# Best Defensive Portfolio for a Market Crash.



## Steve Divi (Jul 14, 2016)

HI, 

I'm looking for advice on how to build a defensive portfolio in preparation for a market crash. I know holding cash would be the best but what are some alternatives than just cash? 

At the moment, I have 60% in stocks 20% in Bond ETFS (CLF,XLB) and around 20% in cash. I don't really trust the Bond etf's to hold up in a crash. Should I be worried?



Thanks.
Steve


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## tygrus (Mar 13, 2012)

Well what kind of a crash are you talking about? Like a seasonal 10-30% correction or something, you are probably fine. Make sure you have some US exposure though.

But if you are talking a more major event, then that is something different.


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## lonewolf :) (Sep 13, 2016)

To participate fully on upside or close to it & reduce losses use deep in the money leaps SPX or SPY most practical to use so you have a positive curvature go 2 years out roll them over once a year. (various option strategies)

Buy a deferred stock linked annuity that is not variable though insurance company can go under.

Replace bond ETFS with GICs with credit unions from on line Manitoba credit unions. (almost always the highest interest rate)


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## Beaver101 (Nov 14, 2011)

Steve Divi said:


> HI,
> 
> I'm looking for advice on how to build a defensive portfolio in preparation for a market crash. I know holding cash would be the best but what are some alternatives than just cash?
> 
> ...


 ... the title of this thread seems to suggest one is seeking for the Holy Grail of stocks investing? The closest I can think of is Warren Buffett. 

Btw, wouldn't your stock portfolio (60%) have been set up as the "Best Defensive" already or are they full of speculative stocks?


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## My Own Advisor (Sep 24, 2012)

I would suggest lots of cash. This way, when the market goes down, you can buy. How much? Your call.

This is a market timing issue. Very, very, very hard to do.

Bonds will cushion the blow but what % of bonds you want/need is definitely your call.

I would not be worried. If you are worried about stock market crashes you likely hold too much equities.


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## Steve Divi (Jul 14, 2016)

Beaver101 said:


> ... the title of this thread seems to suggest one is seeking for the Holy Grail of stocks investing? The closest I can think of is Warren Buffett.
> 
> Btw, wouldn't your stock portfolio (60%) have been set up as the "Best Defensive" already or are they full of speculative stocks?


I try to buy the best defensive stocks I can, but as you know, the P/E of most of them are extremely high right now. Basically I have 50 grand in cash not earning a dime. I would like to at least get something from that while I wait for the end of the second longest bull market in history. 

I have been reading a lot about how bonds will not be safe during the next crash so I hesitate to put more into CLF, and XLB, but having 50g losing out to inflation is maybe not the best hedge. I don't know nearly enough about options to participate yet and GICs make you lock your money in. 

Just not sure what I should do.


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## Steve Divi (Jul 14, 2016)

lonewolf :) said:


> To participate fully on upside or close to it & reduce losses use deep in the money leaps SPX or SPY most practical to use so you have a positive curvature go 2 years out roll them over once a year. (various option strategies)
> 
> Buy a deferred stock linked annuity that is not variable though insurance company can go under.
> 
> Replace bond ETFS with GICs with credit unions from on line Manitoba credit unions. (almost always the highest interest rate)


Can you suggest some good option primers I could read? I'm like a deer in headlights when it comes to the jargon.


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## Steve Divi (Jul 14, 2016)

My Own Advisor said:


> I would suggest lots of cash. This way, when the market goes down, you can buy. How much? Your call.
> 
> This is a market timing issue. Very, very, very hard to do.
> 
> ...


This is pretty much what I do right now.


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## Eder (Feb 16, 2011)

I would say put it all in the TSX as our bull is not even a couple years old from the 2014-15 crash...lots of time to run.


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## gibor365 (Apr 1, 2011)

Just curious when you expect such crash?! It can happen this year or in 20 years ... So, what, all your lifetime you will be sitting in cash and waiting?! I know some people who waiting for crash from 2010-11 

For correction, you may consider PowerShares S&P 500 High Dividend Low Volatility Portfolio ETF: SPHD. and some bonds ETFs, not only Canadian , but also US like Vanguard Short-Term Corporate Bond : VCSH or mid-term VCIT, and rest of the worlds bond like PCY


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## gibor365 (Apr 1, 2011)

btw, I've read some analyst article who did calculation for "worst ever market-timer" case, meaning if he was buying SPY just before crush...before 9/11, before Lehman crush and so on... Now , he still, would have a nice gain


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## Eder (Feb 16, 2011)

Didn't someone say its time in the market that made him rich not timing the market?


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## agent99 (Sep 11, 2013)

IF you expect an imminent crash, then cash is good. But maybe that cash should not be actual cash, but rather cash-like holdings that are liquid but still earning some income because timing these things IS not easy!

