#$agg

Tomorrow the FOMC will meet for the fifth time this year. Unlike previous meetings this year, it is widely anticipated that the Fed will cut its rate by at least 0.25% and possibly as much as 0.50%. Growth, measured by U.S. GDP has slowed, corporate earnings have also slowed, and inflation is running below target, but employment remains firm, risk of recession is not high, and stocks are trading near all-time highs. Ahead of this highly likely cut, historical data has been sliced and diced into numerous different variations. Below we present a straight forward look at the recent history of the S&P 500’s performance following any rate cut.

Since October 1, 1982 there have been 80 interest rate cuts by the Fed (there also was 81 increases). On average, 1-month after the cut the S&P 500 was higher 57.5% of the time with an average gain of 0.77%. At 3-months, the frequency of gains improved to 60% and the average gain swelled to 2.21%. This trend of expanding gains and frequency of gains persisted at 6 months and 1-year after the cut. Of note is since 2001, (dot-com bubble bursting and financial crisis) the impact of rate cuts has not been as strong as it was in the prior two decades.

Click here for full table in new window...

In this next chart, we have plotted the average S&P 500 performance 30 trading days before and 60 trading days after a rate cut and a rate increase. Here the initial effects of both a cut and an increase are surprisingly not all that different. In either situation S&P 500 was higher 60 trading days later. A rate cut did have the edge when it came to average performance, but the difference is not all that large.

Barring some rather abrupt reversal in the current trend in trade, tariffs, tariffs and even higher tariffs, bonds could have even more upside in their near-term futures. Back in the beginning of April we noted the 30-year treasury bond had a seasonal tendency to dip in April and early May (around the time stocks like to make a seasonal high) before moving higher from sometime in May through the end of August. Thus far this year this trade has been a perfect textbook setup. 

In the following chart weekly bars of the 30-year Treasury bond future appear on top with their seasonal trend since August 26, 1977. The 30-year Treasury bond did dip in April and as trade war concerns grew in May, as stocks slipped, bonds ripped higher. The recent rise has been brisk but considering the retreat in tech stocks further gains are not out of the question.

We’re Back!  Issues resolved. Up and running. This is the post we made on LinkedIn yesterday.

As illustrated in the chart here the 30-Year Treasury Bond is lining up for the usual short term seasonal bond dip from early April to early June ahead of longer seasonal uptrend during the “Worst Six Months” for stocks. U.S. 30-Year Treasury bond near-term liquid futures are shown in the red and green candlesticks.

In the lower pane is the seasonal trend of the 30-Year T-bond that highlights the spring dip and summer rally. For comparison in red is the SPDR S&P 500 (SPY) which often portrays an inverse correlation to the T-bond as well as the iShares 20+ Year Bond (TLT) and iShares U.S. Aggregate Bond (AGG) which both correlate closely with the T-bond and its seasonality.

If you had to describe the perfect market environment, what would it look like?

The following attributes might come to mind:

1) High returns with low volatility and 2) low drawdowns, with 3) global participation, 4) both stocks and bonds rising, 5) the economy expanding, 6) earnings growing, and 7) an easy Central Bank.

Sound too good to be true? Let’s take at where we are today...

1) High returns with low volatility:

The S&P 500 is up 9.7% thus far in 2017 and has achieved this return with only 7.0% annualized volatility (note: all data herein is through June 2).

2) Low drawdowns:

At 2.8%, the maximum drawdown in the S&P 500 year-to-date is lower than every other year with the exception of 1995 (note: on closing basis).

The median intra-year drawdown since 1928 is 13.1%. Since 1928, there have been only five years that did not have a 5% drawdown the entire year: 1954, 1958, 1961, 1964, and 1995.

3) Global participation:

With the exception of Russia (ERUS) and Saudi Arabia (KSA), every country ETF is positive in 2017 with a median return of 16.4%. 15 countries are up more than 20% year-to-date.

