Strategic and Tactical Beginning to Blur (or 60/40 is Riskier Than You Think)

This is a great piece from Brad Jones at Deutsche Bank.

Serious must read.

Summary here.

PDF link below:

Rethinking Portfolio Construction and Risk Management – A Third Generation in Asset Allocation

$5(B)mln Idea

Excited to see the news that the SEC has hired a new ETF Czar, Barry Pershkow.  There has been quite a logjam/blockade at the SEC with funds filing with anything even mentioning the word derivatives so hopefully this helps them with the workload.

I still think there is a huge opportunity for some public managed futures, both targeting bond like volatility as well as more aggressive stock like vol and 20%+ targets.  Since 80% or so of the CTA world all do the same thing, here is a fun paper I forgot to link to this past fall – Quest Research Notes – Black Box Trend Following – Lifting the Veil.  Conquest also had a paper titled the Beta of Managed Futures.

The top 5 managed futures mutual funds have $7billion in AUM while the the average expense ratio is 2.71%.  The average sales charge for the A class is 5.75%.  Talk about SuperFees!

The only two managed futures ETFs trading are WDTI ( 0.95%) and LSC (0.75% but also an ETN), both based on the Sperandeo/S&P Indexes.  The problem with these, like most indexes, is front running.  In my Australia talk I mentioned the benefits of not following an index (and avoiding front running costs, up to 1.8% for small caps see Chen (2005) and Petajusto (2010) and up to 3% for the GSCI) which makes the active ETF structure perfect for active managers.  (Also see ‘Indexing’s Dirty Little Secret.)

I think if someone launched a series of managed futures ETFs at low cost it would raise $1bln in the first year, easy.  Once these trendfollowing funds start outperforming again, I see no reason a managed futures ETF couldn’t raise $5 bln in short order.

How To Get To 20%, or, Extensions to QTAA

The title of this post is meant to be a bit playful, but below is our first attempt at what should be a regular series of videos and webinars.  I found that it is much, much easier for me to chat about ideas and research than it is to type (at about 5 words per minute, need to try the Dragon software perhaps).

In any case, I feel a lot of context is lost in the printed word as well, so, in coming months look forward to lots of videos that will parallel 1)  published research papers, 2) speeches, since most are never recorded, and 3) our new upcoming books.  Once I figure out the technology we will try to add a live Q&A element as well if that interests people.

Below is a video where I try and answer five of the most often asked questions about our 2006 and 2010 papers, A Quantitative Approach To Tactical Asset Allocation and Relative Strength Strategies for Investing. Actually, a few are not questions I get but they are questions I should get.

We take a look at increasing the number of assets in the portfolio as well as increasing the granularity within the major asset classes.  We examine whether rebalancing frequency such as daily, weekly, or monthly rebalancing impacts returns, and the effects of different parameter lengths.  We also examine various cash management strategies that could improve returns over Treasury Bills.  We finish the presentation with a few more possible extensions that investors may consider as a complement to a trendfollowing system.

Note: You should be familiar with both papers and or at least read The Ivy Portfolio….(and if you would rather watch on Screencast here is the link.)

And, now that I’ve bored you to death, a second video to begin your week….beautiful Iceland and Bon Iver.


I poach most of my links from Abnormal Returns for investing and Kottke for weird and diversions.  Some fund ones below:

Best of LIFE magazine covers  – I didn’t see our family’s cover (true story, will post if I can find)…

I like this one in particular:


Then here is some film footage of Tebow, errr, I mean Harvard and Yale in 1903:


…and all the World Press Winners….

And skateboarding in NYC in the 1960’s:


Great Lo Video

HT: Tadas

Combining Value and Momentum Approaches

This is a really interesting semi-annual report from Hussman.  In it he shows the returns of his main fund, both hedged and unhedged.  The take-aways are that a) his stock picking has added a lot of value over the broad indexes and b) the hedging has added value, not on an absolute level, but a lot on a risk adjusted level by reducing volatility and drawdowns over the past decade.  Click on chart to enlarge.


We have presented a lot of hedging ideas over time, the main one being a momentum, or trend, based system (A Quantitative Approach To Tactical Asset Allocation).  Most of the results of a moving average system have similar properties in that the they do not increase absolute return over buy and hold, but rather reduce volatility and drawdown. (One can use other methods such as momentum/relative strength and or leverage to increase absolute returns like Relative Strength Strategies for Investing.)

