# Stock investing with black swan protection



## james4beach

Quick background: Nassim Taleb believes in the need to hedge against "tail risk" or "black swans" -- you don't just invest in the index, but also carry some kind of insurance against sharp declines. He's an advisor at a hedge fund that uses this strategy, where they carry a small amount of insurance. Compared to standard 60/40 allocation, this allows them to carry a higher stock allocation and experience greater returns in good times. When the occasional crashes, their insurance pays off big time, boosting returns. This is described well in this video from Universa, where Taleb is scientific advisor:
https://www.youtube.com/watch?v=9mfnSM0k9jY

Then I ran into something interesting, that in 2012, this same hedge fund partnered with Horizons to introduce a Horizons Universa Canadian Black Swan ETF (HUT). The ETF was terminated in 2016, and I'd like to know why, but I'm assuming it's because they performed poorly and had insufficient assets under management to make it viable. If you look at the TSX chart, this ETF was introduced right at a market bottom right before a +50% index rally. Ha! The insurance + high MER + high TER probably caused a tremendous drag and people asked, why would I bother holding insurance and killing my returns?

In an old thread here at CMF, humble_pie theorized that the ETF will be a loser because Horizons doesn't do well at options trading. Personally, I wouldn't invest in a hedge fund that promises to do this either. Hedge funds have very high fees, and who knows how well they can implement a strategy.

In any case, I think Taleb and Universa's point is still valid: it can be a good idea to hedge or insure a portfolio against declines. And it's probably better to think about this with the market at all time highs, because insurance is so cheap (nobody sees the need for it). But obviously, it's tough to implement, as evidenced by HUT's failure.

Question for all: what methods do you use, or are you considering, for this kind of insurance or black swan protection?


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## james4beach

Here's what I do by the way. My overall goal is similar long-term return as 60/40 with less risk (less draw down).

*My primary method*: The permanent portfolio allocation. Here, bonds/gold/cash acts as the disaster hedge. In a really bad year like 2008, those assets soften the portfolio's decline, and you end up with spare money to re-allocate back into stocks. I showed some historical performance graphs over on this page. This method currently looks unattractive because of the poor recent returns from bonds & gold (_or: the hedges are cheap_). This image shows my PP return since I started using it, indexed to a starting value of 100 and currently at 105.









*My secondary method*: Years ago, I developed a technical analysis technique to try to spot a weakening market. If it tells me to sell and get out, then I do. It does not "intervene" too often, so it hasn't cost me much return. Whether it actually intervenes at the right time so that I can avoid a market crash remains to be seen. I use this within my permanent portfolio allocation, and I'm hoping that either my primary OR secondary method will work. During strong periods of stocks, I will forego some returns. I am reasonably confident that either my primary or secondary method will protect me from big declines during the next crash / bear market.


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## Rusty O'Toole

Sounds like what I have been doing for the last 7 months.

1) Buy risky fast rising stocks 

2) Protect myself by buying OTM puts

3) Defray the cost of the puts by selling OTM calls against the stock.

My rule, put no more than 1/10 of my portfolio into any one stock. And buy puts that guarantee I can't lose more than 1/10 of that. In other words my max risk on any one position is 1% of my account.

It's working pretty well so far. But my profits for the year could be wiped out by a market crash. This is not as bad as it sounds - there are years when the best investors in the business would be proud to announce that they lost no money and broke even on the year.

I come from real estate investing where nobody but a numbskull would neglect to buy insurance. Is insuring your house a waste of money? We all hope so. And most years it is. But on the off chance your house burns down you don't want to be without it.


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## james4beach

Rusty O'Toole said:


> I come from real estate investing where nobody but a numbskull would neglect to buy insurance. Is insuring your house a waste of money? We all hope so. And most years it is. But on the off chance your house burns down you don't want to be without it.


Glad you posted, I was thinking about you when I created this thread. My "secondary method" is somewhat similar to the T/A technique you posted earlier.


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## like_to_retire

james4beach said:


> : it can be a good idea to hedge or insure a portfolio against declines. And it's probably better to think about this with the market at all time highs, because insurance is so cheap (nobody sees the need for it). But obviously, it's tough to implement, as evidenced by HUT's failure.
> 
> Question for all: what methods do you use, or are you considering, for this kind of insurance or black swan protection?



The method I use is the same as most other investors, and that's asset allocation, as it's probably the best and easiest hedging strategy. Fixed income provides the protection needed in a bear market and offers lower volatility overall. I see no other reason to add expense by using any sort of fancy hedging or black swan protection.

ltr


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## humble_pie

Rusty O'Toole said:


> Sounds like what I have been doing for the last 7 months.
> 
> 1) Buy risky fast rising stocks
> 
> 2) Protect myself by buying OTM puts
> 
> 3) Defray the cost of the puts by selling OTM calls against the stock.
> 
> My rule, put no more than 1/10 of my portfolio into any one stock. And buy puts that guarantee I can't lose more than 1/10 of that. In other words my max risk on any one position is 1% of my account.
> 
> It's working pretty well so far.




Rusty by your own admission this is *not* what you are doing in BABA, where you have posted in another thread that investors can collect 8% sure-fire returns in BABA by following your strategy.

let's look at the partial data you've supplied so far. You said you bought BABA in june/17. By a speculative piece of good fortune, the stock then rose nicely. Last month - roughly 2 months after the stock purchase - you then bought long BABA puts to protect your speculative gain.

there's nothing particularly unusual about this. Probably more than half of all cmffers - by conservative estimate - have nice gains in one security or another over the past 6 months.

it's a common occurrence, repeat 500 million times. One buys stocks. Stocks then rise. One looks around for an efficient hedge in case markets slide or - worse - collapse. Some folks sell. Some folks decide to buy puts.

bref, you benefited from a speculative rise in the risky stocks you were buying. Months later, as an afterthought, you bought some protective puts.

alas what you keep advocating though is some kind of fairytale sure-fire 8% return from an entirely different strategy that's known as a collar. Collars are long-stock-long-put-short call, _all put on at the same time_. They are designed to protect high dividends.

collars never result in big capital gains because the short call will always abort the long stock position & this will destroy the gain potential.

on the other hand, collars never lead to big capital losses either, because the put position offers a close-to-cost exit door.

rusty might i challenge you to find even a single collar position - what you are advocating as in buy stock _today_, buy put _today_, sell call _today_ - that will ever amount to more than a 1.5-2.5% return over time.

plus let's not overlook that some collars actually lead to slight losses, which some professional managers believe is OK if the underlying dividend is a great big fat rich dividend .each:


.


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## OnlyMyOpinion

^+1 Like_to_retire.
I don't have the time or inclination to be hedging, using options or trying to time the market. Average market returns will suffice. 
Let the companies I own run their business, let the market run its rollercoaster, I don't need to get off for many years and can pick the times I do.


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## fatcat

james, with respect, you are a number mystic ... you aren’t alone, the search for the infallible investing theory marches on and powers a substantial portion of the internet devoted to investing

i suspect that in the case of the video presenter, and you, and most other people that the portfolio drag produced by the never ending search for the perfect hedge will cancel out its (the hedges) value over time ... we see it in the good and bad years that hedge fund managers deliver time after time

all of it involves predicting the future and nobody does that well

why not have a diversified portfolio, a good asset mix, a balance of growth and dividend stocks across most of the sectors, a healthy mix of bonds and most important of all ... enough cash to avoid a liquidity squeeze

your opportunity cost because of your cash and gold allocation to 50% of your portfolio is simply too high and i don’t have to look at any numbers to know that

for the average small investor, good diversification ... and liquidity ... are the much simpler keys to long term investing success


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## like_to_retire

fatcat said:


> your opportunity cost because of your cash and gold allocation to 50% of your portfolio is simply too high and i don’t have to look at any numbers to know that
> 
> for the average small investor, good diversification ... and liquidity ... are the much simpler keys to long term investing success


+1

ltr


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## humble_pie

a tiny question for the folks who are so tranquil about a possible black swan financial collapse:

_were y'll so calm like this in late 2008/early 2009? _


(notice that these folks all tend to say they are well off) (notice how at least one maintains a cash dam that was - best i can recall - equal to 2 years' worth of expenses) (if that isn't a black swan protector then i don't know what is) 

.


