Tag: optimization

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Risk-seeking investors and the first quarter of 2021

There was plenty of risk-seeking in the first quarter of 2021. So, how did the stock and bond market respond?

A Unique Quarter

This recent Wall Street Journal article summarized this first quarter well. The author identified the following contributors to recent market behavior due to risk-seeking investors.

  1. Meme stocks
  2. Interest rates
  3. Tech rotation

Meme stocks and the Fear Of Missing Out (FOMO)

The most popular “meme” stock was GameStop Corp. for risk-seeking investors. But, what is a meme stock? This source describes it as a stock that exhibits rapid price growth that is popular among millennials. Meme stocks can also be categorized by high volatility, fueled by the so-called Fear Of Missing Out (FOMO) and panic selling. Time will tell if this category of stocks becomes more formalized, as many in the workforce return to their offices, thereby limiting their trading time. Of course, the effect of social media on stock trading isn’t likely to go away anytime soon.

A new trend in interest rates?

The other big news in the first quarter was the increase in interest rates. Long-term bond yields increased in February and March, after starting the year at 0.917%.

U.S. 10 Year Treasury Note Yield in First Quarter of 2021. Source: MarketWatch.com
U.S. 10 Year Treasury Note Yield in First Quarter of 2021. Source: MarketWatch.com

By the end of the first quarter of 2021, the U.S. 10 Year Treasury Note yield rose to 1.745%. As we wrote about before, the price of a bond decreases when yields rise. Consequently, the iShares Core Total US Bond ETF fell, to a year-to-date loss of 3.4%.

Total Return of iShares Core Total US Bond ETF, First Quarter of 2021. Source: ETFReplay.com
Total Return of iShares Core Total US Bond ETF, First Quarter of 2021. Source: ETFReplay.com

Tech Rotation

The first quarter was also characterized by about a 5% return difference between the Dow and Nasdaq indices. For instance, Exxon Mobil Corp. is up 35% this year, while Amazon and Apple have lost 5% and 7.9%, respectively. Of course, no one knows if this rotation out of tech and into energy is a new trend or just a reaction to markets anticipating a future with more energy consumption due to increased commuting. But, these recent changes have been incorporated into our portfolio construction process to produce an update to our free and premium portfolios. We encourage you to log in to see how these ETF portfolios changed due to the latest market dynamics.

ETFMathGuy is a subscription-based education service for investors interested in using commission-free ETFs in efficient portfolios.
ETFMathGuy is a subscription-based education service for investors interested in using commission-free ETFs in efficient portfolios.
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Presentation to over 1,800 financial advisors on retirement drawdown strategies

A webinar attended by over 1,800 financial advisors recently featured ETFMathGuy to discuss retirement drawdown strategies. Subsequently, the Retirement Income Journal wrote about this event. In this posting, we will discuss some of the highlights of this webinar. Please click the image below to view the 60-minute webcast. Or, you can browse the slides.

Webcast recording: A Deep Dive Into Retirement Drawdown Strategies.

Webinar highlights

As the title of the webinar indicated, its emphasis was on retirement drawdown strategies. Our host, Steve Parrish discussed some of the recent changes to Required Minimum Distributions (RMDs) that resulted from the SECURE Act, as well as where tax law may go in the future. Steve also wrote a really nice article recently in Forbes entitled “Three Reasons to Take Your RMDs Now“. Joe Elsasser, Founder and President of Covisum, a FinTech company specializing in retirement drawdown strategies, also presented. Joe showed how his firm’s software can identify the so-called “tax torpedo“, and assist retirees on how to plan accordingly.

After that, I discussed two research articles on retirement drawdown strategies. To begin, I quantified the impact of eliminating the stretch IRA for non-spouse heirs, which I highlighted in a previous ETFMathGuy posting. The key takeaway from this peer-reviewed article was that there is still a benefit to an heir to stretch their IRA drawdowns over the 10-years permitted by the SECURE Act. Doing so can increase the heir’s inherited assets by 11-17%, depending on their specific situation.

Emerging Research

I also spent a portion of my presentation to this large group of financial advisors discussing some of my latest research. This recent work builds upon some of my previous publications with Dr. Dan Ostrov at Santa Clara University. In this latest research, I identified the use of the Common Rule as a diagnostic for the next stage of optimal decision making for retirement income. The image below summarizes the preliminary findings for three categories of retirees.

