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S&P 500 Again Shows Weakness: Go Short With These ETFs

After the furious rally since February 12, the S&P 500 has again lost momentum and slipped into the red from a year-to-date look. This is especially true, as investors are apprehensive as to whether the stocks will be able to sustain their gains in the coming weeks given the bleak corporate earnings picture and renewed concerns on global growth uncertainty (read: Top and Flop Zones of Q1 and Their ETFs ). As we are heading into a weak Q1 earnings season, volatility is expected to increase though stabilization in energy prices and the dollar could act as a catalyst. According to the Zacks Earnings Trend , earnings growth will be deep in the negative territory for the fourth consecutive quarter with 10.9% estimated decline. In fact, the magnitude of negative Q1 revisions was the highest among recent quarters with 14 out of the 16 Zacks’ sectors witnessing negative revisions over the past three months. Utilities and retail were the only two exceptions. Revenues will likely be down 2.2% on modestly lower net margins. The release of minutes this week showed that the Fed is unlikely to raise interest rates in April, signaling that weak global growth could hurt the ongoing recovery in the U.S. economy. Further, continued rise in the Japanese currency dampened investors’ faith in central banks’ ability to boost growth across the globe. All these factors coupled with relatively higher valuations have led to risk-off trade, pushing the safe havens higher (read: Q1 ETF Asset Report: Safe Havens Pop; Currency Hedged Drop ). Added to the downbeat note is the International Monetary Fund warning. The agency stated that problems in emerging markets, such as China, could lead to poor stock performance in the U.S. and other developed countries. Given this, the S&P 500 will likely see rough trading ahead and investors could easily tap this opportune moment by going short on the index. There are a number of inverse or leveraged inverse products in the market that offer inverse (opposite) exposure to the index. Below, we highlight those and some of the key differences between each: ProShares Short S&P500 ETF (NYSEARCA: SH ) This fund provides unleveraged inverse exposure to the daily performance of the S&P 500 index. It is the most popular and liquid ETF in the inverse equity space with AUM of nearly $2.5 billion and average daily volume of nearly 7 million shares. The fund charges 90 bps in annual fees. ProShares UltraShort S&P500 ETF (NYSEARCA: SDS ) This fund seeks two times (2x) leveraged inverse exposure to the index, charging 91 bps in fees. It is also relatively popular and liquid having amassed nearly $2 billion in AUM and more than 13.5 million shares in average daily volume. ProShares Ultra S&P500 ETF (NYSEARCA: SSO ) With AUM of $1.6 billion, this fund also seeks to deliver twice the return of the S&P 500 Index, charging investors 0.89% in expense ratio. It trades in solid volumes of more than 4.6 million shares a day on average. ProShares UltraPro Short S&P500 (NYSEARCA: SPXU ) Investors having a more bearish view and higher risk appetite could find SPXU interesting as the fund provides three times (3x) inverse exposure to the index. Though the ETF charges a slightly higher fee of 93 bps per year, trading volume is solid, exchanging more than 6.6 million shares per day on average. It has amassed $728.3 million in its asset base so far. Direxion Daily S&P 500 Bear 3x Shares (NYSEARCA: SPXS ) Like SPXU, this product also provides three times inverse exposure to the index but comes with 2 bps higher fees. It trades in solid volume of about 6.6 million shares and has AUM of $476.8 million. Bottom Line As a caveat, investors should note that such products are suitable only for short-term traders as these are rebalanced on a daily basis. Still, for ETF investors who are bearish on the equity market for the near term, either of the above products could make an interesting choice. Clearly, a near-term short could be intriguing for those with high-risk tolerance, and a belief that the “trend is the friend” in this corner of the investing world. Original Post

