The Anchor strategy section of Steady Options officially launched in June and over one third of a year has passed. During that time there have been several common reoccurring questions come up, which I am going to attempt to broadly answer here. I will also have a broad performance evaluation.
As this posting will be publicly available in all forums, Anchor Members are encouraged to post questions and follow up in the Anchor Forum threads.
First, some numbers to keep in mind:
S&P 500 Performance from January 2, 2013 through October 31, 2013: 1462.42 - 1,763.24 (a gain of 20.57%)
S&P 500 Performance from June 3, 2013 through October 31, 2013: 1640.42 - 1,763.24 (a gain of 7.49%)
June Model Portfolio Performance/Stocks from Jun 3, 2013 through Oct 31, 2013: 2.80%
June Model Portfolio Performance/ETFs from Jun 3, 2013 through Oct 31, 2013: 5.92%
Actual Anchor Fund:
YTD: 11.54% (also includes rolling to the September 176)
This includes rolling up to the 176 puts
Question 1: Why are we not having larger gains?
Every investor which uses the Anchor Strategy must remember the purpose of the Strategy -- which is:
A. In mild down markets be up 2-5% on the year;
B. In mild up markets equal the up markets (e.g. if the S&P 500 was up 5% on the year, we'd want to be up 5%);
C. In large up markets lag the S&P 500 slightly (ideally no more than 5%, so if the S&P is up 20%, we'd want to be up 15% or more);
D. In mild down markets we want to be up 2%-5% on the year (e.g. the S&P 500 is down 8%, we want to be up 2%); and
E. In large down markets have significant profits.
The second part is that this is a year to year strategy. You should not judge the strategy by its month to month performance. Those numbers are published because there is a large clamor for them, but, as explained in detail below, to lag behind, particularly in the face of an up market after opening the strategy, is perfectly normal.
If you want a strategy that will regularly outperform the S&P 500 in bull markets, this is not it. This strategy is meant to anchor your portfolio, provide relaxation and peace of mind, and growth year to year, while attempting eliminating the risk of large down markets. Simply put, this is not going to "crush" the S&P 500 unless the market tanks.
Question 2: Why is the stock model portfolio lagging both the ETF model portfolio and the S&P 500?
Well the simple answer is: poor stock selection. The stocks in the model portfolio have underperformed the S&P 500, In particular, the blue chip dividend payers got hammered when bond prices started to rise (LEG, KO, etc), and the tech stocks I picked (INTC) have also lagged. In the past two years they greatly outperformed, this year they have not been.
As is discussed in the basic strategy threads, using ETF's is the "safer" choice in the Anchor strategy. However, in an attempt to eliminate the "lag" that exists in bull markets, I prefer to use stocks and try to pick S&P 500 stocks that will outperform the base index. In past years, the results have been good. This year they have not (so far). I'm currently re-evaluating all stock holdings for new candidates.
Question 3: Why are both the ETF (by aprx 1.5%) and the Stock (by aprx. 5.0%) lagging the S&P 500?
This question goes to the heart of the Anchor strategy, and goes to a point I hope all members can eventually understand, as it reflects the nature of how option pricing works.
If the market rises soon after starting the strategy, as occurred in our case, you are going to lag until you can "catch up" over the full year. That's because your long puts lose value VERY quickly in a rising market. Let's look at a recent example using real world numbers as of last Thursday:
1. I buy the Feb 2014 175 put when SPY was in the 174. 5 range. It cost me $6.09/contract.
2. The market went up Thursday a whole 0.26% and the value of that Feb 2014 175 put fell to 5.56 a 0.53 loss per contract. In that same time the short bi-weekly 175 puts gained 0.65.
3. Assuming the standard current 10:4 ratio, thats a $530 loss on the long side and only a gain of $260 on the short side. That leave's $270 to "catch up" just after the first week.
Once your long puts get 3-5% out of the money, they have lost a ton of their value, plus volatility is lower in rising markets, so they have lost even more. When this happens in the first couple of months, you then need the full year to "catch up" by selling short. This leads directly to question 4...
