Exchange traded fund strategists behind the growing group of ETF managed portfolios in the separate accounts space may help financial advisors better manage risk in their clients’ portfolios.
For instance, Swan Global Investments, which recently celebrated its 20th anniversary, offers a line of core, buy-and-hold ETF managed portfolios that aim to better manage risk by always incorporating a hedge in their long investment holdings.
Marc Odo, Director of Investment Solutions at Swan Global Investments, explained that the biggest risks include systematic risks where a bear could crawl out of hibernation and upend markets. Given the extended bull conditions in the equities market as U.S. markets push toward their ninth up year since the financial downturn, investors are more susceptible to market turns.
While academic studies have shown that market risks can not be 100% diversified away, investors can still implement hedges to diminish downside risks.
“Can’t Diversify? Then at the very least hedge away,” Odo told ETF Trends in a call.
At Swan Global, they start off with investments in a low-cost ETF to eliminate individual security picks, market timing and sector rotation. They would then always hedge their positions through long-term put options, seeking to protect against a large market decline. Moreover, they will also seek to generate regular cash flow by selling market-neutral puts and calls to improve a portfolios overall return. Lastly, they would monitor and adjust the positions accordingly.
“When the market drops and the equity loses value, the put option increases in value, and vice-versa,” according to Swan Global Investments. “This counter-balancing investment approach is engineered to not lose big.”
This alternative diversification and yield-generating approach may also help fixed-income investors broaden their portfolios. After a three-decade long bull run in the fixed-income space, investors are more exposed to turns, especially with the Federal Reserve eyeing higher interest rates and a tighter monetary policy ahead.
“Traditional fixed-income help capital preservation and yield generation, but going forward, you need to choose one or the other,” Odo warned.
Odo cautioned that the traditional 60/40, stock/bond split may no longer generate the necessary returns that many have grown accustomed to and may now pose greater risks for investors. For instance, given the traditional portfolio, the currently paltry 2% yields in fixed-income would require the equity portion to generate around 12% to provide adequate returns, but the bull market in equities is beginning to slowdown.
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