Contents of this month’s post include:
- Market Update of the current economic regime
- Monthly Portfolio Update for April 2022 with a fresh set of charts
Hi, and good to have you back for a new All Seasons Portfolio monthly update!
Hope you are feeling better than the markets, even though that might be a bar set quite low. The main talking points lately have been the more hawkish signals from central banks with the first couple of rate hikes now well under the belt and with markets still expecting several raises in the remainder of the year.
This naturally has been a wet blanket on risk assets and bonds lately, lowering valuations across the board. But before we get into the detailed run through of my portfolio and the performance of the asset classes of the All Seasons Portfolio, let us have a look at the key economic indicators that are the main drivers of price movements.
April 2022 Market Update
As a reminder, more or less all market moves can be traced back to essentially two forces: inflation and economic growth, and especially positive and negative changes in expectations of these.
That gives rise to four possible market regimes, as a combination of the two factors can be summarized by a matrix of four squares with inflation and economic growth on on axis each.
The four possible regimes are this inflationary stagnation, inflationary boom, deflationary bust, and disinflationary boom.
As expected, different assets perform well in each of these regimes, which is aptly summarised by the below handy chart put together by Resolve Asset Management:
That will serve as a backdrop for the next section which will cover a brief summary on the current market regime and where we might be heading.
In what market regime are we now? Translating the above chart into real life, I will be showing a similar chart with only the matrix, and plotting the development of historic inflation and economic growth to show the current regime. I’ll also be doing the same exercise with forward-looking indicators, showing market expectations.
As for the data sources, for the backward looking (actual) data I’m using monthly YoY CPI for the vertical inflation axis and monthly YoY GDP growth on the horizontal economic growth axis. This does not include the latest inflation print of 8.3% that came in for April on 12 May though, but I will continue to use a one month lag here as this update constitutes a backdrop for the portfolio update that follows.
From the charts below, you will find clearly that both inflation and real growth rate are in clear trends. Inflation is increasing to 7.9% annualy in March, while growth is falling, but we are not yet in a stagflationary environment, which would require growth to be negative.
For the forward-looking chart (the one to the right), I am using 5Y break evens (being the difference in return of a 5Y nominal US Treasury Bond and a 5Y Inflation-Linked US Treasury Bond, aka. TIPS) to illustrate expected future inflation, and PMI (Purchasing Managers’ Index) as a leading indicator for economic growth (note that for PMI, 2 points above 50 roughly translates to 1 percentage point in GDP growth for the US).
Translated into words, we can see that the market expects inflation to continue to rise, even though also the breakeven is a rather reactive or lagging indicator as it is usually adjusted after changes in realized inflation (higher inflation prints cause higher inflation expectations).
As for growth, purchasing managers in the manufacturing sector are less positive for the growth outlook by the month, but still expect a growing economy in April.
The next two charts depict the trend in historical inflation and growth, as well as forward-looking expectations. Each data points are measuring the difference between the latest number and average of the previous 12 data points, where the larger dots being the latest numbers (the yellow diamond being the last measure). Note that this is a slightly different calculation method than in my first market update post, but which is a method I believe adds more clarity in showcasing trend.
Inflation remains in a rising trend with the March number being 2.5 ppts above the previous 12-month average. Real GDP, on the other hand, has been steadily been declining as the data point have been moving toward the left on the horisontal axis, where the growth rate is now below its previous 12-month average.
A similar story is told by forward-looking expectations, as inflation is expected to continue to rise, and growth will continue to decline.
These data support the current market sentiment. Inflation continues to remain elevated, while growth – previously strong on the back of Covid-19 – has begun show clear signs of slowing. We are thus taking steps toward entering the inflationary bust quadrant, while not being there quite yet.
But looking at the chart on the right-hand side, showing how expectations of the future have changed over time, inflation is still expected to remain elevated, but with growth moving toward the left (again, the diamond is the latest datapoint, with older datapoints for each month shown by the dots). This could indicate that we are moving toward inflationary stagnation, also known as stagflation.
