How Much Risk?

Here is a shot of the S&P on Feb 19 when the market peaked at 3393 intraday.

Here is a shot of the local market low on 3/23 of 2191 intraday

Here is a shot of Friday’s chart with an intra day high of 3049

Indexes are designed to go up. Indexes because of their design do not represent some intrinsic value associated with some intrinsic risk. Instead they represent a market elevator of unknown value and unknown risk. Passive investing is simply a on off switch. You pay some money and turn risk on or you cash out and turn risk off. The buy and hold passive crowd neither knows the risk they hold, nor do they ever turn the risk off. It’s risk on all the time. The risk however does vary over time. At market peak on Feb 19 here was the VIX 10.20

On March 18 it topped out at 86.76 with the resulting market low 5 days later. That’s 8.5 times the Feb 19 level

On Friday it topped out at 27.51, 2.69 times the Feb 19 level.

Since risk is what you own. Is something 269% above the Feb 19 level a high level of risk?

I was listening to a podcast breaking down the makeup of the S&P in comparison to the MSCI. They broke down the S&P with and without FAANG plus MS in the comparison using the Friday 3044 level. The expected level of the S&P 500 minus the FAANG + MS was about 2400 meaning without the FAANG+MS the S&P is up only 209 points above the March low. Over 600 S&P points are due to 6 stocks, the FAANG+MS. Only 200 points are due to the remaining 494 stocks, and the volatility is still +269%.

40.77M jobs lost. Let’s say when all is said and done 15M go back to work leaving 25M unemployed. Do you think if you left a 100K/yr job you are going back to a 100K/yr job? What if some joker will do that job for 50K? What happens to market risk if the job you go back to pays 50K less, meaning you will be severely limited in your purchasing power. No brand new F-150’s for you. Maybe no college for Junior.

The FOMO machine s basing everything on 6 companies and every Robinhoodie out there is plowing his stimulus check in the 6 FAANGS. You can make money on the way up and you can make money on the way down. It’s buy low sell high or sell high buy low (short sale). Either one will make you a ton of money. If you buy higher and then hold, in a market with 269% excessive risk what could possibly go wrong?. You can’t short an IRA or a Roth. The algorithms live to make profit and they make it selling high buying low just as easily as they do buying low selling high. The whole time the talking heads are selling you on a V shaped recovery because they know you have sucker stamped on your forehead. Your very mantra has sucker stamped all over it “buy higher never sell”. What buy higher never sell means is you constantly accumulate more and more risk. Sometime you might ask the question how much risk is enough risk to own?

10 Replies to “How Much Risk?”

  1. I’m usually too dense to understand much of what you write.

    Are you saying?

    1. There is more volatility in the equity markets than the average investor realizes.

    2. Currently, investors are too confident given the economic realities coming.

    3. I don’t think you are saying that index funds, passive investing, or buy-and-holding of stocks are always bad, right?

    I can’t predict when markets will go up or down. I want a portion of my portfolio to be in equities in order to capture growth and dividends.

    I don’t necessarily “buy low, sell high” except when rebalancing based on my asset allocation.

    Things have worked out well for me over the long haul as they have for so many others who keep investing simple.

    1. Buying and holding passive index funds is not bad until it’s bad. That strategy ONLY works if things go up forever and no one sells. If everyone decides to sell, the index implodes. There are a whole buncha boomers that need to start selling. Previously they were buyers now they are retired and have to RMD. Have you considered that risk? What’s going to happen if the market drops another 60%? Do you think some maybe even a lot might sell? Lets say you don’t sell and hold with the assumption it will recover. It always recovers right? Japan’s Nikkei 225 hasn’t gone up for on the average for 30 years. It’s average yearly return inflation adjusted dividend reinvested has been -1.6%. Things don’t necessarily go up forever. You think things are normal? When was the last time you saw 40M unemployed? That would be never. When was the last time a generation as large as boomers retired? What happens to the economy when they quit spending and all of those McMansions hit the market?