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## RBull

+1 ltr. Ditto here and for the same reasons you and OMO state. 

j4b, just read a FP article today on 5 market doomsayers. Nassim Taleb was mentioned as per below:


Nassim Taleb

Taleb is best known for his 2007 book, The Black Swan: The Impact of the Highly Improbable, in which he warned about the inability to predict unusual events that have severe consequences. Certainly, he seems grounded, in that he says “you can’t predict what will happen” and we would agree to this completely as to the stock market, at least. His aim is to primarily sell books, but he has had some correct calls in the past. He did say that Donald Trump as president was no worry for investors, for example. Last August, however, he said that “a market crash was on the horizon,” quoting low interest rates and the fact that “you can’t cure debt with debt.”

HP, I'll bite on the rhetorical question. Put me in the group that also has a sizable cash position ~3 yrs+ expenses. The difference for me now versus '08/09 is I was 100% equities then and now about 60/40 as I'm retired, capital preservation more important, cash now earns more than bonds. So guilty if you consider that being prepared for a black swan. :biggrin:


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## humble_pie

RBull said:


> +1 ltr. Ditto here and for the same reasons you and OMO state.
> 
> j4b, just read a FP article today on 5 market doomsayers. Nassim Taleb was mentioned




however, notice that the biggest bear of all - nouriel roubini - is missing from that list

it's kind of a weird list imho. Respected economist Mohamed el-Erian - bearish for more than a year - is also missing from that list. As is his former bond-master boss.

.


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## RBull

humble_pie said:


> however, notice that the biggest bear of all - nouriel roubini - is missing from that list
> 
> it's kind of a weird list imho. Respected economist Mohamed el-Erian - bearish for more than a year - is also missing from that list. As is his former bond-master boss.
> 
> .


Yes, I agree on dr doom. At least some of them will be right at some point.


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## hboy54

Hi:

I see investing as having seasons: Buy, sell, hold. The problem is in knowing what season one is in. A black swan is not a problem, but rather a very solid indicator that it would be buy season. The intelligent response is to then buy during buy season. No need to hedge something that is not seen as a problem.

Hboy54


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## humble_pie

RBull said:


> Yes, I agree on dr doom. At least some of them will be right at some point.



mathematically the black swan probabilities increase as time goes by

the pendulum swings


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## fatcat

99% of these doomsayers are spectacularly correct ... one time ... and never right again

but they wisely milk that one right call into consulting, speaking and book writing for many years after

and then many of them get caught in a reputation-trap where they are such notorious bears that they can never call a bull market !


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## lonewolf :)

The way I m protecting from the black swan event of the market bubble continuing higher for the next 10 years is to simply never put more on the table then I make from interest in GICs.

Been siting on the sidelines for @ least a year. Looking to put on a very small short position on next new high in the DJI with OTM put options in SPX Dec 2017,Dec 2018 & Dec 2019 between 1000- 500 strike & a larger short position near the top of a wave 2 correction after 5 waves down. Should probably skip the first short position though since I think the next top is going to be one degree larger then 1929 top a little concerned about catching the ABC rally as it will be fast & the 1st 5 down could be like 1929 crash though even faster so some big money can be made before the larger third wave


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## tygrus

Just a little observation, you dont protect/insure paper with more paper. 

A black swan event will undoubtedly be a liquidity event and there is no guarantee that it will pay out. 

A true black swan event needs gold and land as hedge.

I suggest you read Jim Rickards - not a doomsdayer, but well on guard for system shocks. He interviewed european families who held their wealth for hundreds of years through war, famine and financial calamity and they didnt do it with ETFs.


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## Rusty O'Toole

"Rusty by your own admission this is *not* what you are doing in BABA, where you have posted in another thread that investors can collect 8% sure-fire returns in BABA by following your strategy."

That is not what I said at all. What I said was, that I am up 8% for the year and that the BABA trade is only one of several trades I have done. I never used the term 'sure fire'.

"let's look at the partial data you've supplied so far. You said you bought BABA in june/17. By a speculative piece of good fortune, the stock then rose nicely. Last month - roughly 2 months after the stock purchase - you then bought long BABA puts to protect your speculative gain."

I started buying BABA June 19 and bought it over a period of a couple of weeks. I actually started buying BABA in April but got stopped out in early June. This was one of the experiences that led me to start using protective puts as insurance. I have had the protective puts on since June. First I used ITM puts then changed to OTM when I figured out the ITM puts were too costly.



"there's nothing particularly unusual about this. Probably more than half of all cmffers - by conservative estimate - have nice gains in one security or another over the past 6 months.

it's a common occurrence, repeat 500 million times. One buys stocks. Stocks then rise. One looks around for an efficient hedge in case markets slide or - worse - collapse. Some folks sell. Some folks decide to buy puts.

bref, you benefited from a speculative rise in the risky stocks you were buying. Months later, as an afterthought, you bought some protective puts."

That is one way of looking at it. It's not what I said, not what I did, and not what I am suggesting but it is one way of looking at it.

"alas what you keep advocating though is some kind of fairytale sure-fire 8% return from an entirely different strategy that's known as a collar. Collars are long-stock-long-put-short call, _all put on at the same time_. They are designed to protect high dividends.

collars never result in big capital gains because the short call will always abort the long stock position & this will destroy the gain potential.

on the other hand, collars never lead to big capital losses either, because the put position offers a close-to-cost exit door."

Again, not what I said at all.

"rusty might i challenge you to find even a single collar position - what you are advocating as in buy stock _today_, buy put _today_, sell call _today_ - that will ever amount to more than a 1.5-2.5% return over time.

plus let's not overlook that some collars actually lead to slight losses, which some professional managers believe is OK if the underlying dividend is a great big fat rich dividend .each:"

Fair enough. Would you like me to tell you about positions I already have on, that have proven profitable? Or would you prefer that I tell you about the next one I put on ?

Let me explain once more what I am trying to do.

1) Buy "Hot" stocks that have the potential to rise 50% or more in a year. You can find them at Investor's Business Daily. They publish a list of their Top 50 picks. Some of them are dandies.

2) Protect myself from loss by buying puts equal to the amount of stock. Try to keep the max loss to 10% or less, including the cost of the puts. Buy puts about 6 months out. I buy the put the same day I buy the stock.

3) Defray the cost of the puts by selling OTM calls against the stock. I will usually wait a few days before selling the calls if the stock is rising. I want to sell the calls at the end of a rise. Calls that are 2 weeks to a month to expire and with about an 85% chance of expiring worthless. If they go ITM be ready to roll them up and out. Worst case, I am forced to sell my stock at a profit.

That is the whole gag. Make money by buying stocks that go up. Buy insurance in the form of puts. Defray the cost of the puts by selling calls. It's a bit complicated but seems to be working so far. I can't guarantee it will work for you or anyone else. I don't know if it will keep working for me. But if the market bombs I know beforehand what my max loss is. It happens in BABA I have a 160 put on stock that I paid an average of under 150 for so I don't see how I can lose.

If you want more examples of the kind of stocks I mean, right now I own ANET ATVI BABA SQ TAL and YY. Previously I had positions in CRUS COR GRUB NVDA NFLX PI VEEV and others but got stopped out.

I hope to hold stocks longer than 6 months and will be happy to keep them a year or several years if they keep going up. If a position is working I plan to roll the puts at least 30 days before expiry. Selling the old ones and buying new ones farther out in time and with a higher strike.

I will post a trade I started a couple of days ago in a new thread if you are interested.


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## like_to_retire

humble_pie said:


> a tiny question for the folks who are so tranquil about a possible black swan financial collapse:
> 
> _were y'll so calm like this in late 2008/early 2009? _


For sure. I remember backing up a truck in 2009 for beaten down preferred shares. Nice profit a few years later.



humble_pie said:


> (notice that these folks all tend to say they are well off) (notice how at least one maintains a cash dam that was - best i can recall - equal to 2 years' worth of expenses) (if that isn't a black swan protector then i don't know what is)


I certainly keep two years of expenses in cash. That's called asset allocation to cash. It's about 2-3%. This is reasonable insurance against any black swan event. Paying for insurance in the form of asset allocation is a far cry from buying _Horizons Universal Canadian Black Swan ETF (HUT)_

ltr


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## AltaRed

hboy54 said:


> The intelligent response is to then buy during buy season. No need to hedge something that is not seen as a problem.
> 
> Hboy54


That doesn't work if someone does not have enough cash to buy in the 'buy' season...and in particular, those in withdrawal mode without the 'cash dam'. Or one has to sell something out of another segment of their asset allocation to get the cash.