It does depend a lot too on what stage of life you are in and on how much of a loss you can stomach before throwing in the towel.

We are in retirement, so have a fair amount in fixed income. Forget percentages. Choose an amount that you think you would need as a bottom buffer so you don't lose everything! 

Then put your equity in solid dividend payers like banks and utilities. Their stock values may drop, but they seldom cut dividends. Eventually, the stock prices will rebound and you will be back where you were. In the meantime they pay, you ride the storm.


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## lonewolf :) (Sep 13, 2016)

Steve Divi said:


> Can you suggest some good option primers I could read? I'm like a deer in headlights when it comes to the jargon.


 I have always liked playing the US market for options just more liquid

Google CBOE education or how to use options to protect from a crash all kinds of info out there.

Use a collar to protect from a crash. long market holding spy, sell out of money call buy out of money put with the money from selling the call. ( i would probably use longer term leaps less work)


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## james4beach (Nov 15, 2012)

Steve Divi said:


> I'm looking for advice on how to build a defensive portfolio in preparation for a market crash. I know holding cash would be the best but what are some alternatives than just cash?


*Cash is king*. A close second is a short-term bond fund, and VSB is the best bet here. However there is not much reason to go with VSB when you can hold high interest earning deposits at regular banks and credit unions. For example 1.7% at Outlook Financial, or 2.25% at PC Financial until the end of this year. But yes, the simplest answer to your question is to hold more cash.



> At the moment, I have 60% in stocks 20% in Bond ETFS (CLF,XLB) and around 20% in cash. I don't really trust the Bond etf's to hold up in a crash. Should I be worried?


"Crash" could mean a lot of things. Let's talk about this from the potential of securities to decline in value and show a loss. I can't tell you if you should be worried... but understand what kind of price declines are possible.

Stocks have the potential to decline around 50%. This has happened twice since 2000, so it's not that rare for this to happen.

Bond funds can decline in value when interest rates go up. Their sensitivity can be determined by the "duration" measure of the bond fund, shown at the ETF provider web site. XLB has the longest maturities and a rather high duration of 14.82. And it has bonds with an average maturity of 23 years. *Yes, there is a lot of price vulnerability at this level*. These aren't short term Bank of Canada rates but rather the "long end of the curve" in the bond market. A worst case scenario might be a 2% increase in the 20+ year interest rate. *That would cause XLB to decline by about 30%.* Some might even say that the 2% increase is still too optimistic.

You are right to fear that XLB would not hold up in a "crash". Its price can decline substantially because if its long maturity exposure. Your other fund, CLF, has a much shorter duration 3 and even in that horror scenario of a 2% rate increase, its price would only decline about 6%. You might want to shift money out of XLB into bond ETFs that have less duration.

With this background information let me revisit your question about your allocations:



> 60% in stocks 20% in Bond ETFS (CLF,XLB) and around 20% in cash


Let's pretend you have $1000 across these three, and let's figure out a worst-case decline scenario. I'll assume you have 10% CLF and 10% XLB. So let's say there's $600 in stocks, $100 in CLF, $100 in XLB, and $200 in cash.

The $600 in stocks could crash to $300
The $100 in CLF could crash to $94
The $100 in XLB could crash to $70
The $200 cash never loses a penny.

Which gives your worst case scenario a result of 300+94+70+200 = $664, a decline of 34% overall.

What you really have to figure out is what overall % decline you are comfortable with.


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## james4beach (Nov 15, 2012)

There is also a school of thought that says that the permanent portfolio is a good, defensive allocation that handles market crashes well
http://canadianmoneyforum.com/showthread.php/86673-Permanent-portfolio-and-asset-allocation

This allocation is 25% cash, 25% gold, 25% stocks, 25% bonds. This could be done by holding:
- cash: savings accounts & GICs
- gold: MNT (priced in CAD) or GLD (priced in USD)
- stocks: regular indexes
- bonds: VAB or XBB is about right

This is the allocation I'm shooting for myself. Look for example at 2008 at the worst period of the TSX, date range 2008-06-01 to 2009-03-06

cash: regular positive return, about +2%
gold: +35% in Canadian dollar
stocks: -47%
bonds: +4%

The permanent portfolio's return was -2% (negative two percent) in the period where the TSX dropped -47%, which includes dividends. Because the permanent portfolio also shows good returns in normal markets, I think it's a great way to go.

It is the best answer I know for how to position defensively and minimize losses in a crash _while still enjoying the upside of normal markets._ Basically all you'd have to do is split your existing stock allocation in half, putting the half into gold bullion.


