6 ms·

None of the kinds of people you listed are good at trading (esp economists). From experience, professional traders do tend to use passive indices for part of th

by smabie 6y ago

None of the kinds of people you listed are good at trading (esp economists). From experience, professional traders do tend to use passive indices for part of their PA, but also actively trade a portion. But you're right in that if you don't have a passion for it, you'll never be able to truly outperform spy on a risk adjusted basis. However, if you do have the knowledge and the passion, I definitely think you can. Investing is personal, and just holding spy doesn't fulfill everyone's objectives. Here's an example of a strategy that outperforms spy in most cases: 1/3 of your portfolio goes to upro (3x leveraged spy) and 2/3s goes to a bond fund/etf. As long as the bond etf returns above the upro expense ratio (~1%), you will outperform. From my backtests, this strategy will earn you an extra 1-2% return a year, while also having a slightly higher risk adjusted returns. I list the above as a great example because it's the kind of strategy that is great for a PA: easy to manage, doesn't require babysitting, and backed by solid academic research. When people think active vs passive, they think actively trading single stocks vs just holding an index. My point is that you can use some quant-lite strategies that tilt your portfolio to eek out a little return. You don't have to be trading everyday or even holding anything except ETFs.

eloff 6y ago
This strategy seems to make a lot of sense to me, so I just checked out the performance of UPRO over the last 5 years versus SPY (^GSPC). UPRO is up 426% (wow) $17.37-$74.01 and ^GSPC is up 192% (talk about a bull run) $1932-$3714 So with UPRO you would have had an average profit of 65.2% per year, and with SPY 18.4% per year. That's even better than x3 returns. Plus you'd have the bond returns. Interesting idea.
- hntrader 6y ago
  Isn't UPRO just a leveraged SPY. Seems different to the above option selling strategy
  - eloff 6y ago
    You must have skipped over and didn't read the parent post at all. We're not talking about the wheel strategy here.
- smabie 6y ago
  UPRO is only 1/3 of your portfolio, so you have the same exposure as SPY i.e: you are not going to make those crazy returns. The idea is to get cheap borrowing by using a leverage ETF and then buying bonds such that the bond yield > cost of leverage.
  - eloff 6y ago
    You're arguing against a strawman argument that you invented. I didn't say you would get those crazy returns - merely pointed out that you would have beat the S&P 500 over the last 5 years with the strategy outlined by the parent post. How well it holds up over a time period that also includes bear markets is another question - you can't just look at a bull market and assume it's representative of all time.
- StrangeDoctor 6y ago
  You absolutely do not want to own upro for 5 years. High fees and more importantly beta-slippage will eat you alive.
  - smabie 6y ago
    by beta slippage you mean volatility drag? On a risk adjusted basis, upro is definitely a loser due to volatility drag and high expense ratio. However, you can easily calculate optimal leverage ratio in order to maximize the geometric growth of your portfolio. The equation is: lev = E(r) / Var(r) So if the expected return is 10% and the expected volatility is 10%, optimal leverage to maximize geometric growth is 10x. This of course is much too high and the risk of losing everything due to excessive kurtosis and downside skew is very high. Like the everything else in finance, fundamental sin of that formula is assumption of the log normality of returns. However, is 3x too high for the long term? I dunno, but over long time periods, a pure 3x leveraged spy portfolio is going to outperform significantly. The problem is most people will be unable to weather the storm as you can easily lose half of your money in a week. I wouldn't hold pure spy 3x and wouldn't exactly recommend it, but from a mathematical perspective it is a defensible (as in, you can make cogent arguments for it) long term investment. On the other hand, I would probably recommend 1.5x lev or possibly even 2x lev to certain people. As a quant, I approach these things like leverage from a mathematical perspective. It's important not to have an emotional reaction. There are very smart people running books that have 10x leverage but you would never be able to guess by looking at their volatility. It's all about the factor exposures, net delta, etc. For example I've seen 15x leveraged delta neutral books that have absolutely insane Sharpe ratios (>15) and annualized volatility of less than 5%.
