Just Launched: An ETF Designed for Black-Swan Moments Like These


Already unimaginable market events may begin to become more common as the baselessness of global stability goes away and the mass central bank’s intervening years reduce their firepower?

Gabriel Buis / Agence France-Presse / Getty Images

How will the market perform over the next several months?

While every moment in history may always feel by far the most uncertain, this year’s epidemic and unstable geopolitics may mean 2020 is indeed a special case. One of several triggers over the next few months – a tough Brexit, a US election, a COVID-19 vaccine failure – could signal a market slump in early March. On the other hand, policy responses, or surprise receptions, can trigger a meltup starting in late March.

There can be only one ETF for this.

Simple American Equity Plus Convex SPYC,
-1.08%
The exchange-traded fund, in early September, uses options to give investors access to the wider stock market, with protection against large swings.

“The question you have to ask is that the next six months or so the markets are about to appear and anyone who knows you is lying,” said Dave Nadig, chief investment officer and research director of the ETF database.

“Four or five years ago, we all have a baseline expectation with some changes,” Nadig said in an interview. “Now we are in a different kind of market. The tail becomes a possibility as the central tendency. SPYC is a product designed specifically for this world where the curve has been removed, so you can maximize the gain from the tail. “

Simplified is a new issuer of ETFs, but was founded by industry veterans, including Paul Kim and Brian Kellehar, who both spend years at PIMCO, known for their bond strategies. Both want simplification to be a “PIMCO of options”, Kim told MarketWatch.

The options strategy works like this: 98% of SPYC’s portfolio is invested in the S&P 500 SPX:
-0.46%
Through iShares’ popular and dirt-cheap ETF IVV,
-0.39%.
The remaining 2% is in put and call – financial instruments that allow the investor to sell and buy the underlying security at pre-specified prices at some point in the future.

This 2% does very heavy lifting work. Putts provide negative protection, which helps preserve capital, while calls protect against large reverse steps. The larger the market, the more profit the portfolio will receive. (This is a financial market concept known as “convexity”, which is the “C” in the ticker of the ETF.)

What is the worst case scenario for an investor in SPYC? One where the market sinks for some time and does not go up or down much. The 2% allocated to the option strategy would be lost – $ 100 invested in the fund would be, say, $ 98.

The solution to the problem of two “tails” is not just an ETF industry pet project. It tops the notes for advisors and investors, big and small, Kim notes. Stanley Druckenmiller, a former hedge fund manager, now valued at billions, told Bloomberg News in early September that the market is in a “raging frenzy” due to Federal Reserve intervention. Inflation could rise to 5 or 10% in the next few years, he said – and deflation is only possible so far.

SPYC’s two-tail strategy distinguishes it from “low-volatility” products such as the Invesco S&P 500 Low Volatility ETF SPLV
-0.26%
And iShares Edge MSCI Min Volume ETF USMV,
-0.01%,
Which received so many reviews for his performance through the March mayhem.

It also differs from popular “defined result” products, pioneered by companies such as Innovator, which propose what Nadig calls “railing”. Investors in those products leave some upside to some protection against downside risk, and both parameters are known in advance.

There is a more challenging time than ever to debate, or an investment scenario inadvertently. But one thing is certain: The 2020 market backdrop adds an additional wrinkle.

Thanks largely to the central bank’s maneuver in the wake of the coronovirus crisis, time-tested approaches to managing investment risk may no longer work.

Read: The Fed is going to buy ETFs. what does this mean?

“We claim that the bonds are risky right now,” Kim said. “You are getting cash back with interest rate and credit risks. Cash can also be less risky than bonds. ”

Bond valuation TMUBMUSD10Y,
0.684%
All-time highs are near and all-time lows have yields. But carrying money in cash carries a lot of risk, as well: the S&P 500 is up 50% from the end of March.

Other traditional safe-assets, such as gold, are spread over and over, Nadig argued.

Meanwhile, he said, “We are more likely than the other for the future in this environment as we advance several decades of monetary policy. I think we made so many pro-cyclical, reflexive pockets of the economy I would argue that black swans are becoming real gray. “

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