The sensitivity of optimal drawdown strategies for three categories of retirees. Forthcoming research by DiLellio and Simon (2021)

Thank you for your feedback

I would like to thank the many financial advisors who recently tried out my retirement calculator. So, I am logging all these helpful suggestions for improvements. I hope to have this free calculator updated shortly that begins to incorporate many of these suggestions. I will discuss some of the calculator enhancements in a future post.

ETFMathGuy is a subscription-based education service for investors interested in using commission-free ETFs in efficient portfolios.
ETFMathGuy is a subscription-based education service for investors interested in using commission-free ETF efficient portfolios.

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Optimal Portfolio Updates for February 2021

ETFMathGuy optimal portfolios are now available to free and premium subscribers. Please log-in to see them now. In this post, we will discuss how the recent GameStop stock prices influenced these portfolios and our portfolio construction process.

Markets in 2021

The 2021 year in the ETF marketplace is already shaping up to be very interesting. The big news recently was the impact of stocks like GameStop’s 500% gain from Jan. 25 through Jan.29. Fortunately, most diversified ETFs saw little impact of this extreme price move. However, this rapid price gain did have a noticeable impact on two ETFs.

What ETFs were impacted most by GameStop?

According to this ETF.com article, two ETFs had their holdings in GameStop jump into double-digits weights. They were the Wedbush ETFMG Video Game Tech ETF (ticker: GAMR) and the SPDR S&P Retail ETF (ticker XRT). In the case of GAMR, this ETF has the largest weighting of GameStop, currently at 26%. Notice, in the image below, that this holding is more than 10-times larger than the next largest one.

Top 10 Holding for the Wedbush ETFMG Video Game Tech ETF (ticker: GAMR). Source: etfmg.com/funds/gamr
Top 10 Holding for the Wedbush ETFMG Video Game Tech ETF (ticker: GAMR). Source: etfmg.com/funds/gamr

Less extreme is the SPDR S&P Retail ETF (ticker: XRT), which currently holds 12% of its assets in GameStop. So, these two ETFs are not as diversified as one might expect.

Did these ETFs impact the ETFMathGuy portfolios?

The short answer to this question is “no”, because of our portfolio construction process begins with a curated list of ETFs. For this month, we chose to intentionally exclude GAMR due to the excessive level of risk associated with holding large amounts of GameStop stock. Fortunately, there were still many ETFs to pick from to build our optimal portfolios, creating plenty of other opportunity for gains. And, gains for 2021 have been good so far. Below is an image showing total returns for stocks (ticker: IVV), bonds (ticker: AGG) and our three premium portfolios invested in real brokerage accounts at Schwab and Fidelity.

Total returns for ETFMathGuy premium portfolios in January, 2021
Total returns for ETFMathGuy premium portfolios in January, 2021

We were happy to see these returns in January, which continues the strong returns from 2020. Please watch for future posts where we will continue our discussion on ETFs, the economy and tax-efficient retirement income.

ETFMathGuy is a subscription-based education service for investors interested in using commission-free ETFs in efficient portfolios.
ETFMathGuy is a subscription-based education service for investors interested in using commission-free ETFs in efficient portfolios.
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2020 Year In Review

Happy New Year from ETFMathGuy! In this post, we conduct a 2020 year in review of stock, bond and ETFMathGuy premium portfolios.

For many, 2020 was an unusual year in the investing world. And, investing in ETFs was no exception. In our first post of 2020, we discussed how we adapted to the new normal of nearly all ETFs trading commission free. That opened our portfolio construction process to consider over 2,000 ETFs. But, as we noted in another post from 2020, we immediately exclude any ETF with under $50 M in assets, which helps an investor avoid ETFs that may soon close, as well as larger bid-ask spreads when traded.

So, how did ETFMathGuy portfolios fare in 2020?

In short, we have been very satisfied with our ETFMathGuy premium portfolios. Our goal was to achieve returns similar to the S&P 500, but at lower risk. We established this goal based on rigorous backtesting all ETFs that were previously commission-free from Fidelity, or slightly less than 500 ETFs. However, in 2020, we expanded into all commission-free ETFs, and the returns from two real accounts at Fidelity appear below.

