We’re talking with the purveyors of one of the best performing mutual funds thus far in 2022, the dynamically shifting asset allocator, RDMIX (past performance is not necessarily indicative of future results). It hasn’t all been rainbows and lollipops, however, for the ReSolve Asset Management Global team of Rodrigo Gordillo @RodGordilloP and Mike Philbrick @MikePhilbrick99, and they explain why and when a core of Risk Parity should work, and exactly what is and isn’t a Risk Parity approach (hint: it’s not just levered stocks and bonds).
In this episode, we’re tackling topics like; does anyone actually use 60/40, The RDMIX 50/50 portfolio (50% Risk Parity/50% Alpha Strategies), ensembles of alpha sources, diversification of betas, and asset allocation in general, commodity trend following, return stacking and dispersion, and more. Plus, we’re getting personal with Rodrigo and Mike (we even include Adam), and it’s up to our host Jeff to decipher what is true and what is not.
Check out the complete Transcript from this weeks podcast below:
Setting the Risk Parity Record Straight (it’s NOT just stocks/bonds) with Resolve’s Rodrigo Gordillo and Mike Philbrick
Jeff Malec 00:07
Welcome to the Derivative by our RCM Alternatives, where we dive into what makes alternative investments go analyze the strategies of unique hedge fund managers and chat with interesting guests from across the investment world. Happy bear market everyone. Well, not really s&p is only down 16% not 20 yet, but starting to feel real, isn’t it? Amazon down 40% or so a bunch of stuff like peloton, Shopify zoom and more down more than 80% Some crypto Luna USD stable coin stuff breaking interesting times indeed. which call for interesting guests see what I did there, which we have coming up in spades this month. We got part two of the Nolan Smith of convex Sam next week talking volatility trading good timing on that. Then Anthony Jiang from vino best for National Wine day. Then Charlie Maghera Chief email@example.com by way of some rather interesting former places like Goldman Sachs, on talking crypto and trend following, and be sure to go listen to Jeff Eisenberg over on the hedge edge pod talking with Dick stilts, great name onto this pod where we have Rodrigo Gore do and Mike Philbrick on which you may know from their entertaining resolve rifts Friday live show slash pod. But these guys have real jobs to running resolve Asset Management global with Adam Butler and sub advising on a risk parity based mutual fund. We talked through how leveraged stocks and bonds hijack the risk parity name, how resolve layers Alpha strategies on top of their carry tilted risk parity approach. Also get into what exactly carry tilted means. And play the best version yet we’ve had on the pot of two truths and a lie. Send it This episode is brought to you by RCMs outsourced trading desk, which guys like resolved us 24 Six is their outsourced trading operation. Check it out into the services like trading firm slash 24 hour desk on the main navigation at harvest hamilton.com. Now back to the show. Okay, we’re here with Rodrigo Gore do and Mike Philbrick down in from the Cayman Islands. Welcome, guys.
Rodrigo Gordillo 02:10
Thanks for having us.
Mike Philbrick 02:11
Yeah, it’s great to be here. How you doing?
Jeff Malec 02:13
I’m good. How’s things down there nice and warm.
Mike Philbrick 02:16
It is very warm. I’m starting to catch up. Starting to catch up on the heat a little bit.
Jeff Malec 02:21
The 35 here in Chicago today so little jealous. The last week we had like a 79 degree day and it was like God stepped on human amp pile. Just people everywhere, every street to the streets. Oh my god. So much to my chagrin, we’re going to talk some about a mutual fund you guys some advice which comes with a disclaimer.
Mike Philbrick 02:44
Yes, yes. So let’s have some fun with the disclaimer, the dramatic reading of the investment disclaimer, we are the portfolio managers for the rational resolve adaptive Asset Allocation Fund. And as we discuss the fun today, do not treat our opinions as a specific inducement to make an investment in this mutual fund or any fund that resolves global managers. It is also not a recommendation to follow any specific investment strategy. Our opinions are based on information we consider reliable, but we are not making any warranties of its completeness or accuracy. Past performance is not indicative of future results. And we do not guarantee any specific outcome or profit listeners should be aware of the real risk of loss and making investments or following any investment strategy. This discussion does not take into account any individual listeners specific investment objectives, circumstances or needs and is not intended as any type of recommendation. listeners should make their own independent decisions regarding any investments discussed here today, considering whether it is suitable for their objectives, circumstances and needs. You might also consider seeking advice from of your financial professional or an investment advisor. And with that, I conclude the dramatic reading of the investment disclaimer.
Rodrigo Gordillo 04:11
Very serious stuff
Jeff Malec 04:14
all around you should you ever consider doing like a side hustle for Bill voiceover Cialis ads or something.
Mike Philbrick 04:24
Did you recognize my voice for that?
Jeff Malec 04:25
I did. It’s good. All right. We’ll never get those two minutes for life back. So let’s get on to the show. I want to start with the old 6040 portfolio. Rodrigo. It’s been getting wrecked, which is about as polite as I can put it. So does this sort of point out the flaws in that thinking right?
Rodrigo Gordillo 04:47
Well, ya know, the flaws have always been there. Right? But you know, the truth about investing is or anything in life is that you it doesn’t matter how much you talk about it. Wisdom only comes by experience. And I think in the last 10 years, just looking at the numbers prior to 2020, when 6040 is looking at a Sharpe ratio nearly two, just to put that into context. Historically, the Sharpe ratio of equities is point two, five 2.3 Sharpe ratio of sovereign bonds is point two, five 2.3. Together and 6040, maybe point four, five, we’ve seen a Sharpe ratio of nearly two for a decade. And so when you see that as your lived experience, doesn’t matter how many times you hear what the actual legitimate and fundamental blind spots 6040 are, you’re not going to pay attention to it. And certainly, it costs too much to act on those blind spots. So what are they, they should be fairly intuitive. One is inflation. As inflation rises, then you’re going to have whatever rates are in the market and bonds be underwhelming compared to what real cost of living is. So bonds are going to go down and prices are going to be less favorable. And then prolonged and persistent multi year bear markets are also going to hurt equities. Right. And so that’s the those are the two blind spots 6040 prolonged inflationary regimes and prolonged bear markets, which we haven’t seen inflation we haven’t seen in 40 years real inflation really. And in a prolonged multi year bear market we haven’t seen since 2008. So I think we’re being hitting head with it in the last couple quarters, and people are starting to pick up to what they need to do to fill in those blind spots.
Jeff Malec 06:46
And even beyond the last decade, the last 40 years, right? It’s been very rare for bonds and equities to go down at the same time
Rodrigo Gordillo 06:53
together, right? That is the stagflation environment, right, where you’re seeing low growth and prolonged inflation. But we did see inflationary growth in the 2000s with two major bear markets in the tech crisis and the Oh, a crisis that didn’t fare well for 6040. But certainly the bonds acted as a good offset during those two regimes.
Jeff Malec 07:15
And what what do you say to I’ve started to see more more of this as bonds have been getting hammered of who cares? Just its duration, you get your principal back at the end. Right? If you’re doing a 6040, you should be rebalancing. So that kind of negates the duration like what are your thoughts on how that dynamic works?
Rodrigo Gordillo 07:34
So how the dynamic of
Jeff Malec 07:37
that argument of like, who cares if bonds are down like you’ll get your principal back at the end?
Rodrigo Gordillo 07:42
Yeah, well, it depends on whether you want principle that purchases the same amount of goods as it purchases today, right? Like, we’re talking about nominal return of capital rather than real return to capital. So it’s certainly important to have to understand that dynamic that you just because you’re getting a coupon that is fixed for a 10 year period, where the value that would that existed today, if inflation doubles, then you’re gonna get half the purchasing power, and half the coupon you expected in real terms. That’s the only thing that really matters. So the importance here from the perspective of balance and diversification is that you need to have something to offset the risk of an inflationary regime, and bonds just simply don’t do it on their own.
Jeff Malec 08:29
And, Mike, does anyone actually do this 6040 portfolio anymore? Like, are you talking to investors who actually have that?
