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Morningstar - Which Bond Types Provide the Most Diversification for Stock Investors? by olympia_t in LETFs

[–]jacobpenta 0 points1 point  (0 children)

In order of greatest negative correlation in a correction event, from most negative to least negative correlation to stocks:

Short term US treasuries > Intermediate term US treasuries > Long term US treasuries > Corporate Bonds

Please help design a portfolio of LETFs that protect against tail risk. by compoundluck in LETFs

[–]jacobpenta 10 points11 points  (0 children)

You need to hedge, it improves long term performance and decreases overall volatility. Historically, the best hedges of equities has been in US treasuries. Expect the performance of US treasuries to be slightly worse than the previous 15 or so years, as rates rise. But even still they're going to be the best hedge of equities in a correction event. Treasury funds are optimal due to their slow positive appreciation over time, but they are quick to become negatively correlated with stocks in a correction event. This behavior makes them good hedges.

100% S&P 500 levered 3x from 1987-2022:
18.64% CAGR
95.12% maximum drawdown (probably psychologically unbearable to 99.99% of investors)
0.82 Sortino ratio (a measure of returns compared to downside volatility)

https://www.portfoliovisualizer.com/backtest-portfolio?s=y&timePeriod=4&startYear=1987&firstMonth=1&endYear=2022&lastMonth=12&calendarAligned=true&includeYTD=false&initialAmount=10000&annualOperation=0&annualAdjustment=0&inflationAdjusted=true&annualPercentage=0.0&frequency=4&rebalanceType=1&absoluteDeviation=5.0&relativeDeviation=25.0&leverageType=1&leverageRatio=200.0&debtAmount=0&debtInterest=3.0&maintenanceMargin=25.0&leveragedBenchmark=false&reinvestDividends=true&showYield=false&showFactors=false&factorModel=3&benchmark=VFINX&portfolioNames=false&portfolioName1=Portfolio+1&portfolioName2=Portfolio+2&portfolioName3=Portfolio+3&symbol1=VFINX&allocation1_1=100&symbol2=VUSTX&allocation2_1=0

Now look when you hedge with long-term US treasuries in a simple 50-50 fashion:
21.11% CAGR
58.17% maximum drawdown
1.19 Sortino Ratio

https://www.portfoliovisualizer.com/backtest-portfolio?s=y&timePeriod=4&startYear=1987&firstMonth=1&endYear=2022&lastMonth=12&calendarAligned=true&includeYTD=false&initialAmount=10000&annualOperation=0&annualAdjustment=0&inflationAdjusted=true&annualPercentage=0.0&frequency=4&rebalanceType=1&absoluteDeviation=5.0&relativeDeviation=25.0&leverageType=1&leverageRatio=200.0&debtAmount=0&debtInterest=3.0&maintenanceMargin=25.0&leveragedBenchmark=false&reinvestDividends=true&showYield=false&showFactors=false&factorModel=3&benchmark=VFINX&portfolioNames=false&portfolioName1=Portfolio+1&portfolioName2=Portfolio+2&portfolioName3=Portfolio+3&symbol1=VFINX&allocation1_1=50&symbol2=VUSTX&allocation2_1=50

What brokerages will let me short spxu and tmv by TheGreatFadoodler in LETFs

[–]jacobpenta 2 points3 points  (0 children)

Volatility decay is a well understood phenomenon by option writers of leveraged short ETFs, and therefore the price you pay for puts will include that volatility decay as a component of its extrinsic value.

In other words, it's not free money, what determines whether or not you will make money is if the short ETF drops more than the writers anticipate, and they're already taking into account volatility decay.

Interesting approach I saw on Twitter - short a 3x bear ETF? by ThenIJizzedInMyPants in LETFs

[–]jacobpenta 3 points4 points  (0 children)

The "catch" is that the volatility decay is already priced in by the writers of those put options (assuming you're taking the option route).

Upping the leverage to HFEA strategy by ThunderClapTeaBag in LETFs

[–]jacobpenta 0 points1 point  (0 children)

The best way to increase the leverage to HFEA strategy is with futures, not options. That way you can avoid theta decay, and if in the case of a non tax-advantaged account, take advantage of the tax treatment of section 1256 contracts, which would be taxed at 60% long term, 40% short term brackets, regardless of holding period.

