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cwelsh

Welcome to Anchor Trades

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Important: the first part of this post describes the general concept of the Anchor strategy. In January 2019 the implementation has been changed and Leveraged Anchor was born. The Leveraged Anchor implementation is described in the second part of the post
 

Welcome to Anchor Trades!

 

I would like to personally welcome all our members, those who have come from SteadyOptions, Seeking Alpha, and those which have come from elsewhere. I would encourage everyone to read the Anchor Frequently Asked Questions and the Anchor Trade Strategy topics. Those two topics should provide answers to the majority of your questions, as well a detailed discussion on what the Anchor Strategy is all about. 

 

You can see the Anchor Trades performance here.

 

So What is an Anchor Trade?

 

To put it simply, an Anchor Trade should be one that forms the keystone of any investment portfolio -- that reliable corner that you know you can depend on, regardless of market conditions. The one that lets you sleep at night, knowing your money is at work, but not subject to large risks.

 

An Anchor trade's goal is to prevent loss of capital while still generating a positive net return in all market conditions. This strategy began with the premise that it must be possible to virtually fully hedge against market losses, without sacrificing all upside potential. Anchor trades are concerned for full year, full portfolio, protection, regardless of market conditions.

 

Many investors try to insure against losses after those losses have already been incurred, or as they are occurring in real time – this is a mistake. It’s easy to be an investor during a prolong bull market, but what happens when a severe, or even mild, market correction occurs? At that point many investors find themselves trapped in falling positions, have stop losses kicking in, and are at a loss as what to do – other than to watch their principle dissipate. In the modern era of flash crashes, swift market volatility changes, and world risk it simply makes no sense to be invested in anything without portfolio protection. It is impossible to routinely predict the next negative major market event, therefore 365 days of protection is a necessity. I have given up trying to predict the day to day movements of the market -- therefore I Anchor my portfolio with this strategy (which can easily then be paired with other strategies).

 

In the current market environment, such precautions are particularly warranted. It is my opinion that much of the recent market gains have been artificially propped up by low interest rates, the Federal Reserve, and the lack of alternative investment choices which can provide income to investors. At some point in the future the market is due, at the very least, for a correction, if not a significant down turn. With increasing turmoil in Syria, North Korea, and elsewhere in the Middle East, who knows what could tip the markets. Will this occur within two weeks, six months, one year, or even longer is something I've given up trying to predict. Rather I seek to protect against such events – whenever they may occur.

 

Some strategies try to partially hedge against market risk through long short strategies, through the straight purchase of puts (typically out of the money at a substantial cost to the portfolio), through default swaps, or through numerous other instruments. However, each of these strategies only offers partial portfolio protection which either comes at a cost or which just assumes a set loss in the portfolio (such as ten or fifteen percent) is acceptable. I refuse to accept that philosophy and have developed a strategy around annual portfolio protection.

 

Performance targets

 

The impact of not experiencing losses in down market years, while only slightly lagging (if lagging at all) in positive and neutral years, is astronomical over any extended period of time. Utilizing the Anchor strategy over a number of years, particularly if any of those years are bear markets, should lead to the strategy significantly outperforming the markets as a whole, as back-testing has demonstrated. Even in prolonged bull markets, the returns should still be positive and lag negligibly behind. The peace of mind which comes with being fully hedged more than compensates for the potential of slightly underperforming the market as a whole in prolonged bull scenarios.

 

Special thanks to Reel Ken, Kim Klaiman, and others who helped me evolve this strategy to its current form through their articles and discussions.

 

Anchor Trade objective

 

The Anchor strategy's s primary objective is to have positive returns in all market conditions on an annual basis

 

Anchor Trades will be divided into two separate forums:

 

1. The Anchor Trades forum will post my actual trades from my individual account, including weekly rolls, and any adjustments I make, as well as the price I received when filled. It will also include a thread for "model" trades that will be launched monthly. Model trades will be for those members who join after the initial actual trades are established, so any member can set up their own Anchor Portfolio. This way any member, regardless of when they join, will have a thread to follow applicable from their initial membership date. If you want to get notifications about the trades, you should follow this forum (by clicking "Follow this forum" button). If you follow this forum, you will receive an email when a new topic (trade) is posted.

 

2. The Anchor Trades Discussions forum will discuss each trade that has been made, detail the calculations behind the decision, and provide a Q&A forum for members to ask about any one trade. The thread will also have columns about the theory behind the Anchor strategy, implementation discussions, and be open to members to ask general questions.

The Anchor objective is to produce equity like returns over a full market cycle, with reduced volatility and bear market drawdowns. 

 

If you have any questions about the threads, where information can be found, or just general questions, please feel free to send a message to either Kim or myself. I look forward to helping all member learn about this strategy and hopefully implement it themselves.


January 2019 update - Leveraged Anchor

In January 2019 we started tracking the leverage version of the Anchor for performance purposes. The leveraged version has been extensively backtested to fine tune the system for optimal results. Here are the highlights of the new implementation:
 

  1. We now use deep in the money calls, as opposed to long stock positions, and we are able to gain leverage without having to utilize margin interest.  Given the rising interest rate environment we are in, and the high cost of margin interest rates generally, this can lead to significant savings;
     
  2. When we enter the trade, we look for a long call that has a delta of around 90.  As the market falls, delta will shrink.  For instance, if SPY were to decline ten percent, our long calls would have declined by less than nine percent.  The closer we get to our long strike, the slower this decline;
     
  3. In the event of very large crashes, we can actually make money. See How Anchor Survived The 2020 Crash.
     
  4. Losses are capped.  In the below example, the maximum loss is 9.5%.  This can increase if we keep rolling the short puts throughout the downturn, but in any one “crash,” losses are limited to the ten percentage point mark (in Traditional Anchor this 9.5% max loss in one period is better, coming in at 8.5%).  If we apply a momentum filter as well, then the risk of continuingly losing on the short puts declines; Please read The Downside Of Anchor for more details.
     
