We made some trades in both model portfolios on June 30th, 2022. The end result was a slight increase in stock and interest rate exposure by moving from shorter-term bonds to longer-term bonds, which are more sensitive to interest rate changes. This means that a 1% increase in rates equates to a bigger drop in price. We also made some changes to our hedging to protect the portfolios from an increasingly likely drop in higher credit risk debt, aka junk bonds. There just isn't the kind of selling from funds going on to mark a great buying opportunity even with the bear market decline.
Before we get to the trade detail, here is a quick summary of June 2022 returns:
Although it was nice falling roughly 60% as much as the S&P 500 and less than the Vanguard STAR fund, which is a total balanced portfolio of global bonds and stocks, this was still a pretty big hit for us as stocks and bonds are falling globally. We are down 9.85% for the year in our aggressive portfolio, or about half the S&P 500 drop. Our conservative portfolio at -13.93% is less impressive but is more interest rate sensitive and doesn't have offsetting short positions. Year to date, Vanguard Star Fund (VGSTX) is down 18.64% to the end of June.
The only fund category that was up in June was China region funds, which have been very weak until recently. Even hot commodity focused categories and countries like energy funds and Brazil funds have been down sharply. Gold, the supposed safe haven from global turmoil and inflation, is down about 15% from its peak a few months ago. Our only strong showing last month (other than short funds) was Franklin FTSE China (FLCH), up 8.59% and now "only" down 10.57% for the year. Compare that to Franklin FTSE Germany (FLGR), down 16.18% for the month and just under 30% for the year, and you can see how much more economic risk Europe is in than China with Russia and rising energy prices. It is unlikely China can avoid a recession in Europe and the United States, so these recent market moves are more the west catching up to the declines in China.
The reason for the turnaround in commodities-oriented investments is that the writing is on the wall and the Fed is likely going to keep raising rates until inflation starts definitely heading back toward 2%—which could take some time. Without the White House cutting spending or raising taxes, it will take high rates to suck back the maybe $10 trillion handed out globally as stimulus during COVID. It was dangerous and unnecessary for the Fed to keep buying mortgage bonds, recently sending the 30-year mortgage under 3% during what has been fast becoming another real estate bubble. The new higher mortgages could cause a real estate crash, particularly in commercial space that, in the case of offices, barely makes sense at current rent prices due to the new hybrid work schedule.
The S&P 500 is now in a bear market down around 20% for the year. Long-term bonds are down about as much, highlighting the difficulty for risk reduction with a balanced portfolio when interest rates are near zero with little room to go but up. Growth and tech areas are down around 30% or more. So far, it has been a good year to be in value stocks and cash.
Normally, this would be a good time to increase risk significantly as we did during the COVID crash in the early 2020, but this trade does not do that. We're holding out for another 10—20% drop and buying longer-term bonds while avoiding most higher credit risk bonds. It is likely we will be doing another trade in a few months if the market keeps sliding. If the Fed turns out to still be a so-called dove, inflation remains high, and short-term rates don't go much higher, we may miss a turnaround in the market, and this will be another 20% drop dip buying opportunity like during the end of 2018.
The Trades
All bonds are down this year, with longer-term bonds down around 20%. We cut back on longer-term bonds during the COVID crash, and our initial move to inflation adjusted bonds was a good call. Perhaps we got out of these bonds too soon fearing the risk of inflation expectations collapsing if the Fed got aggressive on fighting inflation, which didn't really happen yet.
Now with all rates rising rapidly, our shorter-term investment-grade mortgage bond fund is down a whopping 8.8% for the year through the end of the June. This was better than the even overall bond market down just over 10.35% and less than half the 21.40% slide in Vanguard Long-Term Bond Index ETF (BLV) a long-term bond fund that we cut back on post-COVID.
Long-term bonds have declined about the same as the S&P 500 (so far), down around 20% including dividends. Speaking of, the yield on the S&P 500 is up but still only around 1.65%, and the bond market as a whole now pays a far more healthy 3.5%. Although it is possible that interest rates will continue up to meet higher inflation, realistically the bulk of the hit to bonds is behind us, and any moves to say 4—5% will reverse when the next recession kicks probably from the higher shorter-term rates. If the Fed chooses to allow more high inflation, it is unlikely interest rates will rocket higher to say 7% just to continue to pay less than inflation—which is no great situation but still warrants owning 3—5% yielding bonds as the stock market risk is higher than bonds if the Fed overshoots.