In this environment, one would expect commodities, inflation-linked bonds and VIX to outperform. This is also the case in real life (see portfolio update further below). The interest rate hikes from central banks across the globe are expected on the back of rising inflation, but it is naturally far from ideal that the hikes occur at a time when growth is expected to decline. It has almost become a tradition that the Fed and other CB’s hike into a recession, but why break with traditions, right?
At the same time, economic growth, while at a high level, the pace of it has been coming down from mid-2021. It is noteworthy though that the exceptional numbers in June and July 2021 are much due to the base effects from declines in GDP in the first months after the coronavirus pandemic from Q2 2020. This trend is also visible on the right hand side, as PMI is declining, while still with a decent cushion to the neutral 50-level.
Interpreting all charts above, we now have a good understanding of the current environment. Let’s therefore continue to look at my All Seasons Portfolio to see whether theory translates to reality.
And before we jump that, remember to leave your feedback for this format; if it is worthwhile and what other info/data you would find to be relevant.
If you are looking for getting started with your own All Seasons Portfolio and need some inspiration, check out my post on How to get started with the All Seasons Portfolio strategy. While stocks have been a great investment the last decade, there are no guarantees that this trend will last, as their continued success depends on several factors. Instead, consider diversifying your portfolio to include other asset classes, and benefit from the rebalancing period over the long-term, as described in this article.
April 2022 Portfolio Update
As you would expect from the charting in the segment above, and as already alluded to, the strongest performers assets in April were the inflation hedges.
Commodites, gold and VIX were all the best assets in my portfolio (I’ll show you the exact data further down), where commodities and gold rose by about 5% each.
While VIX rose by abut 20% over the month, it has had a more limited impact on my portfolio than what I would have wished for. The reason is that in an attempt to make my left tail hedges and long-vol position more cost efficient, the tactical way I trade this position lead to that I scaled out too soon out of this position but never found my predetermined entry points due to the extended period of elevated implied volatility. I do still hold a small position though, but will have to review the way I trade VIX.
I am currently reading a great book on this exact topic: Safe Haven by Mark Spitznagel, where a key point about tail risk hedging and portfolio insurance is the cost-efficiency of such position. As you may know, VIX ETPs are really not cost-efficient due to their erosion of value caused by the rolling of futures contracts trading in contango (the front month contract is lower in price than the next month contract), why tactical trading is necessary in normal markets. But then again, so far this year, markets have not been normal, meaning that I have been loosing out. C’est la vie.
Oil, on the other hand, are a corner stone of most Commodity ETFs tracking the various indices (BCOM, S&P GSCI, or RF/CC CRB) as these are all energy heavy. The price of this commodity is thus an important driver of the commodity part of the All Seasons Portfolio.
While the oil price exploded by end of February, it has continued sideways at late with other commodities catching up. Brent, for example, now trades below its 50-day Moving Average. However, there are several uncertainties left in the markets that could trigger another move on the upside, such as sudden contingencies in Russian oil reaching the European market, OPEC not being able to ramp up spare capacity, and the US needing to restock their strategic reserves later in the year after the releases to cool off the price at the pump. Hence, more price action can be expected.
If we start with my eToro portfolio, which is an All Seasons Portfolio that is levered 1.34x times, the performance over the month was rather sideways.
That was still a much better outcome than a stock-only or popular 60/40 portfolio that both saw drawdowns over the month. This shows the benefit of risk balanced and well-diversified portfolios that give you exposure to several uncorrelated asset classes and all four market regimes.
Below you find the summary of my eToro portfolio over February and the performance of each asset class in my portfolio. Despite the overall volatility, my portfolio was indeed stable.
If you are already on eToro, make sure to follow me there too, as I from time to time share brief updates there directly about that particular portfolio. The updates I share on this blog will however remain deeper and more insightful.