  5. In larger bull markets, the Leveraged Anchor outperforms both Traditional Anchor and simply being long stock as there is actual leverage being used.  Some of this will depend on just how fast the market is rising and how often the long hedge is rolled, but in large bull markets, it should still regularly outperform.  In fact, in any one period where the market grows more than 3.5% to 4.0%, the Leveraged Anchor will outperform simply being long SPY.  The Leveraged version of Anchor will always outperform Traditional Anchor in any up markets.

 

One question that must be addressed is just how much leverage to use?  Luckily this is very easy to model on a thirty day period, with SPY at 250:
 

image.png

Above is a table showing the performance of SPY, then using 25% leverage, 50%, and 75% leverage after certain market moves over a thirty day period.  After reviewing the above, and similar tables over longer periods of time, we made a decision that utilizing 50% leverage was optimal.  You of course can adjust, taking on more leverage, or less, as you see fit.  Note the above table does not include any gains from BIL dividends.  That should add around 10 to 20 basis points more performance per month on the leveraged versions.

Overall, we should expect the leveraged to slightly outperform the market in strong bull markets, significantly outperform in strong bear markets, and slightly underperform in sideways or slightly up/down markets (+-10%).

You can read more about the strategy here.

Since inception, the leveraged Anchor is up 82.3%, compared to S&P 500 return of 49.8% (as of 12/31/2020).
 

In April 2020 we began tracking a  Diversified Leveraged Anchor strategy , under the theory that, over time, a diversified portfolio performs better than an undiversified portfolio in numerous metrics. 

The results of Diversified Anchor are nothing short of spectacular. Here are the results as shared on members forums (12/31/2020 values compared to 4/17/2020):

  • EFA Anchor - 40.6% gain, compared to 30.1% gain of the index
  • QQQ Anchor - 59.2% gain, compared to 47.1% gain of the index
  • IWM Anchor - 67.2% gain, compared to 51.1% gain of the index

The tracking of all three portfolios (in addition to the main SPY portfolio) is included in the Anchor subscription at no extra cost.

 

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Hi @Kim and @cwelsh

I just (re)enrolled in Anchor and find the new system with synthetic stock interesting. I have been looking at all the links provided in the "Welcome" but have a few questions I havent been able to find answers to.

a) When to roll the core synthetics (calls and puts) if ever?

b) The explanation of the strategy states to buy puts ATM - 5%, but other state ATM. Which is it?

c) Am I correct that the puts we short are delta 55, close to ATM? Isnt that "risky" in regard to the current volatility?

d) Why 365 days options and not even longer 730 days? Liquidity?

e) When purchasing the options, where to place our bid: middle of bid/offer or?

f) Several posts warn about opening Anchor now due to high IV, but when I look at current pricing it seems that weekly puts bring in 1/7 of the cost of the 365 day - so high volatility only need to be present for a few more months

g) The system aims at 75% leverage. What risks are the with more leverage (the system makes money in all market situations - except flat)

h) Why do we use SPY and not QQQ

i) I have seen other systems that use VIX as a hedge. VIX tends to move average 16% on a 3% down stock move, which would give even more bang for the buck protection wise. Have VIX calls been considered as a hedge instead of PUT options?

 

Edited by JacobH

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a.  You should roll the calls either (a) after a full year has gone by and you can sell them for a long term gain instead of a short, or (b) after a large market decline to be able to participate in a market rebound.

 

Item B merits discussion.  One of the advantages of using long calls is as the market declines, so does the delta of the long position.  When the position was opened, delta may be around .9 -- which means if the market drops $1, the long calls go down $0.90.  However, as things decline, so does the delta.  So after a crash, the delta might be 0.7.  This means if the market keeps going down, your long position is declining at a decreasing rate, while your long puts have a delta near one.  So in Leveraged Anchor, you're actually better off with a BIGGER crash, as your account can start going up in value.  We saw this actually occur over the last month.  The trade off is as markets rebound your account will go DOWN in value.  This can be combated by, at some point during a decline, rolling the calls down and out to a higher delta.  The disadvantages of such a move include (a) it requires cash, (b) you are realizing a loss on the calls while not realizing a gain on the puts, and (c) if the markets keep going down, you'll be worse off than if you had not rolled down and out.  Of course the long puts are still there, but you will be a bit worse off.

 

a.  As for when to roll the puts, the general answer is only as things go up.  I did post an article discussing when this may not hold true: https://steadyoptions.com/articles/anchor-analysis-and-options-r564/.

 

b.  We normally by the hedge of the long calls 5% out of the money.  They're significantly cheaper than an ATM position.  For instance, the March 31 2021 at the money put (280) is currently trading at $32.  5% in the money (266) is around 26.50.  The first ends up costing the portfolio about 11.5%, the second 9.5%.  So in essence we're "risking" a 3% down turn to get a cheaper hedge.  Given the postive skew of markets over time, and the fact the biggest drag on the portfolio is the hedge, this is a tradeoff most members are happy with.  Though some DO stick to the ATM hedge.   

 

But then we also have to hedge the short puts, which are the most risky portion of the portfolio.  We use ATM puts for that to reduce risk.

 

c.  It depends on if its a new or old portfolio.  For the older ones, for instance the model portfolio, we currently are hedging the short puts at SPY 327, which has a delta of almost one.  So selling a 55 delta put has relatively low risk.  The premium is huge (which is necessary to pay for the more expensive hedge), and the long 327 puts do an awfully good job of hedging it if the market goes down.  If you're opening a new portfolio, yes the risk is higher, but you also need the higher credits to pay for the hedge.  If you're risk adverse, you can always move toward the ATM position, but be more aggressive rolling.

 

d.  Cost, delta, and necessity for adjustments.  On the long call side, your 435 day 200 call (first available after one year), is trading at an .88 delta, the same position 652 days out costs $3 more and has a .82 delta.  Not the largest swing, but one that will make a difference in an up market.  It also cost a bit more to get the same leverage.  On the put side, the same thing applies -- only as we anticipate having to roll the hedge up and out as markets rise, by moving further out in time, you've cut the amount you can roll "up and out."