All-time highs have been a global affair, with new highs registered last week in the U.S. (SPY), Japan (EWJ), Belgium (EWK), Ireland (EIRL), Germany (EWG), Switzerland (EWL), Sweden (EWD), France (EWQ), Hong Kong (EWH), Netherlands (EWN), and South Korea (EWY).

4) Both stocks and bonds rising:

With 10-year yields falling, bonds (AGG) are up a respectable 2.7% year-to-date.

5) Economy expanding:

The Atlanta Fed is projecting 3.4% real GDP growth in the second quarter.

At the end of June, the expansion will hit 96 months in duration, the 3rd longest on record.

6) Earnings Growing:

With 97% of companies reported, second quarter earnings are up 27%/21% (As-Reported/Operating) over the prior year.

Sales growth of 6.9% will be the best since the 4th quarter of 2011.

7) Easy Central Banks

While expected to hike twice more in 2017, the Federal Reserve is still maintaining an easy monetary policy. Every developed country central bank has negative real interest rates.

Is this as good as it gets?

I don’t know, but for investors it’s pretty darn close. The challenge, as we know from history, is that just because something is really good doesn’t mean the next stage has to be really bad. If it were, the game would be easy. You would just sell everything today and wait until everything is really bad next month to buy everything back at a lower price.

But that’s not how the market works. Most of the time, really good environments continue to be good for some time and even when they’re less good, they’re still ok. And importantly, investors can still make money in the transition from really good to ok.

While the best investing opportunities invariably present themselves during bad times, there are (thankfully) many more good times than bad times. Which is why it can be nearly as challenging for investors to stay invested during good times as it is during bad times. We have a hard time accepting that good can continue to be good just as we have a hard time accepting that bad will not be bad forever.

Eight years have now passed since the expansion began in June 2009. Each June since has been increasingly challenging for investors to hold on. The litany of reasons to sell grows with each passing year as does the fear of giving back your hard-earned gains.

As good as it gets? Maybe. But that doesn’t mean it’s easy.

***

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This writing is for informational purposes only and does not constitute an offer to sell, a solicitation to buy, or a recommendation regarding any securities transaction, or as an offer to provide advisory or other services by Pension Partners, LLC in any jurisdiction in which such offer, solicitation, purchase or sale would be unlawful under the securities laws of such jurisdiction. The information contained in this writing should not be construed as financial or investment advice on any subject matter. Pension Partners, LLC expressly disclaims all liability in respect to actions taken based on any or all of the information on this writing.

CHARLIE BILELLO

Charlie Bilello is the Director of Research at Pension Partners, LLC, an investment advisor that manages mutual funds and separate accounts.  He is the co-author of four award-winning research papers on market anomalies and investing. Mr. Bilello is responsible for strategy development, investment research and communicating the firm’s investment themes and portfolio positioning to clients. Prior to joining Pension Partners, he was the Managing Member of Momentum Global Advisors and previously held positions as a Credit, Equity and Hedge Fund Analyst at billion dollar alternative investment firms.

Mr. Bilello holds a J.D. and M.B.A. in Finance and Accounting from Fordham University and a B.A. in Economics from Binghamton University. He is a Chartered Market Technician (CMT) and a Member of the Market Technicians Association. Mr. Bilello also holds the Certified Public Accountant (CPA) certificate.

With all due respect to Warren Buffett, the number 1 rule in investing is not anything close to “never lose money.” In fact, the entire notion is absurd. Anyone who has ever invested in the history of the world has lost money at one time or another. Buffett himself lost close to 50% on two separate occasions. Being in a drawdown is the norm, not the exception. That is the price you pay in exchange for a higher return than a risk-free savings account.

So what is the number 1 rule in investing? That’s an impossible question, but if I had to pick just one it would be the Peter Lynch line about “knowing what you own and why you own it.” For if you don’t get that one right, you won’t hold any investment long enough to reap the benefits of time and compounding. You can have the best assets/strategy in the world but if you don’t understand what it is you will abandon it at the first sign of trouble. And believe me when I tell you that there will be many times of trouble.

Most advisors nowadays focus on asset allocation for their clients, typically a diversified mix of stocks and bonds. This is a good start, for asset allocation is the most important determinant of portfolio returns.