We've discussed this poor situation in bonds since early 2020. When cash yields zero and the bond market yields less than 2%, your offsetting gains from a stock slide are essentially nil. This is why a bond and stock blend did so poorly in the early 2020 COVID crash, and this year (so far). In hindsight, when we reduced our stake in long-term and inflation adjusted bonds (for this very reason), we should have just gone to cash and not for the paltry yields in mortgage bonds. This is easy to say now, but earning zero while the Fed decides what to do isn't a great solution. It would have made more sense to own more stocks, less bonds, and more hedges.
If stocks go significantly lower from here, it is more likely that bonds will do well (not junk bonds, but investment-grade and government debt), so the benefit of a balanced portfolio will return.
This new fund was launched last year and broadly speaking is somewhat similar to a fund we've used off and on in client accounts, Vanguard Market Neutral (VMNFX). These funds mostly own value-type stocks and short high-flying growth stocks with questionable fundamentals like Carvana (CVNA) to name one of hundreds. This strategy can work in normal markets but is best during deflating bubbles. It is a disaster during times like 2020 and 2021 when hot bubble stocks get hotter, as you can see from the bad performance of Vanguard Market Neutral (VMNFX). We're pretty late in the deflating tech bubble game with roughly 80% declines across the board, but this strategy still offers potential for a late-stage decimation and 99% drops in many speculative tech names. VMNFX is the lower risk (less overall market exposure) and probably the better choice but has a high minimum, so we are not using it here. LBAY probably has more upside (and downside) risk. Unlike most of our holdings, we may not keep this fund for over a year, so consider it in an IRA in case there are short-term gains. Also the fund has a regular dividend payout strategy, which is basically a marketing gimmick.
Foreign stocks are now very cheap, though they face high risks from a deep recession as many do not have secured domestic energy supplies and rely heavily on Russia. This, plus rising rates and slowing economies as well as dealing with multidecade high inflation, makes times look even rougher abroad than here. This is also why these prices should work out in the longer run. Many of these markets are almost in single-digit PE ranges, and dividend yields are more than double the United States. Small cap stocks abroad are even more out of favor probably because of the large cap index focus of most investors when investing abroad.
High-risk bonds will fall hard if the economy slides into a deep recession. Safer bonds could actually improve in price, so it is possible that we'll make money on this fund and our longer-term investment-grade bond funds. There is little risk in the short run of this fund falling significantly and losing money in investment-grade bonds, which would require the spread between low- and high-risk debt to shrink.
We don't usually have inverse funds in our Conservative portfolio, but we need protection from further troubles in the bond market. This fund is a safe way in the short run to do that. See Aggressive portfolio for more explanation.
While we were right to cut back on longer-term bonds and go to shorter-term safe bonds, there was still too much interest rate risk here, and we should have just stuck it out in cash or 1-year bonds. We could continue to hold this fund, but we're going to move more to long-term bonds (which have more downside risk if rates keep going up). The fund was down 8.88% for the year.
We're cutting back on lower-risk stock funds that are yield focused. These funds are attracting too much money as investors shift out of growth. This fund was down just 1.23% for the year, so it served its purpose during this bear market.
AGGRESSIVE PORTFOLIO ONLY
Overall: 62% stocks to 63% stocks, bonds from 34% to 21% (but more rate risk) alternative from 0% to 3%, and inverse 4% to 11% (largely from adding inverse junk bonds).
Click here to visit the Aggressive Portfolio's trade center.
We've owned this fund for years but cut it loose long ago as a too-early exit from tech bubble valuations. The issue was that the communications indexes started adding Facebook and Google, which does make sense on some level but also exposed the fund to high-risk stocks instead of the usual Verizon- and AT&T-type holdings.