Total returns for stock market, bond market and two ETFMathGuy portfolios for 2020
Total returns for stock market, bond market and two ETFMathGuy portfolios for 2020

Clearly, we achieved our 1st goal of generating returns “at least as good” as the stock market, which we assume as the S&P 500. These returns were possible thanks to our model’s ability to dynamically adjust to market conditions. For subscribers with free memberships, you can see what these ETFs were by logging into your account, and browsing the 2020 portfolios through June 2020. For example, PALL and ARKK have been consistent components of our optimal portfolios. If you are a current premium subscribers, your January 2021 portfolios and rebalancing calculator are now available for your consideration.

But, what about risk in our 2020 year in review?

The pandemic of 2020 had a substantial impact on market risk. When measured monthly, stock market volatility was 25.8%. Examining the monthly returns for our ETFMathGuy portfolios, we observed an 18.1% and 19.4% and volatility for our moderate and aggressive portfolios, respectively. So, we also achieved our 2nd goal of keeping volatility lower than the stock market. We also revisited our calculation of Alpha and Beta. For the 12-monthly returns in 2020, we found Alpha = 2.48% and Beta = 0.49. Their p-values were 0.09 and 0.02, respectively for the ETFMathGuy aggressive portfolio.  Recall from this post that the smaller the p-values, the greater confidence we have that these are the correct values and have minimal estimation error. So, for those of you “seeking alpha”, these statistics indicate our portfolios likely produced “alpha” in 2020.

Our statistics on 2020 monthly returns indicated that we likely produced "alpha" in our ETFMathGuy aggressive portfolios.
Our statistics on 2020 monthly returns indicated that we likely produced “alpha” in our ETFMathGuy aggressive portfolios.

Forecasting 2021?

We won’t venture a guess at what the markets have in store for investors in 2021. Frankly, there are many, many articles already written on this topic. Instead, we will continue to pursue our goal to construct ETF portfolios that meet or exceed returns like the S&P 500 with lower volatility. If you are interested in accessing the January 2021 premium portfolios, please consider upgrading your membership now at 2020 subscription prices. In the coming weeks, we plan to increase our subscription prices for the new year. Please contact us if you would like a free sample of our latest premium portfolio.

We hope you found this 2020 year in review educational!

ETFMathGuy is a subscription-based education service for investors interested in using commission-free ETFs in efficient portfolios.
ETFMathGuy is a subscription-based education service for investors interested in using commission-free ETFs in efficient portfolios.
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What are Model Portfolios?

Yesterday’s Wall Street Journal had a very interesting article about model portfolios. So, what are these, and why should an individual investor care about them?

A Wall Street Trend

This WSJ article stated that the use of model portfolios is a growing trend, since it helps take the emotion out of investing. So, these portfolios are based on scientific observations and analysis, rather than an investor’s “instincts” or emotional reaction to current market conditions. A growing number of financial advisors are embracing their use too.

Model portfolios take some of the human emotion out of investing. They provide the comfort of science.

Andrew Guillette, Research Director at Broadridge. source: WSJ, December 4, 2020

Thus, these model portfolios are ones that can “dynamically shift the funds it invests in as markets change”. We are advocates of this approach using commission-free ETFs. Our free and premium portfolios do exactly that, as we update them each month based on current market conditions. Please log in to see these portfolios now, which include the latest market shifts through Friday, December 4th. Premium subscribers also have access to a handy web calculator to assist in rebalancing their portfolio.

How have model portfolios performed this year?

Unfortunately, little is published about model portfolio performance. But, we report our model’s performance for ETFMathGuy portfolios on a regular basis. The image below shows the total returns from January through end of November from our investments at our Fidelity brokerage account.

Total returns from January through November of Stocks, Bonds and ETFMathGuy Portfolios

What about risk?

The performance over the last 11 months look very promising, suggesting a scientific approach to rebalancing an ETF portfolio can perform well in volatile markets. But, how much risk did we take with these investments? Using the monthly returns that led to the total returns shown above, the volatility of the stock market (ticker: IVV) was 26.9%. However, the volatility of the moderate risk ETFMathGuy portfolio was only 18.2%. Not surprisingly, the aggressive risk ETFMathGuy portfolio had a higher volatility of 19.0%, as expected for a portfolio seeking more risk. So, these portfolios continue to outperform the stock market, while also taking less risk as measured by volatility.

