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Posted by on Sep 27, 2017 in ETF Strategist, Featured

Portfolio For An Apocalypse?

Portfolio For An Apocalypse?

By Roger Nusbaum, AdvisorShares ETF Strategist

Barron’s had a quick, fun read about one strategist’s Stock Apocalypse Portfolio, he thinks a large decline is coming because of how far the NASDAQ is above its 200 month moving average. He’ll either be right or wrong but it is interesting to see other people’s thoughts along these lines and critique them.

It’s a long short portfolio and the list doesn’t have too many names on it. He suggests a mega cap oil company, mega cap telecom, a relatively large gold miner, a relatively large silver miner, sector ETFs for real estate and utilities, a long VIX ETP and a China ETF traded locally in Hong Kong that he believes will benefit from infrastructure spending. (naming names is difficult for compliance reasons)

I plugged all the symbols into a chart, except for the VIX ETP and the China ETF, and the returns from October 2007 to March 2009 ranged from -15% to -67%. Any broad-based real estate proxy is unlikely to go down that much more than the market if for nothing else than that the next crisis won’t be a repeat of the last crisis, it will be something else that causes it. Where many of those holdings are perceived as being havens, several were down in the 30’s a 40’s percent-wise versus 56% for the S&P 500.

The results from the tech wreck were a little better. The miners were up a lot, real estate was close to flat, telecom was down noticeably but not horribly, utilities were down a lot (think unregulated utilities with fraudulent operations) and energy was down a lot.

During the last bear market the Shanghai Composite Index fell about 65% (there were only a couple of China ETFs back then) and over the course of the tech wreck the index fell 10% but in the year off the March 2000 high it did rally 25%. Long VIX products are very difficult to own because of the general tendency for them to move from the upper left to the lower right.

On the short side, he recommends four different large cap tech stocks and one online broker (reasons for all shorts cited in the article).

Oddly, the Barron’s article doesn’t give an objective of the portfolio. If the market does go down a lot in the manner suggested, it is not clear if the intention is that the portfolio will actually go up in a down 50% world or simply offer a better relative return. There’s a pretty reasonable chance of relative outperformance. Down 25% in a down 50% world builds in an awful lot of alpha for long term investors (just an example, I have no idea is the proposed portfolio would hold up that well).

I don’t think there is a great chance of some sort of market neutral or absolute sort of return with this portfolio. The stocks and sectors chosen on the long side have a mixed track record and while they all could work it’s not necessarily a great bet based on probabilities. Forgetting the issues that VIX products have historically had with what they actually track and daily resets, there is no guarantee that the VIX will actually go up in a downturn. Look at it from the financial crisis, it had three months where it skyrocketed, essentially the third quarter of 2008, the rest of bear market it went down more often than it went up. During the tech wreck the VIX sawtoothed in both directions such that had there been options or ETPs back then it would have required a lot of successful trading to effectively offset equity market declines.

In terms of selling short individual stocks, there will be some names that go up in the next bear market for who knows what reason, not a prediction that any of them will but a point that bears mentioning; sometimes stocks that should go down actually go up.

Finally, regarding the China ETF, if you buy his thinking about infrastructure in China, you can probably get the exposure he is talking about with one or two ETFs traded in the US.

In thinking about some sort of apocalypse portfolio I would allocate more to low or hopefully negatively correlated assets. While there are no guarantees that past correlation effects will persist going forward but I would gravitate toward gold, managed futures, funds that sell short one way or another, merger arbitrage and absolute return (other than merger arb). I also don’t think it is necessary to try to figure out how to create some sort of positive return when the market cuts in half. If the equity market has an average annual return of 7-10% (depending on the time period studied), that average includes all the huge gains and huge declines. If a long term investor misses a large chunk of just one big decline in their lifetime then as touched on above, they are adding a lot of alpha for their investing lifetime, even if it is concentrated in one or two years.

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