Fast forward to today, and these stocks are all way down. A few days ago, this fund was down around 40% from the highs last September. Keep in mind more speculative tech names are now down 50—90% pretty much across the board. Can they go lower? Definitely, earnings are going to be a problem at even tech monopolies as ad spending from money-losing bubble-era startups gets cut in a desperate attempt to get profitable. Still, these prices are attractive, and we can add more if this isn't the bottom.
ProShares Short Bitcoin Strategy (BITI) from 0% to 2%
Too bad this inverse Bitcoin fund wasn't launched before the 70% drop in bitcoin, as we've been noting this bubble for years here. It would seem this bubble is almost fully popped, but Bitcoin, unlike say a tech index, can go far lower. This fund should do well as inflation fears disappear as the whole narrative of 0% rates is fast ending. Since there are few ways to short commodities and inflatable assets, this offers an, albeit strange, deflation bet. In many ways, sharply falling inflation is worse for stocks than high inflation and is outright deadly for real estate. That said, crypto investors have cultlike behavior and may not sell even in the face of 70% declines and crypto accounts being frozen or falling 99%.
This new fund was launched last year and broadly speaking is somewhat similar to a fund we've used off and on in client accounts, Vanguard Market Neutral — VMNFX. These funds mostly own value-type stocks and short high-flying growth stocks with questionable fundamentals like Carvana (CVNA) to name one of hundreds. This strategy can work in normal markets but is best during deflating bubbles. It is a disaster during times like 2020 and 2021 when hot bubble stocks get hotter, as you can see from the bad performance of Vanguard Market Neutral Fund (VMNFX). We're pretty late in the deflating tech bubble game with roughly 80% declines across the board, but this strategy still offers potential for a late-stage decimation and 99% drops in many speculative tech names. VMNFX is the lower risk (less overall market exposure) and probably the better choice but has a high minimum, so we are not using it here. LBAY probably has more upside (and downside) risk. Unlike most of our holdings, we may not keep this fund for over a year, so consider it in an IRA in case there are short-term gains. Also the fund has a regular dividend payout strategy, which is basically a marketing gimmick.
This fund generates K-1 partnership tax paperwork, not a 1099, so it should be in an IRA. Unfortunately, there are very few ways to short commodities with ETFs or funds anymore—most are too small or too leveraged. This is too bad as the real risk now is a collapse in the economy and the new commodity bubble. Bottom line, if stocks fall another 20%, it will likely happen as oil falls back to $50. There is some risk of the Russia situation sending oil up to $150, in which case we may double down on this position. We owned a similar fund during the last great recession-era commodity crash and did well.
The value boom relative to growth might not be over, but we don't need such a big weight here anymore. This fund was only down 9.29% for the year, or about half the S&P 500. We're not ready to get back heavy into the Vanguard Growth ETF Vanguard Growth ETF (VUG), which was down around 30.37% for the year, but perhaps soon.
We cut this fund back from 8% to 4% back in late February 2021 as it was riding high after the COVID rebound. We probably should have gone to zero like in the Conservative portfolio. Anyhoo, now that the fund is down sharply (around 15% for the year and about 25% since we cut it back) with over 7% yields, it is time to go increase the position, though there are big risks in high-yield bonds that hopefully we're covering with our new short high-yield bond ETF. There is potential to make money here when our dollar sinks from multidecade highs. In general, reaching for yield in a potentially teetering economy is a bad idea.
CONSERVATIVE PORTFOLIO ONLY
Overall: 42% stocks to 44% stocks, bonds from 48% to 32% (but more rate risk) alternative from 10% to 17%, and inverse 0% to 7% (from adding inverse junk bonds).
Click here to visit the Conservative Portfolio's trade center.
CONSERVATIVE PORTFOLIO ADD NEW HOLDINGS
NightShares 2000 (NIWM) from 0% to 5%
This new fund (launched in the last few weeks) is a bit of a gimmick based on a historical anomaly. Typically we don't like data mining to create a fund because, by the time you get around to marketing a fund, the money that has been made in this anomaly goes away—or even reverses . Many things work on paper until enough people start doing it. Sometimes such patterns work during certain markets and do the opposite during others—the Dogs of the Dow strategy where you simply focus on the highest yielding stocks in the Dow worked great, until growth stocks started to lead the market in the late 1990s (and again until recently).
