What Are You Actually Trying To Hedge Against?


Bloomberg had a short post about the various types of hedges that did not work during the panic last month. In the middle of the panic, I posited that this could end up being one of many such events that are quickly forgotten about. It was very fast and like many other fast panics it snapped back quickly, retracing much but not all of what was lost pretty quickly.

Where people talk about "healthy" 10% corrections, that is probably what we had but keep in mind the 10% breach lasted about 20 minutes. The thing that was "different" about this one was the extreme jump in the VIX and to be clear, it was extreme. Now though, VIX is well below 20 and the S&P 500 through today's decline is down 2.6% from its peak (per Google Finance).

Taking a page from Nassim Taleb, investors should not be so fragile in the face of a one or two week dip that they come unglued by something that is obviously a panic (I blogged as such several times in the middle of it). If you believe in hedging or otherwise managing your portfolio's volatility (I definitely do), it would be unrealistic to expect things like alternative strategies, gold or bonds to necessarily offset a bad week for equities. An inverse fund is very likely to work in such a short time frame but the others may or may not.

The thing to worry about and to hedge (again, if you even believe in hedging, not everyone does) are the long protracted downturns, bear markets.

From my time at Fisher Investments, they talked about the market only doing for things; up a lot, up a little, down a little and down a lot. Those first three go with the territory of participating in markets, that fourth one is the one to avoid. What we had in early February was down a little and it goes with the territory.

Everything about the article plays into people's short term fears. Recognize these types of commentaries for what they are. In this case, useless for longer term investors.