 

e.  When I purchase the options, I always open the order well off the mid in my favor.  For instance, if I was buying a put and the spread was $1 - $2, I'd probably open the order around $1.25 or so and slowly increase it by a few cents every 30 seconds to a minute.  

 

f.  You are 100% correct -- if vol stays where it is, then the increased volatility will make paying for the more expensive hedge simple. However, if vol drops back to normal levels in a short period, you'll be in trouble.  Another thing to think of, as volatility drops, markets are likely going up -- which means you may have to roll the long hedge frequently (about every 7.5%-10% in market gains).  This increases cost even more, while at the same time the credits you get are declining.  I currently want to see the cost of the portfolio hedge at 8.,5% or lower to feel comfortable.  There's no magic with that number, it's what I'm comfortable with, for those entering a new Anchor, at these levels, they may still be able to pay for the hedge.

 

g.  Target leverage is based on an individual's risk tolerances.  More leverage equals more risk in small market drops.  It also is more volatility, as prices will move more.  It's fairly easy to find the differences different leverage will have using excel.  Just build out the position with various amounts of leverage, and then calculate the value of the portfolio on various stock ending prices.

 

h.  SPY is more liquid and more representative of the whole market -- QQQ is tech slanted.  If you have $200k or more, then you could implement a diverse Anchor using IWM, EFA, QQQ, and SPY.

 

i.  We've tried a variety of different hedging techniques and learned that any hedge that does not exactly mirror the underlying instrument results in tracking error at some point.  For instance, at one time we tried a basket of stocks that we liked and hedged with SPY.  Worked great until dividend stocks really under performed SPY and we were heavy in dividend stocks.  We tried using a blend of similar instruments to SPY (SDY, RSP, and VIG), which, over the last 30 years or so, would have outperformed SPY in up markets and down markets.  Until the last three years, in which case SPY outperformed them all and lagged.  Similar on down turns.  If you're not in the SAME instrument, there will be slippage.  You might be ok with that depending on how much and the price.

 

This is called "correlation," and if the two instruments do not have a HIGH degree of correlation, you risk under performance.

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The problem comes in hedging, as the prices do not move in unison.  E.g. if SPY drops $1 a VIX call is not going to go up $1.  

 

I just pulled both charts for today, SPY is up 1.7% and VIX is down 3.2% -- so not only can you not match dollar moves, you can't match percentage moves.

 

I'm not saying there's not a way to do it -- and it might even work better in very large moves down (as VIX can go through the roof quickly), but I'm not sure how comfortable I'd be using as it replacement for SPY puts.

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@cwelsh and @Kim

I am interesting in starting anchor trades.

-Is "diversified anchor" still available and included in the subscription to the anchor trades forum?

-how much capital is used up when running a normal allocation of anchor trades?  For example, if I have a $100,000 account and I want to use all of that to trade anchor trades, would that entire $100,000 be used at any given time or would I have some cash available to trade other strategies using the same capital such as steady options earnings type trades?    (this would be in an IRA, reg. T type account)

 

Thank you!

 

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6 hours ago, FrankTheTank said:

@cwelsh and @Kim

I am interesting in starting anchor trades.

-Is "diversified anchor" still available and included in the subscription to the anchor trades forum?

-how much capital is used up when running a normal allocation of anchor trades?  For example, if I have a $100,000 account and I want to use all of that to trade anchor trades, would that entire $100,000 be used at any given time or would I have some cash available to trade other strategies using the same capital such as steady options earnings type trades?    (this would be in an IRA, reg. T type account)

 

Thank you!

 

Yes it is. Full model portfolios of EFA, IWM and QQQ, in addition to SPY. Each portfolio started with $100k (all of them more than doubled since last April), and you see the exact number of contracts used. There is some cash in some of them, but not much. But you can always adjust the number of contracts to have more cash.

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7 hours ago, FrankTheTank said:

@cwelsh and @Kim

I am interesting in starting anchor trades.

-Is "diversified anchor" still available and included in the subscription to the anchor trades forum?

-how much capital is used up when running a normal allocation of anchor trades?  For example, if I have a $100,000 account and I want to use all of that to trade anchor trades, would that entire $100,000 be used at any given time or would I have some cash available to trade other strategies using the same capital such as steady options earnings type trades?    (this would be in an IRA, reg. T type account)

 

Thank you!

 

To expand on this, due to contract sizing, there are certain minimums.  For instance, on an account I opened today, we used the March 18, 2022 245 contract on SPY. That's trading right at $149/contract.  There is no way to do Anchor with less than two contracts (more is ideal).  That means you'd need $29,800 for the long calls, $6,600 for the hedge, and $4,000 for the diagonal, or $40,000.  That would also have you controlling close to $80,000 in stock or exactly 100% leverage.  With $50,000, that reduces the leverage a bit.  That's why I tell people you must have at least $50,000 to start Anchor on just SPY.

 

For diversified, I try to say $150,000.  At that point you can reliably get into two of of them (SPY and IWM are the two I typically suggest if you can't do all four, or SPY and EFA -- just depends on if youd rather be in international or small caps).  

 

Also in an IRA account, you HAVE to have cash on hand because you can't ever use margin.  When you open the first diagonal, you might do the 390/390 diagonal. But as the market moves up you may end up in the 390/395, in which case you'd need $500 in cash per contract in an IRA account.

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On 2/19/2021 at 2:48 PM, cwelsh said:

For diversified, I try to say $150,000.

Is the $150k a barely tolerable minimum that good cause problems or a good rational choice to start with?  The reason I ask is that the numbers you posted show zero wiggle room at 40k so I wonder if 50 is sufficient.  I'm sure after I have familiarized myself with this approach that I would have the answer, but I'm just now looking at "Anchor" so don't really have an opinion yet.