Mike Philbrick 08:36
Yeah, well, I think I think the we’re in an interesting set of circumstances where we’ve had, you know, declining rates for 40 years. And so you know, even the rate of the recency bias that people are experiencing, which then feeds the overconfidence, bias, which then feeds the performance chasing all leads to 6040 as being the predominant benchmark. And although we don’t see a lot of 6040, particularly ie 60%, stocks, 40% government bonds, what you do see is a lot of proxies for that 6040, a lot of chasing income for the 6040. So the 40%, that’s in bonds, it’s not in sovereigns, it’s not in US dollar type bonds, it’s often in some junk or chasing a little bit extra yield. And so all of a sudden, that introduces a further equity component to the bond portfolio rather than having true bond risk there. You also have this weird imbalance where you know, 60% in stocks, that that volatility dominates the portfolio, and that’s kind of a 90% stock portfolio from a risk perspective. And if you think about the last 40 years, what has been predominant? Well, interest rates have been falling. So you’ve had benign inflation, you have had global growth, and you’ve had abundant liquidity. And this is caused this cycle of you know, recency bias, overconfidence bias, leading to performance chasing in what is that is 6040 We’ll call it as the benchmark. And I think that’s pretty close. The correlation that most portfolios would be feeling is very close to that. Is it that specifically? No, it’s not. But it’s not iterating very far right? The alts that they’re including are like private equity, which is equity, it’s in the name, or its credit and credit functions a lot more like equity than it does bonds. So I think at root, yes, most folks have a pretty significant correlation to a stock bond portfolio. Is it specifically that maybe around the edges, it’s not, but it’s probably 95% correlated to that.
Jeff Malec 10:41
That interesting popped into my head of like, that’s probably on the conservative side, right? People would probably say, oh, with the 60, let’s do a little more NASDAQ, let’s put some an ark. Let’s do some higher growth stuff. And like you said, on the Reloaded, I’ve already said, Hey, yields are zero, we gotta get some yield out of this 40% side, like private credit or peer to peer lending, or whatever, crypto yield farming.
Mike Philbrick 11:05
Yeah. And so you’re right, the equity side is probably a beta of 1.1, or 1.2. To the s&p, it’s not the s&p, for example. Yeah. And most people have abandoned those diversifiers, the emerging markets, the small cap value, they the bonds, even to some extent, have been abandoned previously, because it’s hard to underperform. Such an easy benchmark for long period of time. And that’s what diversity in a portfolio does now how you achieve the diversity and how you want to think through that problem, and account for changes in of inflation, the expectations around inflation, and changes around the growth of growth expectations. That’s a that’s a very, very large and wide open discussion of how you’re going to play want to approach that. And we’ve certainly taken a view on that in the rational resolve adaptive Asset Allocation Fund. And that has paid off in spades over the last six to eight months. I will tell you, it’s had its trying moments, though, over the last three to four years, it hasn’t been all rainbows and unicorns-
Jeff Malec 12:07
Ali’s house, oh, my God.
Mike Philbrick 12:11
But now is the time where this is starting to shine. And why is that? Well, think about that. That global growth, benign inflation, abundant liquidity, we’re going to have a CPI print that’s double digits. So benign, inflation is done. We have quantitative easing, ending, ie quantitative tightening.
Jeff Malec 12:31
So teasing that using Freudian slip. Yes.
Mike Philbrick 12:35
So we’re pulling that out of the system. And at the same time, with the supply chain issues, and the surge in this commodity and inflation impulse, you have global growth starting to shiver a little bit starting to quiver a little bit here. So the three pillars that have driven returns to the 6040 paradigm are shifting, the sand is shifting, and now folks who’ve been trapped over there have to think is it too late? What do I do if I allocate away? What am I allocating to how much what strategies? They’re sort of caught flat footed here?
Jeff Malec 13:10
And a lot of them are saying, right, the Fed will save me like bring the pillars back. Right? Yeah.
Mike Philbrick 13:15
So where’s the Fed? Put? Yeah.
Jeff Malec 13:17
So what are your thoughts? They are like they can’t they can’t control some of these things?
Mike Philbrick 13:22
Well, I mean, you look across, so the Fed put is an interesting one, they probably can for the next year, just you know, buy bonds all day or or teeter this thing on the brink Japan certainly cannot. So Japan is going to have to buy a lot of of those JGB bonds, as we go through the year, they’re not going to be able to tolerate a 1% interest rate, I don’t think and they’re 25 basis points now. So it’s interesting, because it could be that the central banks are engineering a slowdown on purpose, in order to facilitate the development of the supply chains in order to slow the economic growth, kind of put the brakes on it a little bit and allow the system to kind of catch up allow inventories to build in the commodity areas allow the supply chain issues to fix themselves. I mean, it’s if if you’re thinking as a central banker, that’s not a bad plan, you can’t have runaway growth right here. Or you’re you’re really going to have some issues in in the commodities for whether they’re food commodities, whether the base metal commodities, there’s not a lot of extra inventory around. So it almost makes sense to me. If I’m the central banker globally, to kind of say, I don’t mind over tightening here a little bit.
Jeff Malec 14:36
But that comes back to like, okay, maybe those pillars can still exist, but I think you guys talked about in the pandemic, like do no harm, right? Was your was a big thing there. So it’s like, who knows what the Feds gonna who knows what the central bank’s going to do? Just position yourself well, so you do no harm. You don’t take bet one way or the other.
Mike Philbrick 14:55
Right. Well, that and that’s the basic premise of one of the parts of The rational resolve adaptive Asset Allocation Fund is it’s based on a risk parity framework, right, which takes into account the two dynamics of inflation and growth. And those four quadrants that that stem out of that and builds a portfolio that has assets in it that are structurally robust each area. So the areas of stagflation and deflation have assets, and stat in stagflation, this case, it’s commodities, it’s gold, it’s those inflationary type assets. Those are the things that can carry the day, in a deflationary bust. It’s more, you know, long term government bonds and gold that carry the day. And if you want to start from the position of let’s be prepared, rather than trying to make too much in predictions, you start with a risk parity framework at the base. And then you layer on what you believe can be excess returns and alpha added to the Portfolio A
Jeff Malec 15:58
few things to unpack there. One, the as we’re talking about protection, a lot of people were worried about inflation that’s going to come someday and bought tips. They thought they were protecting themselves. Rod, what are your thoughts on on why that went so poorly for them?
Rodrigo Gordillo 16:15
Well, you know, tips are a complicated asset class and often misunderstood. Also, inflation is a complicated scenario, and often it’s understood, right? So what inflation are we talking about? You know, I think people think inflation is is a blanket term of, you know, the CPI, but inflation as we know can be commodity inflation, I mean, certainly commodities have really struck a, a winning chord here in the last few quarters, that may or may not be feeding into the CPI in inflation can be monetary inflation, it can be supply, pull, or demand. So, supply, push or demand pull inflation, so all these things will affect different areas of the economy and different asset classes in different ways. So, tips are only a city solution for a type of inflation, and commodities set certain commodity sectors are going to be affected in different ways. So, we are short a bunch of commodities, and long a bunch of other commodities, obviously, energies and grains are going to be we’re more long right now. And we’re short certain like things like copper and the leg. So you’re gonna have differing impacts of the the, I would say term structure of inflation, that is going to get you back to what we’re talking about, which is massive diversification. And so back to tips, you know, it’s tips have been outperforming like they outperform in 2021 compared to the aggregate bond index, because remember how tips are priced is based on the expectations of inflation. So that time you if you were tips owner, you actually held it really, really well. What’s happened in 2022, is that the Fed has come in and said we are going to be hiking rates to fight inflation. And so the end the outperformance in the past two years is now underperformance based on the Fed actually making a goal with trying to reduce the amount of inflation that might exist, right. So tips were good for inflation, monetary inflation, when it first started occurring after the COVID crisis. And now let in the later stages, we’re seeing other types of commodities fill in the other areas of inflation. The other thing about tips that’s tough is that Alex Shahidi wrote a book that kind of clears it up really nicely, where you should think about tips is being half treasuries, half traditional treasuries and half inflation protection. So if Treasuries are going to get hurt, tips are also likely to get hurt in similar ways, but to a lesser extent, right. So again, it’s a much more complicated asset class. And certainly inflation is much more nuanced than people think. And that
Jeff Malec 19:02
cuts both way right, you’re kind of your protection is based on one singular reading of inflation, which is also we didn’t touch on, highly meshed with for lack of a professional term, right. Like adjusted it’s Yeah. Better to have something that’s kind of more natural.