That said, this anomaly may not go away for another year or so, and this strategy should be lower risk than owning a straight small cap stock fund as we did post-COVID crash. We're going to have to watch it closely for a possible sale. This fund should be tax-inefficient from constant realized short-term capital gains, so consider it in an IRA.
The fund only owns stocks (through futures) at night, in this case the small cap Russell 2000 index. The pattern has been that, if you buy stocks near the end of the market close, say 3:50 p.m., and sell the position at 9:30 a.m. when the market opens, you earn a better risk adjusted return than the market. There are hypotheses and white papers about this, which doesn't make it any more certain as a strategy for the future of course. Our theory is that it is partially the result of day traders coming into stocks in the morning often with leverage and getting out by the end of the day, artificially boosting prices in the morning, depressing them near the end of the day, and causing a generalized irrational fear of the overnight. But retail day traders have largely been destroyed since the 2021 peak in growth stocks. We'll have to watch this one closely for asset growth or the end of the era of this scheme working. There are other problems like tax inefficacy that almost require this in an IRA.
Not much to explain here—as rates go up and bonds tank, we're moving into longer-term bonds that have the most upside if rates go back down, say in the next recession. The only way long-term rates go much higher from here is if the Fed stops raising short-term rates and doesn't sell off many of the bonds acquired with newly created money and essentially remains a dove. It could happen, but it is not that likely. Meanwhile, 3%+ yields are worth some risk, unlike 1%.
This is the recession buster holding because the interest rate exposure is so extreme, meaning changes in interest rates lead to huge changes in the fund price. The fund does best when rates go down for safe bonds as is often the case in a recession and when inflation expectations decline. We sold some of this fund post-COVID when rates were ultralow then bought some back early in 2021 (too early as it turns out). This fund is down 28.11% YTD more than the S&P 500 and almost exactly what the Nasdaq is down from the highs. If long-term rates go up more, we'll increase our position again.
Eventually we're going to stop raising rates, and then other countries with rising inflation are going to go up and our hot dollar is going to sink back down. In the meantime—go to Europe on a trip as the Euro is around parity (1 USD — 1 Euro) with the dollar, the best deal in decades for travelers.
This has a similar explanation to new holding Vanguard Long-Term Treasury Index (VGLT), only we don't want to increase our corporate bond position that much quite yet—this fund includes government and corporate investment-grade bonds, which explains the slightly higher yield.
Our last trade here was cutting back in February 2021 after a big move up (basically a double). Now with a slide of 25% YTD in 2022 and about a 36% drop since we cut back, we're increasing the position again. The fund portfolio has yields of over 3% and a P/E ratio under 10 or about half the valuations of the S&P 500—not that cheapness magically saves you from losses in a global panic or recession, but it can reduce your losses when bubbles burst, at least compared to other options.
New User? CLICK HERE!
We made some trades in both model portfolios on June 30th, 2022. The end result was a slight increase in stock and interest rate exposure by moving from shorter-term bonds to longer-term bonds, which are more sensitive to interest rate changes. This means that a 1% increase in rates equates to a bigger drop in price. We also made some changes to our hedging to protect the portfolios from an increasingly likely drop in higher credit risk debt, aka junk bonds. There just isn't the kind of selling from funds going on to mark a great buying opportunity even with the bear market decline.
Before we get to the trade detail, here is a quick summary of June 2022 returns:
Our Conservative portfolio declined 4.77%, and our Aggressive portfolio declined 4.89%. Benchmark Vanguard funds for June 2022 were as follows: Vanguard 500 Index Fund (VFINX), down 8.26%; Vanguard Total Bond Index (VBMFX), down 1.50%; Vanguard Developed Mkts Index (VTMGX), down 9.61%; Vanguard Emerging Mkts Index (VEIEX), down 4.43%; and Vanguard Star Fund (VGSTX), a total global balanced portfolio, down 6.25%.