    - kgwgk 6y ago
      > However, is 3x too high for the long term? I dunno, but over long time periods, a pure 3x leveraged spy portfolio is going to outperform significantly. The problem is most people will be unable to weather the storm as you can easily lose half of your money in a week. You don't define "long time periods" but the storm may be much longer than one week. If you had invested with 3x leverage (daily rebalanced) in the S&P 500 anytime in 1999 or 2000 you would have been down over 90% in 2009 and you wouldn't have broken even until 2014 or 2016.
- kgwgk 6y ago
  It depends a lot on the period (and I think you didn't include dividends?). 1 year: SPY +15% - UPRO +2% 3 years: SPY +37% - UPRO +33% 5 years: SPY +110% - UPRO +325% Since 2016 is in line with the x3 promise. Since 2018 or 2020 definitely not.
  - eloff 6y ago
    Good catch, I forgot dividends. Interesting that the last year performance was so bad - I think that stock market drop back in March and the general volatility / reshuffling since then must have hurt the leveraged strategy.
victor106 6y ago
While I always preached just buying the S&P one risk i've been seeing with it is if, a majority of investors just buy the S&P index, since the index is market cap weighted, it would just make the largest stocks in the index more expensive. This would make the stocks that have less weight in the index or stocks outside the index relatively cheap and obviously offer better returns. Anyone disagree?
- smabie 6y ago
  Assuming the amount of tradable shares for each stock is proportional to the free float capitalization (which is not a particularly good assumption), each stock in the index should be pushed up by the same amount, since the weight of each stock in the index is proportional to the market cap of the stock. I don't think this is actually true (i.e the number of shares on the market is not proportional to the market cap), which would imply that some share prices would be affected more than other. Do higher weight stocks in spy get pushed up more? I don't know. But it is certainly possible. With respect to the stocks just outside the index, I think you could argue that they are probably undervalued and thus should offer better returns. This is what an academic would say. However, the actual reality could be a lot different: if returns are dominated by flows instead of fundamentals (like they are now), maybe going with the crowd is the best investment strategy. Or maybe not, I haven't done the research. One thing that every market professional is worried about right now is just how dysfunctional valuations and returns seem to be in the modern era. Stocks seem to go up for no reason and returns have been disconnected from both fundamental and quantitative risk premia. What I can say for sure is that we are in a period of intense change in the financial system. No one knows what the future of finance will look like, 10 years, 20, or 30 years out. Will crypto defi take over? Will traditional finance be disrupted? No one knows, but it is certainly an exciting time to work in the capital markets!
- kgwgk 6y ago
  Reality seems to disagree: https://www.sebastianstoeckl.com/post/ffdownload/index_files/figure-html/FF5-1.png https://www.sebastianstoeckl.com/post/ffdownload/index_files... https://en.wikipedia.org/wiki/Fama–French_three-factor_model#Fama–French_five-factor_model https://en.wikipedia.org/wiki/Fama–French_three-factor_model... SMB stands for "Small [market capitalization] Minus Big" and measures the historic excess returns of small caps over big caps.