While not the “market portfolio” (see my recent post on this here), many advisors consider a 60/40 split between U.S. stocks and bonds to be a sufficient baseline for the average investor. If an investor’s profile allows for more risk, this can be shifted to 70/30 (80/20, etc.), and if an investor’s profile necessitates a more conservative stance, this can be shifted to 50/50 (40/60, etc.).

Advantages of a stock/bond portfolio are that it is 1) low cost (less than .04% using ETFs), 2) simple in execution (as little as two index funds), and 3) easy for investors to understand, at least in theory. You have a growth component (stocks) and an interest/capital preservation component (bonds) to balance out that risk. When things are going well, few advisors are questioned on this approach. It is only when losses rear their ugly head that the calls start coming in. Why are we holding this much in stocks? Did you know that my last statement showed that I lost thousands of dollars? What are you going to do about it?

These are the times that advisors earn their pay, for keeping investors invested is no easy ask. The best advisors don’t wait for such calls but are proactively educating their clients on what they own and why they own it. This is a never-ending job and often a thankless one. But it is the most important thing an advisor can do.

My goal in this post is to dig deeper into stock/bond allocations, and hopefully give investors a better understanding of what they own and why they own it.  Let’s begin.

1) Why You Own Stocks

Investors are said to own stocks in an effort to earn a higher return. Simple, but what exactly does that mean? Higher then what? How much higher? Why are they giving you this higher return?

Over long periods of time stocks have delivered a higher return than bonds (3.9% higher per/year), and you were able to earn this return because you were being compensated for higher volatility and higher drawdowns (from economic uncertainty and long-run growth risk).

As you can see in the table below, since 1976 a 100% stock portfolio (left side) has had the highest return (11.4%) with the highest volatility (14.8%) and drawdown (-51%) while a 100% bond portfolio (right side) has had the lowest return (7.5%) with nearly the lowest volatility (5.4%) and drawdown (-13%).

Note: throughout this post when I refer to stocks I am using the S&P 500 Total Return Index and when I refer to bonds I am using the Bloomberg Barclays US Aggregate Bond Total Return Index. The data period is from January 1976 through March 2017. I started in January 1976 as that is the start of the Barclays Index.

Showing that stocks have earned a higher return with higher volatility over long periods of time is the easy part. The hard part is explaining to investors that they are by no means guaranteed this higher return, particularly over shorter periods of time. And by shorter periods of time, I mean even as long as 10 years. 10 years, you say, that’s crazy talk. Indeed, but from April 2000 through March 2010 stocks declined 6% while bonds gained 84%. And they did so with 16% volatility versus 4% for bonds.

Lesson here: the so-called “risk premium” from stocks is far from constant, and there can be long periods of time where it is negative (stocks lose money with higher volatility than bonds). Understanding that – and I mean really understanding that - is critical in setting realistic expectations. If an investor is not equipped to handle a large drawdown (mentally, emotionally, or financially), they cannot put all of their money in stocks. Which brings us to the next topic.

2) Why You Own Bonds

If stocks never went down there would be little need to own anything else. But as we know, they do go down from time to time. Since 1976, there have been seven calendar years in which stocks have finished lower: 1977, 1981, 1990, 2000, 2001, 2002, and 2008. In each of these years, bonds have finished higher, cushioning the blow. With a 20/80 split between stocks and bonds an investor would have been down only once: 2008 (-5%). A 10/90 split never had a losing year.

Why do high quality bonds provide such a cushion? Because they are not driven by the same fundamental factors as equities. Bonds are driven by interest rates (both absolute levels and changes) as opposed to earnings growth and multiples. As such, the overall correlation between bonds and stocks is low at .21. During down months for stocks - and this is key - that correlation drops to 0.00. This effectively means that there is no reason to expect a down month in stocks will spillover into bonds. The performance data supports this. Since 1976, during down months for stocks, bonds have been up 60% of the time. The higher the percentage of bonds, the higher the odds of having a positive return when the stock market is down.