Although it was nice falling roughly 60% as much as the S&P 500 and less than the Vanguard STAR fund, which is a total balanced portfolio of global bonds and stocks, this was still a pretty big hit for us as stocks and bonds are falling globally. We are down 9.85% for the year in our aggressive portfolio, or about half the S&P 500 drop. Our conservative portfolio at -13.93% is less impressive but is more interest rate sensitive and doesn't have offsetting short positions. Year to date, Vanguard Star Fund (VGSTX) is down 18.64% to the end of June.
The only fund category that was up in June was China region funds, which have been very weak until recently. Even hot commodity focused categories and countries like energy funds and Brazil funds have been down sharply. Gold, the supposed safe haven from global turmoil and inflation, is down about 15% from its peak a few months ago. Our only strong showing last month (other than short funds) was Franklin FTSE China (FLCH), up 8.59% and now "only" down 10.57% for the year. Compare that to Franklin FTSE Germany (FLGR), down 16.18% for the month and just under 30% for the year, and you can see how much more economic risk Europe is in than China with Russia and rising energy prices. It is unlikely China can avoid a recession in Europe and the United States, so these recent market moves are more the west catching up to the declines in China.
The reason for the turnaround in commodities-oriented investments is that the writing is on the wall and the Fed is likely going to keep raising rates until inflation starts definitely heading back toward 2%—which could take some time. Without the White House cutting spending or raising taxes, it will take high rates to suck back the maybe $10 trillion handed out globally as stimulus during COVID. It was dangerous and unnecessary for the Fed to keep buying mortgage bonds, recently sending the 30-year mortgage under 3% during what has been fast becoming another real estate bubble. The new higher mortgages could cause a real estate crash, particularly in commercial space that, in the case of offices, barely makes sense at current rent prices due to the new hybrid work schedule.
The S&P 500 is now in a bear market down around 20% for the year. Long-term bonds are down about as much, highlighting the difficulty for risk reduction with a balanced portfolio when interest rates are near zero with little room to go but up. Growth and tech areas are down around 30% or more. So far, it has been a good year to be in value stocks and cash.
Normally, this would be a good time to increase risk significantly as we did during the COVID crash in the early 2020, but this trade does not do that. We're holding out for another 10—20% drop and buying longer-term bonds while avoiding most higher credit risk bonds. It is likely we will be doing another trade in a few months if the market keeps sliding. If the Fed turns out to still be a so-called dove, inflation remains high, and short-term rates don't go much higher, we may miss a turnaround in the market, and this will be another 20% drop dip buying opportunity like during the end of 2018.
The Trades
All bonds are down this year, with longer-term bonds down around 20%. We cut back on longer-term bonds during the COVID crash, and our initial move to inflation adjusted bonds was a good call. Perhaps we got out of these bonds too soon fearing the risk of inflation expectations collapsing if the Fed got aggressive on fighting inflation, which didn't really happen yet.
Now with all rates rising rapidly, our shorter-term investment-grade mortgage bond fund is down a whopping 8.8% for the year through the end of the June. This was better than the even overall bond market down just over 10.35% and less than half the 21.40% slide in Vanguard Long-Term Bond Index ETF (BLV) a long-term bond fund that we cut back on post-COVID.
Long-term bonds have declined about the same as the S&P 500 (so far), down around 20% including dividends. Speaking of, the yield on the S&P 500 is up but still only around 1.65%, and the bond market as a whole now pays a far more healthy 3.5%. Although it is possible that interest rates will continue up to meet higher inflation, realistically the bulk of the hit to bonds is behind us, and any moves to say 4—5% will reverse when the next recession kicks probably from the higher shorter-term rates. If the Fed chooses to allow more high inflation, it is unlikely interest rates will rocket higher to say 7% just to continue to pay less than inflation—which is no great situation but still warrants owning 3—5% yielding bonds as the stock market risk is higher than bonds if the Fed overshoots.
We've discussed this poor situation in bonds since early 2020. When cash yields zero and the bond market yields less than 2%, your offsetting gains from a stock slide are essentially nil. This is why a bond and stock blend did so poorly in the early 2020 COVID crash, and this year (so far). In hindsight, when we reduced our stake in long-term and inflation adjusted bonds (for this very reason), we should have just gone to cash and not for the paltry yields in mortgage bonds. This is easy to say now, but earning zero while the Fed decides what to do isn't a great solution. It would have made more sense to own more stocks, less bonds, and more hedges.