Rodrigo Gordillo 19:21
Yeah, look, even gold, right is is another asset class, like why didn’t gold perform the way it should have? Well, it did, because gold is highly correlated to real rates of return, right, and monetary inflation. And 2021 Gold did a phenomenal job. It was it was able to capture that monetary money printing and inflation that went into the economy. But then real rates went negative and stayed negative for a long time and gold flatlined, right so people really worried if it’s inflation, why isn’t gold gold is supposed to be my savior. It’s just not gold is not enough tips is not enough. A single energy stock is not enough. You have to be diverse to fight against this inflation decades.
Jeff Malec 20:09
Going back to talking about those four pillars, and the base and the core risk parity core, I know you guys have gone back and forth between embracing risk parity kind of pivoting from risk parity, it kind of gets a bad name here. And they’re like, talk to me about why is risk parity good, or compare and contrast a simplistic risk parity approach with what you’re doing in the rd in my x? Right? We need a nickname for the fun. Can we come up with a nickname here on the spot?
Mike Philbrick 20:39
For already mix? Yeah, already mix already mix all weather, all weather. That’s the it’s all weather as well, for sure. So with respect to thinking about risk parity, and sort of thinking through the good, the bad and the ugly. So quick, quick refresher on risk parity risk parity is sort of a risk based approach to allocating assets, which makes it less sensitive to assumptions around the return, which makes it a little bit more robust. And you’re going to want to have many diverse asset classes that are driving different rigid structural return vectors to the portfolio. And then this allows you to target volatility. And so you’ve got some really nice, robust, sort of simple rules around this. And I will say that, you know, sort of carrying the risk parity albatross up the hill for the last several years. And, you know, hearing about how bonds are going to be the end of risk parity has been something that we’ve we’ve soldiered on through. But now we’re faced with this idea that wait a second, look at these risk parity portfolios. And even the basic ones with bonds are often they’re certainly outperforming the 6040. Because they have a structural allocation to assets that do well, when when we have inflationary impulses, and that’s offsetting those losses. And that’s this, you know, it’s the old, you always have something in your portfolio that’s killing it. And you always have something that’s killing you. And those are those underperforming, diversifying assets. In this case, it’s been commodities. And so I think there’s been actually a very positive shift lately, everyone’s rediscovering risk parity, because they’re seeing the robust diversity in the portfolio. And that changes across different implementations, we have to keep in mind that the implementation, there’s a lot of details and how you might implement it, what kind of structure it’s going into, is it a mutual fund is an ETF is it a private fund, and those three different domains have very explicit limitations that can drive some of the investment returns in one direction or another. And so that those are considerations as well. But I think that most folks, as we’ve talked about the 6040 have been overexposed to that growth, low inflation, abundant liquidity dynamic that has shifted, we’ve had a shift in the regime. And risk parity has a portion of the portfolio that structurally targeted at the shift. And so some things in the risk parity portfolio are killing it. But nobody else owns those. But Miss parity does. And those who are in a risk parity framework already know what they’re gonna do. They know what the allocation was, they know what the allocation will be. And they know the steps to take in monitoring their portfolio contrasted that person who’s got the 6040, maybe with a NASDAQ tilt and a little bit of arc. And now they’re like, oh, shit, what do I do? How much do I sell, maybe it’ll come back, then it comes back. And they say, I don’t need to sell, I don’t need to rebalance. I’ll just stick with it. And then it hits them in the face again, and they go, Oh, shit. And so we have crisis and necessity change. Those folks are going through a crisis, there will come a point when they feel a necessity, and they’ll make a change. Others, those who have been in more risk balanced, or all weather portfolios aren’t faced with that right now. And then you’ve got, you know, what do we do on top of that, so we can talk about the alpha that comes? You know what, how you might think about that. But let’s pause there. And I’ll flip it over to raw and
Rodrigo Gordillo 24:06
a couple of yeah, please just use DAX, as you asked. You know, what, you know, we’ve thought about talking about risk parity, not talking about risk. I think the the first issue with the name, the label risk parity, is that it’s been hijacked by people who just lever up bonds and equities, it’s like a lever 6040. And somehow that got the label of risk parity. And it’s not I mean, risk parity is an equal contribution from inflation assets like commodities, equal contribution from growth, assets, like equities and equal contribution from protection assets like sovereign bonds, right. And that third component, that third leg of the stool, the inflation portion is missing, when people talk about risk parity, when I say that risk parity is going to blow up when when correlation between equities and bonds go to one like they have in the last two months. They’re right I agree with them. That’s that type of risk. He’s gonna blow up. But he balanced risk parity. I think if you look at just plain risk parity Invesco has one AQR has one, they’re flat to down a couple of points throughout the year, they haven’t gotten hurt. Because of that inflation protection right? Now we do for the fund is a bit more robust, because we are we made a, again, in different implementations, we we have a carry tilted risk parity portfolio, that allows us to kind of over and over emphasize asset classes with a positive yield, one of the biggest detractors of disparity has been that, you know, why are you adding tacit classes and have no return expectations? Well, if you do a little bit of tilting on the carry side, that base portfolio is doing well. The other thing I would say that, that people tried to go against risk parity on is, well, how well did it do in periods of liquidity events? Like, you know, there is a portion there in November, October 28 2008. When you see a gap down talk, I thought it was an all weather strategy. Similarly, the last week of of the crash and COVID, there was, you know, it was holding well holding well, and then it had this a little little bit of a drawdown. Well, what that was, when everything correlated to one, yes, gold and commodities and equities and bonds for a short period of time went down together. So I think a blind spot for risk parity, that is a valid argument is the liquidity shocks. The way we’ve handled that in the fund is we’ve added a long volatility strategy that has the ability to fill that gap, right to be able to offset the losses when things do correlate momentarily to one. And so when you put those two together, you actually get a pretty good robust risk parity framework, balance across asset classes, updating your weights consistently, doing a carry tilt toward it, and then filling that liquidity risk with a long volatility strategy. So and then we’ll get to the with a final overlay the stacking on top, I’m sure we’ll get to soon, which is the alpha side.
Jeff Malec 27:03
So talk to me about right. So it seems like we’re saying risk parity is not necessarily because of the risk parity piece of it, but the choice of the assets, right? The choice of the what you’re allocating to is way more important to keep that stability than the risk weighting person, you
Mike Philbrick 27:22
need the structural, differentiated sources of return. So if you know sovereign bond risk is very different than the risk you derive from owning stocks. And that’s very different from the risk that you derive from owning commodities. And then the various different types of commodities within the commodity complex are also quite diverse in offering different opportunities in areas of excess return to the portfolio that are different.
Jeff Malec 27:50
And what Bridgewater is everyone’s example, right? So is has Bridgewater always had the commodity piece? Do we know, I don’t, as far
Mike Philbrick 27:58
as I know, it
Rodrigo Gordillo 28:00
isn’t tips, they lean on tissue, because they’re so large, right? Yeah, as you know, there’s a CFTC limit as to how much exposure you can have per organization on commodities. And so as they bumped up against that they’re massive right, and multibillion dollars, they had to find a solution to protecting against inflation. And their solution was to go to the government and actually lobby and they create they were they were a big part of why Tibbs exists today, back in the late 90s, is lobbying the government to be able to create something like this in order to be able to create a risk parity strategy in that manages billions and billions of dollars
Jeff Malec 28:39
saying the fund was at capacity wasn’t an option. Yeah. Like no, it really is. Yeah, we can go to 150 billion. Let’s get it. And
Mike Philbrick 28:47
the other the other interesting thing that that the, as I understand it, in sort of speaking out of what we might know about Bridgewater is that it’s a counter cyclical approach to risk parity. So when the markets coming at them, that’s when they’ll buy bonds, there were like, let’s say, bonds are going down, they’re actually buying that topping up the bond portfolio. So rather than trying to chase an asset class, because they’re so large, they’re a little bit more counter cyclical. So as asset classes come down, they’re, you know, selling the ones that are going up and buying the ones that are on the drawdown because the volume is there for such a large portfolio. A smaller advisor, manager like us, is able to be procyclical. So we can emphasize the portfolio with you know, things like a little bit of carry or a little bit of trend rather and those types of things and not have the slippage eat into the profits too much
Rodrigo Gordillo 29:45
more active. Yeah.
Jeff Malec 29:47
Is that why they underperform during most of that stock run up because they’re waiting for it to come back into him a little bit instead of reallocating into
Mike Philbrick 29:55
what they would be selling the stock part and buying the bond part
Jeff Malec 30:05
So, Rod, you mentioned carry tilt. Do we want to? Can we define that and talk about what that is exactly?
