Global Macro Trading Journal

I can't overplay this issue though. UK gilts vs UK bills are not that far apart in terms of benefits. I asked the computer to find the best Sortino but only using UK stocks, gilts and bills so it couldn't go running to gold for protection. This is what I found:

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using gilts instead to see the effects

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as measured by the Sharpe

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using gilts instead to see the effects

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So the Sortino and Sharpe drop a little bit and the downside standard deviation increase by 1.5-2 percentage points. It's not a huge difference, one might even call it a technical tie in order to avoid being to fixed in historical data. One might even say that gilts were better because of all the fiscal problems, wars, etc and it still came close to bills. Had those bad events not happened, they would have been a much better hedge asset. So as a matter of policy, one could be better off by using them because they can still do ok in a bad enviroment. I don't know. The UK experience is certaintly not the worst that can happen, the worst is Germany in the 20's and other tail events. When these happen bills and duration bonds both get wiped out. So more research and thinking needs to be done in terms of using duration as a hedge asset
One thing that I can say is that both of them (bills and gilts) got their ass kicked by gold as hedge assets
 
If I build a optimal (historically) UK portfolio of 60% stocks and 40% gold and then remove 30 pct points of gold to put in UK gilts or bills to see how they compare to gold as hedge, the drop in performance is noticeable

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The Sortino drops off a cliff, the Sharpe drop is more controlled but this suggests that removing gold and adding gilts/bills creates more downside volatility per unit of return. Exactly because of all the wars, deficits, inflation, problems that the UK had, that the gold was hedging.
 
I just bought more GLD, GDX and GDXJ, about 3% in the GLD and 1% in the miners with more in the GDXJ (its more volatile so I get some 'natural' levarage there). I got many reasons for it but this UK data just sealed for me. Here are some quick points:

-A government bond 'fair' valued is said to be its nominal GDP. Damodaran has a chart that shows that US yields tend to follow NGDP quite well. Except since 2008, since it has stayed bellow NGDP. In that sense, bonds now are quite 'overvalued'. Since there is already some uncertainty in whether the US will go down the road of the UK and have it's bond turn into a 'bad hedge' asset, when you factor in the fact that they are overvalued and are trading in a way that is quite inconsistent with history, it becomes very unlikely bonds will be a good hedge asset. Gold's value relative to bonds increase (like it did in the UK in the last 100 years). In fact, one could argue that a US 30y bond at 3% as a hedge asset is a ridiculous proposition. I don't know if it would be completely right to argue that, but its a very resonable doubt
-I have been reading Reinhardt and Rogoff's book and there are some risks involving my Brazil thesis that I think it pays for me to against against. More gold will provide me that hedge in case the non-baseline scenarios play out
-There are some scenarios where Trump fails and bonds get wacked (his policies are inflationary or perceived to be inflationary), in that case, the hedge asset that you want to have more of it is gold, not bonds

All in all, I don't think I can be underweight gold and gold assets any longer. I also got other reasons that I have been thinking about but that I will leave to the future
 
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Buffett is willing to lose 50-90% of his money by being in stocks 100%, in fact, more than that as he is not shy about leveraging his portfolio ~1.2-1.4 times to one. That's great. The question that I have is, what is the Sortino/Sharpe ratio of that compared to a 'balanced' portfolio that uses gold, bonds, global diversification and then is leveraged to produce a 50% max drawdown? Dalio says that if you want to juice retuns, its better to focus on the latter (a well designed 'balanced' portfolio) than to go "all-in" one asset class. I tend to agree with that. Soon, I will be returning to my US tests and will start to explore how leverage would have performed historically.

Buffett is a very big investor so for him, gold and bond futures wouldn't have done much as he needs tens of billions of liquidity to invest. But a 'mini-Buffett' putting 100% of his cash in US equities VERY likely would benefit of an extra 20-30% exposure (so, leverage) in gold and bonds. I doubt this wouldn't be true looking at my tests so far. The benefits would be not only in cutting down volatility to the downside (so smaller drawdowns) but also, improving returns due rebalancing
 
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Another finding from the UK data:

UK investors had a staggering drawdown in the 70's. Stocks were down -68% real during the 73/74 downturn. Not only there was the oil price shock, the US recession but the UK had their fiscal crisis starting. Gilts were also falling off a cliff at the time (-42% 72-74)
During the 1973-1977 period, the GBP fell -30% (nominal)

A typical 60% bond 40% stock UK portfolio lost -16% in real terms from 1970-1980 with a max drawdown of -51% real in the depths of the crisis.

This was pretty much a "Greece" scenario, except the IMF came in and saved the day
It was a lost decade to investors, except if they did some diversification and designed a portfolio in a way that made more sense.
A 25% in UK stocks, 45% in UK Gilts, 15% in Gold and 15% in US 10y bonds, would have returned +17% real from 1970-1980. Max drawdown was -25% real. Not amazing but much better. US bonds didn't add a huge amount of value because they dropped off a cliff in the late 80's (and the GBP was rising at that time) but they still helped to cushion that drawdown during the IMF bailout by a greal deal (and those gains were promptly rebalanced into cheaper UK assets)
 
US investors have to plan and prepare for a similar scenario in the next 10-20 years. Politicians in the US congress have made it clear by their actions that they won't move a finger to deal with the US fiscal issue until there is a crisis. When the crisis happens, US bonds, stocks and the USD are all likely to suffer from an increase in correlation and drop together. This is a "run from the US" scenario that anyone that doesn't globally diversify and/or own's gold is likely to suffer from.

A lost decade can do a lot of damage to long-term compounded returns. Fortunately its quite easy to defend against such scenario, as a matter of fact, its very desirable right now due higher valuations in the US as compared to Emerging Markets. Easy to access ETFs such as EEM for stocks and EMLC (local currency bond etf) along with other ETFs can be a good tool in the toolbox for global protection. Other developed market ETFs can be part of a good basket as well
 
People avoid emerging markets because 'they are risky' but all the data that I have seen shows that developed markets have a much bigger asset valuation than EMs, in stocks, bond and real estate. For stocks, bigger valuations come with a higher % chance of a significant drop in price. Meb Faber even posted a chart showing that a while back.

So, what's riskier, owning developed markets at PEs of 20+ or EMs at 14? I would argue the former. These EMs ETFs diversify so much, whatever currency or country risk on has, its dilluted by the presence of all the others. Whats left is the risk premia, and that is quite a bit larger than in developed markets.
For people that need higher returns, it seems a nobrainer to be in diversified EM ETFs
 
So far my thesis that Trump was going to increase volatility in his first 30 days in office has been completely wrong. He is acting in that way I thought he would but the market is not caring (only the NY Times is caring). I run on vol tests (standard deviation of daily % changes) since inauguration (13 trading days) and the 13 day periods before that

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The stock market is not really concerned about his actions so far
 
Another way to measure this is to look at the 13 period Average True Range (ATR)

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at 1.403, the 13 period ATR is on the low end of its multi-month range
 
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