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## james4beach (Nov 15, 2012)

Here's a more recent example, 2015-04-14 to 2016-01-18 when the TSX Composite fell -21%
http://stockcharts.com/h-sc/ui?s=XIC.TO&p=D&st=2015-04-14&en=2016-01-18&id=p85511023240

Say you did the permanent portfolio weights. The result would have been
cash = +0.5%
gold = +4.1% using MNT
stocks = -20.8%
bonds = +0.2% using VAB

Therefore the resulting loss was -4% which is much better than the -21% decline in stocks.


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## lonewolf :) (Sep 13, 2016)

I wouldn't rebalance though would dollar cost average in @ 25% to each catagory. If something goes to zero keep rebalancing the account on the way down could end up with close to losing everything.


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## james4beach (Nov 15, 2012)

I agree lonewolf. I don't like the idea of selling one category to rebalance, but rather do this by adding new money.

I'm aiming for 25s, but currently I'm at 55% cash, 9% gold, 13% stocks, 23% bonds. I'll be buying more stocks and gold between now and year end.


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## Steve Divi (Jul 14, 2016)

james4beach said:


> I agree lonewolf. I don't like the idea of selling one category to rebalance, but rather do this by adding new money.
> 
> I'm aiming for 25s, but currently I'm at 55% cash, 9% gold, 13% stocks, 23% bonds. I'll be buying more stocks and gold between now and year end.


Thanks for all the help and info


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## gibor365 (Apr 1, 2011)

> > Cash is king. A close second is a short-term bond fund, and VSB is the best bet here. However there is not much reason to go with VSB when you can hold high interest earning deposits at regular banks and credit unions. For example 1.7% at Outlook Financial, or 2.25% at PC Financial until the end of this year. But yes, the simplest answer to your question is to hold more cash.


This is true if you are talking about Cash account, it's really easy move money from one online bank to another and get better interest rate. However, for registered accounts that held in discount brokerage, it's not feasible. The best rate you may get it's something like ATL5000 with 0.75% interest or GIC with very low rates in 1.6-1.7% range.



> Bond funds can decline in value when interest rates go up.


 This is where US bonds have advantage.... if US raise interest rates, CAD$ will drop comparing to USD$, thus price in CAD$ gonna stay at same levels. imho, in any case US gonna rise rates much more aggressive than Canada in foreseeable future... 
Another bonds diversification is to hold something like PCY, it contains sovereign bonds of 30 countries and obviously they are not going to raise rates same time.


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## Joe Black (Aug 3, 2015)

If your timeline is 10+ years, then from everything I've read you shouldn't care about the next "crash" as the markets will (theoretically, based on history of the stock market) recover and make up for the amount you "lost" (on paper) during the "crash". That's assuming by "crash" you just mean the down cycle in the market, and not a true apocalypse (in which case I advise firearms, canned goods and cyanide pills if things look truly desperate).


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## james4beach (Nov 15, 2012)

Joe Black said:


> If your timeline is 10+ years, then from everything I've read you shouldn't care about the next "crash"


Generally true, but there's a bit more to it than that.

Statistically (from historical data) we're talking about more like a *15-20 year horizon* to really be able to not care about market crashes. And by 20 year horizon, I mean 20 years _before you need to start drawing money out of the portfolio_. For example, if someone is 60 years old and expects that they will start having to draw money out of their capital (for retirement) at age 70, then they should lighten up their stock exposure because 10 years is not enough.

Then on to bonds. Look at the bond fund's "average maturity" or "average term" figure, and your time horizon should be _greater_ than this number. For example with XLB which was mentioned, the avg maturity is 23 years. This is a bad fit for most investors -- the time horizon is too long. These "long bonds" are what pension funds buy because they have an infinite time horizon. Don't invest in XLB.

*Summary*: stocks need about 15-20 years to be "safe". Bond investments should have avg maturity similar to your time horizon. With VAB it's 11 years which aligns well with stock time horizon, leading to the popular "XIC & VAB" pairing.

*Near-retirees* should reduce their stock exposure and reduce their fixed income avg maturity. Savings accounts, GICs, VSB, VSC, XSH all help achieve those lower maturities.


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## tygrus (Mar 13, 2012)

Joe Black said:


> If your timeline is 10+ years, then from everything I've read you shouldn't care about the next "crash" as the markets will (theoretically, based on history of the stock market) recover and make up for the amount you "lost" (on paper) during the "crash". .


TSX is just about at the same level it was in late 2008. Essentially flat after 9 yrs of stimulus. Dont kid yourself things always come back.


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## james4beach (Nov 15, 2012)

tygrus said:


> TSX is just about at the same level it was in late 2008. Essentially flat after 9 yrs of stimulus.


Not true for the total return (which is all that matters). Since the TSX high on 2008-06-10, the total return is +23% cumulative. Here are the subsequent returns from that TSX peak to now

TSX: 23%
cash: 28%
gold: 70%
bonds: 50%
Permanent portfolio (equal weight of above): 43%

So yes, TSX is the poorest return over those 8 years, but it's not flat. Stock investment should also diversify beyond Canada which would have provided better results since the 2008 peak. Overall, I fear that we are near another peak, which is why I'm going with the permanent portfolio.