Question 4: What happens then if the markets keep jumping by 3-5% every month? We're then losing money on the long puts faster than we can ever gain selling short.
This is where what I consider the "magic" of the whole process comes into play, and an understanding of option volatility pricing helps. Yes you have to pay a debit to roll your long puts to stay hedged, but because of the rising market, the actual cost of the long is "less" on a per contract basis then when you started the trade (due to the quickly declining volatility).
Let's stick real world example from the actual Anchor Fund:
1. This January, I was in SPY Jan 2014 146 puts and I needed $0.67/week to pay for the hedge (at $11.67 per long put).
2. From January - March SPY went up from 146-156. During that time I was ahead of pace on paying for the hedge due to the fact I was capturing extrinsic AND intrinsic value on the shorts. At this point I had lowered my break even price from .67 a week down to $0.58/week.
3. However, I needed to roll up to the 156. I could only sell the Jan 2014 146 for $5.69 -- basically a $6.00 loss. HOWEVER, in March I could buy the March 2014 156 for $10.64 -- even cheaper than the 146's were in January and I gained three more months to pay for the hedge. After this roll, I still only needed $0.58/week as I had another full 52 weeks to pay for the hedge.
In other words, when I rolled from the January 2014 146 puts to the March 2014 156 puts, I did so without any loss whatsoever -- and was hedged at a higher level.
The only time you really get in trouble if there are multiple quick market spikes right after starting the trade. For example, if the SPY had gone from 146 in the second week of January to 156 in the third week of January, then you would lose ground. That's why I always leave some margin available as I might have to go from a 10:4 ratio to a 10:5 to keep the weekly price the same. If this keeps happening over an extended period of time (several months), then you will start to lag the S&P 500 on the year as it will be impossible to pay for the long hedge.
However, during that same time, your long holdings will be going up as well. So if the market is up 3% a month for an entire year (giving you a gain of 42.6% or so), I would expect the Anchor strategy to be up around 30-35%. For the peace of mind that comes with not worrying as much about market crashes, I am ok with that result.
Question 5: What do you think about your performance and the model portfolio performances year to date?
My single biggest criticism of myself is that my stock selection has been poor, which is unusual for me. I've always known, and hopefully told people, that I might have an "off year" picking stocks (even that that hasn't happened in the last five years), and I certainly wish it hadn't happened right after going "live" with Steady Options, but it did.
My biggest mistake was not anticipating the fall in the large dividend paying stocks with the rise in bond prices. That was simply foolish, particularly when looking back and seeing the same historic pattern. I feel even more foolish as I called the rising bond markets and saved several clients quite a bit of money by transitioning them out of bond funds this summer. To not have put two and two together is simply a miss.
That said, I am re-evaluating all of the long holdings, and will be making adjustments soon. I also feel with the current FED and budget makeup, that bond prices probably will hold steady for a while, and my under performing stocks may catch up. PLEASE NOTE THIS IS MY OPINION ONLY. I could be wrong, be sure to make your own decisions. I know at least two Anchor members who picked different stocks, which were also members of the S&P 500, which have done quite well and are outperforming the S&P 500 by about 1 percentage point.
My second criticism relates to having obviously not explained the purpose of the strategy. I had thought I had been clear, but when I get the same question from 10 different members, I clearly erred somewhere. If any member thought this strategy would help them out consistently outperform the S&P 500 in rising markets, it is simply not designed to do that.
However, that's largely where my major critiques end. To date the strategy is performing exactly as designed -- particularly on the ETF models. The initial model portfolios are hedged at the 175 market point, currently cost under $0.80/week to pay for the year, and are behaving as anticipated.
As always, if any member has any questions, comments, or concerns, just post and ask or send me a PM or email. If any member has a criticism, suggestion, or complaint, please don't hesitate to post it. Much of the creation of this strategy was derived from critiques and criticisms, and I'm not adverse to recommendations.