A Quantum Leap in Financial Market Analytics

  • 06 April 2020 1:15 PM | (Administrator)

    We frequently get asked why bother with rotating to Long-Term U.S. Treasury funds in bear markets?  Why not just buy inverse ETF's like 'SH' or leveraged versions such as 'SDS' and 'QID'.  Once again, it comes down to the greatest reward given a certain level of risk.  We have models that can make several magnitudes of profit greater than the ones we publish, but they come with (in our opinion) unacceptable risk.  It's been our experience in money management that regardless of what their risk-tolerance is, most investors can handle drawdowns of -10%, some investors begin getting nervous at -15%, and most people who say they're "risk-tolerant" lose all sense of rational behavior at -20%.  For this reason, we set -20% as the limit of drawdown for our models. 

    As we've seen in the bear market of 2020, thus far we've seen 5 greater than 10% moves from the high of one day to the low of the next!

    In short, volatility spikes to extreme levels in bear markets--every single one of them we've studied going back to 1929.  Even a 1x inverse ETF like 'SH' would have moved against you more than 10% in a single day in the middle of a bear!  Therefore, all of our research shows that Long-Term U.S. Treasuries, the ultimate safe-haven asset (at least according to all of our research over the last 30 years) remains the optimal investment during bear markets.

    Now the results of our test, substituting our VUSTX/VFITX blend with a synthetic 'SH'.  The inception of 'SH' wasn't until June of 2006, so to test it we had to create synthetic data to carry it back to 1996--not a problem using Amibroker. 

    In this case, while the overall net profit remains impressive, the maximum drawdown far exceeds are risk limitations.  The maximum drawdown is almost -37%.

    The numbers speak for themselves.  "Shorting" the market via inverse ETF's is less profitable and more risky than just rotating into the safety of U.S. Treasury ETFs. - The Leader in Quantitative Analytics
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