To respond to HP, I didn't 'freak out' in 2008/2009 due to a strong and well funded asset base to backstop relative 'tranquility'. Can't say I was a happy camper but like LTR, I was investing and tax loss selling during that period. I just happened to have a pretty good cash allocation at the time. 

My 'black swan' hedging strategy is somewhat like LTR's strategy. I hold enough cash and cash equivalents that together with my small DB pension and dividend income, it will see me through a number of years of financial crisis. True, some dividends will get cut but I've taken a pretty significant discount to current investment income streams as part of my consideration.

Added: And I can cut back annual spending significantly if some really bad stuff happens.


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## Pluto

RBull said:


> +1 ltr. Ditto here and for the same reasons you and OMO state.
> 
> j4b, just read a FP article today on 5 market doomsayers. Nassim Taleb was mentioned as per below:
> 
> 
> Nassim Taleb
> 
> Taleb is best known for his 2007 book, The Black Swan: The Impact of the Highly Improbable, in which he warned about the inability to predict unusual events that have severe consequences. Certainly, he seems grounded, in that he says “you can’t predict what will happen” and we would agree to this completely as to the stock market, at least. His aim is to primarily sell books, but he has had some correct calls in the past. He did say that Donald Trump as president was no worry for investors, for example. Last August, however, he said that “a market crash was on the horizon,” quoting low interest rates and the fact that “you can’t cure debt with debt.”
> 
> n:


In the meantime,

http://www.marketwatch.com/story/september-saw-this-rare-and-bullish-trifecta-2017-09-29

Dow theory suggests clear sailing for a year or two.


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## lonewolf :)

Pluto said:


> In the meantime,
> 
> http://www.marketwatch.com/story/september-saw-this-rare-and-bullish-trifecta-2017-09-29
> 
> Dow theory suggests clear sailing for a year or two.


 Not so fast in 1929 the market topped out without a Dow theory non confirmation. (if memory correct I think it was the only time in history of the averages)

When using Dow theory based on the founding fathers of Dow theory there was no such thing as a Dow Theory sell signal regardless of what is written in the link (very few use the theory correctly)

The secondary cycle goes below their previous secondary lows would be a major warning that both averages were in gear to the down side. When the low of the current primary cycle is made it will set the bar for the next primary cycle. The secondary cycle is the 22 week cycle which can contract & expand. 

All the declines going into 4 year cycle lows since inception of the averages both the Industrial & Transports had closing lows below their previous secoundary cycle lows. The 4 year cycle can expand & contract. 

To see a chart of all the 4 yr cycle highs & lows since inception of the Dow go to cyclesman.net & somewhere they are posted for free.


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## james4beach

Thanks for all the responses. Nice ideas being raised here. I'm also in the camp that thinks that boring old asset allocation can solve this, since it provides the cash (or fixed income) cushion you can use to buy a very weak market.


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## Pluto

lonewolf :) said:


> Not so fast in 1929 the market topped out without a Dow theory non confirmation. (if memory correct I think it was the only time in history of the averages)
> 
> When using Dow theory based on the founding fathers of Dow theory there was no such thing as a Dow Theory sell signal regardless of what is written in the link (very few use the theory correctly)
> 
> The secondary cycle goes below their previous secondary lows would be a major warning that both averages were in gear to the down side. When the low of the current primary cycle is made it will set the bar for the next primary cycle. The secondary cycle is the 22 week cycle which can contract & expand.
> 
> All the declines going into 4 year cycle lows since inception of the averages both the Industrial & Transports had closing lows below their previous secoundary cycle lows. The 4 year cycle can expand & contract.
> 
> To see a chart of all the 4 yr cycle highs & lows since inception of the Dow go to cyclesman.net & somewhere they are posted for free.


OK thanks. I didn't mean to say that the Dow theory was infallible, I was trying to balance out the negative in the Nat Post article cited in the thread. I'm not really getting the point of the doom and gloom crowd these days. to me things look fairly upbeat primarily because inflation is so tame.


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## james4beach

Are any of you shifting towards more conservative asset allocations with all the political talk of trade wars?

I'm still equal weights stocks/bonds/gold/cash -- but my cash cushion is included in that (not counted separately as people usually do).

I've chosen a conservative allocation because I may stop working in 2019 and I really don't want to lose any of my capital. This comes at the cost of performance: my allocation has returned 4.2% annually since I started using it, and I'm comfortable with this tradeoff -- more stability, less return.


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## peterk

james4beach said:


> I've chosen a conservative allocation because I may stop working in 2019


Uh oh. You planning to do something reckless James?? each:


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## james4beach

peterk said:


> Uh oh. You planning to do something reckless James?? each:


Nope, in fact I'm investing in myself -- the best investments someone can make! It's very strategic.


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## hfp75

james4beach said:


> Are any of you shifting towards more conservative asset allocations with all the political talk of trade wars?


As I have posted in other threads I am examining my options & intend to move 10% of my portfolio into a Bond holding. I still have not pulled the trigger as I am still researching and examining the options....

HUT - might have been an interesting option but it no longer exists.

Your video (page 1) that demonstrates the 'tail insurance' or fancy 'magical matter' that redefines traditional portfolio balances is fascinating. It makes me wonder, if this really works why aren't more institutions doing it ? Horizons tried it (?) and discontinued the product ..... I'm interested in why. Maybe just bad market timing on its introduction ?

Correct me if I'm wrong but isn't that 'magical matter' put into most hedge funds ? Isn't that an integral part of a hedge fund ?

I am evaluating a more defensive portfolio, I think that year by year I will look at becoming just a bit more defensive 2018/2019/2020 - as I think that the market is currently on the high side.

In contrast, from '08 until recently more money was injected into the global economy to make it go than has ever happened before. This had desired immediate effects but also will have longer side effects that concern me. The volume of money that was injected was absolutely amazing too. I cant hesitate to think that this injection created an economic super cycle that we are in the early stages of. We have had a 9+ yr Bull run. Is it over or tapering? or are there just a lot of factors that are dampening the cycle ? None of us are familiar with such a large event & there are many things happening that are hard to interpret given the strange conditions that have created this. 

Items to consider : 
-Inflation vs interest rates - the effects of lots of money eventually surface
-The bond sell off by the Fed that is flattening/inverting the curve, is it just the feds sell off and not really a market indicator
-Bubbles
-Trade war that will also effect markets and inflation
-There are many other factors that are making things today very unique from a financial standpoint.

We are in interesting times. 

I have believed that a super cycle was under way for a few years now and invested accordingly & I am starting to look at my options given what I have written above.


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## OnlyMyOpinion

A Super Cycle! That is the first bicycle I owned. I bought it in town at Canadian Tire purchased with my potato picking money. A 1 speed of course. I rode it up and down dusty country roads for many years as a youngster till I moved on to motorcycles at age 12. It was definately a worthwhile purchase.

Think though, if I had bought some CTC shares back then and had the good sense to hold them through thick and thin. I'd be much wealthier today.

My point is, over the long term succesful companies create value, grow, and profit. That is the reason to hold equities. What if they had failed? That is the reason to diversify. You could play it safe and own only their bonds instead. But they are never going to pay you as much as they believe they can earn reinvesting that money into their business. As a shareholder you benefit from that success.

If your holding period is truly long term, the crashes of the past soon look like mere blips in the rear view mirror.

If I have any regret as an investor, it might be that I was fairly conservative in my early years (only GIC's initially). Granted, investing in equities then was more difficult and expensive than it is now. And choices for diversification were limited or expensive as well. 

Today, if I was starting an RRSP (or TSFA) that I wasn't touching for over 40 years as in my case, I would put it into diverse equities (e.g. an etf) and leave it there. 

Super Cycle or not.


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## james4beach

OnlyMyOpinion said:


> If your holding period is truly long term, the crashes of the past soon look like mere blips in the rear view mirror.


Most of us don't have the 50 or 100 year time horizons for this to really work.

The question becomes, how comfortable are you seeing significant declines like 40% to 70% drops in your portfolio? And how comfortable are you with low stocks returns over say 10 or 20 years? Both the TSX and S&P 500 had *zero return* for the first 12 years of this century, with lots of scary drops along the way.

Of course that got balanced out with higher returns later, but those 12 years were a big deal to a lot of people. What if the big drops happened just before someone retired? What if someone lost their job and needed the money during the down periods? And there have been even longer stretches historically, like 15 or 20 years.