You’ll also note in the table above something of great importance - that exposure to bonds does not mean one should expect a negative return when stocks are up. In fact, a portfolio that is 70% bonds and 30% stocks is up 90% of the time when stocks are up. There are two reasons for this: 1) bonds are slightly positively correlated (0.23) to stocks in up periods for stocks (up 74% of the time), and 2) equity exposure is by far the dominant exposure.

To illustrate this second point, let’s have a look at a table of correlations. A portfolio that is evenly split between stocks and bonds has a .95 correlation to stocks and only a .51 correlation to bonds. It is going to behave much more like the stock market than the bond market. This is a surprise to many but it should be intuitive as stocks (on average) have 2.7 times the volatility of bonds. Stock volatility overwhelms the movement of bonds. Which is why if you want/need your portfolio to move more directionally with bonds than stocks, you need to have something closer to a 20/80 split.

Rule Number 1: A Good Start, But Not Enough

Knowing what you own and why you own it may be rule number 1, but it is just the beginning of the investing process, not the end. Once you understand what and why you own something the hard work begins. You must have faith that your chosen asset allocation plan will work over time and have the fortitude to stick with that plan through the many periods in which it is "not working" (aka in a drawdown). This is no small task as us humans are emotional beings and we have little tolerance for things that aren't always working.

But that is the challenge for which there is great reward at the end; the alternative (a risk-free savings account) always works but has a far smaller reward. The more difficult the period for returns, the more difficult it is to keep your emotions in check. With bond yields still near historic lows (2.3% on Barclays Aggregate) and stocks at elevated valuations (94th percentile CAPE ratio), investors are more likely to be tested today than in most other periods. Over the next 5-10 years, is it likely that stocks and bonds give investors the 11.4% and 7.5% returns that they have achieved on average since 1976? If your answer to that questions is “no," what, if anything, are you (or should you) be doing about it?

We’ll dig into this question in the next post. In the meantime, take a good look at your portfolio and make sure you know what you own and why you own it. And remember, every investor loses money, even the great Warren Buffett.

***

Related Posts:

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To sign up for our free newsletter, click here.

This writing is for informational purposes only and does not constitute an offer to sell, a solicitation to buy, or a recommendation regarding any securities transaction, or as an offer to provide advisory or other services by Pension Partners, LLC in any jurisdiction in which such offer, solicitation, purchase or sale would be unlawful under the securities laws of such jurisdiction. The information contained in this writing should not be construed as financial or investment advice on any subject matter. Pension Partners, LLC expressly disclaims all liability in respect to actions taken based on any or all of the information on this writing.

CHARLIE BILELLO

Charlie Bilello is the Director of Research at Pension Partners, LLC, an investment advisor that manages mutual funds and separate accounts.  He is the co-author of four award-winning research papers on market anomalies and investing. Mr. Bilello is responsible for strategy development, investment research and communicating the firm’s investment themes and portfolio positioning to clients. Prior to joining Pension Partners, he was the Managing Member of Momentum Global Advisors and previously held positions as a Credit, Equity and Hedge Fund Analyst at billion dollar alternative investment firms.

Mr. Bilello holds a J.D. and M.B.A. in Finance and Accounting from Fordham University and a B.A. in Economics from Binghamton University. He is a Chartered Market Technician (CMT) and a Member of the Market Technicians Association. Mr. Bilello also holds the Certified Public Accountant (CPA) certificate.

What is the “market portfolio?” When I first learned of the concept in business school it seemed so simple. You just combine all of the assets in the world and hold them in proportion to their market values. Why? Because academic theory says that's the most efficient thing you can do, and trying to beat such a portfolio is an act of futility for most investors.

Moving on to the real world, I learned a few things:

1) Everyone has a different definition of “the market."

2) Many try to beat it (regardless of what “it” is).

3) Even those that aren’t trying to beat it don’t own anything close to what fits the academic definition.

4) Buying all of the world’s assets, and doing so at a reasonable cost, is no easy task.