Rodrigo Gordillo 30:12
Well, it’s you know, it carries like the equivalent of yield, right? If something that definition is of carriers what return you make, assuming the price of something does not move. So for example, the carry of an equity is its dividend. If the equity of the stock starts at 50, in the beginning of the year ends up 50, and you receive the 5% dividend that you’re carrying, right? In the futures world, you deal with periods of with asset classes that contracts that may be in contango, or backwardation. And so you’re either going to be in a position to have positive carry, where if you hold that, that futures contract that’s below spot, it’s going to gravitate towards spot by the end of the of its maturity, and you’re going to be holding in mind, you’re going to have a positive yield, if you if the opposite is true, it’s going to cost you to carry if the contract costs you more than spot, then it’s going to gravitate lower. And so while the asset class might go up or down, they carry if it doesn’t go up and down, the carry will provide a negative yield. And so you want to tilt towards asset classes and futures contracts and have a positive carry and tilt away from those that have a negative carry. So another way to think about it is you want high yield versus low yield.
Jeff Malec 31:30
And so when you say the Porthos has a carry tilt, inside each selection of each stock index, each bond inside each sleeve has that carry tilt. That’s right. And what so would that look like you’re always choosing the higher yielding bond? What’s the practical limitations of that, right? You’re not going to go into
Rodrigo Gordillo 31:51
debt to get overweight versus underweight, you’re not going to go 100% with the highest yielding asset class, we’re still want to keep the essence of the risk parity concept. In recognition. Again, this is why risk parity implementation across different providers is so important. You know, for us, we think that having a carry you carry tilt, we we know intuitively, it makes sense. And so you want to for us, it made sense to have that extra layer tilt on the risk parity without sacrificing everything that risk parity is right the at the limit, you would just choose the one security that has the highest yield and that’s not what we’re doing. We’re and being the risk parity framework and tilting slightly.
Jeff Malec 32:35
And Carrie always right. Oh, wait, people are getting carried traders are getting taken out in body bags as correlations went to one. Yeah, all
Rodrigo Gordillo 32:44
currency traders work. Okay, carry currency traders were here he isn’t necessarily counter cyclical in across commodities across equities and the like.
Jeff Malec 32:56
So that was, yeah, officially here. And statements.
Rodrigo Gordillo 33:01
Yeah, you’re seeing it year to date, I think Kerry is doing a phenomenal job, like a pure long short carry strategy is actually holding up really nicely and make some returns. So it’s not, it’s not people perceive Carrie to be that currency carry, right where you’re long the Mexican peso, in short, the US dollar, and if something goes wrong in in a recessionary environment and the US dollar goes up and everything else gets taken to the cleaners. That’s not the case if you’re using a carry strategy across the board. So that’s the number one thing that’s important to understand there. And also, if there is components of the asset, a universe that will get taken to the cleaners, the that’s another reason why we have that long volatility overlay.
Mike Philbrick 33:45
And there’s there’s also the the alphas of I mean, coming back to first principles on IT risk parity allocation is an allocation based on the volatility of the underlying asset, and assumes all the returns are basically the same. And you can enhance that by having some insights on what what the actual carry yield is going to be and use that as your return estimate. Turns out, it’s not about an estimate, and you can construct a pretty robust portfolio with that
Jeff Malec 34:12
just comes back to like, the rest is all basically noise, right? There’s something structural there, you can more count on then then the rest of the noise. And we might have buried the leader. Let’s just go back for a second and talk about the way we’re saying that the naive risk parity is just stocks bonds, the more advanced is stocks, bonds, commodities. So just give us the whole that would
Rodrigo Gordillo 34:33
even call risk parity, no. Equity markets. Yeah. Okay.
Mike Philbrick 34:38
Precisely. So there’s leveraged stocks and bonds, that is not risk parity, that is a portfolio that is imbalanced and is it does not cover all the potential economic regimes that can manifest. In order to do that you need to include assets that thrive in inflation. And so if you haven’t included those you don’t really have respect Ready, you’ve violated the First paradigm, which is maximum diversification. So let’s say we move to the risk parity, which is only risk based, we’re going to just take the return assumption out. And whatever the value of the asset is, we’re going to allocate on a risk weighted basis. And we’re going to make sure that we have equal risk allocations to the four regimes that can occur. And that’s a pretty robust four by four, doesn’t matter what the weather is, you’re gonna get to work, if it’s a wintertime, you’re four by four is going to get you to work. If it’s summertime, you’re four by four is going to get you to work. You know, other cars might be a little bit more seasonally sensitive. If it’s sunny out, you know, you can drive your sports car, which maybe is your 6040, leverage 6040. But when it starts to get snowy, that’s going to be a bit of a wreck. And then you go through, okay, so what can we layer on top? And we’ve discussed this a little bit, right. I think the the construction matters, but we could spend hours on that. Yeah, I would say basically, risk parity should cover these four regimes that can manifest from these two dynamics of inflation and growth, we definitely do that. We have some insights on that, that I think are better return assumptions, then just using the volatility as a return indicator for the portfolio. And then we add on the active overlay. Right. So, you know, we’ve actually been probably from the beginning of the year, net short bonds in a risk parity portfolio, because the Alpha side was saying, yeah, these bonds are no good, reduce, reduce your allocation. Yeah, still no good, keep reducing the allocation until the allocation was actually marginally negative. And, and that has been a significant source of profits in the portfolio, since the beginning of the year, which is what happens when you get an inflationary shock. That’s what happens to bonds, bonds or discounted cash flows, we are changing that little r in the discounted cash flow calculation, when you change that little r, it changes the end result and has pretty dramatic outcomes on the final price, which is what we’ve seen, bond prices go down as yields go up. And the sources of alpha or our alpha stack or ensemble of features, identified that and sort of kept us out of the way of bonds, that’s been attenuated and is much more neutral. Now. It’s much closer to sort of flat bonds. Just slightly short, and some portfolios slightly long and other and that has to do with the different constraints and and assets available in different portfolios. But for rd mix as an example, you know, a marginal short in bonds generally and rates at the moment. And that, by the way, I just want to warn everybody, when we talked about positioning today, it changes every day. So please don’t take that as any kind of indication as to that’s what it will be tomorrow and investment advice. Yeah, yeah. So just I’m just trying to provide color and flavor. And in an inflationary impulse, actually being short bonds does provide some some pretty significant value.
Jeff Malec 38:10
And just in practice, practical matter, is the trend following is taking your short bonds, or is there also you’re saying kind of a risk overlay that’s on taking the waiting down on the kind of,
Rodrigo Gordillo 38:23
let’s take a step back. And really, I want to, I want to flesh out that alpha overlay, written a piece called Return stacking last year, that’s gone pretty viral. And I think the term is intuitive, right? What we’re trying to do is allow ourselves to identify unique sources of return. And then stack, you know, we’d like risk parity, I like that. You’d like long volatility stack that on top of risk parity, and then and then if you have any expertise and trying to predict the future, you know, our hedge fund is trying to predict the next five days movement of any asset class and has an equal chance of going long or short, any asset at any time. Alright, so now we’re now we’re really cute our hedge fund is hubris, what we did is grab that concept that hedge fund alpha and stack that on top of risk parity and tail and long volatility, and so the correlation between something like pure alpha and that best beta is zero and that’s what we’re doing with our DMI x right. Now. You ask what is the alpha like was it trend is it all pure trend is out what’s making us short bonds trend is a
Jeff Malec 39:35
part trend is in this bottom piece as well right.
Rodrigo Gordillo 39:39
In risk parity, no. Okay. Okay. Risk parity is not trying to risk parity is the is the the do no harm portfolio. It’s it’s the one that says I have no real prediction of what’s going to happen in the future. I just want to be balanced. And so it’s I think about the way with Bridgewater and Ray Dalio thanks about it, right, they don’t offer a full single solution, they segregate their best beta, they’re all weather strategy, their risk parity, and they have a separate fund called Pure alpha. And they allow the investor to choose how much they want. Between the two. What we put forth with the rational resolve adaptive Asset Allocation Fund is we we made the decision for the retail investor, you know, half of the risk comes from his parenting, the other half comes from pure our version of pure alpha. And that version of pure Alpha has trend as one of the styles. It also has mean reversion is another style it has seasonality is another one carry is another one. Relative Value is another one, right? So these are unique drivers of future returns with an expectation that it’s going to continue to exist for structural reasons. And we don’t know whether trend is going to be the best performing thing for the next 10 years or the worst. We don’t know whether it’s seasonality that’s going to outperform everything or not. And, and again, now we’re grabbing our alphas sleeves and applying a risk parity understanding that if you don’t know the future of your alphas, you might as well use them all. Right, right. Trend has contributed to the shorter bonds. But so have other of these mean reversion in the one,
Jeff Malec 41:19
right? I love it. So that’s the part I was trying to get it we are making progress. So that core base just give it to us one more time. So listeners understand inside just the risk parity piece is stocks, bonds, commodities. That’s it.
