wall Street and Nearly Destroyed It." by Scott Patterson
The book chronicles the fincancial crisis and some of the big players closely associated with it. I'm sure there is plenty to nit pick with regard to the how the author presents the material, but all-in-all a pretty good summary of what happened.
Although the markets may not be 100% efficient, those who are exploiting the inefficiencies are pretty sophisticated in their techniques and have access to capital that allow massive leveraging. For me, the book reaffirms passive investing is the correct path for the vast majority of investors.
I highly recommend the book for the regulars here.
Well, and just a few weeks ago the media PROMISED that the third year of a presidential term = 20% returns.
LOL.
Maybe.
I read somewhere that the past 60 years in the SP500 saw January return 2.5% once, 1.5% a few times. But mostly less than that. And we were over 3% early last week.
And February historically is a poor month in the markets.
Maybe.
I sleep better at night holding a modest position of SDS.
It offset 30% of my losses today. No telling the future, but it's a great time to think about how you will respond to a rapid decline (5% in a week), or a series of drops that begin to slowly add up over a period of several weeks or even months.
Sam
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