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@cwelsh So expanding on the question above about trading this strategy in an IRA -- how much drag on the returns are there when the options have to be cash secured?  I'm assuming there must be members that trade this in a 401K or IRA but it seems like the model portfolio and performance pages are showing what this looks like in a regular margin account.  So when there is a market drawdown does this mean the IRA account holders wouldn't be able to use some of the strategies you've written about and implemented in 2020 to help catch the market upswing after a big drop?  I specifically refer to your article in April that went over 4 different options to utilize with Anchor if you wanted to participate in the upside.

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@cwelsh   

Hi Chris, I am a new member still trying to understand the total strategy. I started with the How To Start... topic, and have read almost everything in the forum. I cannot find a description of the "general rules" for rolling, or general maintenance rules of the portfolio positions. I understand when to roll, but it seems sometimes we roll the long puts to an expiry beyond the expiry of the long calls. Am I understanding that correctly? We roll the calls and puts with expiry independent of each other? When rolling long puts what is the guidance for choosing expiry? If this is available as a forum post, please redirect me to it. Thanks!

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Hello, does it make sense to subscribe to the Anchor Strategy now (based on the open positions) or we need to wait until the start of the year to follow better with the new trades?

Thanks

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@cwelsh ,

I'm not sure I've seen this specific question addressed.  Between my wife and I our employer tax deferred retirement accounts (403b/457b) have grown and have become a pain to manage, causing me to lose some sleep at times with the risk I'm carrying there.  It dawned on me and I think this is possible to use Anchor here. Could one buy an S&P equivalent index matching fund (like VIIIX or VFIAX) in those employer accounts, beta-weight that combined position against SPY and employ the anchor hedging gadgets in my IRA?

 

I think the ITM call could be synthetically made by buying a beta-weighted number of long puts at the same expiration and strike as the ITM call in the IRA.  I realize there would be no leverage but at that point I wouldn't really care as there would at least be protection in the aggregate of tax deferred accounts.

 

Would there be any other limitations, such as if anchor sells shorter duration calls against the long duration ITM call (where then I wouldn't have a long call in the IRA)?  If not I think it might work.  Let me know what you think or if I'm missing anything.

Thanks,

Tim   

 

Edited by luxmon
cleaned up some formatting

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what is the tax adjusted returns for this strategy ? i am in a high tax bracket, with the frequent trades and not being able to compound my earnings, due to tax payments, how much ahead of the index will I be ? 

 

do you have any projections from your prior performance how this would perform against a buy and hold approach after factor in the capital gains tax savings and effects of compounding? 

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On 8/27/2021 at 9:21 PM, skalmadi said:

what is the tax adjusted returns for this strategy ? i am in a high tax bracket, with the frequent trades and not being able to compound my earnings, due to tax payments, how much ahead of the index will I be ? 

 

do you have any projections from your prior performance how this would perform against a buy and hold approach after factor in the capital gains tax savings and effects of compounding? 

I should make an entire thread on this.  The short answer is that it is more efficient than a normal high frequency trading, as we manage for long term capital gains, so higher income tax brackets hopefully won't matter as much.  The bad news is that it is not as TAX efficient as long term buy and hold.  However, any advisor will tell you managing for taxes is not the worlds smartest move.  For example, buying a tax free muni that pays 0.02% vs. buying a just as secure taxable bond paying 5% would be a dumb decision.  

 

That said, there are situations where we do "in year" rolls on the calls -- rarely for a profit though, and if it is, then the profit likely won't be large.  In-year rolls are almost always after a large market draw down.

 

Due to the frequency of this question when I've been out marketing the new fund, I put together the following spreadsheet (NOTE THIS IS NOT TAX ADVICE, it's merely my theoretical calculations, everyone's tax situation is different).

 

The chart assumes trading Anchor on SPY, which rolls every year vs. just holding SPY, and starting with a balance of $100,000.

 

image.png.195804a3f9cfe8bfecbeff3af0531cd2.png

 

Every December, the end of year balance was taken in the "Strategy" column, and long term capital gains were applied.  Granted this is a rough calculation, as the rolls don't happen on December 31, but it shows what I want it to fairly well.

 

The above is reality, but I have manipulated the series of returns, and here are the general conclusions:

 

1.  If the strategy performs as expected in large up markets, even paying taxes, you're better off;

2.  If the strategy performs as expected in large down markets, even paying taxes, you're better off (often significantly);

3.  If the strategy performs as expected in flat to smaller down markets, you are probably better off in SPY, but that's because the strategy under performs, NOT because of taxes (in that case, you'll actually have a taxable loss in both situations);

4.  In smaller up markets, you are better off in SPY.  

 

The Anchor strategy aims for market like returns with less volatility.  On a extended period of time that should lead to market outperformance, even including taxes.  However if we have a "lost decade" type market, where we see 5-10 years of market returns between 5% and -5% and also low volatility, we most certainly will underperform.  Provided of course that carries across everything we're diversified in.

 

If you're looking for a "simple" rule, if both SPY and Anchor returned exactly 10% for five years and then you exited both positions, SPY would be up about 48.8% and Anchor would be up 46.9%.  

 

(That's the difference in taking 10% per year and paying your 20% taxes every year and taking 10% per year and paying your 20% taxes at the end).  

 

Obviously if you don't EVER sell the position, the difference is more dramatic.

 

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This is a very interesting system/method.  However, in less I am missing something you are not using your margin efficiently as you could and thus could get even better returns.

The position set up you recommend includes a DITM call and slightly OTM put.  However this is synthetically the same as using an OTM Put and a slightly ITM call.  The big difference between the two is although the risk is the same, the cost (margin) required for your set up is 5 - 6 times greater than the cost of the synthetic alternative. I confirmed this with TOS as well as modeled it out.  So this is a big opportunity to trade this in a much smaller account as well as having much better results if you use the same amount of margin but use the OTM options.

Secondly, when comparing to buy and hold, you do need to consider that the SPY does have approximately a 5% annual dividend which of course you do not get when using the long term options.

 

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4 minutes ago, termn8er said:

This is a very interesting system/method.  However, in less I am missing something you are not using your margin efficiently as you could and thus could get even better returns.