  2. The cash out and hold also has risk, its called inflation and though we have been extremely lucky lately that does not mean a 10% devaluation in your savings could not happen in a couple of months. And with interest rates lower than inflation today, the cash and hold crowd is losing 2-3% a year.
    Oh I long for the days when saving accounts earned 5+% since I am in the retirement phase of life and adding to my portfolio is no longer an option.

    1. So what’s better loosing 2% or 50%? If you loose 2% you have to make 4% to get even but if you loose 50% you have to make 100% to get even. If you loose 50% twice it will take many decades to get even. There is a huge asymmetry to the risk of the 2 positions. My present allocation is 20% in risk assets 80% in cash. My risk assets have no equities since I think those are too dangerous to invest in. I’ve been trading BTC Bonds and especially Gold and my annualized return is about 13% with only 20% of my money at risk and the risk is extremely low since gold bonds or BTC isn’t going to zero any time soon. I’m of the opinion I’m not going to do anymore passive index investing in broad indexes like VTI or SPY because there is no price discovery and the index is designed to go up relentlessly UNTIL… then there is no diversity protection. Given the demographics and volatility and the fact we are in a depression by any metric except the QQQ which is all driven by FED funny money, I’ll wait till we are back to a recession to re-engage and probably buy a basket of stuff with low leverage on the balance sheet. Deflation typically lasts for years not 20 minutes despite what CNBC would like you to believe. Inflation could happen but it seems to me we are a long way from exiting deflation so I’ll worry about inflation when that happens. Gold and BTC are good inflation hedges for the foreseeable future. In the meantime the cash makes 1.25% interest FDIC insured.

      The way I look at this is if you have cash you have money to spend. If you own SPY you spent your money and bought risk with it. Sometimes risk gives sometimes risk takes away. Right now things are unknowable so right now risk is poison. Maybe next year or in 2 years it won’t be poison anymore. It will take at least 2 years for the pandemic to play out.

      1. Have you written about your trading strategy with the bonds and gold? I would like to read about that.

        Thank you.

        1. I use a service that analyzes securities on 3 dimensions price, volume, and volatility and measures daily rate of change (basically differential calculus using first second and third derivatives and fractal math) to determine a range of risk. For example SPY’s price exists within a range of probable SPY prices. The investments are totally stochastic and don’t rely on any market narrative or talking head opinion like CNBC. Today’s SPY range is 2871 – 3067 based on the price volume volatility metric, Spy has a bearish trend based on an imputed vs realized futures metric. Spy’s price right now is 3057 meaning 3057 is only .33% below 3067 so it has a very limited upside, but it’s downside range is 6.1% from it’s present price so the most likely move for the S&P is a 6% downside move. If you place the short bet and the market cracks you will likely make 6%. If you place the long bet your upside is only 0.33%, which makes it an asymmetrically bad bet. I have made some money shorting SPY using the SH etf, and going long SPY by using SPY. SH has some peculiarities since it’s heavily day traded and you have to pay close attention to it. No taking a nap or writing a blog article if you have a SH trade on.

          I bought some gold last week at 1685 which was below the range of 1700 – 1767 so I backed up the truck. Today my 1685 bet is up 4% and has another 0.8% to run. I will probably start to book some profits as 4% is the majority of the move, and at some point I will be out of the trade and wait for the price to go down and touch the bottom of the range again. I keep a core position in gold that I bought around 1400 so my gold investment varies between about 10% and 18%. I keep 10% as my core against inflation. If the stock market crashes and I’m at 10% I’ll start buying gold even if its not yet quite to the bottom of the range. This way I am constantly scalping profit off the market which is then compounded in the next iteration of scalping, and since I have a lower limit if for some reason the gold market crashes, I’m out and my capital is preserved. This is how I manage the risk. At some point gold won’t be the right investment to be in as the economic cycle changes, but right now it’s exactly the right investment. Also the dollar index and gold miners are playing well. It’s all a variation of buy low sell high. My money is in Roth accounts to avoid taxes so I can’t short stuff. If I could there is a ton of money to be made shorting but right now I’m just interesting in making my monthly expenses and banking a little profit above expenses and preserving my capital while this depression plays itself out. Today gold only moved 0.5%, but miners moved 3%.