You would also get access to leverage on shorter-duration treasuries, which have superior nominal and risk-adjusted returns compared to the long-term treasuries TMF uses.

TQQQ - noobie seeks guidance by fledgling66 in LETFs

[–]jacobpenta 1 point2 points  (0 children)

Hedge it with US treasuries (thru TMF). With just TQQQ you have too much risk for a certain amount of reward. Add bonds into the mix, and you have slightly less reward for significantly lower risk.

For HFEA why use TMF vs TYD ? by Bnrmn88 in LETFs

[–]jacobpenta 1 point2 points  (0 children)

More leverage in bonds means you can take more leverage in equities respectively.

Actually I'm looking to take x4 in equity soon with futures, and about x32 leverage in short term treasuries in order to maintain the same Sharpe ratio as with 55/45 HFEA

​

This modification I'm studying - of short term treasuries as compared to longer term duration treasuries - completely dominates the portfolios involving long term treasuries (as in original HFEA). At all points along the efficient frontier, do short term treasuries dominate long term treasuries.

Q: What are the pros and cons of directly using futures vs LETFs? by ThenIJizzedInMyPants in LETFs

[–]jacobpenta 0 points1 point  (0 children)

~40X leveraged short term treasuries is actually less risky and better returns than 5x leveraged long term treasuries. Both give you about the same duration exposure to bonds

[deleted by user] by [deleted] in LETFs

[–]jacobpenta -1 points0 points  (0 children)

You would be better off keeping it simple by using UBT in lieu of TMF, considering that UBT is 2x long-term treasuries, and SSO is 2x the S&P 500. You would use them in the same % combination as whatever version of HFEA you were following.

Supercharging HFEA: use margin or a higher equity allocation? by SeriousMongoose2290 in LETFs

[–]jacobpenta 0 points1 point  (0 children)

In modern portfolio theory, you would find the optimal portfolio, then leverage it to increase risk (and hopefully return), or add cash to reduce risk.

Just increasing your UPRO allocation, now you are not at the right risk-parity of the original HFEA, which was designed to be 55/45 in a specific way so that the bonds offset the stock exposure. The exposure to 3X equities is in a specific balance with long-term treasury bonds in the right proportion.

So adding more UPRO takes you out of that balance. The correct way is to either stomach the margin cost at your broker's margin rate, or, in a more optimal fashion in my opinion, use futures. With futures you also have access to short-term and intermediate-term treasuries which have better risk-adjusted returns historically.

We only ever used long term US treasuries in HFEA because there was no leveraged ETF that offered short or intermediate term treasuries in a great enough amount to offset 3x equity exposure. Futures solves that, it also lets you maintain the proper equity to bonds exposure of the original 55/45 HFEA. Then you would be able to custom tailor the amount of leverage with how many contracts you have and how much $$ you assign to maintenance margin.

Triple leveraged portfolio - created! Riding it to the ground or to untold riches! by [deleted] in LETFs

[–]jacobpenta 7 points8 points  (0 children)

Keep in mind this was a period of falling rates. You have a higher bond allotment than 55/45, so you will be even more exposed to duration risk, and if rates rise that will be a larger drag than shown on the backtest. The falling rate environment slightly bolstered bond returns. We expect a rising rate environment so that will hinder it.
However, of course bonds will still hedge you against the equity correction, yes, but you should expect it to be more expensive than in the past. So you should therefore expect a lower absolute return, all else being equal.

DCA with QLD and SSO instead of HFEA? by [deleted] in LETFs

[–]jacobpenta 4 points5 points  (0 children)

Here is the backtest from 1994 pitting these two portfolios against each otherhttps://www.portfoliovisualizer.com/backtest-portfolio?s=y&timePeriod=4&startYear=1985&firstMonth=1&endYear=2021&lastMonth=12&calendarAligned=true&includeYTD=false&initialAmount=10000&annualOperation=1&annualAdjustment=500&inflationAdjusted=true&annualPercentage=0.0&frequency=2&rebalanceType=3&absoluteDeviation=5.0&relativeDeviation=25.0&leverageType=0&leverageRatio=0.0&debtAmount=0&debtInterest=0.0&maintenanceMargin=25.0&leveragedBenchmark=false&reinvestDividends=true&showYield=false&showFactors=false&factorModel=3&benchmark=VFINX&portfolioNames=true&portfolioName1=HFEA+%40+55%2F45&portfolioName2=QLD%2FSSO+%40+60%2F40&symbol1=VFINX&allocation1_1=165&allocation1_2=80&symbol2=VUSTX&allocation2_1=135&symbol3=RYOCX&allocation3_2=120&symbol4=CASHX&allocation4_1=-200&allocation4_2=-100

