Selling Without Selling
Matt Krantz wrote an article for IBD that starts down I road we've gone down many times before here. He looks at alternatives to selling in the face of a perceived downturn in equities. He correctly places an emphasis the potential consequence of believing a decline is coming, selling out based on that belief and then being wrong about the decline.
To combat this dilemma, he looks at volatility strategies like iShares Edge MSCI Minimum Volatility USA ETF (USMV), the Innovator Buffer ETFs and international equity ETFs. Generally they offered some protection back in December.
They certainly spared some of the full brunt of the decline last December but in 2008 EFA was down more at the low than the S&P 500. Between foreign and domestic equities, one must out perform the other and there is no way to know on the next go around which one will do better on a relative basis. There can also be no assurances that an ETF comprised of lower volatility stocks or an ETF built to be less volatile from the top down (there's a difference) will go down less than a market cap weighted fund. In the next bear market, if the S&P 500 goes down 35%, volatility funds might do better, but they might also do worse, there is no way to know.
The buffer ETFs are more interesting in this realm. At a high level they are like a collared equity positions; you own stocks, the upside is capped at what amounts to the strike price of a call and the downside is capped at what amounts to the strike price of put. They may not be perfect like if the next 500% is a straight ride higher (unlikely but frames the drawback here) but they can be part of the solution. Used in conjunction with other funds, an allocation to the buffer ETFs would very likely help avoid the full brunt of the next large decline.
I've written countless posts about the funds I have used over the years for this purpose with my general focus being funds that have a decent chance of going up when equities are going down. This has included gold, managed futures and various strategies that go short or long short one way or another. A fund that is short equities has very good chance of going up when stocks are going down, a far better chance than a fund that is long equities via some factor other than market cap weighting. With the right mix of strategic funds, you might be able to ride out the next bear market without doing any meaningful selling.
Recently, I was on The ETF Experience Podcast with Phil Bak. We covered a lot of ground including looking for new ETFs that might help with managing client portfolios. I made the observation that I'm not really looking for a better mousetrap for sector funds, I use some in client portfolios. For most clients that were on board in 2008, I bought SPDR Consumer Discretionary (XLY) in December of that year. I bought iShares US Technology (IYW) several years before that, in 2004. I still hold both for most clients. If I sell them for a sector fund from another provider because it might be better would result in a huge tax bill for unqualified accounts. This sort of trade would likely cause more problems than it would solve.
I am on the look out for strategic funds with the best example maybe being client holding AGFiQ U.S. Market Neutral Anti-Beta Fund (BTAL). It goes long low beta stocks and short high beta. It has proven to my satisfaction that it provides a good chance of going up when the market is going down.
The other type of fund I am interested in trying to find is thematic funds. If you're looking for exposure in a narrow theme and you're researching stocks you probably should also look at any ETFs that might be available. In some cases a stock might make more sense and for others, an ETF might be better. For example with blockchain; if the theme interests you, finding a stock might make more sense than an ETF. If you look at the funds, they certainly have some narrowly focused names but also a lot of exposure to large caps that might be involved in some relatively small way or perhaps other companies that benefit from blockchain. The funds could do very well but they aren't pure exposure if that's what you're going for. It's not logical to think that an ETF will always be the best way to access a theme, same with individual stocks. Be flexible enough to go either way and be curious enough to find them.