    1. Since I’m retired I have a lot of time to study this stuff. My take now is macro investing is the style that is going to take over during the next decade. I think the US market is pretty much doomed to 1% if we get that, so I don’t see buy and hold faring well at all. Buy and hold passive investing was the regimen of favor for the past 15 years. Prior to that it was value tilt investing of the Fama French 3 factor model. I think market efficiency due to HFT and algo and passive has destroyed Fama French. I think the leverage and retirement demographics has destroyed passive, so a new regimen will take its place and I think that is macro investing. Macro is active trend following investing and in my case its math is based on differential calculus and fractal math.

      My quant analysis is done by using products from a company called Hedgeye. Hedgeye is basically a hedge fund that allows participants to create their own hedge product under some guidance. It’s both complicated and easy and requires a definite learning curve to embrace and trust the process. If you want a simple push button process this is not for you. It’s more like learning how to fly an F-15 in a dog fight. You can’t just flip on CNBC and drool at the DOW, listen to the pony tails and understand the first thing about what is happening. I basically turned off commercial TV as a source of market data, what they sell is FUD, confusing and not helpful. So
      Hedgeye one source I use to make portfolio decisions. I think I pay around $100/yr for this data.

      Another source is Real Vision which is a video information service that interviews people on macro and market issues. These are people like Drunkenmiller, Paul Jones, Jim Rogers and a host of quality knowledge. The outfit is run by a guy named Raul Pal who I think has a clue. I watch about 3 hours a day of content from RV and the subscription is about $1000/yr I think.

      I also get a info from Chris Macintosh Insider weekly service which is a long term macro firm looking for opportunities with a 5 to 10 x asymmetric payout, so put $10 in get $100 back in 5 years. These deals require creating your own mini etf basically on a certain idea and some of what is traded has low volume like uranium stocks which means once in, the investment is illiquid. I’ve traded these kind of stocks in the past and have made 5 – 10 times but they are hard to get out of but can be quite profitable. I often do these trades as free trades where you put in say 10K, let it rise to 30K, sell 10K recouping your principal and then letting the 20K ride. This means all you have at risk is profit so it’s like owning an unexpiring call option on what ever you own. To get out you don’t sell 10K shares which would crash the market, you sell 10 shares 1000 times over 500 trading sessions and depending on trading cost it may be a hassle. Also for this site you need to be able to do a currency hedge so I’m still studying the hassle factor. The ideas are very lucrative though. These kind of trades are set and forget and take a look in 5 years unless you are selling or buying. I think this service is like $1200/yr. The principals for these are Raul Paul, Keith McCullough and Chris Macintosh and they are plenty of you tube videos with these guys interviewed or doing interviews so you can readily understand the possible value of these services. Trading is now basically free on stocks and ETF’s unless you are doing hedged trades or options so there isn’t any barrier to trading anymore except cap gains. You can short sell in a brokerage account but you can’t in a tax advantaged account so that’s a consideration also.

  3. Would macro investing be similar to a tactical asset allocation where by the allocation is changed between risk on to risk off based upon the phase of the business cycle and certain economic parameters, etc?

    1. Yes Macro tries to capture trends. Trends are cyclical and defined by data and rates of change in the data which belongs to the business cycle. The most recent business cycle stated in 2008 and ended in March. The cycle was failing for about 2 years prior to march when you analyzed the data. Macro is also secular changes. A secular change is a non cyclical but structural change to the market. An example is the aging boomer retirement in US Asia and EU which will force fortunes to be spent instead of accumulated. Accumulation tends to force markets up while portfolio deflation tends to force markets down and a big cohort of retired will tend to affect markets for a protracted period since seniors will be deflating and also spending less which will have a knock on GDP. So a big wad of seniors may cut down on auto sales and luxury auto sales for example. In macro trading you try to identify outperforming sectors both short and long compared to a broader index, also identifying market modulators like currency strength and FED policy.

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