If stocks go significantly lower from here, it is more likely that bonds will do well (not junk bonds, but investment-grade and government debt), so the benefit of a balanced portfolio will return.
NEW HOLDINGS ADDED TO BOTH PORTFOLIOS
Leatherback Long/Short Alternative Yield ETF (LBAY)
Aggressive Portfolio from 0% to 3%
Conservative Portfolio from 0% to 5%
This new fund was launched last year and broadly speaking is somewhat similar to a fund we've used off and on in client accounts, Vanguard Market Neutral (VMNFX). These funds mostly own value-type stocks and short high-flying growth stocks with questionable fundamentals like Carvana (CVNA) to name one of hundreds. This strategy can work in normal markets but is best during deflating bubbles. It is a disaster during times like 2020 and 2021 when hot bubble stocks get hotter, as you can see from the bad performance of Vanguard Market Neutral (VMNFX). We're pretty late in the deflating tech bubble game with roughly 80% declines across the board, but this strategy still offers potential for a late-stage decimation and 99% drops in many speculative tech names. VMNFX is the lower risk (less overall market exposure) and probably the better choice but has a high minimum, so we are not using it here. LBAY probably has more upside (and downside) risk. Unlike most of our holdings, we may not keep this fund for over a year, so consider it in an IRA in case there are short-term gains. Also the fund has a regular dividend payout strategy, which is basically a marketing gimmick.
Vanguard All-World Small-Cap (VSS)
Aggressive Portfolio from 0% to 9%
Conservative Portfolio from 0% to 5%
Foreign stocks are now very cheap, though they face high risks from a deep recession as many do not have secured domestic energy supplies and rely heavily on Russia. This, plus rising rates and slowing economies as well as dealing with multidecade high inflation, makes times look even rougher abroad than here. This is also why these prices should work out in the longer run. Many of these markets are almost in single-digit PE ranges, and dividend yields are more than double the United States. Small cap stocks abroad are even more out of favor probably because of the large cap index focus of most investors when investing abroad.
Proshares Short High Yield (SJB)
Aggressive Portfolio from 0% to 5%
Conservative Portfolio 0% to 7%
High-risk bonds will fall hard if the economy slides into a deep recession. Safer bonds could actually improve in price, so it is possible that we'll make money on this fund and our longer-term investment-grade bond funds. There is little risk in the short run of this fund falling significantly and losing money in investment-grade bonds, which would require the spread between low- and high-risk debt to shrink.
We don't usually have inverse funds in our Conservative portfolio, but we need protection from further troubles in the bond market. This fund is a safe way in the short run to do that. See Aggressive portfolio for more explanation.
SELL ALL IN BOTH PORTFOLIOS
Vanguard Mortgage-Backed Securities (VMBS)
Aggressive Portfolio from 20% to 0%
Conservative Portfolio 30% to 0%
While we were right to cut back on longer-term bonds and go to shorter-term safe bonds, there was still too much interest rate risk here, and we should have just stuck it out in cash or 1-year bonds. We could continue to hold this fund, but we're going to move more to long-term bonds (which have more downside risk if rates keep going up). The fund was down 8.88% for the year.
Vanguard Utilities (VPU)
Aggressive Portfolio from 10% to 0%
Conservative Portfolio from 10% to 0%
We're cutting back on lower-risk stock funds that are yield focused. These funds are attracting too much money as investors shift out of growth. This fund was down just 1.23% for the year, so it served its purpose during this bear market.
AGGRESSIVE PORTFOLIO ONLY
Overall: 62% stocks to 63% stocks, bonds from 34% to 21% (but more rate risk) alternative from 0% to 3%, and inverse 4% to 11% (largely from adding inverse junk bonds).
Click here to visit the Aggressive Portfolio's trade center.