How many of us have the ability to suffer through 10 to 20 years of zero stock returns (plus sharp drops)? I don't. When I was running my business, I watched my employment income crash at the same time the stock market crashed.


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## OnlyMyOpinion

james4beach said:


> Most of us don't have the 50 or 100 year time horizons for this to really work.


I agree, 42 years from age 30 to age 72 (RRIF time) might be the most you should count on. Not that all your equitities would disappear at age 72 though. You might have another 15 years? on top of that.



> Both the TSX and S&P 500 had *zero return* for the first 12 years of this century, with lots of scary drops along the way. Of course that got balanced out with higher returns later, but those 12 years were a big deal to a lot of people.


Not sure where you get your numbers James? I see a total return of about 93.5% (7.8% annualized) for XIU for the 12 years from Jan.3.00 to Jan.2.12.



> What if the big drops happened just before someone retired? What if someone lost their job and needed the money during the down periods? And there have been even longer stretches historically, like 15 or 20 years.


I think as long as you didn't sell it all at once in a panic, the amount you need to withdraw through the down years is not likely to impoverish you? Particularly if you are up by 93.5% overall and particularly if you are using a variable percentage withdrawl method. The RRIF withdrawl table is very close in values to the VPW table (or visa versa actually). I do also think carrying a 'cash' (FI) cushion is a good idea.


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## james4beach

OnlyMyOpinion said:


> Not sure where you get your numbers James? I see a total return of about 93.5% (7.8% annualized) for XIU for the 12 years from Jan.3.00 to Jan.2.12.


Depends on the start date. Starting at the peak, 2000-09-01, the iShares XIU performance tool shows that at 2012-09-10 you'd be up +29.1% total cumulative return. That works out 2.2% annualized over 12 years or about zero real return. The S&P 500 is an even lower return starting from its peak.

Not a horrifying return, but still awfully weak considering that many people seem to expect stocks to provide 6% to 10% annual returns.



> I think as long as you didn't sell it all at once in a panic, the amount you need to withdraw through the down years is not likely to impoverish you? Particularly if you are up by 93.5% overall and particularly if you are using a variable percentage withdrawl method. The RRIF withdrawl table is very close in values to the VPW table (or visa versa actually). I do also think carrying a 'cash' (FI) cushion is a good idea.


I agree, variable withdrawals go a long way.


----------



## lonewolf :)

fatcat said:


> james, with respect, you are a number mystic ... you aren’t alone, the search for the infallible investing theory marches on and powers a substantial portion of the internet devoted to investing
> 
> i suspect that in the case of the video presenter, and you, and most other people that the portfolio drag produced by the never ending search for the perfect hedge will cancel out its (the hedges) value over time ... we see it in the good and bad years that hedge fund managers deliver time after time
> 
> all of it involves predicting the future and nobody does that well
> 
> why not have a diversified portfolio, a good asset mix, a balance of growth and dividend stocks across most of the sectors, a healthy mix of bonds and most important of all ... enough cash to avoid a liquidity squeeze
> 
> your opportunity cost because of your cash and gold allocation to 50% of your portfolio is simply too high and i don’t have to look at any numbers to know that
> 
> for the average small investor, good diversification ... and liquidity ... are the much simpler keys to long term investing success


 Do not want to be average investor


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## Pluto

My black swan & bear market protection strategy. 
What I don't do is use bonds. I am 100% stocks. If this was 1982 and rates were 15%+ I'd think differently as bonds would offer great income, and capial gains. Currently I see bonds as dead money. Low rates, and after tax and inflation, a losing proposition. 

I buy stocks with tons of assets and good balance sheets. Upon the inevitable black swan/bear market my plan is to do nothing until the value looks utterly compelling, and technical analysis aproximates a bottom. Then buy more quality stocks on margin - as muich as I can stand and wait for the market to recover. Then sell enough stock to get off margin. I should make a bundle. I actually don't fear a bear market, I look forward to it. I made a killing in from 2008 - 2010 using margin.


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## james4beach

2008-2009 was a very short bear market by historical standards and the recovery was blazingly fast. I wouldn't count on that always happening. In your strategy, you might want to prepare for scenarios such as a stock index that falls and then stays low for 10 or even 15 years. The last crash & recovery helped train people to expect fast recoveries and relatively painless bear markets. Some people even forgot how bad the 2000-2003 bear market was.

We've basically been in a perpetual bull market since 1982 or so, and I don't think anyone really remembers what a true bear market is like. We have a strong equity culture today because equities have been incredibly strong for 36 years. I don't always expect this to be true.

By the way, I would argue that right now -- with stocks at all time highs and gold/bonds relatively weak -- is precisely when it makes sense to add hedges and protections.


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## AltaRed

i agree the 2008-2009 debacle was a short lived V trough that isn't all that representative of recessions in the last century. It would behoove those (me included) to look at other recessions to see how long it took to fully recover market highs. I certainly wouldn't, for a nanosecond, be buying what one might perceive to be market lows on margin. It could take a very long time to pay that margin loan off.


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## Pluto

^Pretty scary strategy, isn't it. I wouldn't try to pressure anyone into it.


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## fatcat

Pluto said:


> My black swan & bear market protection strategy.
> What I don't do is use bonds. I am 100% stocks. If this was 1982 and rates were 15%+ I'd think differently as bonds would offer great income, and capial gains. Currently I see bonds as dead money. Low rates, and after tax and inflation, a losing proposition.
> 
> I buy stocks with tons of assets and good balance sheets. Upon the inevitable black swan/bear market my plan is to do nothing until the value looks utterly compelling, and technical analysis aproximates a bottom. Then buy more quality stocks on margin - as muich as I can stand and wait for the market to recover. Then sell enough stock to get off margin. I should make a bundle. I actually don't fear a bear market, I look forward to it. I made a killing in from 2008 - 2010 using margin.


i was about to ask you how much you lose by maintaining a large cash allocation since you need to be ready to buy and then i read again and see you are borrowing to buy at what you ... guess ... are lows

100% equities and the use of margin is about at the extreme end of the spectrum of investing risk ... i like a little bond allocation with my morning cereal and at my age don't borrow anything from anyone ... but i am not you 

we need to set up an investing cage ring match and have you in one corner and james in the other


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## james4beach

Regarding buying a crashing market on margin, have you taken into account that stock brokerages might curtail their lending during sharp downturns, tightening their margin lending?

This is one of the pitfalls of margin. It introduces parameters that are beyond your control. Now it's not just a matter of what YOU decide to do, but also what your broker decides to do -- and their problems are different than yours. Say the TSX crashes 30% and you start aggressively buying more. Then it crashes another 30% on top of that and you try to buy more on margin. _Your broker might not play along_. It wouldn't be surprising in such a scenario for them to tighten margin lending, actually forcing you into a margin call, and forcing you to liquidate when you really want to buy.

Changes to margin policies can also happen fast. How are you going to detect and respond to that? I like using margin for short term maneuvers but it's not a good idea for longer term positions. Unless you are going to be constantly on top of your brokerage for the next 20 years, and have enough cash on the sidelines to respond to margin policy changes, I seriously doubt this method will work.


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## CPA Candidate

I've followed some funds that employ active hedging strategies and they mostly underperform.

Here is a long short/fund as an example:
https://arrow-capital.com/sites/def...re_Market_Neutral_Fund_Overview_-_F_class.pdf

It has underperformed the TSX on a 1, 3 and 5 year basis which is fairly spectacular.

I don't hedge and don't support such strategies. The best protection and the only free lunch is a well diversified portfolio. Diversify across economies, asset classes, sectors, etc. Don't try to predict the future and stay stoic.


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## james4beach

I agree that the only free lunch is diversification/asset allocation.

If you're willing to share, what's your asset allocation or breakdown? And to colour that, could you add whether you have some kind of pension separate from this AA?


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## AltaRed

Likely not asking me (12 years into retirement), but an example. Setting aside 'one off' large purchases, exceeding $30k in any given year, my annuity income (DB/CPP) covers 1/3rd of my annual cash flow needs, and investment income the other 2/3rds. I tap into original assets for 'one off' large purchases.

