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Re-balance Cycle Reminder

The next re-balance will be on Monday, May 13, 2013. You can also find the re-balance calendar of 2013 on ‘Dashboard‘ page once you log in.

As a reminder to expert users: advanced portfolios are still re-balanced based on their original re-balance schedules and they are not the same as those used in Strategic and Tactical Asset Allocation (SAA and TAA) portfolios of a plan.

Please note that we now list the next re-balance date on every portfolio page.

What Happened To Gold And Commodities?

By now, everyone should have known that gold (GLD) has dropped dramatically: it had dropped more than 28% from its peak on Aug. 22, 2011.  Along with gold’s weakness, commodities (DBC) have been weak for two years now: it returned -2.6% in 2011, 3.5% 2012 and year to date -7.7%. 

There are many portfolios on MyPlanIQ.com that have exposures in gold and/or commodities. Many Strategic Asset Allocation – Equal Weight based portfolios from plans that have gold or commodities ETFs (or mutual funds which are rare) as candidate funds might have sizable exposure to this asset class. Permanent portfolios or alike have exposure in gold and silver. Strategic Asset Allocation – Optimal based portfolios have much less exposure in commodities (5% target allocation in a moderate risk profile 40 portfolio such as Six Core Asset ETFs Tactical Asset Allocation Moderate ). Finally, what about those portfolios using Tactical Asset Allocation strategy?

Let’s first review how the current gold/commodity crisis has affected these portfolios

Impact on Relevant Portfolios

The following shows how several gold/commodity related portfolios have performed: 

Portfolio Performance Comparison (as of 4/15/2013)

See the detailed year by year comparison >>

Notice that a tactical portfolio like Permanent Global Portfolio ETF Plan Tactical Asset Allocation Moderate has long exited commodity or gold positions. Tactical portfolios are practically not affected by this gold/commodity sell off. 

On the other hand, permanent portfolios like Harry Browne Permanent Portfolio, though affected in some meaningful way, are still very resilient thanks to the strength in stocks and long term bonds, both of which are the two pillars in these portfolios. It is yet another point in history that permanent portfolios’ hedging positions stabilized the overall portfolio’s performance. 

Long term impact

Now that everyone is running (or has run) for the hills in commodities, what do we take for this? For those who have sizable exposure in commodities or gold, human emotion might be running high: ‘what a loser’ might be the least they can mutter out. But emotion aside, let’s review the thesis behind investing in commodities or gold. 

The key thesis in commodity exposure is for inflation hedge. With a carefully crafted portfolio that has acceptable overall risk level to you personally, this thesis stays intact. Current coordinated world wide central bank monetary stimuli (aka money printing) will eventually result in higher inflation in the future. For a long term investor, there is nothing to worry about. Today’s commodity rout has occurred numerous times in history. 

The other often quoted reason to invest in gold is for portfolio insurance against financial disasters. As an insurance, you have a small amount in a portfolio that might become the last resort safe haven when financial systems blow up or fiat currencies become a problem. For this matter, today’s market action only tells us that markets place more weight in deflation pressure in the near term. Again, this is an expected possible behavior of gold and commodities.  

Having said that, the critical factor in investing in commodities and/or gold is the risk management. In a strategic asset allocation portfolio, that would mean the overall risk asset exposure should be well contained in your comfort zone. Furthermore, allocation to commodities or gold should be balanced out: in Harry Browne Permanent Portfolio, gold exposure in matched by equal amounts in stocks and long term treasury bonds; in a risk parity portfolio such as Bridgewater All Weather Portfolio Risk Parity or Bridgewater All Weather Portfolio Long Bonds Risk Parity, that means inflation hedge exposure risk is matched with other 3 corners’ risks. 

For a tactical portfolio that uses trend following Tactical Asset Allocation, what should one do when a candidate asset class such as commodities or gold is out of favor? After all, these portfolios have safely eschew commodities or gold for a while. 

The short answer to the above question is nothing. 

However, a more interesting answer is that we are getting more excited!