With the explosion of index ETF products and a sharp reduction in fees in recent years, the goal of approximating the market portfolio has become more attainable. But still, many questions remain:

Are stocks and bonds enough (most advisors say “yes”)? If not, how many other asset classes should be included?

Are U.S. assets enough (John Bogle says “yes”)? If not, how many other countries/regions should be included?

If a broad bond index doesn’t include certain types of bonds (ex: high yield, bank loans, TIPS, municipal bonds), should you add those other bonds separately?

If a broad equity index does not include certain stocks or countries, should you add those via other vehicles?

How should you treat private equity/debt?

What about MLPs, preferred stock, and convertible bonds?

How should you treat commodities? Ignore them because futures contracts net to zero or calculate their weights based on their physical value? If on physical value is buying an ETF that buys futures contracts an accurate representation?

Should Gold be treated as distinct from other commodities? How should one weight Gold, based on how much has been mined in all eternity or how much is currently held as an investment?

Should real estate be weighted by investable asset size (including private real estate) or just the value of REITs?

Does one simply ignore things like stamp collections, jewelry, fine art, expensive wine, vintage cars, and other collectibles?

What about the value of private companies, private loans, etc.?

Should the litmus test on whether to include an asset be whether it pays interest, a dividend, or has the potential to produce earnings/cash flow? If yes, how do you treat negative yielding bonds and commodities?

For international exposure, should the weighting be currency hedged or unhedged?

Is Bitcoin an asset?

The questions here are endless.  The “market portfolio” in theory is a simple concept. In practice, it is exceedingly complex. But a decision still needs to be made: which assets do you choose to include and at what weights?

Let’s attempt to answer that question in stages, from the least expansive to the most expansion definition.

#1: The U.S. Stock-Bond Portfolio (aka the Bogle Portfolio)

The simplest and cheapest “market portfolio” can consist of just two funds: a total U.S. stock fund and an aggregate U.S. bond fund. John Bogle, the founder of Vanguard, advocates a 50/50 split between the two. As you can see in the following table, that’s a deviation from market weights which point to a 65/35 split with bonds representing the larger allocation.

The appeal of this portfolio is clear: simple (2 positions) and cheap (less than 4 bps blended). But is this really “the market?”

#2: The Global Stock-Bond Portfolio

While a U.S. only portfolio is the simplest and cheapest, it’s not “the market.” You can’t have a global market portfolio without including global markets. If we add international stocks and bonds, the picture changes quite a bit. The weighting to equities drops down to 28% (of which 46% is outside of the U.S.) and international bonds become the largest holding, at 42%.

How many investors would want to hold 42% of their portfolio in International Bonds with a current yield of 0.94%? My guess is not many, but the market portfolio does not discriminate based on yield or valuation – the market is the market and you must accept it or choose a more active path.

#3: The Global Stock-Bond-Real Estate Portfolio

Does it make sense to exclude the world’s largest asset class from the market portfolio? If you answered “no,” then real estate must be accounted for. While real estate is already included in the Vanguard Total World Stock ETF (VT), at a weighting of roughly 1% of that fund, it is highly underrepresented.

The total value of real estate globally is estimated to be $217 trillion, dwarfing the value of public equities and debt (see this Sevills report for data). Even if we only include the investable portion of residential and commercial properties - $73 trillion - it would drastically change the market portfolio. Global stock exposure drops down to 19% and real estate jumps to a total weighting of 31%.

#4: The "Almost Everything" Portfolio

Stocks, bonds and real estate comprise the bulk of global market portfolio. Does that mean we should ignore everything else? That depends on how close to want to get to the true market portfolio.

If we include everything that can be closely replicated in an ETF (I chose the lowest cost ETF in each category), we arrive at the following portfolio:

The almost everything ETF portfolio:

Fills in the gaps that the U.S. aggregate bond index excludes: high yield, bank loans, munis, money markets/cash, and TIPS.

Adds Emerging Market Equities, Frontier Market Equities, and Emerging Market Bonds.

Adds MLPs, Convertible Bonds, Preferred Stock, Mortgage REITs, and Private Equity.

