Hey everyone,

I’ve dedicated at least a few of my daily blogs this year to the rising risks of the short volatility trade and I’ve received a lot of positive response.  “Thank you for the friendly warning” or “I didn’t know they could move that much”  type of responses.

The truth is that for every one person that’s talking about the inherent risks there seems to be ten people recommending to buy with both hands.  Market makers exposure to the products is growing, the Beta to the S&P 500 is at historically high levels, and we have literally zero live trading data points to reference for how this all unwinds because the last time it happened these volatility ETPs and VIX futures didn’t exist.

It was always a good idea to keep portfolio allocations to volatility products reasonably low, but I would say that’s true this year more than any other by far.  If you are going rogue against my cash recommendations, like I’ve talked about:

 

In my humble opinion, consider doing it with the ZIV and also consider cutting the allocations you were carrying last year in half to reflect the more than double Beta to S&P we are seeing this year.

 

So if volatility product allocations are small, (say in the 5-15% range)  that does beg the question, what can people do with the rest of their money?  These are not personalized recommendations, but here’s a few potentials to consider:

 

1)  Dedicate a higher than normal allocation to the VTS Tactical Balanced Strategy.  Market environments go through cycles, and markets themselves change over time with the introduction of new products and new technologies.  It’s very important for successful long-term investors to remain nimble and able to adapt to the changes.  Having said that, one of the most detrimental things that investors can do is change their strategy every time something stops working for a short amount of time.

It’s really a balancing act.  Being open to change vs sticking to what’s worked for many years prior. 

 
I’m not yet at the stage where I’ll be changing the Total Portfolio Solution allocations, but that doesn’t mean you can’t.

If you’d like to dedicate some of your usual VTS Tactical Volatility allocations to the VTS Tactical Balanced I would consider that moving towards safety and I would never object to that.

We will have many years in the future where performance is exceptional, that’s inherent to the way that I trade and I hope my record speaks for itself.  So our primary focus is always risk management and not making costly mistakes.

 

Not making money isn’t the same thing as losing money, and allocating towards safety 9 years into the 2nd longest bull market in history may not be a bad idea.

 

2)  Cash.  Again, not making money isn’t the same thing as losing money and that feeling some investors have of “missing out” can be extremely detrimental to long term success.  We humans are emotional creatures, and we fall victim to many cognitive and emotional biases.  One of them is recency bias.

Recency bias has a funny way of tricking our minds into doing the exact opposite of what we should.  Recency bias is what keeps investors on the old “buy high sell low” hamster wheel.  It’s what makes investors buy at the tail end of a bull market in fear of missing out, and sell at the bottom of a bear market when valuations are actually getting attractive again.
 

Remember cash isn’t something we hold because we don’t know what to do.  Cash is an active portfolio position.

 
We hold cash when the risk reward profile of owning something in it’s place makes the probability of the return of cash higher than holding the asset.

Right now in my honest opinion, that is probably true of most assets including volatility products.  The risk reward profile of cash right now is more attractive than the risk reward profile of other things.

This won’t be the case for long through, we’re just in a pocket of elevated risk.  Things will normalize and we’ll be able to deploy our cash and put it to work soon on higher probability trades, but right now there’s nothing wrong with cash.

 

3)  Index Funds.  I’ve talked at length about Index Funds so I’ll keep this brief, but you all know by now that index funds actually outperform roughly 80-90% of active fund managers.  If you’re looking for somewhere to allocate money, Index funds do have a long history of being one of the better choices.

I could dedicate a whole blog to them, but right now I’ll give you two of my favorites.  You can never go wrong with Vanguard.

 

Vanguard Balanced Index Investment  (VBINX)
–  roughly 60% equities / 40% bonds
–  10+ year CAGR of roughly 6.5%

 

Vanguard Wellesley Income Investment  (VWINX)
–  roughly 60% fixed income  /  40% equities
–  10+ year CAGR of roughly 6.8%

 

 
Current VTS Total Portfolio Solution Allocations

25% VTS Tactical Volatility Strategy

50% VTS Tactical Balanced Strategy

25% VTS Iron Condor Strategy

VTS Conservative Vol Strategy  –  Optional replacement for lower risk tolerance investors

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