The position set up you recommend includes a DITM call and slightly OTM put.  However this is synthetically the same as using an OTM Put and a slightly ITM call.  The big difference between the two is although the risk is the same, the cost (margin) required for your set up is 5 - 6 times greater than the cost of the synthetic alternative. I confirmed this with TOS as well as modeled it out.  So this is a big opportunity to trade this in a much smaller account as well as having much better results if you use the same amount of margin but use the OTM options.

Secondly, when comparing to buy and hold, you do need to consider that the SPY does have approximately a 5% annual dividend which of course you do not get when using the long term options.

 

The strategy uses NO margin and you even have cash left over to control the synthetic leverage you are obtaining.

 

The current yield on SPY from dividends is 1.3% (not 5%), which is baked into the option prices (trust me, I've beat my head on the wall on arbitrage dividend capture strategies for years, those are really priced in.

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Chris, 

Thanks for the reply and clarifying the dividends as that's the number TOS gave me.  However on the margin side (I know you are not using margin leverage).

If I set up the basic position today using your method it would look as follows:

Long 1 16 Sep 22 call @ 255

Long 1 16 Sep 22 put @ 435  Total cost = $218.75

My suggestion is:

Long 1 16 Sep 22 put @ 255

Long 1 16 Sep 22 call @ 435 Total cost  = $37.51

While these might not be exactly what strikes you would pick the example still holds. The two positions are synthetically the same. However my approach would yield the same dollar returns but much higher % on capital.  Plus I can trade this which a much smaller account now.  Additionally since I am using so little capital compared to the original approach, I can buy closer to the money puts and still be way ahead of the game as far as capital in the trade and thus have much greater downside protection.

So what am I missing?

 

 

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Using the same amount of cash on a smaller account means much higher leverage. Which means you will have much higher losses and drawdowns when the strategy works against you.

The amount of leverage is determined not by the cash used, but by the amount of the stock you control. 

For example, if you have 100k account and SPY is at $440, buying 4 contracts means you control $176k worth of SPY stock. If you use a smaller account because you can buy the same number of contracts using your synthetic position for less cash means much higher leverage and higher risk.

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So after thinking about this further I do understand what you mean by I'm using more leverage. With your trade you are risking about roughly 15% of the capital deployed where I'm risking 100% of the capital deployed. So based on that if I increase my size at all I am absolutely adding more risk to the trade. With that said again if somebody had a smaller account they would be risking a much higher percentage of it. However I still believe that my approach for the same size account as you recommend would be a better use of capital as I have roughly 18,000 that I can just keep in cash versus put in the trade

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The risk on capital is not higher, but the risk on the whole account is.

The Anchor largest drawdown in 2020 was around 10%. So assuming $100k account, that would be around $10k loss. If it used your method, you would buy the same number of contracts but could use it in a $20k account. So your loss on the whole account would be 50% instead of 10%.

Yes, you could use it in the same account and have more cash. This maybe would be beneficial if you could get some risk free return on this cash. Otherwise it's really pretty useless.

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6 hours ago, Kim said:

if you have 100k account and SPY is at $440, buying 4 contracts means you control $176k worth of SPY stock.

That is if you buy 100 delta contracts. If you buy 80 delta, then you "just" control $140,800 worth of stock on inception. Still crazy leverage for the account under discussion, but I didn't want people to think that stock options control 100 shares as that only happens if your strike becomes super deep in the money.

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21 hours ago, Bullfighter said:

That is if you buy 100 delta contracts. If you buy 80 delta, then you "just" control $140,800 worth of stock on inception. Still crazy leverage for the account under discussion, but I didn't want people to think that stock options control 100 shares as that only happens if your strike becomes super deep in the money.

No you still control the same number of shares -- they just don't move in unison with the share price.

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54 minutes ago, cwelsh said:

No you still control the same number of shares -- they just don't move in unison with the share price.

If you have one 80 delta contract, I guess if you are a fan of the associative property you could say you control 80% of 100 shares. However, you most certainly don't control 100 full shares. If you did, $1 increase in the underlying would mean $100 profit of your single call position (ceteris paribus), and that it not the case unless the option is 100 delta. Or more importantly, in the example above with 4 SPY 80 delta call contracts, you are not controlling $176K worth of SPY, but $140,800, and a $1 increase in SPY from 440 to 441 would give you $360 profit not $400, again ceteris paribus, and assuming delta remained constant during that stretch -it probably increased a bit (certainly not to be equivalent to 100 full shares though).

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On 10/15/2021 at 3:06 PM, Bullfighter said:

If you have one 80 delta contract, I guess if you are a fan of the associative property you could say you control 80% of 100 shares. However, you most certainly don't control 100 full shares. If you did, $1 increase in the underlying would mean $100 profit of your single call position (ceteris paribus), and that it not the case unless the option is 100 delta. Or more importantly, in the example above with 4 SPY 80 delta call contracts, you are not controlling $176K worth of SPY, but $140,800, and a $1 increase in SPY from 440 to 441 would give you $360 profit not $400, again ceteris paribus, and assuming delta remained constant during that stretch -it probably increased a bit (certainly not to be equivalent to 100 full shares though).

You absolutely control the shares -- I can execute that contract at anytime and get 100 shares -- and you control them for less dollars.  We gain implicit leverage from the use of options -- that's why these trades work well.  One contract = control of 100 shares (or if its a short contract, it represents an obligation).

 

Think of it the other way around -- if you are short a call and it gets exercised, you have the obligation to deliver 100 shares.  You might profit $X, but it still applies to 100 shares

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Indeed. Couldn't agree more. We are talking about different things. One call contract gives you the right to purchase 100 shares, but if you buy the contract already deep in the money, for instance 80 delta, you are not doing it to purchase the underlying, as that would mean losing money on all the extrinsic value you would be giving up. The reason to buy deep ITM calls is to get leverage, in other words, control more nominal value of the underlying with less outright funds. As such, an 80 delta call controls the equivalent of 80 shares in dollar terms. Of course if you execute the contract you will buy 100 shares, if you pony up the money needed to do so. That's not what my point was all about in the dialog between term8er and Kim.