Adds Gold (at investable market size).

Adds Commodities (at total commodity assets under management).

Is this the true market portfolio? No, not by a long shot. Our search for the market portfolio is seemingly unending.

But we have to start somewhere, for replicating the theoretical market portfolio is impossible and therefore not an attainable goal. The goal should be to replicate the most expansive investable portfolio possible that can be achieved in a low-cost fashion. With a weighted average cost of 16 bps, the low-cost objective is achieved with the "almost everything" portfolio. Whether it is expansive enough is still open for debate. But with more and more data freely available, new ETF products coming to market on a daily basis, and lower and lower fees, the gap between the theoretical and actual market portfolio is closing. This evolution can only be good news for long-term investors.

One thing stands out here, regardless of whether you agree with the asset classes or weights in the “almost everything” portfolio:

The standard 60/40 U.S. investor is making a very active bet as they are 1) vastly overweight the U.S. (home bias), 2) overweight equities, 3) significantly underweight real estate, and 4) effectively ignoring every non-mainstream asset class.

Running a 60/40 U.S. portfolio may be a good choice for many investors, but it’s a very active choice nonetheless. It would be hard to argue otherwise as 60/40 does not resemble anything close to the investable market portfolio.

This will be an ongoing project for me and I welcome all feedback and debate. What is the market portfolio to you? How close is your portfolio tracking it? If you are deviating from it do you consider that an active bet? Do you have a sustainable edge to warrant such a deviation?

Send me your thoughts on twitter or stocktwits (@charliebilello) and I’ll dedicate a post to the subject.

Join me in the search for the market portfolio.

***

Related Posts:

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When Home Bias Helps

To sign up for our free newsletter, click here.

This writing is for informational purposes only and does not constitute an offer to sell, a solicitation to buy, or a recommendation regarding any securities transaction, or as an offer to provide advisory or other services by Pension Partners, LLC in any jurisdiction in which such offer, solicitation, purchase or sale would be unlawful under the securities laws of such jurisdiction. The information contained in this writing should not be construed as financial or investment advice on any subject matter. Pension Partners, LLC expressly disclaims all liability in respect to actions taken based on any or all of the information on this writing.

CHARLIE BILELLO

Charlie Bilello is the Director of Research at Pension Partners, LLC, an investment advisor that manages mutual funds and separate accounts.  He is the co-author of four award-winning research papers on market anomalies and investing. Mr. Bilello is responsible for strategy development, investment research and communicating the firm’s investment themes and portfolio positioning to clients. Prior to joining Pension Partners, he was the Managing Member of Momentum Global Advisors and previously held positions as a Credit, Equity and Hedge Fund Analyst at billion dollar alternative investment firms.

Mr. Bilello holds a J.D. and M.B.A. in Finance and Accounting from Fordham University and a B.A. in Economics from Binghamton University. He is a Chartered Market Technician (CMT) and a Member of the Market Technicians Association. Mr. Bilello also holds the Certified Public Accountant (CPA) certificate.

In a meeting last year, an experienced investment advisor explained to me what he looks for in an “alternative” strategy:

“Low correlation, low volatility, no downside, and high returns. I want to have my cake and eat it too.”

That is a verbatim quote. The advisor went on to tell me story after story on how he was “burned” by various alternative investments, none of which measured up to his lofty expectations.

One such story featured the first managed futures ETF, launched in January 2011. Following the crash in 2008, managed futures were all the rage. They performed extremely well in the crisis (Barclays CTA Index up 14% in 2008) and investors did what they do best: fight the last war by chasing past returns. A quick description of the product which currently has over $200 million in assets:

“The WisdomTree Managed Futures Strategy (ticker: WDTI) seeks to achieve positive total returns in rising or falling markets that are not directly correlated to broad market equity or fixed income returns.”

“Positive total returns”

“Rising or falling markets”

“Not directly correlated”

What’s not to like?

Six years later, WDTI is down 19% versus a gain of 103% for the S&P 500 (SPY) and 20% for U.S. Bonds (AGG). Needless to say, the aforementioned advisor is no longer invested, bailing out in late 2012 after a 20% drawdown. Where did the money go? Into the next hot alternative product, and then the next, and then the next.