The investment income comes from (current mix):
35% Canadian equities (all dividend payers across 5-6 sectors)
34% US equities (~95% broad based ETFs)
15% International equities (all broad based ETFs)
4% Preferred equities
7% GICs/Bonds
5% Cash (MMF/ISA - brokerage)

Percentages vary by a few percentage points year to year depending on how/where I tinker with a holding. I'd like to boost International equity at the expense of Canadian equity, but not at a 75 cent dollar.

Plus I have some HISA cash sitting in a few online bank accounts that I don't count. Rule of thumb overall... 85% equity, 15% fixed income (for black swan purposes).


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## fatcat

james4beach said:


> Changes to margin policies can also happen fast. How are you going to detect and respond to that? I like using margin for short term maneuvers but it's not a good idea for longer term positions. Unless you are going to be constantly on top of your brokerage for the next 20 years, and have enough cash on the sidelines to respond to margin policy changes, I seriously doubt this method will work.


^ this ...by any measure, 100% equities and buying on margin at what are assumed are market lows is a very high risk game ... plus even though bonds don't anti-correlate with equities, they do enough so that they could be a much more secure source of cash for buys at presumed market lows ..


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## lonewolf :)

The commercial hedgers beat the pants off of the speculators. The 1929 crash is a very good example of what can happen to speculators that buy on margin the more margin they used the worse they did during the crash.


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## james4beach

This is pretty interesting. Apparently there is a "tail risk" ETF named TAIL. It holds S&P 500 index put options:
Cambria Tail Risk ETF (TAIL) | Cambria Funds

The MER is pretty low. It's quite a bit more straightforward than some of the more exotic derivative ETFs; it's not a "daily movement" kind of ETF, so _there is no chronic price decay_ like you see on many of the typical inverse funds.

Instead they hold a ladder of index puts and continually roll them over. I think I would rather buy this and get the automatic rollovers and management, than tinker with options myself.

Maybe TAIL is a good way to get your "insurance"?


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## james4beach

More on the TAIL strategy, paraphrasing from a paywall protected article I found.

TAIL uses some general guidelines to select its put options. They hold S&P 500 puts ranging from 1 to 16 months. Strike prices are typically 5% to 15% out of the money. The active manager decides to sell or exercise them *before* expiration, attempting to avoid time decay.


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## Topo

james4beach said:


> This is pretty interesting. Apparently there is a "tail risk" ETF named TAIL. It holds S&P 500 index put options:
> Cambria Tail Risk ETF (TAIL) | Cambria Funds
> 
> The MER is pretty low. It's quite a bit more straightforward than some of the more exotic derivative ETFs; it's not a "daily movement" kind of ETF, so _there is no chronic price decay_ like you see on many of the typical inverse funds.
> 
> Instead they hold a ladder of index puts and continually roll them over. I think I would rather buy this and get the automatic rollovers and management, than tinker with options myself.
> 
> Maybe TAIL is a good way to get your "insurance"?
> 
> View attachment 20255


Interesting concept. The chart kind of mirror the VIX movements. In the recent market crash it has gone up 25% from the lows in January, which approximates the market decline. It does not seem to have an uptrend, so one has to aggressively rebalance or trade it. There is a small downtrend at the end of 2019, when the market was making new highs.

If one does a 50/50 with stocks, the portfolio will be protected from severe losses (and no need for bonds), but overall returns could suffer if there are losses on the TAIL side. On the other hand, one could lever it up, given the downside is limited. The rebalancing bonus could be substantial.


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## james4beach

Topo said:


> Interesting concept. The chart kind of mirror the VIX movements. In the recent market crash it has gone up 25% from the lows in January, which approximates the market decline. It does not seem to have an uptrend, so one has to aggressively rebalance or trade it. There is a small downtrend at the end of 2019, when the market was making new highs.


Yes, it's interesting that it mirrors VIX movements but more to the point, it correlates about perfectly with the S&P 500 itself which you can see in this chart against SPY.























> If one does a 50/50 with stocks, the portfolio will be protected from severe losses (and no need for bonds), but overall returns could suffer if there are losses on the TAIL side. On the other hand, one could lever it up, given the downside is limited. The rebalancing bonus could be substantial.


I don't think you'd want 50% TAIL 50% SPY as it would wipe out all your performance. I do agree that there would be a rebalancing bonus. Maybe an approach could be to carry a small weight in TAIL all the time, but strategically increase the weight when protection is desired?

A perfect example might be this February 19 post of mine: I was feeling very nervous about how stocks were going straight up, not ever correcting, with no volatility. That would have been a great time to add-on TAIL as insurance.

It seems to behave as we'd expect insurance to behave: slightly negative performance when the market is behaving well, but a sharp increase when the market has trouble. Not much historical data, though, so it's hard to tell how it might behave going forward.


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## Topo

james4beach said:


> ....I don't think you'd want 50% TAIL 50% SPY as it would wipe out all your performance. I do agree that there would be a rebalancing bonus.


The effect on performance would to an extent depend on how bad TAIL performs during a rising market. Given it is an option strategy, time decay, deltas, and volatility contraction will be headwinds. But it is unlikely that it would completely reverse SPY gains like a inverse ETF would, because of the limited loss aspect of long options.



> Maybe an approach could be to carry a small weight in TAIL all the time, but strategically increase the weight when protection is desired?


It could work. The results would largely depend on where the funds are coming from (stocks, bonds or both). 

Having a small weight could be a good trade, but I doubt it will have a major effect on the portfolio. As an example, an all stock portfolio of $100 would have lost $33 in the recent crash. A 90/10 with TAIL would have still lost $27. An improvement, but not a game changer. A 45/45/10 S/B/TAIL would have lost $12 vs $16.50 for a 50/50 (I just assumed bonds didn't move for simplicity). Not bad for such as small allocation.


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## james4beach

Topo said:


> A 45/45/10 S/B/TAIL would have lost $12 vs $16.50 for a 50/50 (I just assumed bonds didn't move for simplicity). Not bad for such as small allocation.


Interesting. Or think of how many people hate bonds... maybe TAIL could somewhat replace them in an allocation as an alternative portfolio asset.

My initial sense is that TAIL might be most useful as strategic / add-on insurance. How many times have we seen an equity-heavy investor say that they like their equities, but are worried (or have a spidey sense) that stocks are going to crash.

I'll then say: how about a more conservative asset allocation?

And the response is usually -- no, I want equities, or I have unrealized cap gains that I don't want to trigger. I'm just worried about an imminent crash. Perhaps in these situations, TAIL (an insurance policy) could offer the kind of safety that is desired, without having to sell equities or refactor the asset allocation.

It may not boost their returns, but it certainly would nullify some of their equity volatility with very low effort, and that could be a "win".

Think of how Rusty and countless others on this board wanted to deploy new money into equities, convinced that they really want equities... but can't shake off the worry of an imminent crash. Why not have your cake and eat it too? Load up on equities, then add the insurance.


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## Topo

CBOE has a few indices that it has been tracking for a few decades. One of them is PPUT, which is SPX plus a 5% OTM protection put. The CAGR from June 1986 up to July 2019 has been 7.09% as compared to 7.84% for SPX. SPTR (the total return index) returned 10.21%, but one would have received the dividends if bought SPY and protection puts. The volatility as measured by CV is comparable to SPX, but improved vis a vis SPTR (52 vs 59 vs 71). 

I am not exactly sure what composition of SPY+TAIL would approximate PPUT, but I don't think it would be 50/50.

PPUT does not include frictional costs, which would be a factor in TAIL. It is also passively managed and buys monthly options, while TAIL can use longer dated ones.


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## Topo

We had a thread recently about trading, in particular TQQQ. I think TAIL would be a more interesting trade, given that it is negatively correlated with stocks, VIX is generally range-bound, and we (and the whole world for that matter) is long stocks. At the time stocks are tanking in one's portfolio, those trades will shine. But is noteworthy that TAIL does not move as much as TQQQ.


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## james4beach

Topo said:


> We had a thread recently about trading, in particular TQQQ. I think TAIL would be a more interesting trade, given that it is negatively correlated with stocks, VIX is generally range-bound, and we (and the whole world for that matter) is long stocks. At the time stocks are tanking in one's portfolio, those trades will shine.


That's a good point. If one can successfully time market movements (which we assume is possible, if anyone is bothering to trade at all) then there is more value added by trading something like TAIL.

Since we are all long stocks, being able to time the buys & sells on TAIL would be quite pleasant.

The question is, how well can you time the entry and exit from "a portfolio of index puts"?