Mike Philbrick 41:35
Jeff Malec 41:38
equally weighted, but essentially, you think of it across each market or as buckets of like the stock market, the bond bucket, the commodity bucket.
Rodrigo Gordillo 41:46
Yeah, you’ll you’ll think about it from the perspective of when you when you X ray the portfolio, you’re gonna see 60 Plus futures contracts. We are, we are creating an identifying the correlations and volatilities, and making sure that each one of them contributes an equal amount of risk to the portfolio with a slight carry tilt. That’s the way to think about that. For every dollar that you give this fun, you’re gonna get $1 exposure of that kind of all weather long on the risk parity portfolio, right? A little bit of humility, something that can get us there, that four by four truck that’s going to get you there long term. And, and then, you know, we we overlay on top of that a layer of long volatility just just for the rainy, real rainy thundery days that even the four by four might get stuck in, right. And then finally, we have the special forces coming in and stacking, stacking that return for another dollars worth of exposure on pure alpha. So again, that Bridgewater view, right, your best beta, your best alpha, the only difference is we’re not giving people a choice, they’re getting 5050 in this case,
Jeff Malec 42:59
and the 5050 How often is that rebounds daily, monthly,
Rodrigo Gordillo 43:05
it’s all integrated into a single trade monitor, right signals come in internally, we net it out, which is a huge benefit, right, we could have launched all those sleeves that I talked about trend, mean reversion as separate ETFs or mutual funds, but then the trading costs are so large, that the only way to really implement a multi strat like that including risk parity, and then long volatility is to isolate all the signals. Net them out and that netting effect means that we are trading on the daily but we’re trading around the edges most of the time, although sometimes it can be you know, very, very quick and abrupt changes. But the the netting out across these things is what allows us to be able to implement this at a low costs,
Jeff Malec 43:50
right so simplistic example that if trend wants to go short, tenure nodes mean reversion wants to go long tenure notes, the same size, do nothing
Mike Philbrick 43:58
be flat. Yeah. The other thing that’s interesting on the on the the tail hedge protection, the vol strategy rod talks about is it’s a bit of a it’s a bit of a flashing red light. It means something bad’s gonna happen when you start. It doesn’t always happen. But it means that there’s a critical state developing in markets, where if something does go off the rails, it could go off the rails in a big way. And what was interesting is during the initial stages of the Russian invasion into Ukraine, we had almost a maximum position in long vol in V stocks in Europe. And nothing happened in that attenuated. It wasn’t a huge cost of the portfolio at all. It was kind of a flat trade. But it was there and it volatility. Yeah, yeah, it always makes me a little nervous. It makes me nervous and excited because I know there’s an opportunity for diversified diversifying. are differentiated outcomes and that we’re prepared. But at the same time, you know, you’re you’re seeing those the conflict conflict in Europe and thinking about what the actual ramifications can be can be bit scary. I will also note that we’ve started to see that red flashing light appear again, in our dashboards.
Jeff Malec 45:19
I was just, it was flashing yesterday.
Mike Philbrick 45:22
It is it last yesterday it we have positions on in that realm. And so yeah, there’s there’s there’s high level of uncertainty in markets and we’ll see which way that that goes. Does it attenuate? Does it break? We don’t know, we’re prepared.
Jeff Malec 45:44
We mentioned ensembles, you guys have been banging the drum on ensembles for a long time. Talk to me about the difference between an ensemble diversification and asset allocation? Sure.
Rodrigo Gordillo 45:57
I mean, it’s a it’s a layered topic, right? Because ensembles are again, a recognition of our ignorance. So I did say that the Alpha sleep, for example, is having a bit more hubris and the belief that we can tell what’s going to happen in the next five days or asset classes. But even within that, you can apply a sense of humility. Right, let’s think let’s take a simplistic example. We believe RCM and resolve many of our brethren believe that trend is a real thing, right? That people tend to herd human nature is going to be human nature. And people will pile on to things going up and run for the exits when things are going down. And so we understand this level, this base level of human nature, and we want to be able to capture it in prices. A longstanding way of doing this has been advisors use this 20 day moving average, right. But it’s a way of capturing trend go along when it’s above the 100 Day and the 200 day, go short when something’s below the 200 day, diversify your assets and you’re not right. Okay, that is the that’s the signal. That’s the human nature. That’s that’s kind of like what we decided to do. But what’s so special about that perfectly well quaffed 200. Right? Yeah? What about the 21? day moving average? Why don’t we do that one, right? It’s a human heuristic. It doesn’t make much sense. And so when you start exploring, what trend might also be, it might be the 20 day might be the 300. Day, it might be the two month crossing over the 18 month. Can you tell me for any real fundamental reason why the three and nine month moving average is not just as good long term as a 200? Right, you can do a back test and find that the 200 beats the other one. But for no reason. But pure noise, right?
Jeff Malec 47:52
I could come up with some BS. But yeah,
Rodrigo Gordillo 47:54
Jeff Malec 47:56
quarterly results could tie to like months, and then people have to do stuff to finish a month. But yeah,
Rodrigo Gordillo 48:03
we’ve all been humbled enough in the market to know that trying to be specific about something leads you to be specifically wrong. Yeah. And when ensembles are about, is about understanding that we’d rather be broadly Correct. What are you and I see eye to eye on, we see eye to eye on the fact that people heard, right, we don’t see eye to eye on maybe you believe that 200 day, and I believe in the six and nine months moving? Well, that’s silly, because none of us can prove whether the future is going to be one or the other. But we can all get behind the fact that they’re probably all both okay. And so if you kind of play that out, and you create as many thoughtful ways of extracting hurting behavior, and you put all those together, then what tends to happen is we wrote a paper called Global Equity, momentum and craftsmans perspective. And what we’re talking about a simple, I think, 10 or 12 month strategy, where you go for the s&p 500, you go long or flat, and it’s based on Gary Antonacci, global equity momentum, and what we’re seeing how that works over time as attorney behavior, but it’s, it’s not it may not be as robust. And then we went and tested all the different imagination that we could put in towards trend and momentum, and found that using an ensemble and netting out, creates a much higher Sharpe ratio, a much lower drawdown, much much Stabler equity line long term than being specifically around about a single thing, right. And so you can imagine how this can be applied within trend. It can be applied within multiple factors and using them all in all in and mixing them together and getting things out. And so this is kind of our DNA. Our DNA is diversity, and diversification and balance, and that includes diversification across Alpha buckets and across alphas. That’s the idea of ensembles. A little sense of you Melody,
Jeff Malec 50:01
Ryan, I think Jason Buck coined it as like the trying to get the beta signal out of the Alpha. Right? The more you ensemble it, you can get like one, one signal out of there instead of one short ones long ones flat. And so how does that differ from your views on asset allocation? So then why wouldn’t you do what you sort of do do but right, infinite number of assets, Bolivian real estate and right just like go across the board, we need more and more and more assets in the asset allocation?
Rodrigo Gordillo 50:36
Mike, do I’m gonna answer that. Yeah, please. So so the that you’re on a roll? Yeah, sure. It’s all constrained as to what you can what you can allocate to you, right. So the first thing is what is liquid that I can allocate to so that I can maintain the balance by being able to trade that market on a daily basis? And so first, so what, what type of where do you get all this? Where you get access the most liquid markets in the world and then have diversity in them happened to be in the future space? Right? Because if you we did a study on this where we showed, you know, 2500 stocks in the US and still no diversification, right? If you, if you put those line items, you feel like you’re diversified highly. But when you put on your risk risk parity goggles on, we actually examine the amount of unique bets embedded in that market, you end up with 1.2 unique bets, as in, it’s basically a bet, yeah. Then if you extract that to, let’s say, a permanent portfolio, where you have gold, equities and bonds, you end up having what you expect around three unique bets. When you expand that to the futures universe of 80, plus futures contracts. In reality, sadly, we get down to around 13, unique bets long term. Now, this will vary depending on correlations and whatnot, it can be as high as 25, and as low as five. But on average, you see around 13, unique bets, right? So we don’t so much see the world from the sense of line items and asset classes, we see it from a sense of liquidity. And within that liquidity universe using, you know, a maximum diversification algorithm, there’s a wide, wide variety of ways to measure the amount of unique bets in the market and university, we get the maximum that we can get, which is sadly, not much. So we got to, we got to get Elon tomorrow so that we can have a new economy that’s truly non correlated to what we have here, right? So it’s really difficult at volume and high liquidity to find truly orthogonal bets. But certainly, we can do better than the two we have right now bonds and equities, which have turned into one.