ETFMathGuy is a subscription-based education service for investors interested in using commission-free ETFs in efficient portfolios.
ETFMathGuy is a subscription-based education service for investors interested in using commission-free ETFs in efficient portfolios.

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Market uncertainty prior to next week’s election

The stock market, measured by the S&P 500, lost about 2.5% in October. But, earlier in the month, the stock market was up over 5%. The chart below shows the roller coaster ride for two ETFs that track the stock and bond markets: iShares Core S&P 500 ETF (ticker IVV), Vanguard Total Bond Market ETF (ticker: BND) So, what’s going on with this market volatility?

Stock and bond returns in October, 2020. Source: finance.yahoo.com

Markets don’t like uncertainty

There are many opinions to describe what caused the financial markets to move like they did in October 2020. We think that the combination of the upcoming election and spike in coronavirus cases is adding to uncertainty. But, this uncertainty, as measured by stock market volatility, is still well below where it was earlier in the year. We used our daily volatility monitor in the plot below.

Stock market volatility as of October 30, 2020. Source: ETFMathGuy.com
Stock market volatility as of October 30, 2020. Source: ETFMathGuy.com

As this chart shows, volatility has crept a little higher in October. But, based on the long-term historical norm, this volatility is still slightly elevated in the 75% percentile. Of course, if you are a believer in efficient markets, then you simply don’t know what the future of the market will hold. In more positive news, the WSJ recently reported that the U.S. economy recovered significantly in the 3rd quarter of 2020. Consumer spending for online retail items continue to stay strong, while the travel sector still lags.

How about the ETFMathGuy portfolios and market uncertainty?

Thanks to wide diversification from over 2,000 ETFs we analyze each month, our portfolios continue to perform well. Consequently, the moderate risk portfolio lost 0.6% and the aggressive risk portfolio lost 0.5% in October. The year to date cumulative return of the ETFMathGuy aggressive risk portfolio appears below, along with the S&P 500 and Aggregate Bond Market total return.

ETFMathGuy year to date cumulative returns, versus the S&P 500 and Aggregate Bond Market returns.

Premium subscribers can now access the backtested portfolios for November 2020. Not a premium subscriber yet? Then, just visit the bottom of our “Join Us” page to upgrade your subscription and get immediate access!

ETFMathGuy is a subscription-based education service for investors interested in using commission-free ETFs in efficient portfolios.
ETFMathGuy is a subscription-based education service for investors interested in using commission-free ETFs in efficient portfolios.
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Market Volatility is Back?

Market volatility returned in September 2020. In this post, we discuss this recent surge in the context of long-term historical volatility. We also show how our ETFMathGuy portfolio performed, and elaborate on a source of that performance.

Market Volatility returned, but will it persist?

Earlier this year, we developed an app to automatically measure stock market volatility. This app updates daily, and the figure below shows the latest result.

Stock Market Volatility was 19.7% on Friday, slightly above its long-term historical norm.
Stock Market Volatility was 19.7% on Friday, slightly above its long-term historical norm.

We also provided a table showing the distribution of long-term historical volatility, as observed over more than 20 years. Current volatility is 19.7% as of October 2nd, which corresponds to the upper limit of the third-quartile. So, while market volatility returned, it is still well below the volatility seen in early 2020.

Market Performance through the 3rd Quarter

The higher volatility occurring in September did indeed correspond to a loss in the stock and bond markets. The stock market lost 3.7% and the bond market lost 0.1%, based on the ETFs with ticker symbols IVV and AGG. The year to date return of these stock and bond index ETFs were 5.5% and 6.7%, respectively, including dividends. The year to date return of the ETFMathGuy Aggressive Risk Portfolio was 20.8%. This return is the result of trades conducted in a brokerage account at Fidelity Investments, and so includes the bid-ask spread.

Stock and Bond Market YTD Returns compared to the ETFMathGuy Aggressive Risk Portfolio
Stock and Bond Market YTD Returns compared to the ETFMathGuy Aggressive Risk Portfolio

Premium subscribers now have access to the October 2020 premium portfolios, as well as a handy rebalancing calculator. Free subscribers are welcome to log in to review older premium portfolios through May 2020, or upgrade their account to enable premium access.