My point is that four 80 delta calls on SPY have the same dollar exposure to SPY movement as 360 shares of SPY on inception, not 400 shares. And I say inception, because delta is dynamic, so when SPY moves the delta and therefore the exposure will be different.

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2 minutes ago, Bullfighter said:

Indeed. Couldn't agree more. We are talking about different things. One call contract gives you the right to purchase 100 shares, but if you buy the contract already deep in the money, for instance 80 delta, you are not doing it to purchase the underlying, as that would mean losing money on all the extrinsic value you would be giving up. The reason to buy deep ITM calls is to get leverage, in other words, control more nominal value of the underlying with less outright funds. As such, an 80 delta call controls the equivalent of 80 shares in dollar terms. Of course if you execute the contract you will buy 100 shares, if you pony up the money needed to do so. That's not what my point was all about in the dialog between term8er and Kim.

My point is that four 80 delta calls on SPY have the same dollar exposure to SPY movement as 360 shares of SPY on inception, not 400 shares. And I say inception, because delta is dynamic, so when SPY moves the delta and therefore the exposure will be different.

I don't understand ... you still control 100 shares.  Yes P/L changes based on delta (and as the price goes up, the closer to a delta of 1 you get, which is an advantage because that also means you lose less as the market goes down), but you're still controlling 100 shares.

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Maybe control is not the right word. Maybe P/L exposure would be better. What I mean is that you are given P/L exposure to an equivalent number of shares as your delta. 80 delta gives the equivalent P/L exposure as 80 shares on inception. 50 delta 50 shares, 30 delta 30 shares, and so on. If you buy one 20 delta call SPY contract with SPY at 440, and SPY moves 1 dollar up, it is not going to be the same as owning 100 shares of SPY bought at 440, for a profit of $100. It is going to be a more modest profit, probably more than $20 since gamma will influence delta and this will be more than 20 now, and there may be some vega effects, etc., but for sure not $100.

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22 hours ago, Bullfighter said:

Maybe control is not the right word. Maybe P/L exposure would be better. What I mean is that you are given P/L exposure to an equivalent number of shares as your delta. 80 delta gives the equivalent P/L exposure as 80 shares on inception. 50 delta 50 shares, 30 delta 30 shares, and so on. If you buy one 20 delta call SPY contract with SPY at 440, and SPY moves 1 dollar up, it is not going to be the same as owning 100 shares of SPY bought at 440, for a profit of $100. It is going to be a more modest profit, probably more than $20 since gamma will influence delta and this will be more than 20 now, and there may be some vega effects, etc., but for sure not $100.

Except you're now ignoring the implicit leverage you get from a 90 (or in your example) 80 delta position.  If you buy 100 shares of SPY when it's at 450, it will cost you $45,000. Whereas the 90 delta position is trading at $151 one year out.  So, at the time  you open, you get 90% of the upside for 1/3 of the cost.  So you can control 200 shares for $30,000 and get 90% of the upside -- which crushes the performance of just owning the shares outright.

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38 minutes ago, cwelsh said:

Except you're now ignoring the implicit leverage you get from a 90 (or in your example) 80 delta position.  If you buy 100 shares of SPY when it's at 450, it will cost you $45,000. Whereas the 90 delta position is trading at $151 one year out.  So, at the time  you open, you get 90% of the upside for 1/3 of the cost.  So you can control 200 shares for $30,000 and get 90% of the upside -- which crushes the performance of just owning the shares outright.

I am not ignoring it. I am embracing it. That is not what I am saying. I give up. I don't if that's because English is not my first language.

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20 minutes ago, Bullfighter said:

I am not ignoring it. I am embracing it. That is not what I am saying. I give up. I don't if that's because English is not my first language.

I'm not trying to argue, I just don't quite understand the path of the conversation or what we're trying to solve here :P

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    • By cwelsh
      Below is a presentation of both calculations. Note this is a discussion on the current portfolio.  Actual losses in new or differently structured portfolios may vary dramatically. 

      The current Leveraged Anchor portfolio looks like (as of July 15, 2019):
       

           
      Before we continue, lets take a look at the model we posted in our Leveraged Anchor Implementation article when we just started the Leveraged Anchor implementation:

                 
      The current implementation is using 50% leverage. 

      SPY was up around 20% YTD on July 15, 2019. Based on the table, the Anchor was expected to slightly lag (1-2%). In reality, it produced 23.8% return, actually outperforming the markets.

      Now, lets look at the maximum loss. It is going to occur at some point after the long call is worth zero.  Hypothetically, that would occur Dec 31 when there is zero time value left in the long calls. Let’s say there’s a catastrophic September 11 type event, and the markets open on December 31 at SPY 175.  We picked 175 because that’s the “worst case” ending price of SPY.  If it continues to go down after that point, our long puts become more profitable.  In this hypothetical on December 31, the Leveraged Anchor Portfolio would look like:
       

                     
      Our starting investment of the year was $100,000.  In the event that the market declines 41% from its current position (30% from the start of the year price), the Leveraged Anchor portfolio would be down 7.5% on the year -- and that’s ignoring any additional cash we’d get between now and the end of the year from BIL dividends and put rolls.  At that same time, the market as a whole would be down just over 30%.  In other words, a good result.
       
      For those who want to see what a bigger crash would look (as opposed to just trusting that bigger crashes are better), below assumes a price of SPY 100 on December 31:
       

       
      As noted earlier, the farther the market drops below 175, the better the Leveraged Anchor will perform. If the market dropped 60% YTD, Anchor would be up 37.7%. As currently constructed if we make no more trades, the worst case scenario of the year is down 7.5%. This is significantly better than being simply long in the market.
       
      However, all of the above assumes a “static” investment – ignoring the rolls of the short puts, the return of BIL, and other dynamic events.  It is entirely possible to end with a result worse than above if the market enters a prolonged “slow” decline, as you would lose some on the short puts each time they were rolled.
       
