If you investigated non-stock assets that have shown appreciation and/or preservation of capital potential in stock downtrends… what might you find? Chances are, you would learn that the type of bonds that tend to hold up and/or grow the best are TIPS, zero-coupon treasuries, longer-term treasuries, Japanese Government Bonds (JGBs), German bunds and munis. You would also have found capital flight into safer haven currencies, including the U.S. dollar, the Japanese yen, and the Swiss franc. Granted, the yen may not seem like a safer haven, until one realizes the power of a rapidly unwinding carry trade. A precious metal like gold has also demonstrated effectiveness and consistency as a hedge in bearish stock downtrends.
It follows that my company Pacific Park Financial, Inc. used all of these asset classes to develop the first and only multi-asset stock hedge index with FTSE, the global leader in indexing. The FTSE Custom Multi-Asset Stock Hedge Index launched today, 11/19/2014; data is available dating back to 6/30/2011. (Note: Please contact Pacific Park Financial for specific data requests.)
In essence, the index tracks ETFs that represent each of the above-mentioned ten asset categories. Rules of the equal-weighted index provide for semi-annual rebalancing. And while the specific components of the index represent asset classes that have been around for many decades, the ETFs themselves have not. This is the reason that data is only available since June 30, 2011.
By the same token, we can identify the performance of the index in the most meaningful stock downturn over the last three years – the euro-zone crisis. The high-to-low for the S&P 500 occurred from 7/7/2011 to 10/3/2011 with a drawdown of -18.8%. The FTSE Multi-Asset Stock Hedge Index chimed in at 12.4%. The 300-basis-point differential occurred without leverage or shorting stocks; rather, asset classes with a history of performing well during times of stock stress offered a diversified method for hedging.
At this moment, it is not possible to invest in the index directly. Yet investors who worry about a serious shock to stocks can look to combine several index components for diversified hedging. For example, zero coupon bonds can be acquired by PIMCO 20+ Year Zero Coupon (ZROZ) and longer-dated U.S. Treasuries may be picked up via iShares 10-20 Year Treasury (TLH). For those who understand why the yen carry trade could rapidly unwind, there’s CurrencyShares Japanese Yen Trust (FXY). Historically speaking, the Swiss franc and gold have also provided shelter; CurrencyShares Swiss Franc (FXF) and SPDR Gold (GLD) both fit the bill.
One may have a tougher time gaining “meaningful” access to Japanese government bonds (JGBs) and/or German bunds. Yet the point of this article is to give investors alternatives to the higher-risk nature of shorting as well as the limited scope of single-asset stock hedging. A multi-asset approach to hedging against stock risk provides desirable diversification.
It is also worth noting that, while all of the ETF components of the FTSE Multi-Asset Stock Hedge Index were not in existence during the epic bear collapse circa 10/2007-3/2009, the representative assets were. An equal-weighted combination of inflation-protected securities, zero-coupon treasuries, longer-term treasuries, Japanese Government Bonds (JGBs), German bunds, munis, the U.S. dollar, the Japanese yen, the Swiss franc and gold collectively provided positive returns in the time period. That’s a far cry better than enduring the 50%-plus losses in 2008’s wealth-destroying bear.