AGGRESSIVE PORTFOLIO ADD NEW HOLDINGS
Vanguard Telecom VIPER (VOX) from 0% to 10%
We've owned this fund for years but cut it loose long ago as a too-early exit from tech bubble valuations. The issue was that the communications indexes started adding Facebook and Google, which does make sense on some level but also exposed the fund to high-risk stocks instead of the usual Verizon- and AT&T-type holdings.
Fast forward to today, and these stocks are all way down. A few days ago, this fund was down around 40% from the highs last September. Keep in mind more speculative tech names are now down 50—90% pretty much across the board. Can they go lower? Definitely, earnings are going to be a problem at even tech monopolies as ad spending from money-losing bubble-era startups gets cut in a desperate attempt to get profitable. Still, these prices are attractive, and we can add more if this isn't the bottom.
ProShares Short Bitcoin Strategy (BITI) from 0% to 2%
Too bad this inverse Bitcoin fund wasn't launched before the 70% drop in bitcoin, as we've been noting this bubble for years here. It would seem this bubble is almost fully popped, but Bitcoin, unlike say a tech index, can go far lower. This fund should do well as inflation fears disappear as the whole narrative of 0% rates is fast ending. Since there are few ways to short commodities and inflatable assets, this offers an, albeit strange, deflation bet. In many ways, sharply falling inflation is worse for stocks than high inflation and is outright deadly for real estate. That said, crypto investors have cultlike behavior and may not sell even in the face of 70% declines and crypto accounts being frozen or falling 99%.
Leatherback Long/Short Alternative Yield ETF (LBAY) from 0% to 3%
This new fund was launched last year and broadly speaking is somewhat similar to a fund we've used off and on in client accounts, Vanguard Market Neutral — VMNFX. These funds mostly own value-type stocks and short high-flying growth stocks with questionable fundamentals like Carvana (CVNA) to name one of hundreds. This strategy can work in normal markets but is best during deflating bubbles. It is a disaster during times like 2020 and 2021 when hot bubble stocks get hotter, as you can see from the bad performance of Vanguard Market Neutral Fund (VMNFX). We're pretty late in the deflating tech bubble game with roughly 80% declines across the board, but this strategy still offers potential for a late-stage decimation and 99% drops in many speculative tech names. VMNFX is the lower risk (less overall market exposure) and probably the better choice but has a high minimum, so we are not using it here. LBAY probably has more upside (and downside) risk. Unlike most of our holdings, we may not keep this fund for over a year, so consider it in an IRA in case there are short-term gains. Also the fund has a regular dividend payout strategy, which is basically a marketing gimmick.
Ultrashort Bloomberg Crude Oil (SCO) from 0% to 2%
This fund generates K-1 partnership tax paperwork, not a 1099, so it should be in an IRA. Unfortunately, there are very few ways to short commodities with ETFs or funds anymore—most are too small or too leveraged. This is too bad as the real risk now is a collapse in the economy and the new commodity bubble. Bottom line, if stocks fall another 20%, it will likely happen as oil falls back to $50. There is some risk of the Russia situation sending oil up to $150, in which case we may double down on this position. We owned a similar fund during the last great recession-era commodity crash and did well.
AGGRESSIVE PORTFOLIO REDUCE HOLDINGS
Vanguard Value Index (VTV) from 14% to 6%
The value boom relative to growth might not be over, but we don't need such a big weight here anymore. This fund was only down 9.29% for the year, or about half the S&P 500. We're not ready to get back heavy into the Vanguard Growth ETF Vanguard Growth ETF (VUG), which was down around 30.37% for the year, but perhaps soon.
AGGRESSIVE PORTFOLIO INCREASE HOLDINGS
iShares JP Morgan Em. Bond (LEMB) from 4% to 7%
We cut this fund back from 8% to 4% back in late February 2021 as it was riding high after the COVID rebound. We probably should have gone to zero like in the Conservative portfolio. Anyhoo, now that the fund is down sharply (around 15% for the year and about 25% since we cut it back) with over 7% yields, it is time to go increase the position, though there are big risks in high-yield bonds that hopefully we're covering with our new short high-yield bond ETF. There is potential to make money here when our dollar sinks from multidecade highs. In general, reaching for yield in a potentially teetering economy is a bad idea.