The V20 Portfolio #27: When To Rebalance

The V20 portfolio is an actively managed portfolio that seeks to achieve an annualized return of 20% over the long term. If you are a long-term investor, then this portfolio may be for you. You can read more about how the portfolio works and the associated risks here . Always do your own research before making an investment. Read the last update here . Note: Current allocation and planned transactions are only available to premium subscribers . After a volatile week, the V20 Portfolio declined by 3.2% while the SPDR S&P 500 ETF (NYSEARCA: SPY ) declined by 1.2%. The underperformance can once again be attributed to the largest holding, Conn’s (NASDAQ: CONN ). When To “Average Down” Recently our cash balance has grown as a percentage of the overall portfolio, which can be primarily attributed to the decline in portfolio value as opposed to strategic shifts in allocation. As mentioned earlier, the biggest laggard is Conn’s. You may recall that the V20 Portfolio will continue to purchase shares of a company if fundamentals have not deteriorated, even if price has dropped. In 2016, we did exactly that. Conn’s position would have been 42% smaller had we not made any purchases in 2016. But as share price has continued to drop since the last transaction, I have not yet made any additional purchases for Conn’s, which is a part of the reason why cash allocation has swelled to one of the highest levels since the portfolio’s inception. Why did I make that decision? The truth is that I’ve been looking for the opportunity to “pull the trigger” so to speak. This relates to my rebalancing philosophy. There are many ways to rebalance, but I break them down to systematic and discretionary. The former style follows a predetermined method (e.g. once every quarter according to some specification). As you probably guessed already, the V20 Portfolio’s rebalancing method is discretionary. I believe that too many factors are shifting to warrant a systematic method. However, discretion does not imply randomness. The V20 Portfolio seeks to allocate more capital to stocks with the highest expected rate of return while accounting for the possibility of permanent capital loss . I believe that the smallest position in the portfolio right now, Dex Media, actually has the highest expected return; but due to the high risk of shareholders being wiped out in the restructuring deal, it is not prudent to allocate a significant amount of capital to the stock, no matter the expected return. Bringing the discussion back to the topic of rebalancing; a position essentially shifts between “no exposure” to “too much exposure” at any given time. However, there is no specific number associated with these two groups. Let’s suppose that the ideal allocation is 10% for a certain stock. Should you rebalance when it falls to 9.99%? Or what if it rises to 11%? There is no good answer. However, if we examine the extremes, the answer can become clearer. Using the same example, I don’t think anyone will disagree that rebalancing would be appropriate if the allocation falls to 1%, assuming no changes in fundamentals. There are also short-term considerations. While the focus should be long-term, short-term fluctuations are very real. Each time you place a trade, you are implying that prices shouldn’t go lower, or else you would have waited. This implication exists even if your investment horizon is long-term . There are numerous factors that could lead to sustained mispricing. For Conn’s, the general macro picture for retail has been soft and the credit division’s results may not improve for a while. Both of these factors could put more pressure on the stock, providing better opportunities to accumulate shares. In conclusion, there is no “perfect” time to rebalance. I believe that Conn’s current allocation remains large enough to capture the stock’s significant upside. The allocation could be larger, it could be smaller. However, one thing is certain: if shares continue to fall in the future, there is no doubt that more capital would be allocated to the position. Performance Since Inception Click to enlarge Disclosure: I am/we are long CONN. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it. I have no business relationship with any company whose stock is mentioned in this article.