      Take the following example which assumes that on July 29, the market is at SPY 295.5 – only slightly below our present price of around 298.5 (prices were derived using CBOE’s option calculator):
       

                     
      Due to the small decline in SPY, a loss on the short puts would be realized, but the benefit of the long puts has not really kicked in.  This can easily continue until SPY gets to the 270 range.  If the market follows a down trending pattern which looks like:
       

       
      then we end up with the true worst case scenario, as not only have the long calls lost value, but we have lost value rolling the short puts every three weeks.  Note to reach this worst case scenario, there is a price decline over 3 weeks, so we fully realize the loss on the sort puts, but then there’s a market rebound leading to a sale of a put at a higher level (that is not quite as high as the original price), followed by another 3 week decline.  Both Leveraged Anchor and Anchor suffer the most when there is a 3 week market decline, followed by a rebound back up, followed by a three week decline, and this pattern continues for an extended time.  This can lead to the bleeding of a few thousand dollars each roll period. 
       
      If you assume that style of decline over the entire year leading up to the long call expiration  (7 more three week periods), it would be possible to lose another $20,000 or so, just depending on the angle of descent of the market decline – the shallower the decline, the worse off Anchor would be.  This is part of the reason why Leveraged Anchor has the short puts hedged at the money, while the long calls are hedged five percent out of the money.  By hedging the short puts at the money, we reduce the potential drawdowns from a slow decline pattern.
       
      Of course, in the history of the stock market, the above charted pattern has never declined in that orderly of a fashion for a six month period, much less an entire year.  It’s much more frequent to have sharper declines, rebounds back above the original price, flat periods, etc..  The chance of going down then back up almost to the starting point, then back down – all on exact 3 week cycles, isn’t likely, but it could happen.  Once the stairstep down pattern hits the long hedge, small bleeding really starts to be limited, as that hedge goes up in value. 
       
      In this worst case, performance of the Anchor strategy will be the worst in a market with an extended pattern as graphed above until the hedge kicks in.  This result would be worse than the 7.5% “one day” catastrophic worst case loss scenario.
       
      In our opinion, the “worst” loss someone should expect in the current portfolio is somewhere around a 15% decline from the starting $100,000 investment.   That would require significant “stair stepping” down, in three-week cycles, and the price of SPY ending up right at 175 in December.  That is an awfully specific set of conditions that has to be met to reach that point, but it certainly could happen.  (Note: this is not the maximum theoretical loss, rather our maximum expected loss.  The maximum possible loss should everything go wrong is higher). 
       
      Remember, the above is a “worst case” analysis – which Anchor is certainly designed to combat and provide better alternatives than simply being in the market.  The above analysis shows Anchor will still significantly out-perform the market in major declines, but it is not “lossless” as some people believe. 
       
      Personally, I greatly appreciate the tradeoff in a catastrophic event or even in sharp downturns.  But I also understand the risks, worst case scenarios, and the market conditions which damage the trade the most.  Anyone trading the strategy should have such an understanding. 

      If you would like to give it a try, you can sign up here.
       
      Christopher Welsh is a licensed investment advisor and president of LorintineCapital, LP. He provides investment advice to clients all over the United States and around the world. Christopher has been in financial services since 2008 and is a CERTIFIED FINANCIAL PLANNER™. Working with a CFP® professional represents the highest standard of financial planning advice. Christopher has a J.D. from the SMU Dedman School of Law, a Bachelor of Science in Computer Science, and a Bachelor of Science in Economics. Christopher is a regular contributor to the Steady Options Anchor Trades and Lorintine CapitalBlog.
       
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    • By Kim
      This is how the Anchor portfolio looked like on Feb.6 2020, two weeks before the start of the decline:



      SPY was at 334, total portfolio value around $143k. This is how the P/L chart looked like:
       


      With 8 SPY contracts, this translates to x1.85 leverage. This setup obviously should perform very well on the upside (the portfolio should easily outperform SPY on any upside move), but the downside doesn't look that great on this P/L chart.

      Lets see how things developed.
       
      Feb.28 2020, SPY at 290 (down 13%), Anchor down $15k (~10%):



      With SPY down 13%, the Anchor portfolio was down only 10%. This is normal and expected. The strategy is not designed to provide a total protection, especially in smaller declines. 

      It is worth mentioning that the puts are typically 5% OTM when opened. It’s entirely possible for Anchor to be up 7%, then the market drops, and we end up down 12% peak to trough (or even a bit more). The Downside of Anchor discusses it in more details.


      Two weeks later, March 12, SPY at 251 (down 25%), Anchor down only $4k (~3%):



      Now you can see how the protection kicks in after a bigger decline.

       
       Fast forward to March 19 2020, SPY at 234 (down 30%), Anchor UP $5k (~3%):
       


      Now, this is pretty amazing. How this was possible?

      Few factors contributed to this major outperformance:
      We used deep ITM calls instead of the stock. As the underlying declines, the delta of the calls decreases and they lose less value. In this case SPY declined $100, while the calls declined only $68.
        We have more long puts than short puts, so the gains of the long puts far outpace the losses of the short puts.
        During market crashes, IV jumps to the roof (in this case, VIX jumped from 16 to 80+). This caused the long puts to increase in value much more than expected. In addition, we got much more premium from the short puts when rolling. The bottom line: in the last 30 months, the strategy produced 36.6% CAGR, significantly outperforming the S&P 500, but at the same time provided a full protection during the market crash. To me, this is as close as it gets to the holly grail of investing.
       
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    • By Kim
      At SteadyOptions, we are not trying to predict when the next crash or meltdown will come. We are just trying to be prepared for all scenarios. For those of you who hold a "well diversified portfolio of high quality stocks and bonds" and believe you are protected - think again. To quote my partner Chris Welsh, “If your investment adviser has you in a small-cap fund, a mid-cap fund, a large-cap fund, a foreign investment fund, a commodity fund, a bond fund, and a high dividend fund such as a REIT or pipeline, and tells you that you’re adequately diversified, find a new investment adviser. In a market crash, ALL of those asset classes will get hammered.”
       