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## Topo

james4beach said:


> That's a good point. If one can successfully time market movements (which we assume is possible, if anyone is bothering to trade at all) then there is more value added by trading something like TAIL.
> 
> Since we are all long stocks, being able to time the buys & sells on TAIL would be quite pleasant.
> 
> The question is, how well can you time the entry and exit from "a portfolio of index puts"?


Not easy. But one measure could be the VIX. When the VIX is at is lowest, the market is making highs and at the same time option prices are at their lowest (in terms of volatility).




james4beach said:


> View attachment 20255


Eyeballing the chart, $20 would have been a good entry point. If one takes profits at 21 (5%), there would have been 5 or 6 opportunities to do so in the last 2 years. There were 2 occasions to take profits at 2, 3, and 4 dollars. Only one chance at $5% (25%). 

As an insurance product, TAIL would have been most valuable during Dec '19 and recently in April '20. As a trading vehicle, I would go with the smaller, more frequent profits. This because 5-10% drops in the market happen more regularly than 20% plus crashes.


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## james4beach

Topo said:


> As an insurance product, TAIL would have been most valuable during Dec '19 and recently in April '20. As a trading vehicle, I would go with the smaller, more frequent profits. This because 5-10% drops in the market happen more regularly than 20% plus crashes.


I agree with smaller and more frequent profits.

All of this made me curious, so I looked at my own proprietary indicator; it's my own "market strength" indicator. Just based on intuition, I guessed at a threshold at which to enter TAIL (when market is weakening) and another to exit (market is very weak / peak pessimism).

I then back-tested what would happen at these trading signals
2018-02-14 to 2018-04-06, TAIL +2.6%
2018-09-10 to 2018-10-22, TAIL +0.6%
2019-08-21 to 2019-09-06, TAIL -0.6%
2020-03-09 to 2020-03-18, TAIL +4.6%

This is just a first cut at a strategy using my indicator. If you look at SPY at each of those periods, you will see the overall improvement of TAIL vs SPY is actually pretty substantial.

In the recent March example, TAIL +4.6% while SPY -12.5%.

Since these are pretty quick entries & exit, I might look at the possibility of trading in and out of TAIL in my US margin account. So I could do this alongside my existing long positions.


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## Topo

Good returns. The strategy could also be replicated buy direct OTM put options, unless one assumes that the managers would do a better job managing the portfolio or they would get better pricing.

As for a long term hold, if one could achieve a CAGR of 0% real on the TAIL side, then by upping the allocation to equities, one could reduce or eliminate the lagging effect of bonds on the total return. 

Equity-like returns with bond-like volatility? hmm...that doesn't sound right...


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## james4beach

Topo said:


> Good returns. The strategy could also be replicated buy direct OTM put options, unless one assumes that the managers would do a better job managing the portfolio or they would get better pricing.
> 
> As for a long term hold, if one could achieve a CAGR of 0% real on the TAIL side, then by upping the allocation to equities, one could reduce or eliminate the lagging effect of bonds on the total return.
> 
> Equity-like returns with bond-like volatility? hmm...that doesn't sound right...


I'm not yet convinced 

There is limited historical data for TAIL so we're only really seeing it "at its best", with a steadily rising VIX and quite a few index drops. This is the right kind of environment for it.

If the market keeps acting as it has in the last couple years, then yes, there would be nice opportunities using SQQQ, SH, TAIL, TVIX, etc. But I'm also concerned with what happens in more normal market conditions, or strong multi year rallies.

To do a longer term back test, I would use a similarly behaving instrument such as SH and see how that worked out. Or maybe PPUT in case that is similar.


----------



## Topo

james4beach said:


> I'm not yet convinced
> 
> There is limited historical data for TAIL so we're only really seeing it "at its best", with a steadily rising VIX and quite a few index drops. This is the right kind of environment for it.
> 
> If the market keeps acting as it has in the last couple years, then yes, there would be nice opportunities using SH, TAIL, TVIX, etc. But I'm also concerned with what happens in more normal market conditions, or strong multi year rallies.
> 
> To do a longer term back test, I would use a similarly behaving instrument such as SH and see how that worked out.


I agree with your point on limited data. I would like to see how much decay it has during a long term bull market similar to 2013. That would matter if one decides to hold it longer term.

I don't think SH will compare to TAIL, because by design SH should negate any movement of SPY on a daily basis. Holding both long term, would cancel SPY's returns and add a decay component from SH to it, resulting in a gradual loss.

If one takes daily movements as an example, a 1% up move in the SPY will be canceled by a 1% down move of SH. However, if one buys a put option for 100 shares of SPY, the change in option price will be less than 1% of SPY (depending on delta and vega), so the net result will be something like a 0.7% rise in the combo.

Combining SPY with TAIL would be like buy an ITM call option, with the added optionality of being able to decouple the trade at opportune occasions.


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## :) lonewolf

james4beach said:


> Instead they hold a ladder of index puts and continually roll them over. I think I would rather buy this and get the automatic rollovers and management, than tinker with options myself.
> 
> Maybe TAIL is a good way to get your "insurance"?
> 
> View attachment 20255


 Tail had very poor performance for holding put options during the crash probably from the roll over. Handsome profits would have been made on the puts bought before the crash & when sold during the crash though buying new put option for the roll over when premiums were high would put a drag on the fund.

I would stay away from ETF the reward was peanuts during the crash. If your going to risk money the reward should be bigger then the risk since everything on the table can be lost. 

Though the loss from the beginning of the chart to Feb just before the crash was very small for being long put options.


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## james4beach

Topo said:


> I don't think SH will compare to TAIL, because by design SH should negate any movement of SPY on a daily basis. Holding both long term, would cancel SPY's returns and add a decay component from SH to it, resulting in a gradual loss.


Good point. And the daily tracking nature of SH pretty much guarantees decay over time. TAIL doesn't have that problem.



> Combining SPY with TAIL would be like buy an ITM call option, with the added optionality of being able to decouple the trade at opportune occasions.


Makes sense, but I don't know anything about modelling those combinations (I don't know much about options).

I attempted to walk through a monthly simulation to see what happened with a SPY/TAIL mix with monthly rebalancing. Along the lines of your earlier suggestion.

First just SPY alone. From 2018-07-01 to 2020-06-01, the total return including dividends is 8.3% CAGR. The worst drawdown using monthly data was -24%.

70% SPY 30% TAIL. Now the return is 9.0% CAGR with -10% drawdown... better!
50% SPY 50% TAIL. Now the return is 8.4% CAGR with -2% drawdown. Just wacky.
Posting the chart separately below


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## james4beach

It should be noted that the 70/30 mix underperformed much of the time; notice that the blue line stays below the orange line until COVID-19.

But, the end result over these ~ 2 years is that the 70/30 actually beat SPY, with far less volatility. In other words, far superior risk adjusted return (Sharpe & Sortino). Monthly rebalancing is required to achieve this magic.


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## james4beach

Topo said:


> If one does a 50/50 with stocks, the portfolio will be protected from severe losses (and no need for bonds), but overall returns could suffer if there are losses on the TAIL side. On the other hand, one could lever it up, given the downside is limited. The rebalancing bonus could be substantial.


My simulation agrees with your intuition here. Starting from 2018-07-01, I'm seeing the 50/50 mix give the same CAGR as 100% stocks. I'm rebalancing monthly. Volatility has been virtually eliminated with only 1.5% drawdown during the recent crash.

Graph not shown for this one. See previous post for 70/30.

What a stunning result. Same performance as 100% stocks, with no volatility. Mechanical and no market timing required.

Could it act like this in the long term? What would happen during a long and steady stock rally?


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## Topo

:) lonewolf said:


> ...though buying new put option for the roll over when premiums were high would put a drag on the fund.


I totally agree with this. There is no point in buying puts when the VIX is in the 80s. If anything, that would be a good time to go short. One way to do that using the ETF is to sell all of the units and use the proceeds to buy SPY for example. For adventurous traders, there is the choice of shorting TAIL above a certain levels of VIX.


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## Topo

james4beach said:


> But, the end result over these ~ 2 years is that the 70/30 actually beat SPY, with far less volatility.


The last 2 years have seen two bouts of high volatility, one at the end of 2018 and another one recently. But volatility was generally muted in the past decade. Would the combo suffer from chronic under-performance under those conditions?


