Today, there was an interesting article in the WSJ called A Time-Honored Strategy Puts Your Retirement at Risk of Financial Ruin.
The article discussed the traditional 60/40 stock/bond portfolio, which historically has done a fantastic job at generating great returns with far less volatility than an all-stock portfolio. It’s important to note that much of the strategy’s success was based in a period where interest rates had been mostly declining since the early 1980’s, which propelled both stock and bond prices. This tailwind abated in 2022, as the Federal Reserve began its rapid increase of interest rates, which caused a bear market in stocks and the longest drawdown in bonds since at least the 1970s. Because bonds have struggled these last few years, many advisors and money managers are once again fighting the last battle, increasing their allocations to equities when valuations are near historic highs, and while bond yields are some of the highest, we have seen in 20 years.
At T&T Capital Management, we are unique in that we incorporate valuations into our asset and portfolio allocation strategies. Quoting from the article “Robert Shiller’s cyclically adjusted price-to-earnings ratio is now more expensive than it has been 97% of the time since 1880. Money manager AQR calculates that real stock returns over the 10 years following a 90th decile reading have averaged just .5%. Meanwhile, 10-year Treasury yields are only 3.86% after their recent retreat. Minus expected inflation over the next decade, that only comes to 1.65%.”
Remember, stocks have the best long-term track record, but they also can face extreme volatility. An investor in a 100% stock portfolio should expect to see periods when that portfolio declines by 30-55%. Stomaching that volatility is not easy and it can be an absolute killer if you are in that financial redzone of 5 years prior to retirement, or 5 years after retirement, when sequence of returns risk is so tremendous. By being focused on only buying deeply undervalued securities we can reduce the risks caused by an overvalued market. Beyond stock selection, we have invested heavily into undervalued bonds and REITs that should actually benefit when the Federal Reserve has to cut rates to respond to a slowing economy.
Outside of the these more traditional investing strategies, TTCM incorporates conservative income-generating tactics such as covered calls and cash-secured puts to generate income and reduce risk. These tactics should be seen as tools that frankly most advisors simply do not possess or implement for various reasons. The biggest reason is really the flaw in the industry in that most firms are focused on raising as much money as possible. TTCM was founded to provide what we believe to be the best value/hedge fund strategies to retail clients across the country, in a way in which we invest our own money. These options tactics shine brightest when markets are more challenging, which they seem bound to be over the next decade, given the high starting valuations.