Sources of Excess Performance

One ETF that our portfolios have consistently included throughout this year is the Aberdeen Standard Physical Palladium Shares ETF (ticker: PALL). Its 12 month return and volatility appear below next to the S&P 500 ETF (ticker IVV).

The Palladium ETF has higher volatility than the S&P 500, but also has a higher return over the last 12 months. Source: www.ETFreplay.com
The Palladium ETF has higher volatility than the S&P 500, but also has a higher return over the last 12 months. Source: www.ETFreplay.com

Examining these results for PALL confirms the expectation that higher risk can lead to a higher return. Our optimal portfolio construction process creates a portfolio that, along with PALL, finds other ETFs that maximize expected return. This process also keeps the portfolio’s expected risk between the stock and bond markets. Additionally, we backtested this process over a full market cycle. We hope you will consider upgrading your subscription to gain insights into a wider variety of ETFs that appear in our efficient portfolios.

ETFMathGuy is a subscription-based education service for investors interested in using commission-free ETFs in efficient portfolios.
ETFMathGuy is a subscription-based education service for investors interested in using commission-free ETFs in efficient portfolios.

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Can minimum volatility ETFs consistently perform well?

Last weekend, there was a fascinating article about minimum volatility ETFs. It was written by one of my favorite Wall Street Journal columnists, Jason Zweig. In this article, he shared a lot of wisdom, which I will highlight more here.

What is a minimum volatility ETF?

One of the most common ways to measure risk in an ETF is to track its volatility. So, investing in a minimum volatility ETF may make sense for investors seeking to reduce risk. One of the largest low volatility ETFs is the iShares MSCI USA Min Vol Factor ETF (ticker: USMV), with over $30B in assets. The chart below shows it performance since its inception in October 2011, which generally lagged the S&P 500 (ticker: IVV). However, its volatility was noticably lower.

Risk and Return of a large minimum volatility ETF compared to the S&P 500 . Source: www.ETFReplay.com
Risk and Return of a large minimum volatility ETF compared to the S&P 500 . Source: www.ETFReplay.com

Why did this ETF produce lower risk and lower return?

This ETF is able to lower risk through the use of optimization, much like the ETFMathGuy portfolios. However, we don’t limit our optimal portfolios to equities like minimum volatility ETFs. We consider bonds, commodities and other alternative investments too. ETFMathGuy also uses backtesting that includes transaction costs to build portfolios to maximize returns.

The fund’s index uses an optimization algorithm to build a “minimum variance” portfolio—one that considers correlation between stocks—rather than simply holding a basket of low-vol stocks…

USMV Factset Analytics Insight (https://www.etf.com/USMV)

So, this ETF consists of stocks which typically emphasize lower volatility sectors like financial, utilities and real estate. These sectors are often termed “value”, rather than “growth” investments, in part due their issuance of dividends. Consequently, optimization to produce a minimum volatility ETF removes some market risk, generating a beta of 0.87. But, as we can see in the economic cycle from 2011 – 2020, the return also lagged the market.

Recent performance of minimum volatility

This year’s pandemic has certainly affected the stock market in significant ways. Investments favored by minimum volatility ETFs (financials, utilities, and real estate) have been significantly impacted by coronavirus lockdowns. However, technology has done very well, as remote work has increased the demand for technology systems and services. Unfortunately, technology is typically more of a “growth” investment. So, minimum volatility ETFs often limit their exposure to growth stocks to reduce volatility. In the ETFMathGuy portfolios, technology has been a noticeable portion this year, and has led to encouraging year-to-date returns and performance statistics.

ETFMathGuy is a subscription-based education service for investors interested in using commission-free ETFs in efficient portfolios.
ETFMathGuy is a subscription-based education service for investors interested in using commission-free ETFs in efficient portfolios.
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Will this stock market rally continue?

As recently discussed in this Wall Street Journal article, there is a deep suspicion on the future of this current stock market rally. In this article, we discuss what this rally looks like in various market segments. We will close on how our ETFMathGuy portfolios have performed so far this year.