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## Topo

james4beach said:


> My simulation agrees with your intuition here. Starting from 2018-07-01, I'm seeing the 50/50 mix give the same CAGR as 100% stocks. I'm rebalancing monthly. Volatility has been virtually eliminated with only 1.5% drawdown during the recent crash.


Not sure I read the chart the same. I think there was a 10% draw down, from 116k to 104k, but it is an improvement over SPY nonetheless.

If volatility, particularly extreme volatility, could be eliminated from the combination, it would be ripe for leverage to boost returns.


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## james4beach

Topo said:


> The last 2 years have seen two bouts of high volatility, one at the end of 2018 and another one recently. But volatility was generally muted in the past decade. Would the combo suffer from chronic under-performance under those conditions?


That's a good point. We've had nice volatility in the last 2 years. That means index puts (and TAIL) have soared at times, which in turn has created the rebalancing opportunity that is harvested in my simulations above.

In contrast, a calm perpetual bull market would not create those volatility spikes. TAIL would chronically perform poorly and there is no rebalancing advantage. And I think you can see a hint of this in the graph I posted, in 2019. If the market behaved like 2019, for years on end, the returns of this combo would be poor.



Topo said:


> Not sure I read the chart the same. I think there was a 10% draw down, from 116k to 104k, but it is an improvement over SPY nonetheless.


The chart I posted was 70/30 and had 10% draw down, as you say. But I did not show the chart of 50/50, which according to my paper simulation had just 2% draw down.



Topo said:


> If volatility, particularly extreme volatility, could be eliminated from the combination, it would be ripe for leverage to boost returns.


This may be possible with a 50/50 combo.


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## Topo

james4beach said:


> The chart I posted was 70/30 and had 10% draw down, as you say. But I did not show the chart of 50/50, which according to my paper simulation had just 2% draw down.


Sorry, my bad. 

A 2% draw down is virtually nothing. When long options go in the money, they gain deltas, so I wouldn't be surprised if a 50% SPY drop would have given the combination a small upside potential. Maybe 50/50 is a bit too much insurance and 60/40 is more in line with a reasonably protected portfolio.

With regards to using margin, it is the deep and fast drops that create problems of margin restriction. TAIL is likely to do a good job to protect against those. Of course if it restricts the upside too much, then leverage would not be as effective. Better do the good old stocks and bonds.


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## james4beach

Topo said:


> With regards to using margin, it is the deep and fast drops that create problems of margin restriction. TAIL is likely to do a good job to protect against those. Of course if it restricts the upside too much, then leverage would not be as effective. Better do the good old stocks and bonds.


I agree that, theoretically, the SPY+TAIL combo looks promising somewhere like IB where you can get cheap margin rates and cheap trades (aggressive rebalancing). I would agree that it should protect you from those sharp drops and margin problems, unless IB changes broader margin policies. I wonder how they treat TAIL for example.

Hedging is a tough balance though. Add too much insurance and you'll get a mild portfolio, but won't perform so well. Or you may end up jumping through a lot of hoops (many trades and margin complexities) only to end up with something similar to a more conventional diversified portfolio.

As a quick example, I was on a Cuban beach during the worst part of the recent stock market crash. It was not possible to log into a brokerage and place trades, and yet, with the SPY+TAIL combo that's probably when you'd want to do a rebalancing to harvest a huge movement. By the time I got back to Canada, the market had calmed down quite a bit.

This actually is not the first time the stock market crashed on me while on a beach somewhere. For me, the passive portfolios have a big advantage since they "do their thing" while unattended.

Similarly, if using IB margin, you definitely need to stay on top of that portfolio.


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## james4beach

Topo said:


> Maybe 50/50 is a bit too much insurance and 60/40 is more in line with a reasonably protected portfolio.


Let's try this 60% SPY, 40% TAIL mix. I'm also curious what happens if you don't rebalance along the way:

YTD return on June 22 is +4.6% vs -2.5% for SPY
The low point was -6.4% vs -30.3% for SPY (Dec 31 - Mar 23)

That looks like pretty substantial protection / reduction in volatility to me, even with no rebalancing. Softening that 30% drop down to just 6% would be a huge win. The only caveat I see is that the chosen time period happened to start with rock bottom VIX and therefore a great entry to TAIL.

What do you think, Topo?



Code:


Starting values December 31: SPY=60,000, TAIL=40,000, Total=100,000
February 28 update: SPY=55,230, TAIL=44,452 , Total=99,682
March 23 update (market low): SPY=41,808, TAIL=51,828, Total=93,636
April 30 update: SPY=54,468, TAIL=47,240, Total=101,708
June 22 update: SPY=58,500, TAIL=46,076, Total=104,576


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## Topo

james4beach said:


> Let's try this 60% SPY, 40% TAIL mix. I'm also curious what happens if you don't rebalance along the way:
> 
> YTD return on June 22 is +4.6% vs -2.5% for SPY
> The low point was -6.4% vs -30.3% for SPY (Dec 31 - Mar 23)
> 
> That looks like pretty substantial protection / reduction in volatility to me, even with no rebalancing. Softening that 30% drop down to just 6% would be a huge win. The only caveat I see is that the chosen time period happened to start with rock bottom VIX and therefore a great entry to TAIL.
> 
> What do you think, Topo?
> 
> 
> 
> Code:
> 
> 
> Starting values December 31: SPY=60,000, TAIL=40,000, Total=100,000
> February 28 update: SPY=55,230, TAIL=44,452 , Total=99,682
> March 23 update (market low): SPY=41,808, TAIL=51,828, Total=93,636
> April 30 update: SPY=54,468, TAIL=47,240, Total=101,708
> June 22 update: SPY=58,500, TAIL=46,076, Total=104,576


Certainly interesting. What I am curious about is for example in a 50% SPY drop, how much would TAIL pop? With a 30% drop in SPY, TAIL gained almost 25%. Given there are options in the portfolio that would gain deltas and the volatility would explode to the upside, I would not be surprised if TAIL will outdo SPY and a 50/50 would actually gain value in the midst of a bear market! This assumes TAIL has not lost a big chunk to decay in the months prior. But even then rebalancing would have partly replenished the TAIL side and kept it ready for the pop. We of course do not know and have to wait to see how it performs.


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## james4beach

Topo said:


> Certainly interesting. What I am curious about is for example in a 50% SPY drop, how much would TAIL pop? With a 30% drop in SPY, TAIL gained almost 25%. Given there are options in the portfolio that would gain deltas and the volatility would explode to the upside, I would not be surprised if TAIL will outdo SPY and a 50/50 would actually gain value in the midst of a bear market!


I agree, I think the mix would do great during a big drop.



Topo said:


> This assumes TAIL has not lost a big chunk to decay in the months prior. But even then rebalancing would have partly replenished the TAIL side and kept it ready for the pop.


It's the performance during low VIX market rallies that worries me. Look at 2017-05-01 to 2018-10-01, when TAIL lost 18%.

That's a pretty bad drag over a lengthy period if mixed with SPY. Would that be a problem?

Also, I wonder how often you'd have to rebalance for best effect.


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## james4beach

I just adjusted my US retirement plan, where I have no trade fees. Previously, my stock component was entirely in SPY.

I changed this to 80% SPY + *20% TAIL* to get some downside protection.

It's a minor change, but the protective puts will partially protect my SPY position and I want to see how it responds over a few months.


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## Topo

james4beach said:


> It's the performance during low VIX market rallies that worries me. Look at 2017-05-01 to 2018-10-01, when TAIL lost 18%.
> 
> That's a pretty bad drag over a lengthy period if mixed with SPY. Would that be a problem?


It could be. It would be similar to buying SPY with protective puts. In a bull or neutral market, SPY alone will do better than the combo.



> Also, I wonder how often you'd have to rebalance for best effect.


I definitely would aggressively rebalance from TAIL to SPY, particularly when VIX is high and the market has fallen more than 10 percent. From SPY to TAIL, I would rebalance maybe once every 6 months or so, since volatility tends to spike about twice per year. I would not find it easy to rebalance repeatedly into a "sagging TAIL." 

One could start with a lighter allocation to TAIL, such as the 20% you have chosen, to leave more room for rebalancing. But I don't know what the optimum strategy would be. If one had invested since inception without rebalancing, there would have been only 2 occasions that one could break even. Other times the trade was a loser.

I hope the chart does not end up looking like UVXY. Time will tell.