Jeff Malec 52:45
And so part of this is Hey, Mr. investor, you’re doing this mutual fund, you’re putting your 50k in there. I need to be able to let you out tomorrow. So I can’t be in some locked up real estate thing or some Ambien Venezuelan oil. Yeah. Right. And like, so if you were unlimited, right? You could be in cat bonds and things that are orthogonal and have no correlation to anything. Cool. Yeah, if
Rodrigo Gordillo 53:14
you’re a private trader, and your net worth is a million dollars, you can do a lot more than what we can do at, you know, 500 million and result. Certainly, we can do more than AQR, can and so on and so forth.
Jeff Malec 53:28
Because of their says, yeah, yeah, that’s interesting. So I mean, put a finer point on that, right? There’s, out of those 80 markets, 12 are grains and 10 are energies and seven are currency. So they’re going to tend to group together and move together and be highly correlated. So essentially, what we’re saying, but you’re saying without, without, you’ll basically do the math and bucket them without really, you could do it blindly without knowing their names.
Rodrigo Gordillo 53:56
That’s right, just look at a time series, you can get all the information you need, right? versus
Jeff Malec 54:01
others might say, Hey, we’re going to do these five energy markets, we’re going to do these five currency markets,
Rodrigo Gordillo 54:07
and you end up with an allocation that’s intuitive. We look at data, the data spits out. And when we look at the labels, they make sense, right?
Mike Philbrick 54:17
Whereas the other the other thing is the that you kind of look at them as schools of fish, it is funny that from time to time, a fish will swim in different schools. So gold is a bit funny that way, it acts like a certain set of commodities, and then it acts in a different regime, like another set of commodities. And so that that is all calculated when we do the, you know, sort of systematic calculations daily. Is this fish swimming with this school or swimming with that school?
Jeff Malec 54:48
That’s why the word dynamic right there in the name, you
Mike Philbrick 54:51
got it, you go
Jeff Malec 54:53
and talk to me a little bit about that systematic ability, right or pause on that. I want to talk a little bit of what we’re talking about these futures markets is at markets, right? You probably trade like cotton or something right for an individual investor to put in the man hours to understand the cotton market to see what’s going to drive it higher or lower to get a futures account to open it to participate in that, like, it’s just not worth it on any sort of scale to calculate access that market correct
Mike Philbrick 55:21
and to calculate, do the calculations daily as to what is the optimal level of exposure, given all the other exposures you have in the portfolio. So today, markets are trading, there’s changes in price that are occurring, there’s changes in their volatility characteristics of those assets and the correlations. So at the end of the day, we run the machine again, and it says, actually, this is the new allocation. And there’s just no way, there’s none of us that could do it personally, and sit down with a pad and paper and do it this is done by a computational intensity, because it’s an edge. And the netting is factored into that. And the diversity is factored into that. And the signal strength coming from the Alpha features is calculated into that. And so that is a large set of calculations that are done daily and spit out a and spit out a portfolio.
Rodrigo Gordillo 56:20
And operationally, as you know, Jeff, that futures are much more different than trading stock, right? You have you have future explorations, you have to when you’re looking at your data and how you’re testing on that data, you have to stitch together the different futures contracts going back in time. So if you want to do tests, and you want to make sure you’re getting robust data, what when are you going to roll it? What’s most ideal? You need to have expertise and trading expertise in different markets across that space. Do you have those, like we have a team that is able to execute all those things, both internally and externally, that allows us to be able to provide the whatever is on paper that seems to be alpha, there’s a big difference between what’s on paper and what’s it goes in your pocket. And that’s the gap that oftentimes novice investors in the futures markets tend to miss. Right. The other thing is granularity. You know, a single contract can represent a large portion of your net worth if you’re an individual. And so you’ll start allocating more or less to a contract, because you don’t have the granularity required. And so in a way, there is a sweet spot there where you need an X amount of AUM to be able to trade the system that you actually want. So there’s a wide variety of operational reasons why trading futures is that much more complex, and why it tends to warrant a higher fee. Generally, if it were easier, I’m sure the fees would be lower.
Jeff Malec 57:51
The and I was coming at it from obviously all that you need all that expertise, but I’m coming at it from the investors like cool, coppers moving I need exposure to that cotton’s doing this, I need exposure to that, like to actually go get that exposure, not from the technical expertise, but just like what ETF do I use? Where do I get? Or like you guys were have carbon credits in the portfolio, right? Like, hey, carbon, carbon is interesting to me, I want to get some exposure to that. All these things, it’s easy to get exposure inside of this portfolio is what I’m getting at.
Mike Philbrick 58:23
Yeah, it is monitored and managed. The other thing is, hey, I’m gonna go get commodity exposure and toddle out and buy the, you know, Deutsche Bank, liquid commodities ETF index, right. The problem with that is you’re going to be faced in that scenario, let’s say you took that approach back in the 2000s. In 2007, you were faced with a 60% drawdown in that commodity exposure, because maybe you weren’t managing it, maybe you allocated on a capital basis and said, I’ll plug my nose, well, that’s going to leave a pretty significant dent in the portfolio. Whereas if you’re managing that commodity exposure, visa vie a risk parity framework, it doesn’t have too much exposure in the first place. Next, you’re layering on top, those Alpha indicators that will attenuate exposures, when it’s not doing as well as it should. And then lastly, you’ve got to tail edge protection in there to contribute some returns in those highly correlated timeframes where everything in the portfolio might be struggling. So again, it’s thinking through this layer by layer, and constructing a portfolio that is fulsome. That covers the areas that you’re not going to do as an advisor. You’re not going to short bonds, and you’re not good, let’s be honest, you’re not going to own cocoa and cotton and platinum and palladium. You’re just not going to do those things. And so, from the from the perspective of will this add value to the rest of my portfolio or does this add value to a 6040 portfolio Ergo that sort of returns stacking mindset. Yeah, it has a very low correlation to the 6040 portfolio that adds massive value. And it’s something that in my mind needs consideration, especially when we’ve eviscerated global growth. We don’t have benign inflation, we have raging inflation and we have contracting liquidity. Like you gotta make a move.
Jeff Malec 1:00:23
Yeah. But to me the and if you’re wrong on all that if those three pillars shoot back out of the ground and reestablish themselves super strong, cool, we’ve got the core we’ve got the got the base, that’s going to be long those things, you’ll be okay. Commodity trend, we got to talk about it. CTA is you guys have been banging the drum for about as long as I have been. It was a brutal 10 year period in there where trend was doing nothing. I feel most everyone who’s still in the game is back at equity highs. Just talked about any can even expand on that whole Alpha bucket, how do you keep the conviction, right of year after year of underperformance or losses to keep that in the model to keep allocating assets to it? That’s right, systematic, thank God. Because if it was like, you had to wake up every morning and hit a button and choose to keep doing it, you probably stop hitting it.