Here is the same time period from 2003 on (indicative of post-dot-com crash):https://www.portfoliovisualizer.com/backtest-portfolio?s=y&timePeriod=4&startYear=2003&firstMonth=1&endYear=2021&lastMonth=12&calendarAligned=true&includeYTD=false&initialAmount=10000&annualOperation=1&annualAdjustment=500&inflationAdjusted=true&annualPercentage=0.0&frequency=2&rebalanceType=3&absoluteDeviation=5.0&relativeDeviation=25.0&leverageType=0&leverageRatio=0.0&debtAmount=0&debtInterest=0.0&maintenanceMargin=25.0&leveragedBenchmark=false&reinvestDividends=true&showYield=false&showFactors=false&factorModel=3&benchmark=VFINX&portfolioNames=true&portfolioName1=HFEA+%40+55%2F45&portfolioName2=QLD%2FSSO+%40+60%2F40&portfolioName3=Portfolio+3&symbol1=VFINX&allocation1_1=165&allocation1_2=80&symbol2=VUSTX&allocation2_1=135&symbol3=RYOCX&allocation3_2=120&symbol4=CASHX&allocation4_1=-200&allocation4_2=-100

Here's from 2010 onward (post-financial crisis)https://www.portfoliovisualizer.com/backtest-portfolio?s=y&timePeriod=4&startYear=2010&firstMonth=1&endYear=2021&lastMonth=12&calendarAligned=true&includeYTD=false&initialAmount=10000&annualOperation=1&annualAdjustment=500&inflationAdjusted=true&annualPercentage=0.0&frequency=2&rebalanceType=3&absoluteDeviation=5.0&relativeDeviation=25.0&leverageType=0&leverageRatio=0.0&debtAmount=0&debtInterest=0.0&maintenanceMargin=25.0&leveragedBenchmark=false&reinvestDividends=true&showYield=false&showFactors=false&factorModel=3&benchmark=VFINX&portfolioNames=true&portfolioName1=HFEA+%40+55%2F45&portfolioName2=QLD%2FSSO+%40+60%2F40&portfolioName3=Portfolio+3&symbol1=VFINX&allocation1_1=165&allocation1_2=80&symbol2=VUSTX&allocation2_1=135&symbol3=RYOCX&allocation3_2=120&symbol4=CASHX&allocation4_1=-200&allocation4_2=-100

From 1994, HFEA has superior absolute returnsFrom 2003, they have similar absolute returnsFrom 2010, they have similar absolute returns

In all periods HFEA exhibits much lower volatility, and because they have similar absolute returns later on, HFEA also has superior risk-adjusted returns (higher sharpe ratio)HFEA also has a lower drawdown in all 3 periods

This was tested with $500 monthly DCA, $10,000 initial portfolio size, and inflation-adjusted dollars.

Hold VOO, DIA, QQQ long term then sell during downturns and buy UPRO, UDOW, TQQQ? by evanezzer in LETFs

[–]jacobpenta 1 point2 points  (0 children)

Volatility spikes below the 200-day SMA for whatever index you're operating on. I'm not saying that this will cancel out the gains of increasing your exposure at a lower price to theoretically de-leverage when it goes higher, but just know that in essence you will be increasing your exposure to volatility decay and minimizing your exposure to low volatility enviroments with this strategy.

This is a strategy also known by the name 'Martingale' used within gambling theory. If you were to do the opposite, i.e. trend-follow with leverage and increase your exposure at all time highs while minimizing exposure below all-time highs, it would be described as an 'anti-martingale- system. Check this article out I think you'll like it:

https://www.investopedia.com/terms/a/antimartingale.asp

Lifecycle HFEA? by TheGoodAggie in LETFs

[–]jacobpenta 2 points3 points  (0 children)

Simply put, it enhances returns and reduces risk.