CONSERVATIVE PORTFOLIO ONLY
Overall: 42% stocks to 44% stocks, bonds from 48% to 32% (but more rate risk) alternative from 10% to 17%, and inverse 0% to 7% (from adding inverse junk bonds).
Click here to visit the Conservative Portfolio's trade center.
CONSERVATIVE PORTFOLIO ADD NEW HOLDINGS
NightShares 2000 (NIWM) from 0% to 5%
This new fund (launched in the last few weeks) is a bit of a gimmick based on a historical anomaly. Typically we don't like data mining to create a fund because, by the time you get around to marketing a fund, the money that has been made in this anomaly goes away—or even reverses . Many things work on paper until enough people start doing it. Sometimes such patterns work during certain markets and do the opposite during others—the Dogs of the Dow strategy where you simply focus on the highest yielding stocks in the Dow worked great, until growth stocks started to lead the market in the late 1990s (and again until recently).
That said, this anomaly may not go away for another year or so, and this strategy should be lower risk than owning a straight small cap stock fund as we did post-COVID crash. We're going to have to watch it closely for a possible sale. This fund should be tax-inefficient from constant realized short-term capital gains, so consider it in an IRA.
The fund only owns stocks (through futures) at night, in this case the small cap Russell 2000 index. The pattern has been that, if you buy stocks near the end of the market close, say 3:50 p.m., and sell the position at 9:30 a.m. when the market opens, you earn a better risk adjusted return than the market. There are hypotheses and white papers about this, which doesn't make it any more certain as a strategy for the future of course. Our theory is that it is partially the result of day traders coming into stocks in the morning often with leverage and getting out by the end of the day, artificially boosting prices in the morning, depressing them near the end of the day, and causing a generalized irrational fear of the overnight. But retail day traders have largely been destroyed since the 2021 peak in growth stocks. We'll have to watch this one closely for asset growth or the end of the era of this scheme working. There are other problems like tax inefficacy that almost require this in an IRA.
Vanguard Long-Term Treasury Index (VGLT) from 0% to 8%
Not much to explain here—as rates go up and bonds tank, we're moving into longer-term bonds that have the most upside if rates go back down, say in the next recession. The only way long-term rates go much higher from here is if the Fed stops raising short-term rates and doesn't sell off many of the bonds acquired with newly created money and essentially remains a dove. It could happen, but it is not that likely. Meanwhile, 3%+ yields are worth some risk, unlike 1%.
CONSERVATIVE PORTFOLIO INCREASE HOLDINGS
Vanguard Extended Duration Treasury (EDV) from 10% to 14%
This is the recession buster holding because the interest rate exposure is so extreme, meaning changes in interest rates lead to huge changes in the fund price. The fund does best when rates go down for safe bonds as is often the case in a recession and when inflation expectations decline. We sold some of this fund post-COVID when rates were ultralow then bought some back early in 2021 (too early as it turns out). This fund is down 28.11% YTD more than the S&P 500 and almost exactly what the Nasdaq is down from the highs. If long-term rates go up more, we'll increase our position again.
Invesco CurrencyShares Euro (FXE) from 10% to 12%
Eventually we're going to stop raising rates, and then other countries with rising inflation are going to go up and our hot dollar is going to sink back down. In the meantime—go to Europe on a trip as the Euro is around parity (1 USD — 1 Euro) with the dollar, the best deal in decades for travelers.
Vanguard Long-Term Bond Index ETF (BLV) from 8% to 10%
This has a similar explanation to new holding Vanguard Long-Term Treasury Index (VGLT), only we don't want to increase our corporate bond position that much quite yet—this fund includes government and corporate investment-grade bonds, which explains the slightly higher yield.
Franklin FTSE South Korea (FLKR) from 5% to 7%
Our last trade here was cutting back in February 2021 after a big move up (basically a double). Now with a slide of 25% YTD in 2022 and about a 36% drop since we cut back, we're increasing the position again. The fund portfolio has yields of over 3% and a P/E ratio under 10 or about half the valuations of the S&P 500—not that cheapness magically saves you from losses in a global panic or recession, but it can reduce your losses when bubbles burst, at least compared to other options.