Rodrigo Gordillo 1:01:20
Yeah, I think the the understanding of history and historical dynamics is an important thing, right? The I mean, from Trend alone, you can go back there’s been enough trend is an easy thing to study across centuries, even where you can see that over a time, trend tends to have this kind of it tends to have most of its returns during convex environments when chaos ensues. But over that, that there’s one that goes back 600 years, you will see, you know, decades long periods where you’ll be chopped up and providing single digit to sound like trend has done negatively for every single year for 10 years. It has underperformed what it did in the previous decade when everybody bought into it right. But if you if you actually examine what the trend factor is, it’s like anything else. It works overtime, overtime, but not all the time. And this is why you own it, you own it when there’s when there’s chaos when there is prolonged trends. And so I’ve been talking a lot in fact, in that in the webinar that I did with you guys, and that lunch event that I did with you guys last week, you might want to put the link up there because I go through the history of inflation volatility, and when multi asset Long, short strategies such as trend, but also including things like value and carry. When do they do really, really well. When there’s dispersion. When do we see dispersion right after growth stocks peak. Why did growth stocks peak, because inflation was benign for a decade, and persistent growth existed. And when that happens, the liquid assets and we every part of the liquid market concentrates into a handful of stocks that happened the roaring 20s. It happened in the 50s. It happened in the late 90s. And it happened last decade. But once that breaks, and it generally breaks with a bit of inflation, you start seeing the trickle down effect effects of inflation you start it stops being US currency and everything else, it starts being NASDAQ stocks and everything else and starts, you start creating ripples across the world currencies start to act differently across different pairs, you start seeing certain emerging markets, crushing it that own copper, own gold, own silver. And then you start seeing emerging markets that are getting crushed that have to import their grains in order to survive, you start seeing multiple opportunity sets. And that opens up Alpha across trend across seasonality mean reversion value and carry. And so if you look at the for example, the Goldman Sachs, macro factor index in the 2000s, and kind of scale it to 10%. It was an amazing decade from 2000 to the to the peak of the commodity boom, which was February 2011. And then from 2011, when benign inflation came in, then you see nothing but NASDAQ and US Treasuries really dominate. And it’s not it was just a underperformance it wasn’t a terrible thing. So you examine history, you identify moments of strength I think at multi asset funds like ours are likely to outperform in periods of inflation for obvious reasons, right what we’re investing in and we can go long and short these things. And we’re likely to outperform during periods of prolonged good old fashioned sector rotation bear markets, where you can short the s&p like we have this year. You can short the NASDAQ like we have this year you can short bonds and you can go long commodities like they say As this is an ideal period for multi strap, multi asset, long, short funds, and trend is a benefactor of that. And then when there’s benign inflation, there’s just less opportunity. So this is a great time to be investing in these asset classes. In my view,
Jeff Malec 1:05:15
would you sort of answered the question, right, because a simplistic view would be Oh, trends doing well, because energies have gone up, it caught it, right caught the single trends. But to me, like pivoting from that environment, where it was struggling for those years now into this environment, it’s more than just these few trends and commodity prices are going up. Like you’re saying, there’s divergence, the yen seems to be doing its own thing. Some metals are going up, some are going down. So there’s all this divergence, and that’s really what’s fueling it. And to me, that’s what can remain. Right? That’s what you need. If someone’s like, is it too late for trend? Is it too late for commodities, maybe some of those trends, but if you can count on more and more divergence, are the same amount of dispersion.
Mike Philbrick 1:05:57
Dispersion is the real key, right? If we had, we have 10 investments, and they all have the same, the exact same trading vector, they all have the same return. What’s the opportunity for diversity in the portfolio, it’s none. You need, you need the fan of you know, these vectors of returns in order to be able to structure a portfolio to reduce the volatility by combining those lines to lever up or down that exposure in order to, you know, maximize exposure when volatility is stable and low adjustment increases like that. You just need dispersion. If you don’t have the dispersion stuff to differentiate,
Rodrigo Gordillo 1:06:37
yeah, definitely remember how I was talking about the number of unique bets, where on average, it’s 13. But sometimes you’re 25. Sometimes you’re fine. If you examine the rolling unique bets that existed in the 2000s, we are hitting like peaks throughout the mid 2000s. And then we’re we have been an all time lows in terms of unique comebacks in the last decade, all of a sudden, though, it’s spiked back up, right. So there’s a correlation, understanding why we
Jeff Malec 1:07:04
put that chart out there, let’s let’s get that chart out on a blog post.
Rodrigo Gordillo 1:07:08
It is it is in the works. But the idea here is, once again, going back to portfolio construction. And why I do this is because most advisors have a bunch of bonds and a bunch of equities, and nothing else, or maybe now their bonds or fund like an equity loan like bond like stuff like private credit, right, or private equity, God forbid. And so now I mostly see just an equity portfolio, what you need is that third piston that has the ability to fill in those blind spots, which has high inflation, and high and prolonged bear market, understanding that if we go back to the last 10 years to benign inflation, and persistent growth, and everybody kumbaya hours, and the world, you know, goes back to normal, and we don’t have supply chain disruptions and all that fun stuff. If we go back to that world, and then they then you as a portfolio constructor need to know that this piece is likely to underperform your 6040. And that’s okay. That’s we need big winners and big losers. Here we are. And that’s why you stick to it. And now 20 Right.
Mike Philbrick 1:08:12
And to be fair, that that was the reason that return stacking was was postulated as a solution because people have not been able to get off their 6040. So the idea there was let’s give you your 6040 loss, you know, 30 to 40% of alts, that are truly non correlated, and have those different return drivers. Because you’re so addicted to that group thing, like you need to be there because you have to kind of be like your friends, it’s 130. But not too much like your friends, right? When it goes down. I don’t want to be like my friends, but I can’t be behind my friends. And that’s where return stacking came in. And I think we were going to talk about at one point like return stacking versus rd and my ex. Yeah, and I think that is a preference around Do you do you really feel you have the tracking error sensitivity to the 6040 portfolio. If you do return stockings, probably a better solution because it’s going to attenuate your behavioral bias. If you can think a little bit more broadly, and you can understand or come to grips with the idea of a risk parity portfolio being almond own everything and I’m gonna have it properly balanced and I’ll let everybody else fight over what they want to buy and sell every day. I’m just going to keep this nice conservative sort of balance thing trucking along. You know, I think that you would prefer that. I certainly prefer that. Yeah, plus the I prefer I
Rodrigo Gordillo 1:09:39
do substitute 6040 with risk. Right. Yeah. And so that like contrast is is very clear. I was just looking up. So if you go to return stacking dot live, you’ll see what it’s done here today. So return stacking is 6040 the return is 6040 what you get and then 6040 You’re gonna get and then we stack on top of A CTA trend and systematic global macro for 60%. That that has meant that the 6040 has lost 11%. Year Today, roughly. And the return stalking has only lost 4%. And that differential is that that 60% Alpha stacked in contrast rd and my x is up 10% here today. Why because risk parity didn’t lose like 6040. And the pure alphas are a pure Alpha muse. You can stack on top of that. So there’s, there’s that’s the contrast right there. But the our correlation is 6040 is very low. Return stacking is designed to be highly correlated to 6040, while attenuating some of the pain, right, so given just enough medicine, so that people
Mike Philbrick 1:10:47
don’t have sugar and actually get the medicine down.
Jeff Malec 1:10:50
And in my mind that choice is hey, if you’re fine, trailing your peers for two to three years, in exchange for outperforming them for two to three years, right? Already, my ex is a choice for you. If you want to be pretty close to your peers with the opportunity to outperform them, go with the return stack. Right. Fair enough. Awesome. Let’s I had one kind of technical question. Maybe we’ll do it real quick. So I was going to tell an example of the trend first I got an A Twitter fight. Right. And I we did a blog post of like, updated here’s the past 20 years 20 plus years of trend with the indices ran out, I think it was compound, four and a half percent or something. And some guy came out of woodwork with like, four and a half percent. That’s stupid. That’s crazy. Why would anyone invest in this? Like that’s a positive 4% Carry per year for something that has the the smile, we’re talking about that performance and crises. That’s the exact thing you should be seeking out. Right. So thanks for coming into my defense on that. You guys must have missed that one.
Rodrigo Gordillo 1:11:58
You gotta tap us, man, you got to add us. Yeah, I would have been on it like, and the thing is that this is a beautiful thing about stalking. And and one of the benefits of futures write that you can have your, your 100% Full Exposure to whatever portfolio you love. And then you’re going to have the ability to using a little bit of margin to stack a a full trend or systematic global macro alpha on top, that even if it only does 1% a year, after fees, and transaction costs and passes even if it does 1%. That’s an extra 1%. Assuming no benefit from diversification, right? Add the benefit of that smile that you talked about the ability to make lots and lots of money in periods of extremes, then you have the added diversification benefits. That means that your overall portfolio even at 1% excess return, assuming that that’s all you get is going to reduce the portfolio volatility and stack 1% on top in a decade, like we saw in the 2000s. The type of stacking that you will see is 234 times than right. Yeah. So it’s on average 4%. And
Mike Philbrick 1:13:05
by the way, during the 2000s. The return to US equities, whether they be NASDAQ or s&p was zero for 12 years. Yeah. Why would anyone invest in that? Yeah. With two 50%. drawdowns? Why would you invest in that?