Each time, the blame was laid squarely on the investment product/manager and not the unrealistic expectations of the investor:

“They all sound great on paper and then do nothing but lose money or provide no return. I can do that myself. Am I right?”

Perhaps, but by doing it himself there would be no one to blame but himself, a far more tenuous position. Much easier to outsource the blame and show that you are taking action by “cutting your losses” and always investing in the next hot product/manager. How could anyone fault you for doing that?

In the end, nearly all of these investors in so-called “alternatives” are doomed to fail because of unrealistic expectations and unreasonably short holding periods. They don’t know what they own and they are unwilling to take the time to understand the why, relying solely on past returns (damned lies and statistics).

The WisdomTree Managed Futures product was in fact uncorrelated to stocks (-.04) and bonds (.01). But it was the other side of uncorrelated that transpired, the side no one wants to talk about or accept: the times when the "alternative" is down when the other things in your portfolio are up. If something is truly "alternative" and uncorrelated, these times will inevitably happen.

That’s not a defense of WDTI but a reality of diversification: if everything in your portfolio is “working” at the same time, you’re probably not as diversified as you think. I have no idea if WDTI is a good or bad investment. That may seem silly to some because its returns have been subpar.

How could something that has lost money for six years possibly be anything but bad?

Well, while six years seems like an eternity, we know some of the best strategies in history have had negative 6-year returns. How can we be sure that WDTI is not one them and just happened to start out with a bad string of luck? We can’t.

We also know that past performance tells you nothing about the future. If investing was as simple as picking the best performing strategies and asset classes ex-post (after-the-fact), we would all be infinitely wealthy. But the market doesn't work like that, does it? In fact, the opposite is more likely to be true (see "The Harm in Selecting Funds that Have Recently Outperformed.")

And finally, we have the overall market environment. This has not been a particularly favorable time period for managed futures. Looking at the Barclays CTA Index since 2011, that much is clear, with five out of the last six years showing negative returns.

Does that mean the next six years will look the same? I doubt it but many are assuming so and will wait until there is a string of positive years before considering an investment. They will wait until there is “proof” that managed futures “work” again and the only real proof to them will come from past performance.

I have come to understand that this thinking, while unfortunate, is inevitable. Investors love the idea of non-correlation and diversification so long as everything is going up and to the right – and at the same time.

That’s true of stocks, bonds, gold, hedge funds, value, momentum, and any other asset class or strategy you can think of. So long as it’s going up, it is “working” and there is no risk. But the minute it starts going down, that’s a problem that requires immediate action, for the other side of uncorrelated is simply intolerable.

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This writing is for informational purposes only and does not constitute an offer to sell, a solicitation to buy, or a recommendation regarding any securities transaction, or as an offer to provide advisory or other services by Pension Partners, LLC in any jurisdiction in which such offer, solicitation, purchase or sale would be unlawful under the securities laws of such jurisdiction. The information contained in this writing should not be construed as financial or investment advice on any subject matter. Pension Partners, LLC expressly disclaims all liability in respect to actions taken based on any or all of the information on this writing.

CHARLIE BILELLO, CMT

Charlie Bilello is the Director of Research at Pension Partners, LLC, an investment advisor that manages mutual funds and separate accounts. He is the co-author of four award-winning research papers on market anomalies and investing. Mr. Bilello is responsible for strategy development, investment research and communicating the firm’s investment themes and portfolio positioning to clients. Prior to joining Pension Partners, he was the Managing Member of Momentum Global Advisors and previously held positions as a Credit, Equity and Hedge Fund Analyst at billion dollar alternative investment firms.

Mr. Bilello holds a J.D. and M.B.A. in Finance and Accounting from Fordham University and a B.A. in Economics from Binghamton University. He is a Chartered Market Technician (CMT) and a Member of the Market Technicians Association. Mr. Bilello also holds the Certified Public Accountant (CPA) certificate.