The long lonely path to redemption
As a retail investor, you often find yourself on a lonely path to an investment idea. Especially if you do not participate in momentum based investing, you often find yourself standing amidst ruins of your investment thesis looking around in amazement at how far you have gone and how desolate the landscape appears.
No, I have not fallen off the wagon here and no I am not wounded by any specific investment. I simply find myself here by virtue of how different things have turned out from the way I imagined it a few months back.
I have been, like most people, looking for a correction in the markets for over 24 months now. It was easy to hold on to this thesis while everyone around you was also sufficiently skeptical of the run up in the market. But since the beginning of 2018 things have changed. The market has taken off with renewed vigor and I find my thesis amidst the ruins of unbridled optimism. I stand among the ruins with increased pessimism, wondering if I am simply being pig headed about my stance or if I really have any real conviction behind my continued reservations.
The only reason I blog this today is to remind me why I am still taking timid steps along that path.
VXX:
I started investing in the long volatility ETF as a hedge to the parabolic rise of the market. As they always remind you, the market continues to remain irrationally placid while you become increasingly illiquid. The reason why I chose VXX as opposed to buying PUTs on the index is because I was unable to figure out a good term/price equilibrium. The ETF enables me to hold for longer periods of time. The problem with VXX as I hold it is that the reverses are far more pronounced than the advances and the expense ratio is significant hence leading to an erosion of the investment. My end of last year I was growing increasingly frustrated with this investment and had come to the conclusion that this was not the right instrument.
But in the face of 2018's "f*#k you bears" rally, the one subtle thing I observed in VXX is that the market is marching forward with one foot on the pedal and one pumping the brakes. The volatility crept up while the markets continued to rally. While the uptrend has been short and small, the divergence is beginning to show. This has caused VXX to stop cratering and even on 1% up days in the market VXX is showing an upward bias albeit negative in absolute terms. This was certainly the case last year when VXX would GAP significantly lower on up days. This in itself is a positive indication that the market is calling its own bullsh*#t on the current rally.
TBF:
This is a long term loser for me. I have been short the 20 year bonds for over four years now. During that time the interest rate on the 10 year has gone from 2.6 down to 1.7 and back to 2.66. While this is not investment performance worth even mentioning, the only reason I continue to hold this is as a hedge on the interest rates. In addition to that, the cost of holding this short position has been very low and considering the period for which I have held it, I consider it a free hedge on a spike in interest rate which seems almost inevitable.
You want to awaken the animal spirits and yet want a low interest rate regime? You want to hand over a 15% tax break to co-operations and expect no inflation? You want a weaker dollar and yet a stronger treasury note? Well, You cannot have your cake and eat it too or so I was told. So while I eat my proverbial cake I am going to pretend to be holding it as well in the form of a cheap hedge.
GLD:
This is a tough one. For all the investment reading that I have done this is the one that makes no sense to me. But then, for the most part, neither does this market. And while correlation and causation are being argued to death, I am a holder of GLD simply on the assumption that as inflation rises, so does gold prices. Why? Well I don't really understand this irrational argument, but it works as a theory every single time in history and since I do believe that the current events in the form of taw reform has opened the inevitable door to inflation that we so desperately seek, I for one wet my toes in some GLD. It really began with my frustration with the VXX holding that I mentioned earlier, but now has become a standalone form of hedge against inflation and a weak dollar.
The final indicator that is making me sit up and sweat at night is the extent to which markets have penetrated the natural conversation at work. Everyone is interested about talking stocks and the next entry point that they should be looking for. Never mind that this is a market that has been going up for the past 8 years without much resistance albeit with its share of skeptics until this point. And all this without even tipping my hat to the extensive crypto-currency debates that I have on a daily basis.
So why hedge at all? The bruises that you see on my portfolio are not by birth. 2007 and 2000 before that has taught me that nothing is permanent and as improbable as it might seem today in the midst of this cacophony of cheers there will be a day of reckoning. I am fully aware of the ocean of sharks that I swim with by being long the market. But even though I do not claim to be a master in understanding human psychology or finance, I do continue to stay long in this rather perilous market. I pay for my lack of proficiency and formal education in the form of these hedges. A small offering of peace to the market Gods.
All hail the almighty Market!