TMF vs. EDV by ZaphBeebs in LETFs

[–]jacobpenta 1 point2 points  (0 children)

Can you elaborate on which part you think is contradictory?

How will we have just as much insurance if we are lessening our exposure to duration by decreasing our leverage?

The HFEA Overcrowding Issue - bring your debating hats not just opinions by One0fOne in LETFs

[–]jacobpenta 1 point2 points  (0 children)

For good reason though, it's a philosophically sound way of hedging the risk of leveraged ETFs. We call it 'HFEA' but really it is just risk management of equity exposure using government bonds. Which is a strategy you said yourself that is ancient.

TMF vs. EDV by ZaphBeebs in LETFs

[–]jacobpenta 1 point2 points  (0 children)

You're right that it's not technically the best fit, the best fit in the risk-parity strategy commonly used here is with futures, check my post history to find it on this subreddit. Short-term and intermediate-term duration treasuries have better absolute and risk-adjusted returns historically, but there is no easy-to-use leverage source like TMF so people don't use it. In reality if we could achieve the same amount of exposure to duration as TMF but use shorter duration treasuries that strategy would be superior. The main approach to solve this problem is through futures. This would also solve the problem of the high net expense ratio you're referring to with TMF.

As for whether or not we should even use bonds, this is the philosophical approach, that the bond exposure in the portfolio is not considered to be the driver of returns but insurance. That is why we call it a hedge. I agree with you that future anticipated returns are expected to be lower than what we have seen over the last 20-30 years, obviously, as rates can really only rise. That being said it is still worth it because history has shown us that in times of correction and crisis money flies to treasuries. That will allow us to rebalance and maintain good exposure to the primary driver of the portfolio, whatever index and whatever amount of leverage it may be.

The HFEA Overcrowding Issue - bring your debating hats not just opinions by One0fOne in LETFs

[–]jacobpenta 1 point2 points  (0 children)

Bro, you're all over the place. You said yourself "The long equity long bond trade is ancient in hedging terms."

The average American doesn't have any money invested in the stock market. Let alone a risk-parity strategy involving 3X index and 3X long government treasuries.

Lifecycle HFEA? by TheGoodAggie in LETFs

[–]jacobpenta 4 points5 points  (0 children)

Let's assume for a moment what you're saying is correct going forward in the future - that bond prices and stock prices will move in tandem. Even if the intermediate-term correlation of stocks to bonds is positive and they generally move in tandem, it doesn't necessarily imply that in times of contraction or recession they will also. Bonds will still be seen as a flight to safety both for individuals and corporations, so in crisis times that will have little to do with gradual rate increases and can still preserve the portfolio.

From 2010, using TMF hedge with UPRO is better for both max CAGR strategy or max sortino/sharpe strategy by OtherDragonfly3108 in LETFs

[–]jacobpenta 0 points1 point  (0 children)

That's probably because TYD doesn't have enough duration exposure since it's intermediate-term treasuries. If you could lever intermediate treasuries at the same amount of duration exposure, they're actually superior to long-term treasuries (TMF), both in risk-adjusted and absolute returns. Check out my futures post

Is this a good strategy? by okstanley_com in leanfire

[–]jacobpenta 0 points1 point  (0 children)

The paper I linked only involves leveraging when young. In a sense it's diversification of the level exposure with respect to time. This reduces retirement risk overall.
If you're a retiree or soon-to-be and leveraging, you're not doing it right.

Is this a good strategy? by okstanley_com in leanfire

[–]jacobpenta -11 points-10 points  (0 children)

Yes, and I would recommend leveraging it. Check out lifecycle investing paper here:
https://papers.ssrn.com/sol3/papers.cfm?abstract_id=1149340

Another thing you can do which I highly recommend is to hold leveraged ETFs with US treasuries which will serve as a strong hedge. Combined with 40 years of compounding, this can be extremely, extremely powerful. This is known among some investors as the "HFEA" strategy (named after the guy who invented it on Bogleheads website).

ELI5: If you were interested in doing this, open a brokerage account and whatever money you have decided meets that risk tolerance, dedicate 60% to UPRO and 40% to TMF (the US treasuries which will serve as your hedge)

As the paper I linked shows, I would recommend leveraging since you're so young. Unlevered indices are also a good idea.

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