Rodrigo Gordillo 1:13:22
Personal because on average from 2000 to ensure annualized at 10%. But
Mike Philbrick 1:13:27
yeah, and it’s underperformed gold, but whatever. recency bias, and performance chasing, you know, people have a bias, that’s their bias. And if they have that bias, then we accept it. Do return stalking. Yeah, I mean, not hey, I’m not we’re not hating on anybody, we’re just trying to help out.
Jeff Malec 1:13:46
Right? And then my technical question was, Okay, do I have for that alpha? sleeve or whatever? We keep using our hands here? Sorry, for anyone who’s listening instead of watching. For the Alpha piece, do all those components have to have a net positive expected return? Or could you have something in there that as a negative carry, but on a portfolio level, it’s it’s going to be added to
Rodrigo Gordillo 1:14:12
look, the paper that we wrote, was not trying to be too prescriptive, right, we ended up with paper with what we perceive to be the most creative. And the most creative to us is trying to provide an overlay or a stack on top of your beta.
Jeff Malec 1:14:29
Why wasn’t talking return today? I’m telling you’re the NRT and my ex and the alphas leave. But
Rodrigo Gordillo 1:14:34
in the Alpha sleep, yeah, no, I mean, in the Alpha sleep exclusively, where you know, the the long volatility strategy has a potential we’re trying to make it a negative carbon has a potential to have a slight negative carry most years, but with the benefit of providing significant outsized returns, to fill in those gaps. When nothing else does
Mike Philbrick 1:15:00
liquidity really. So it provides liquidity liquidity shocks to a portfolio when liquidity is heavily rewarded. And that is What’s lovely about about that, why you suffer maybe a small negative carry, because at some point, a large chunk of liquidity will be injected into your portfolio. And it’s when the market will be demanding liquidity and you will be handsomely rewarded for having that liquidity.
Rodrigo Gordillo 1:15:25
And the good news is that nobody sees that negative carry, right, like, that’s the benefit of having a rapper believe I think we’ve talked about this before, in one of our podcasts with you, but having I used to have that as a separate line item on client’s portfolios. And it’s just too painful to see it bleed. And so by embedding it into a single fund, that has a positive carry, because of risk parity, positive carry because of the Alpha sleeves, and a slight negative carry at times, because of the tail protection, nobody knows or cares. And right, it’s gonna be there when you need it. So yeah, I’m a fan.
Jeff Malec 1:16:06
Our last bit here, and a change up our two truths and a lie bit. Today, a bit of a change up a bit a bit. And I was trying to do something clever with your resolve riffs and say it was going to be three riffs and a buy. But I don’t know what a buy means. So we’ll just go on to can you guys give me three personal stories? One about Adam, who’s not on the pot here and Butler one about rod one about Mike anonymous, and I’m going to assess out which story is for which, which person. And if you wanted to make one of them slightly untrue. Then I could try and see if I could identify that untrue one as well. Who wants to jump on that grenade first mighty stories?
Rodrigo Gordillo 1:16:48
Mike Philbrick 1:16:50
I think what we’re asking us for is one story for each person. Yes. And we’ll tell a story and one of us will tell a couple of stories. Okay. Something that is
Jeff Malec 1:17:02
entertaining, and yeah,
Mike Philbrick 1:17:03
entertaining. And so it may or may not be true. So one of one of the I’ll tell the story and you guys can decide it’s true if you’ve ever met Adam Butler. He’s not the most athletic guy in the world. But if you put a table tennis racket in his hand, he actually turns into Spider Man.
Jeff Malec 1:17:30
And, like Forrest Gump,
Mike Philbrick 1:17:33
right? Yes. He literally will turn into Forrest Gump. I think I fucked that up though, right? Because I guess you’re supposed to guess who it is? Yes. One of us,
Jeff Malec 1:17:41
I guess. One of us,
Mike Philbrick 1:17:45
if you please. So I get the gig. Now, you place a table tennis racket into one of the hands of the people here. That person turns into Spider Man who is that would have been the better thing, right? That’s the setup. That’s the setup. All right. Okay, so now I gotta think of another No. Okay.
Jeff Malec 1:18:03
You think all right, Rod, you’re up. One All right.
Rodrigo Gordillo 1:18:07
Sir, B G.
Jeff Malec 1:18:14
This is you can you can go are rated right.
Rodrigo Gordillo 1:18:17
All right. So one of us, one of us has been engaged a couple of times. And the first engagement was in was broken up while in a short buses school bus trip that went from Ontario, Canada, all the way down to the tip of South America. And while in Mexico, while going being invited at 4am to La Cucaracha. The future spouse did not want that to happen. And therefore the the individual broke up with that person. And we’re looking for a flight out the next day. And sadly, there were no flights out for three weeks. So the disengage on the bus. Stay on the bus for out for three of those weeks.
Jeff Malec 1:19:16
Disengage I’ve never heard it called quite. That’s right. That’s that should technically be what it’s called. disengaged. Hmm, that’s a tough one. It’s harder than I thought. Right.
Mike Philbrick 1:19:27
Oh, well, this is interesting. One of our wives is appeared naked in a magazine. Okay.
Jeff Malec 1:19:36
Right. You can go one of us played professional Canadian football because I know who that is. One of
Mike Philbrick 1:19:43
us want a Grey Cup. Right? One of us is on a walk of fame. And then none of those are going to be for again.
Jeff Malec 1:19:51
For the listeners Mike played in the Canadian Football League won the Grey Cup. What was your team again? The Hamilton Tiger cats. Samson Tiger cats and you played we did this way longer who was one of the famous guys who played with
Mike Philbrick 1:20:07
played against Doug Flutie a lot as per his brother Darren was on my team played with Dexter Manley played with there’s few NFL guys that trip back through the CFL and whatnot. So a bit of fun. Yeah. All right, Brad, you
Rodrigo Gordillo 1:20:27
got one of us, one of us in undergrad. One of us in a in a moment of possible intoxication. went and stole a crab crepes cart, you know, crab Crab crepes and brought it to the quad to cook crepe crepes for the crowd of 20. From 2am to 4am in the morning, while waking up the next morning and getting arrested by the police. Force ceilings have credit card. These are tough.
Mike Philbrick 1:21:11
Yeah, I guess I guess the other thing is that if I were to say one of us has been arrested, that would be a lie as well. I will say that one of us has been to Disney more than 30 times. I’m one of us.
Jeff Malec 1:21:29
I’ve been to Disney more in theory.
Mike Philbrick 1:21:31
There you go. Well, yeah, I don’t know if you’ve seen us there. One of us plays d&d, and his character is a elven barbarian.
Jeff Malec 1:21:45
Okay, all right. Let me search that. I’m going with d&d Scout to be Adam. Correct. Yep. Nice. I’m going undergrad. Crepe cart, as Mike but also untrue because none of you have been arrested.
Rodrigo Gordillo 1:22:09
That is incorrect. Incorrect, untrue story.
Jeff Malec 1:22:14
But it would have been my I don’t know.
Rodrigo Gordillo 1:22:17
That’s a good question. It is it is a story that did happen but not to any one of us.
Jeff Malec 1:22:26
The bus to South America I’m going to say was you read you had an amazing amount of detail on that.
Rodrigo Gordillo 1:22:35
We all know each other I don’t know. Was it me? I guess it was me.
Jeff Malec 1:22:40
Brutal. And wife appeared naked in a magazine. Mike, I mean, the the pro athletes make the most sense. They write.
Mike Philbrick 1:22:49
I love doing this to my wife. It’s actually untrue. She doesn’t quite make it. But there was there was a woman in a I found out it was Playboy or penthouse. And it looked it was a doppelganger from my wife. And she worked at a car dealership. And they brought it in and they’re like, is this you? Sharon is this year? She’s like, No, that’s me. I’m like, give me that book. I’m keeping that. All right.
Jeff Malec 1:23:23
Thanks, guys. This is my idea. I want to just do a pod with guys like this. And we don’t talk one thing about investments we just could just talk about life would be a lot more fun. This is fun. We’ll put in the show notes. Everything make sure you guys check out their resolve ribs every Friday. He’s still doing it mostly every Friday. Yep. o’clock Eastern. Yeah, yeah, those are fun. And the return stacking we’ll put all these links. We’re gonna have a lot of links in the show notes, but we’ll put them all in there. And great talking to you.
Rodrigo Gordillo 1:23:52
Thanks for having us.
Jeff Malec 1:23:55
You to go Trend