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## james4beach

Topo said:


> I definitely would aggressively rebalance from TAIL to SPY, particularly when VIX is high and the market has fallen more than 10 percent. From SPY to TAIL, I would rebalance maybe once every 6 months or so, since volatility tends to spike about twice per year. I would not find it easy to rebalance repeatedly into a "sagging TAIL."


Thanks, that sounds like a very good plan. You've even accounted for the behavioural challenge of rebalancing from SPY to TAIL.



Topo said:


> I hope the chart does not end up looking like UVXY. Time will tell.


One major difference is that UVXY is both leveraged and rebalances (or somehow resets) daily. Most of those "daily" tracking funds, especially the leveraged ones, seem to develop this brutal decay. I'm hoping that TAIL is different since it is a portfolio of put options, held much like any other portfolio of securities. They don't track a daily performance.


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## MarcoE

My portfolio is simple. Just a handful of ETFs. One ETF (XIC) for Canadian equity. One ETF (XAW) for American+international equity. One ETF for bonds (XBB). One ETF for REITs. One ETF for gold. Then some cash in a HISA.

That's it. Pretty simple, I think. I try not to time the market, and I don't do anything fancy.

The trick is to get the allocation between these different ETFs right for me. I'm fairly conservative and keep about 55% my money in cash+gold+bonds, and the rest in stocks + REITs.


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## james4beach

MarcoE said:


> My portfolio is simple. Just a handful of ETFs. One ETF (XIC) for Canadian equity. One ETF (XAW) for American+international equity. One ETF for bonds (XBB). One ETF for REITs. One ETF for gold. Then some cash in a HISA.
> 
> That's it. Pretty simple, I think. I try not to time the market, and I don't do anything fancy.


Not doing anything fancy has some major benefits. Whenever one tries to do anything fancy, there's the risk of causing harm (making things worse than before). Staying totally passive, just buying and holding the ETF mix as you do, minimizes the number of things that can go wrong.

It's also much less work. Though I'm intrigued about this hedging of the S&P 500, it would involve a lot of monitoring and manual trades over time. That takes up time and energy.

Also, by holding stocks & bonds & gold too, you're already getting quite a bit of hedging -- without having to do anything fancy.


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## james4beach

Now (near market highs) is the time to think about risk mitigation.

Ritholtz and Meb Faber share some observations in this article about timing the market.

I apply a small amount of market timing (similar to the methods they describe) for 16% of my equities. I guess it's 20% once you add in the TAIL strategy I recently started. The remaining 80% of my equities are unprotected, always long.

Meb said something interesting in another interview I heard from him: These kinds of technical methods for timing the market (getting out) are probably not going to increase your return. The reason for using them is to defend yourself against the really big drops, like 50%, 60%, even 80% decline in the index... which _has_ happened in the US and elsewhere in the world. Sometimes the market stays depressed for many years.

I agree with Meb that protecting oneself against those catastrophic crashes is worthwhile. It would be very unpleasant to experience a 70% equity loss which doesn't recover for many years. This kind of protection likely does have a "cost" in the form of lost performance... and I'm OK with that.

I'm curious, who else here uses some kind of technical cues for getting out of stocks in case we have a severe crash? This seems like a good time to think about this, as we may be in the early stages of a true Depression.


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## james4beach

james4beach said:


> *My secondary method*: Years ago, I developed a technical analysis technique to try to spot a weakening market. If it tells me to sell and get out, then I do. It does not "intervene" too often, so it hasn't cost me much return. Whether it actually intervenes at the right time so that I can avoid a market crash remains to be seen.


I was checking up on my crash-avoidance technical analysis and saw something very interesting. With the current market direction, it appears on track to give me a "sell" intervention signal this Wednesday... that's the day after the US election!

I got rid of my TAIL hedge but still listen to my crash-avoidance technical signal. If it does tell me to sell, I will slightly lighten my equity exposure... barely makes a difference in my asset allocation, but keeps me entertained. It's a little bit of "market timing" with a small amount of my portfolio.


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## james4beach

My crash-avoidance technical method above never gave a sell signal. I've been holding long this whole time.

Current market conditions (which feel euphoric) make me feel like this could be a good time to add on hedges or protections, if someone doesn't have them. TAIL (if you want to go the put route), gold, and bonds are all a bit cheaper now.

I continue to hold bonds & gold as my hedges.

VIX is now the lowest it's been through this whole pandemic.


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## MrBlackhill

I haven't looked at the whole thread, but have you investigated SWAN?



https://snetworkglobalindexes.com/indexes/s-network-blackswan-indexes/data/constituentdata/swanxt











Amplify ETFs - SWAN


Amplify Black Swan growth and treasury core ETF. Manage risk while staying invested.




amplifyetfs.com













SWAN - A Review of the Amplify BlackSwan ETF for Downturns


Black swan events are impactful and unpredictable. The Amplify BlackSwan Growth & Treasury Core ETF (SWAN) was designed to protect against them. Let's dive in.




www.optimizedportfolio.com





Have you also looked at NTSX?


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## Covariance

MrBlackhill said:


> I haven't looked at the whole thread, but have you investigated SWAN?
> 
> 
> 
> https://snetworkglobalindexes.com/indexes/s-network-blackswan-indexes/data/constituentdata/swanxt
> 
> 
> 
> 
> 
> 
> 
> 
> 
> 
> 
> Amplify ETFs - SWAN
> 
> 
> Amplify Black Swan growth and treasury core ETF. Manage risk while staying invested.
> 
> 
> 
> 
> amplifyetfs.com
> 
> 
> 
> 
> 
> 
> 
> 
> 
> 
> 
> 
> 
> SWAN - A Review of the Amplify BlackSwan ETF for Downturns
> 
> 
> Black swan events are impactful and unpredictable. The Amplify BlackSwan Growth & Treasury Core ETF (SWAN) was designed to protect against them. Let's dive in.
> 
> 
> 
> 
> www.optimizedportfolio.com
> 
> 
> 
> 
> 
> Have you also looked at NTSX?


I've looked at NTSX. It uses Bond futures in a balanced fund with the equity component being large cap US. If you have not encountered Bond futures the high level summary is they are leveraged way to get exposure to movements of the yield curve (in this case US treasuries). It's been around a couple of years.


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## MrBlackhill

Covariance said:


> I've looked at NTSX. It uses Bond futures in a balanced fund with the equity component being large cap US. If you have not encountered Bond futures the high level summary is they are leveraged way to get exposure to movements of the yield curve (in this case US treasuries). It's been around a couple of years.


Yeah NTSX is like a 60/40 portfolio but leveraged 1.5x to a 90/60 portfolio. Interesting.









NTSX ETF Review - WisdomTree U.S. Efficient Core ETF (90/60)


NTSX from WisdomTree is a fund designed to provide diversification without sacrificing returns. I think the ETF is pretty clever, simple, and elegant.




www.optimizedportfolio.com





An example of a 90/60 Canadian portfolio. I've added the standard 60/40 and one could compare that 60/40 to the 1.5x leveraged 40/60 which gives a 60/90 with higher returns but same risk, so an increased risk-adjusted returns.


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## Covariance

MrBlackhill said:


> Yeah NTSX is like a 60/40 portfolio but leveraged 1.5x to a 90/60 portfolio. Interesting.
> 
> 
> 
> 
> 
> 
> 
> 
> 
> NTSX ETF Review - WisdomTree U.S. Efficient Core ETF (90/60)
> 
> 
> NTSX from WisdomTree is a fund designed to provide diversification without sacrificing returns. I think the ETF is pretty clever, simple, and elegant.
> 
> 
> 
> 
> www.optimizedportfolio.com
> 
> 
> 
> 
> 
> An example of a 90/60 Canadian portfolio. I've added the standard 60/40 and one could compare that 60/40 to the 1.5x leveraged 40/60 which gives a 60/90 with higher returns but same risk, so an increased risk-adjusted returns.


The 1.5x which is outcome or possibly a target as I understand it (although as it's an active fund who knows if that is fixed). From my understanding it's a unleveraged long position in large cap US equity weighted 90%. The remaining 10% is long bond futures (with a money duration substantially larger due to the leverage). The idea being that you "free up" the capital that would otherwise be needed to fund the larger bond position and invest it elsewhere.


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## Covariance

Elaboration on the post above. The long bond futures contracts are really a carry trade and thus the characteristics of the position's return, variance in returns would be different that a straightforward long bond position.


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