The state of our economy

Most investors would agree that the economy is not doing well. Unemployment is high and our GDP (Gross Domestic Product) is shrinking at record levels. However, the Federal reserve has acted quickly and significantly. Also, congress has provided significant economic stimulus. Consequently, we have a stock market, as measured by the S&P 500 total return, up 3.5% year to date. But, not all segments of the market are behaving the same.

Below is a chart similar to the one we wrote about previously, where real estate was lagging the overall market. In that post, we also highlighted that the top 5 companies in the S&P 500 were focused on technology, helping the performance of the S&P 500.

Stock market total returns, year to date. Source: www.ETFreplay.com
Stock market total returns, year to date. Source: www.ETFreplay.com

As this chart shows, real estate is still down about 10% year to date, as measured by the iShares Dow Jones Real Estate REIT ETF. (ticker: IYR). However, the energy sector, as measured by U.S. Energy Sector SPDR ETF (ticker: XLE) is down nearly 38% for the year. Given few people are travelling much these days, we shouldn’t be surprised to see the energy sector prices behaving this way. Alternatively, the technology sector, as measured by the U.S. technology sector SPDR ETF (ticker: XLK) is doing very well, with a 21% total return year to date. Again, this is not surprising to many investors. The demand for many forms of technology is high in order to support workers in our economy working remotely.

ETFMathGuy Portfolios

We build ETFMathGuy portfolios to respond to market dynamics by analyzing daily price returns, variance and covariance over a historical period chosen from our backtesting. We build these portfolios from segments of the market not typically considered, but also exclude ETFs that are not sufficiently liquid. Our cumulative year to date total returns appear below.

Year to Date Total returns of ETFMathGuy Portfolios Through July 31, 2020.

As this chart shows total returns each month for this year, the ETFMathGuy portfolios are succeeding in reducing risk. These portfolios are also continuing to outperform the stock market. If you would like to see how this performance was possible, remember that we analyze over 2,000 ETFs to find assets that maximize returns for the levels of risk chosen. We encourage free subscribers to review the portfolios published earlier in the year, including April and May. Premium subscribers can now view the latest portfolios, based on market data through July 31, 2020.

ETFMathGuy is a subscription-based education service for investors interested in using commission-free ETFs in efficient portfolios.
ETFMathGuy is a subscription-based education service for investors interested in using commission-free ETFs in efficient portfolios.

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Market Volatility Continues to Decline

Declining market volatility continued in the month of May. Also, the S&P 500 had a very good month, returning 4.8%. However, the broad-based index is still down 5.0% for the year, including dividends. The chart below updates the returns from last month for returns through May 29, 2020. As these results show, the ETFMathGuy Moderate and Aggressive portfolios continued to outperform the S&P 500. The premium portfolios for April and May 2020 are now available to all subscribers. The latest premium portfolios for June 2020 are available to paid subscribers.

Year-to-date returns through May 2020 for the stock market, bond market and ETFMathGuy Portfolios
Year-to-date returns through May 2020 for the stock market, bond market and ETFMathGuy Portfolios

Markets returning to normal?

The declining market volatility suggests that the fear in the markets continued to subside in May. However, they are still elevated above their long-term historical average. The image below shows the volatility from our daily monitor that tracks the S&P 500 ETF (ticker: IVV). We determine the standard deviation of daily returns over one, two and three month periods, and report an average to find a daily value. As of Friday, May 29th, volatility was 37.8%, as shown below.

Stock market volatility is still high, be is now well below its recent peak over 70%.
Stock market volatility is still high, be is now well below its recent peak over 70%.

Market Volatility Still Higher than Normal

Analyzing over 5,000 trading days since mid-June 2000, we can see how “out of the norm” current volatility really is. The table below shows the distribution of volatility over this nearly 20-year time period. As this table shows, we are still in the 96 percentile of volatility, meaning only 4% of the days since mid-June 2000 exhibited higher volatility then on May 29th, 2020.

Stock market volatility is still very high, by historical standards.

Stock markets returning to “normal” can be very subjective. The table above can provide a more objective perspective to such an assessment. However, if the downward trend continues, it may not take much longer before volatility returns to its long term historical norm.

ETFMathGuy is a subscription-based education service for investors interested in using commission-free ETFs in efficient portfolios.
ETFMathGuy is a subscription-based education service for investors interested in using commission-free ETFs in efficient portfolios.