Follow me there by finding user Allseasonsport. And feel free to copy my portfolio there with a small amount of your portfolio if you want a more hands-off approach to risk parity investing. I do all my trading there in a systematic and rule-based manner, and already have 17 copiers at the time of writing. I very much like this copy investing functionality, as it makes it easier to follow other people’s strategies, while the investors like myself that are copied have skin in the game as all trades are done with my own money.
As for my “regular” All Seasons Portfolio, the one I am trading on DEGIRO, this also saw negative performance in April, but to a much lesser extent than on eToro. Here, the portfolio lost about -1.1% over the month.
Two notable changes to my portfolio were put in place in April worth mentioning though:
Firstly, I have employed about 1.4x leverage on my All Seasons Portfolio through a margin loan on my account. With the long-term expected average return of about 7-8%, it will on average cover interest expenses why this will increase returns cost-efficiently. Whilst I had already levered my eToro portfolio previously, the idea to also lever this has been in the back of my mind for some time. However, I only leapt into action after very fruitful discussions around the Life Cycle Investing Strategy concept, which advocates the use of 2.0x leverage for younger investors for stock market exposure to maximize financial capital in retirement. My intention is that I’ll explore this concept further in the context of risk parity investing at a future date, but for now, it suffices to inform that leverage is being deployed.
Secondly, as one attentive reader already has spotted, is that I have tactically shifted a big part of my bond part of the portfolio from nominal bonds to inflation-linked bonds in the rising rate environment. I executed this shift at the same time when I levered my portfolio by allocating the borrowed funds to TIPS. I expect this position to remain until the negative trend in long-term bonds breaks (see my post about strategic rebalancing for more information around this concept), and I anticipate this will happen at the earliest in Q3 2022, if not later. You’ll find my current portfolio allocation below.
As for relative returns, while the returns have been weaker in April, I am still ahead of both the S&P 500 and a 60/40 “Balanced” Portfolio over the rolling 3 months.
Looking at individual assets, commodities, gold, and VIX were, as mentioned, the main drivers on the positive side, but also global multi-factor stocks were still posting slightly black numbers. As for underperformers, long-term government bonds and inflation-linked bonds were the main villains this months, quite unsurprisingly due to the rising rate environment.
Adding also the 3-month chart here below for each ETF, there has been an increasing divergence between asset classes with the inflation-hedges on top.
Lastly, as usual, here is the table of my ETFs and the changes laid out in table form.
|ETF||Name||Asset Class||2022-03-31||2022-04-30||Change (Hold)||Change (ETF)|
|UIMB||UBS LFS Bloomberg TIPS 10+ UCI ETF(USD)Ad||TIPS||€395.55||€955.02||141.44%||-1.23%|
|DTLE||iShares $ Treasury Bd 20+yr UCITS ETF EUR Hgd Dist||Long-Term Government Bonds||€843.04||€639.45||-24.15%||-9.19%|
|IGLE||iShares Global Govt Bond UCITS ETF EUR Hedged Dist||Long-Term Government Bonds||€594.69||€0.00||-100.00%||-2.17%|
|DBXG||Xtrackers II Eurozone Gov Bond 25+ UCITS ETF 1C||Long-Term Government Bonds||€0.00||€690.16||#DIV/0!||-9.75%|
|3TYL||Wisdomtree Us Treasuries 10Y 3X Daily Le||Long-Term Government Bonds||€191.46||€278.13||45.27%||-3.15%|
|M9SA||Market Access Rogers Int Com Index UCITS ETF||Commodities||€563.40||€592.20||5.11%||5.11%|
|FRC4||UBS LFS-Blmbrg Eur InflLnk10+ UCIT ETF(EUR)Ad||TIPS||€0.00||€682.62||#DIV/0!||-3.12%|
|JPGL||JPM Global Equity Multi-Factor UCITS ETF - USD acc||Stocks||€1,584.23||€2,125.71||34.18%||0.63%|
|VOOL||Lyxor S&P 500 VIX Futures Enhcd Roll UCITS ETF A||VIX||€71.76||€33.20||-53.73%||20.29%|
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