by smabie 6y ago

eloff 6y ago

This strategy seems to make a lot of sense to me, so I just checked out the performance of UPRO over the last 5 years versus SPY (^GSPC). UPRO is up 426% (wow) $17.37-$74.01 and ^GSPC is up 192% (talk about a bull run) $1932-$3714 So with UPRO you would have had an average profit of 65.2% per year, and with SPY 18.4% per year. That's even better than x3 returns. Plus you'd have the bond returns. Interesting idea.

hntrader 6y ago
Isn't UPRO just a leveraged SPY. Seems different to the above option selling strategy
- eloff 6y ago
  You must have skipped over and didn't read the parent post at all. We're not talking about the wheel strategy here.
smabie 6y ago
UPRO is only 1/3 of your portfolio, so you have the same exposure as SPY i.e: you are not going to make those crazy returns. The idea is to get cheap borrowing by using a leverage ETF and then buying bonds such that the bond yield > cost of leverage.
- eloff 6y ago
  You're arguing against a strawman argument that you invented. I didn't say you would get those crazy returns - merely pointed out that you would have beat the S&P 500 over the last 5 years with the strategy outlined by the parent post. How well it holds up over a time period that also includes bear markets is another question - you can't just look at a bull market and assume it's representative of all time.
StrangeDoctor 6y ago
You absolutely do not want to own upro for 5 years. High fees and more importantly beta-slippage will eat you alive.
- smabie 6y ago
  by beta slippage you mean volatility drag? On a risk adjusted basis, upro is definitely a loser due to volatility drag and high expense ratio. However, you can easily calculate optimal leverage ratio in order to maximize the geometric growth of your portfolio. The equation is: lev = E(r) / Var(r) So if the expected return is 10% and the expected volatility is 10%, optimal leverage to maximize geometric growth is 10x. This of course is much too high and the risk of losing everything due to excessive kurtosis and downside skew is very high. Like the everything else in finance, fundamental sin of that formula is assumption of the log normality of returns. However, is 3x too high for the long term? I dunno, but over long time periods, a pure 3x leveraged spy portfolio is going to outperform significantly. The problem is most people will be unable to weather the storm as you can easily lose half of your money in a week. I wouldn't hold pure spy 3x and wouldn't exactly recommend it, but from a mathematical perspective it is a defensible (as in, you can make cogent arguments for it) long term investment. On the other hand, I would probably recommend 1.5x lev or possibly even 2x lev to certain people. As a quant, I approach these things like leverage from a mathematical perspective. It's important not to have an emotional reaction. There are very smart people running books that have 10x leverage but you would never be able to guess by looking at their volatility. It's all about the factor exposures, net delta, etc. For example I've seen 15x leveraged delta neutral books that have absolutely insane Sharpe ratios (>15) and annualized volatility of less than 5%.
  - kgwgk 6y ago
    > However, is 3x too high for the long term? I dunno, but over long time periods, a pure 3x leveraged spy portfolio is going to outperform significantly. The problem is most people will be unable to weather the storm as you can easily lose half of your money in a week. You don't define "long time periods" but the storm may be much longer than one week. If you had invested with 3x leverage (daily rebalanced) in the S&P 500 anytime in 1999 or 2000 you would have been down over 90% in 2009 and you wouldn't have broken even until 2014 or 2016.
kgwgk 6y ago
It depends a lot on the period (and I think you didn't include dividends?). 1 year: SPY +15% - UPRO +2% 3 years: SPY +37% - UPRO +33% 5 years: SPY +110% - UPRO +325% Since 2016 is in line with the x3 promise. Since 2018 or 2020 definitely not.
- eloff 6y ago
  Good catch, I forgot dividends. Interesting that the last year performance was so bad - I think that stock market drop back in March and the general volatility / reshuffling since then must have hurt the leveraged strategy.

victor106 6y ago

While I always preached just buying the S&P one risk i've been seeing with it is if, a majority of investors just buy the S&P index, since the index is market cap weighted, it would just make the largest stocks in the index more expensive. This would make the stocks that have less weight in the index or stocks outside the index relatively cheap and obviously offer better returns. Anyone disagree?

smabie 6y ago
Assuming the amount of tradable shares for each stock is proportional to the free float capitalization (which is not a particularly good assumption), each stock in the index should be pushed up by the same amount, since the weight of each stock in the index is proportional to the market cap of the stock. I don't think this is actually true (i.e the number of shares on the market is not proportional to the market cap), which would imply that some share prices would be affected more than other. Do higher weight stocks in spy get pushed up more? I don't know. But it is certainly possible. With respect to the stocks just outside the index, I think you could argue that they are probably undervalued and thus should offer better returns. This is what an academic would say. However, the actual reality could be a lot different: if returns are dominated by flows instead of fundamentals (like they are now), maybe going with the crowd is the best investment strategy. Or maybe not, I haven't done the research. One thing that every market professional is worried about right now is just how dysfunctional valuations and returns seem to be in the modern era. Stocks seem to go up for no reason and returns have been disconnected from both fundamental and quantitative risk premia. What I can say for sure is that we are in a period of intense change in the financial system. No one knows what the future of finance will look like, 10 years, 20, or 30 years out. Will crypto defi take over? Will traditional finance be disrupted? No one knows, but it is certainly an exciting time to work in the capital markets!
kgwgk 6y ago
Reality seems to disagree: https://www.sebastianstoeckl.com/post/ffdownload/index_files/figure-html/FF5-1.png https://www.sebastianstoeckl.com/post/ffdownload/index_files... https://en.wikipedia.org/wiki/Fama–French_three-factor_model#Fama–French_five-factor_model https://en.wikipedia.org/wiki/Fama–French_three-factor_model... SMB stands for "Small [market capitalization] Minus Big" and measures the historic excess returns of small caps over big caps.