Hussman’s fund is interesting, as it essentially increases equity exposure as valuations come down, and decreases exposure or hedges as valuations increase.  Reminds me a lot of GMO.  So in some ways it is a bit of a dynamic short volatility fund based on valuation (I know not quite the right description but works for purposes of this post).  Here is an older post we did on hedging using CAPE, and found that a simple method of investing when the CAPE was less than average generates equity returns with less risk and drawdown.

Anyways, I think it is instructive to demonstrate how pairing a fund like this with a long volatility strategy would have worked since inception.  So, I’m going to include the GTAA strategy from my paper here, only using the hypothetical 5 asset classes and the 10-month simple moving average.  I’m also going to lop off a very conservative 2.0% for fund expenses,  trading friction, etc.

(I don’t think I have to say this for long time readers, but please realize this is a hypothetical exercise that is meant to be instructive, and this is not how I manage funds, etc.  In none of our funds do we use these parameters, etc.  My family is also a long time HSGFX owner, none in client accounts.  I have 100% of my net worth in our funds.)

Ok, back to the simulation.  Below is an equity curve of the strategies from 12/00 (Hussman inception) to end of Jan.  What is interesting to note is that both strategies have delivered nice absolute and risk adjusted returns over stocks and a hypothetical 60/40 allocation.  HSGFX and GTAA strategies both end up in roughly the same place, but note they have zero correlation to each other.  (Also notice the 60/40 correlation to stocks, an often used argument for risk parity strategies.)



Both funds have chopped sideways in the past two years where their correlation has been -.6%.  There are times where the strategies would be highly correlated (an uptrending low valuation market).  I still think there is a huge need for a research piece or newsletter focused on public alternative funds.  If no one gets on the ball we’re gonna have to start one here…





Value and Momentum VAMO

Quick test, nothing too exciting but agrees with most research.  Simply ranked 13 top world equity markets by a value composite (average of ranks for Earnings Yield, FCF Yield, Dividend Yield, and Book Yield) as well as 12-Month returns.  Yearly rebal.  Gonna add CAPE next.

Cocktail Indicator

I am wrapping up my trip in Sydney (wonderful country, people, and beaches), and mentioned on Twitter yesterday that I thought the AUS $ was overpriced due to the prices of cocktails in the country.  I was specifically referring to the Green Bison, which sounds a bit more manly than Green Destiny, but in any case they were made with Zubrowka which is a wonderful vodka.  The last time I experienced prices that felt this out of whack was back when I was in London. Even the Panda Express stir fry is about $25 at the airport.  Reminded me of the old Jim Rogers quote… “While I have never patronized a prostitute,” Jim Rogers writes, “I know that one can learn more about a country from speaking to the madam of a brothel or a black marketeer than from meeting a foreign minister.”

In a vaugely similar note, I really enjoyed this article on the carry trade.  It takes a look at the carry trade but ranks currencies on real interest rates rather than just interest rates.  I always hate it when journalists write an article about factor or approach X, then go on to state “no one know why X works.”  I guarantee you there are people that understand why X works and are profiting handsomely (they just aren’t telling you about it).  Currencies appreciating due to excess fear due to high inflation (and the subsequent risk premium built in to compensate the investor) makes sense to me.  I’ll re-run the study on both G10 and emerging countries when I get back home from the airplane.  Fingers crossed that there are bad movies, babies crying, and no internet so I’ll have 14 hours straight to write…

“There’s nothing to writing. All you do is sit down at a typewriter and open a vein.” -Walter Wellesley “Red” Smith

Active ETFs – $50(0) Billion in 5 Years?

I look forward to meeting a few readers at the conference in Sydney tomorrow, and I’m chatting a bit about active ETFs.  The active ETF space is still relatively small (about $5billion in the US), and is dominated mostly by currency and bond funds (about 50 funds).  But if McKinsey is right, that is going to change and change quick (The Second Act Begins for ETFs – this is really a great PDF read from last summer):

“Consider that if active ETFs were to follow the same growth pattern that passive ETF products followed, they would constitute approximately 10 percent of all actively managed U.S. long-term mutual fund assets within a decade and exceed $1 trillion in AUM”

The new Gross fund out next week should do a bit to stir up the industry, and I think in general people are still slow to realize the tax benefits of the ETF structure, and possibly more importantly, the benefits of not following an index (and avoiding front running costs, up to 1.8% for small caps see Chen (2005) and Petajusto (2010).) which makes the active ETF structure perfect for active managers.  (Also see ‘Indexing’s Dirty Little Secret.)

Chart below from my talk, Y-axis is millions of $.


We Need More of This

Longer form, thoughtful analysis.

Institutional Imperative

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