In fact, the lower gold price or commodity prices go, the better we will be able to get back in at some point with more profit potential. Though at first glance momentum investing seems to be the opposite to value investing, in practice, it is NOT. Our tactical strategy just does not buy a position when it is on the way down. But on the other hand, once gold or commodities bottom out and show their strength again, it will start to have exposure again. Again, this is exactly what we meant when we stated “We are value investors at heart but pragmatists in life.”  in our previous newsletter January 28, 2013: Valuation Matters.

Furthermore, for those who are starting out a new investment or have been on the sidelines, a better entry point might be just on the horizon. 

What’s ahead

There are many possible reasons behind recent gold weakness or the prolonged commodity weakness. Though day to day or short term fluctuation can mask out true issues or give false signals, we believe the following scenario is the most likely: basically, the weakness is signalling an anemic inflation pressure or even worse, a deflationary force at work. 

For example, it is often quoted that before a financial crisis, institutions that are under serious credit constraints will first liquidate their gold positions to raise cash for debt servicing requirement.  The recent Bloomberg report Draghi Says Any Cyprus Gold Sale Must Cover Emergency-Loan Loss is one example. On the other hand, speculations are abound (see, for example, Zerohedge’s All Eyes On The Gold Rout, Most Oversold In 14 Years).

A more cautious tale for the recent commodity sell off is that such a sell off is usually a precursor to stock market weakness. The following chart shows what happened before Lehman Brothers debacle in September 2008: 

Ultimately, all of the above are just educated guesses. We just have to stick to our plan and follow the events unfold and respond accordingly. 

For now, however, it is again a good time to be prepared for a possible rough ride. 

Portfolio Performance Review

It is a good time to review the following advanced portfolios that use long-short trend indicators for commodities, currencies and long bonds: 

Portfolio Performance Comparison (as of 4/15/2013)

Detailed comparison >>

LSC should be used to compare with P S and P Commodity Trend Indicators Strategy while both RYMFX and WDTI should be used to compare with P S and P Diversified Trend Indicators. 

These long-short portfolios use S&P trend indicators (diversified, commodity and currency). They were once popular during the 2008-2009 financial crisis as they showed their capability to hedge against stock market crisis. However, they have been long forgotten due to their dismal performance, let alone the lousy implementation and high fees of ETFs or mutual funds.  Most ETFs or mutual funds are using derivatives such as futures. MyPlanIQ’s portfolios use commodity, currency ETFs to implement the long-short algorithms. 

We can see that starting this year, these portfolios started to show some of their promise. It is interesting to monitor these portfolios as time goes. 

Market Overview

As we pointed out last week,  emerging market stocks and commodities, two of the 5 major risk assets have been ranked below cash in the  major asset trend ranking table on Asset Trends & Correlations (for other detailed ranking, see 360° Market Overview).  Today’s market sell off further re-arranged other positions. International stock asset is just a hair below long term Treasuries, which have exhibited the usual strength during the sell off. 

We again copy our position statements (from previous newsletters): 

Our position has not changed: We still maintain our cautious attitude to the recent stock market strength. Again, we have not seen any meaningful or substantial structural change in the U.S., European and emerging market economies. However, we will let markets sort this out and will try to take advantage over its irrational behavior if it is possible. 

We again would like to stress for any new investor and new money, the best way to step into this kind of markets is through dollar cost average (DCA), i.e. invest and/or follow a model portfolio in several phases (such as 2 or 3 months) instead of the whole sum at one shot. 

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Disclaimer:

Any investment in securities including mutual funds, ETFs, closed end funds, stocks and any other securities could lose money over any period of time. All investments involve risk. Losses may exceed the principal invested. Past performance is not an indicator of future performance. There is no guarantee for future results in your investment and any other actions based on the information provided on the website including, but not limited to, strategies, portfolios, articles, performance data and results of any tools. All rights are reserved and enforced. By accessing the website, you agree not to copy and redistribute the information provided herein without the explicit consent from MyPlanIQ.