In this blog post, I want to discuss the virtues of being more active with regard to asset allocation decisions. In up-trending bull markets, a buy and hold approach for clients is fine, but when markets turn to sideways or are down biased, a more active allocation approach is warranted if one desires a better return and risk profile. Given all the uncertainty in the world across health, economic, and personal financial health concerns, I’m not sure the buy, hold and hope approach is the right course of action. The rub: most portfolios stay static versus being more dynamic.
The Volatility index (VIX) peaked at around $85 in the third week of March and has since retreated back to the $27 level. Given the amount of potential boogey-men lurking around most corners, the current level of VOL seems appropriate. In fact, I could make the argument volatility is low given the potential issues I see currently. Nonetheless, a higher VIX simply means there are more tactical trading opportunities for people to capture given the wider range of stock prices on a daily basis. Unfortunately, most active equity funds and all passive ETF’s do not have the ability or interest in using volatility to their advantage to try and enhance returns in difficult markets. I have harped on the concept of “stubborn prospectuses” in these blog posts before. If one’s goal is to manage through whatever storm arrives, having more flexibility and tools is much preferred to having less.
The opportunity for Advisors
Upgrade the portfolio. We now have both up- and down-market environments to assess the funds and ETFs we hold for clients. Doing a simple and quick analysis will offer a solid pass/fail test on the holdings in the portfolio when you analyze the strategies you own over a YTD and one-year time period. I can guarantee you that doing this analysis will offer significant insights into where you are strong and where there’s an opportunity for portfolio upgrades. As always, if you would like our team to do a detailed analysis of your current portfolio matrix, we are happy to do help using Ycharts. You can email me directly at email@example.com and I will turn around the analysis in one business day.
Where are we now?
The S&P 500 has rallied a whopping 31% since the March 23 low. The Nasdaq 100 ETF, QQQ has rallied 35% from the low on the same day. Waterfall declines tend to get re-traced. The rubber band was about as stretched to the downside as it ever gets, and the historic amount of Fed and Treasury stimulus was equally as historic. That led to the vicious rally we have just witnessed. In my opinion the easy money has been made for now as market equilibrium has again been reached. I’m not sure Financial Advisors will be given a better time to upgrade their portfolio. Today is a wonderful time to assess which strategies have performed admirably and which lack a little to be desired. The true test of a manager is their ability to navigate choppy waters and hurricane force winds. Like in stock trading, it’s time to cut your losers and let your winners run.
What styles and investment vehicles should I consider replacing?
Underperforming funds/ETFs. Value. Bank stocks. Most Real Estate focused stocks. Companies with too much debt to service. Second and third tier competitors of industry leaders. Companies with too high a dividend and slowing growth and cash flows. Most index ETF’s. Strategies holding several hundred or thousands of stocks. Most active equity mutual funds that must remain fully invested by prospectus and those forced to stay in a Morningstar style box. Low quality companies. Highly cyclical companies. Retailers without significant e-commerce capabilities. Companies heavily dependent on being a gathering spot for consumers.
What styles and vehicles should be well suited for this environment?
Growth stocks. Active ETF’s. Flexible equity funds that have the ability to hold excess cash, be tactical and opportunistic using shorter term time frames. Sector rotation strategies. Low volatility equity strategies that tend to thrive in low interest rate worlds. Strategies focused solely on high quality balance sheets, leading brands, and innovators of industries. Companies whose business models thrive when more employees work from home. E-commerce leaders. Pharma and healthcare companies that serve an aging global society and/or are working on Covid19 vaccines. Strategies that focus on the disruptive innovation happening across the globe. Generally speaking, I think large companies over smaller companies, domestic over international and growth over value for now.
This is a trader’s market.
In my humble opinion, traders will thrive in 2020 and buy and hold investors will struggle. At the top of the trading range (now), the portfolio looks decent, and at the bottom of the range, the portfolio looks dreadful. My guess is the market will trade in a wide range for the next few years as the economy begins to heal and normal activity takes over. I think we will have stubbornly high unemployment for longer than people think which means the policy accommodations and low interest rates are likely here to stay for a very long time. There will be extraordinary trading opportunities for the foreseeable future and at some point, later in the year we should at least see a trough in the economic data. When the rate of change can only go up, troughs in equity markets tend to occur. Unfortunately, I do not anticipate a V-recovery in most parts of the economy anymore so while I believe there could be a decent set-up later this year for value and more cyclical companies to outperform, that performance gain will likely be short-lived. Until further notice, I will be holding the high-quality core brands, while trading around them and looking for shorter term, opportunistic trading ideas that can add some total return around the core. The market will not always offer great trading opportunities so we will capture them while they exist. You trade the market you have not the one you want. We are not stubborn. We are not locked in a style box. We can hold cash. We can tactically trade. We can gyrate between offense and defense. These are qualities that should be rewarded in an uncertain environment.
Here are some bottom-line takeaway points for investors to consider:
- Now is a perfect time to analyze your portfolio & make the appropriate adjustments.
- If you would like us to perform a portfolio analysis, please email me!
- Flexible strategies should continue to perform much better than style-box ones.
- Tactical trading will continue to offer opportunities for those willing to take them.
- More concentrated strategies should perform better than fully diversified ones.
- Cash is an asset class when used appropriately. We will continue to use cash as our weapon.
This information was produced by and the opinions expressed are those of the author as of the date of writing and are subject to change. Any research is based on the author’s proprietary research and analysis of global markets and investing. The information and/or analysis presented have been compiled or arrived at from sources believed to be reliable, however the author does not make any representation as their accuracy or completeness and does not accept liability for any loss arising from the use hereof. Some internally generated information may be considered theoretical in nature and is subject to inherent limitations associated therein. There are no material changes to the conditions, objectives or investment strategies of the model portfolios for the period portrayed. Any sectors or allocations referenced may or may not be represented in portfolios managed by the author, and do not represent all of the securities purchased, sold or recommended for client accounts. The reader should not assume that any investments in sectors and markets identified or described were or will be profitable. Investing entails risks, including possible loss of principal. The use of tools cannot guarantee performance. The charts depicted within this presentation are for illustrative purposes only and are not indicative of future performance. Past performance is no guarantee of future results.