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## Eder (Feb 16, 2011)

tygrus said:


> TSX is just about at the same level it was in late 2008. Essentially flat after 9 yrs of stimulus. Dont kid yourself things always come back.


Many of us have done extremely well since 2008 with only TSX listed equities...


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## hboy54 (Sep 16, 2016)

Yes we have. But then perhaps we are not that mythical investor that some always refer to, you know the one that on one date makes his sole for life stock market investment and has to wait 20 years before he makes money. We are different from the aforementioned beast in that we invest multiple times over the years, and rebalance etc, such that even though the index makes a long term round trip from x to x, our portfolios do just fine.


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## agent99 (Sep 11, 2013)

Many don't invest in the 'TSX' as such. If you invest in a TSX index or etf, you get the same return less fees. 

Those of us in retirement may very well invest most of our nest egg at time of retirement and not add much over the years. In fact we may withdraw some of holdings. But we are unlikely to have all of it in the TSX and the stocks we own are more likely to be dividend payers that provide us with income.


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## Steve Divi (Jul 14, 2016)

Joe Black said:


> If your timeline is 10+ years, then from everything I've read you shouldn't care about the next "crash" as the markets will (theoretically, based on history of the stock market) recover and make up for the amount you "lost" (on paper) during the "crash". ).


HISTORICAL stock charts show that it took more than 25 years for the market to recover from the 1929 crash. Warren Buffett says that he always keeps large amounts of cash just for that.

Keeping cash in 2008 is the only thing that saved my portfolio. I'm praying for another crash and buy all the way down! Being fully invested all the time or buying at the top is a great way to not make money. 

Hell, if you were to buy a tsx index on may 23, 2008 You would have less money today then you did then. 

That is over 8 years of -0 gains! 

I 100% agree you can't time the market but moving to more cash when the Schiller p/e index is at 27 might not be a bad idea. I was just wondering what is a safe place for cash that I can get a few buck while waiting. GIC's might be the only way.


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## mordko (Jan 23, 2016)

Steve Divi said:


> HISTORICAL stock charts show that it took more than 25 years for the market to recover from the 1929 crash.


Actually, if we count properly, the "market" recovered A LOT faster and certainly in under 10 years. It's because Dow Jones index price isn't your real market return: http://www.nytimes.com/2009/04/26/your-money/stocks-and-bonds/26stra.html?_r=0


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## Eder (Feb 16, 2011)

If you bought popular TSX stocks Telus, Royal Bank or TransCanada on May 28th 2008 you would be up over 200% on all three...if you held cash since then you probably lost 15%. Silly.

Even a Canadian Equity mutual fund ...Mawer 106 is up over 180% in that period ...


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## Steve Divi (Jul 14, 2016)

Eder said:


> If you bought popular TSX stocks Telus, Royal Bank or TransCanada on May 28th 2008 you would be up over 200% on all three...if you held cash since then you probably lost 15%. Silly.
> 
> Even a Canadian Equity mutual fund ...Mawer 106 is up over 180% in that period ...


Right,
I was in my 20's when I went through the 2008 crash, I was fully invested then and stayed fully invested. Many great companies I owned then are still clawing back to par. PWF for example,
10 years later i'm still at a loss, and it's a great company.

Also, if you bought RY in Feb 2009 you would bo sitting on a 5 bagger. Not my point though. I'm always buying stocks but I am moving to hold a larger % in cash until there is a correction or worse, which will happen again. My question was where the best place to keep cash with not exposing myself to a loss if the market goes back to it's historical p/e ratio. 

I do not trust my bond ETF funds and as other people have said, rightly so.


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## james4beach (Nov 15, 2012)

Eder said:


> If you bought popular TSX stocks Telus, Royal Bank or TransCanada on May 28th 2008 you would be up over 200% on all three


And if you bought popular TSX stocks Nortel, Bombardier and Thomson Reuters in 1998-2000, you would have done worse than the index.

I don't believe it when people say they would have had the foresight to not buy those particular stocks. Very easy to say in hindsight. These were some of the most widely held stocks in the country!

It's easy to say in hindsight which would have been the best investments X years ago. It's an entirely different thing to choose those investments today. There were many losing investments from X years ago, but at the time they were popular, highly regarded, "blue chip" companies.


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## Eder (Feb 16, 2011)

I did buy all 3 of those in 2008, that's why they were mentioned

Cash is a losing investment, timing the market is a losing strategy. 

Buying companies on the decline is a risk always and will temper real returns. In my case I have owned or do own Teck, Wajax,Canadian Oil Sands and a few more that lost 1/2 their value but no one is 10 for 10...(other than my daughter). The winners more than make up for the losers though.


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