Policy Divergence And Investor Implications

By Mark Harrison, CFA The world’s central banks and treasuries are no longer simply balancing the levers of growth and inflation through a succession of cycles with varying degrees of poise. Karin Kimbrough, a macro-economist at Bank of America Merrill Lynch, explores a world where all the old symmetries of monetary and fiscal policy have evaporated – that era might as well be 100 years ago. Instead, according to Kimbrough, who spoke at the CFA Institute Fixed-Income Managed Conference in Boston, in this new era, central banks are far from scoring top grades. In the United States, the US Federal Reserve’s quantitative easing (QE) trade is beginning to unwind, but QE policies are still underway in other developed economies. There is monetary and fiscal policy divergence, which, together with demographic distinctions among advanced economies, has important implications for interest rates and fixed-income markets. In this question & answer session following Kimbrough’s presentation, concerns are raised about this policy divergence, difficulties controlling inflation, portfolio risk concentrations from investor yield-chasing, and perceived foreign threats. A full version of this presentation is also available in the CFA Institute Conference Proceedings Quarterly . Audience member: What do you think about the concept of good versus bad inflation? Karin Kimbrough: I personally do not ascribe too much value to the good versus bad inflation concept. I think that the good versus bad inflation argument really just reflects where we see growth and demand more tightly. We are making more advances on the consumer side. Growth is looking okay, and services are definitely stronger than manufacturing, so we are seeing more inflation in services. Any sort of price pressure from abroad is just completely disinflationary given the strengthened dollar and the many downward pressures abroad in commodities and import prices. You mention that fiscal policy is not living up to its end of the bargain. What are some policies that you would espouse to help bridge the gap? I am a Keynesian at heart, in the sense that Keynesian is shorthand for correcting deficient demand. I believe that, in the presence of a deep lack of aggregate demand, the government should step in and support it. So, as a Keynesian economist, I would have supported some kind of new deal deploying people who are still unemployed to work on a major infrastructure project. It might be a redo of some of our major highways or getting high-speed internet into more rural areas – some long-term infrastructure investment that would actually pay off in dividends in the long term for the United States in terms of productivity, either through transportation or communication. So, I would have liked to have seen highway bills and infrastructure bills or, as a New Yorker, another tunnel between New Jersey and New York. All of that got delayed because it was deemed too expensive, but I cannot think of a better time to do it than when rates are low and there is a lot of labor to deploy. Yes, it is expensive, but it also puts people back to work. When people are back at work, they are paying taxes, paying their mortgage, and shopping, and businesses make plans and invest. When you grade inflation a D+, you grade it against the Fed’s target of 2%. How do we know 2% is the right number? If 2% is not the right number, what might the right number be, and how would it affect your grade for inflation? I graded it based on the test, and the test was 2%. Should the test be different – say, 1.5%? Maybe. I think of it this way: 2% provides a nice, comfortable margin such that the Fed is not setting a target that is so low that it is constantly flirting with deflation, which is generally a nightmare for central banks. No central bank wants to be constantly resorting to QE and asset purchases. The Fed wants to be able to toggle the pace of our economy using rates, which is hard to do when everything is sitting so close to the zero lower bound. A 1% inflation target would mean that, over the medium term, actual inflation is oscillating at a very low level, which is problematic. The Fed is trying to set inflation expectations that give the central bank ample room to respond without constantly facing a threat of either destabilizing high inflation or managing problematic deflation. No one is quantitatively arguing the Fed get to 2% more robustly than historical behavior. If 2% is just a random number and is not achievable, does it force the Fed to implement policies that might create other risks, such as the systemic risks that come out of an attempt to create something that is not possible? Central banks look at a variety of measures when deciding on policy, and of course, not all measures point in the same direction. For example, the personal consumption expenditure (PCE) index presents a more negative case right now compared with consumer price index (CPI) inflation, which is sitting at 1.7-1.8% – a lot closer to 2%. It depends on how something is measured, and of course, governments and central banks are guilty of occasionally changing their standards. They will give good reasons for changes – for example, they might say, “We think we need to reweight medical costs or housing costs differently” – and they will come up with a different measure of inflation. If 2% is indeed unachievable and we are constantly trying to drive ourselves there, then perhaps we are doing it at the expense of inflating asset price bubbles by keeping rates unusually low. I think about it from a central bank perspective: There are risks of financial instability resulting from inflated asset prices. These risks are worsened when leverage is added into the mix. Right now, I do not think we are at a particularly over-levered position relative to a decade ago. So, the Fed might be willing to tolerate some degree of overvaluation in certain markets, because the leverage does not look like it is there. That said, if leverage were building up, I would be a lot more worried about trying to achieve an unachievable target of 2%. Disclaimer: Please note that the content of this site should not be construed as investment advice, nor do the opinions expressed necessarily reflect the views of CFA Institute.