No, I have not fallen off the wagon here and no I am not wounded by any specific investment. I simply find myself here by virtue of how different things have turned out from the way I imagined it a few months back.
I have been, like most people, looking for a correction in the markets for over 24 months now. It was easy to hold on to this thesis while everyone around you was also sufficiently skeptical of the run up in the market. But since the beginning of 2018 things have changed. The market has taken off with renewed vigor and I find my thesis amidst the ruins of unbridled optimism. I stand among the ruins with increased pessimism, wondering if I am simply being pig headed about my stance or if I really have any real conviction behind my continued reservations.
The only reason I blog this today is to remind me why I am still taking timid steps along that path.
VXX:
I started investing in the long volatility ETF as a hedge to the parabolic rise of the market. As they always remind you, the market continues to remain irrationally placid while you become increasingly illiquid. The reason why I chose VXX as opposed to buying PUTs on the index is because I was unable to figure out a good term/price equilibrium. The ETF enables me to hold for longer periods of time. The problem with VXX as I hold it is that the reverses are far more pronounced than the advances and the expense ratio is significant hence leading to an erosion of the investment. My end of last year I was growing increasingly frustrated with this investment and had come to the conclusion that this was not the right instrument.
But in the face of 2018's "f*#k you bears" rally, the one subtle thing I observed in VXX is that the market is marching forward with one foot on the pedal and one pumping the brakes. The volatility crept up while the markets continued to rally. While the uptrend has been short and small, the divergence is beginning to show. This has caused VXX to stop cratering and even on 1% up days in the market VXX is showing an upward bias albeit negative in absolute terms. This was certainly the case last year when VXX would GAP significantly lower on up days. This in itself is a positive indication that the market is calling its own bullsh*#t on the current rally.
TBF:
This is a long term loser for me. I have been short the 20 year bonds for over four years now. During that time the interest rate on the 10 year has gone from 2.6 down to 1.7 and back to 2.66. While this is not investment performance worth even mentioning, the only reason I continue to hold this is as a hedge on the interest rates. In addition to that, the cost of holding this short position has been very low and considering the period for which I have held it, I consider it a free hedge on a spike in interest rate which seems almost inevitable.
You want to awaken the animal spirits and yet want a low interest rate regime? You want to hand over a 15% tax break to co-operations and expect no inflation? You want a weaker dollar and yet a stronger treasury note? Well, You cannot have your cake and eat it too or so I was told. So while I eat my proverbial cake I am going to pretend to be holding it as well in the form of a cheap hedge.
GLD:
This is a tough one. For all the investment reading that I have done this is the one that makes no sense to me. But then, for the most part, neither does this market. And while correlation and causation are being argued to death, I am a holder of GLD simply on the assumption that as inflation rises, so does gold prices. Why? Well I don't really understand this irrational argument, but it works as a theory every single time in history and since I do believe that the current events in the form of taw reform has opened the inevitable door to inflation that we so desperately seek, I for one wet my toes in some GLD. It really began with my frustration with the VXX holding that I mentioned earlier, but now has become a standalone form of hedge against inflation and a weak dollar.
The final indicator that is making me sit up and sweat at night is the extent to which markets have penetrated the natural conversation at work. Everyone is interested about talking stocks and the next entry point that they should be looking for. Never mind that this is a market that has been going up for the past 8 years without much resistance albeit with its share of skeptics until this point. And all this without even tipping my hat to the extensive crypto-currency debates that I have on a daily basis.
So why hedge at all? The bruises that you see on my portfolio are not by birth. 2007 and 2000 before that has taught me that nothing is permanent and as improbable as it might seem today in the midst of this cacophony of cheers there will be a day of reckoning. I am fully aware of the ocean of sharks that I swim with by being long the market. But even though I do not claim to be a master in understanding human psychology or finance, I do continue to stay long in this rather perilous market. I pay for my lack of proficiency and formal education in the form of these hedges. A small offering of peace to the market Gods.
All hail the almighty Market!
This was posted at the depths of despair as my VXX bet was failing miserably. VXX was at $29 when I bought my last batch of VXX. Things took a dramatic turn from here and volatility spiked from here on. The year ended with a salute to the shorts. Vindication was sweet but it taught me that the path to hedging is a very painful one and takes a lot of courage and patience to pay dividends.
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