      So what's the answer? Protection of course. However, just buying protection is expensive. Even now when Implied Volatility is close to record lows, to fully protect your portfolio will cost you 7-10% per year. Are you willing to lag the market by 7-10% each year?
       
      Here where the Anchor Trades comes to rescue.
       
      The Anchor strategy's s primary objective is to have positive returns in all market conditions on an annual basis.
       
      It will achieve that goal in three basic steps:
      Step 1 - Buy stocks or ETFs.
      Step 2 - Fully hedge.
      Step 3 - Earn back the cost of the hedge.
       
      You can read full details here.
       
      As we can see, the strategy performed exactly as designed:
      In years when the market is operating in positive conditions (defined as an over 5% return on the S&P 500 on an annualized basis) the strategy targets lagging the S&P 500 by two to three percent. In neutral markets (defined as a return on the S&P 500 on an annualized basis between -3% to 3%), the strategy targets a five to seven percent return. And in negative market years (defined as a return on the S&P 500 of -5%) the strategy targets a return of five to seven percent. In extreme down years (defined as a return on the S&P 500 of under -10%), as explained in other threads, could lead to outsized gains.  
      The best time to start the Anchor strategy is when IV is low because you can buy the hedge really cheap. It makes perfect sense - are you buying your home insurance before your home goes on fire or after? You buy insurance when it's cheap, not when you need it. And if IV goes up, we will get more credit for the puts we sell.
       
      Protection is cheap now. If you are holding a long portfolio and are seeking to protect it against market crash, it is an excellent time to join Anchor Trades.
       
      Start Your Free Trial
    • By cwelsh
      Selling calls for a credit to help offset the cost of the hedge is, more often than not, a losing strategy over time in the Anchor strategy.  It tends to hurt performance more than help it; About a month is the ideal period for selling short puts over both in bull and bear markets.  This tends to be the ideal trade off between decay, being able to hold through minor price fluctuations, and available extrinsic value.  Since options come out weekly, we’ll be using a 28-day period; Rolling on a set day like Friday is not the most efficient method of rolling the short puts.  Rather having a profit target of between 35% to 50%, and rolling when that target is hit, leads to vastly improved outcomes.  Waiting until profits get above 50% tends to start negatively impacting the trade on average.  
      This month we’re going to look at another technique which has the possibility of increasing Anchor’s performance over time – namely reducing the hedge.
      Reducing the Hedge
      The single biggest cost to Anchor is the hedge.  Depending on when the hedge is purchased, it can cost anywhere from 5% to 15% of the value of the entire portfolio.  In large bull markets, which result in having to roll the hedge up several times in a year, we have seen this cost eat a substantial part of the gains in the underlying stocks and/or ETFs. 
       
      There is also the issue of not being “fully” invested and this resulting in lagging the market.  If the cost of the hedge is 8%, then we are only 92% long.  In other words if our ETFs go up 100 points, our portfolio would only go up 92 points.
       
      A large hedge cost also has a negative impact at the start of a bear market as well due to the losses on the short puts.  If the market drops a mild amount, particularly soon after purchasing the hedge, the losses on the short puts will exceed the gains on the long puts, negatively impacting performance.  This loss is less noticeable as the long hedge gets nearer to expiration and/or market losses increase as delta of the long hedge and the short puts both end up about the same.  However, as was seen a few years ago, if the market drops slightly, then rebounds, those losses on the short puts are realized and any gains on the long puts are lost when the market rebounds.
       
      If there was a way to reduce the cost of the hedge, without dramatically increasing risk, the entire strategy would benefit.  A possible solution comes from slightly “under hedging.”  Testing over the periods from 2012 to the present and from 2007 to the present has revealed if we only hedged 95% of the portfolio, returns would be significantly improved.
       
      Let’s take a look at the data from the close of market on September 14, 2018, when SPY was at 290.88.  If we were to enter the hedge, we would have bought the September 20, 2019 290 Puts for $14.96.  If we have a theoretical $90,000 portfolio, it would take 3.1 puts to hedge (we can’t have 3.1puts so we’ll round down to 3).  At that price, three puts would cost $4,488 or 5% of the portfolio (almost historically low). 
       
      However, if we were to say “I am not upset if I lose five percent of my portfolio value due to market movements; I am just really worried about large losses,” we could buy the 275 puts instead of the 290.  The 275 puts are trading at $10.61 – a discount of thirty percent. 
       
      This means we need less short puts to pay for the position, paying for the position is a simpler process, and rolling up in a large bull market is cheaper.
       
      Yes it comes at a cost – risking the first five percent – but given the stock markets trend positive over time, this pays off in spades over longer investment horizons.  Even if you are near retirement, any planning you do should not be largely impacted by a five percent loss, but the gains which can come from (a) having a larger portion of your portfolio invested in long positions instead of the hedge (meaning less lag in market gains), (b) having less risk on the short puts in minor market fluctuations, and (c) paying for the hedge in full more frequently more than offset that over time.
       
      We will implement this in the official Anchor portfolios by simply delaying a roll up from gains.  The official portfolio is in the January 19, 2019 280 puts.  We’d normally roll around a 7% or 10% gain (or around SPY 300), instead we’ll just hold until we get to our five percent margin.  OR when we roll the long puts around the start of December, we’ll then roll out and down to hit our target.
       
      Note – if you do want to continue to be “fully” hedged, you can do so.  There’s nothing wrong with this, you just sacrifice significant upside potential and will be continuing to perform as Anchor has recently.  If we had implemented this change in 2012, Anchor’s performance would have been more than five percent per year higher.  This is not an insignificant difference. 

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    • By cwelsh
      Historically diversified portfolios, over time, outperform concentrated portfolios with less risk and volatility.  The simple reason for such results is that different asset classes perform differently year to year:
       

       
      Regardless of which asset you picked from the above table, in some years it would perform well comparatively and others not as well.  This volatility can be (partially) eliminated through diversification.  Simply blending large caps, small caps, and international would significantly increase a portfolio performance over time.  Numerous studies (and a simple google search) can confirm this fact.
       


      We took this basic investment premise in 2020 and applied it to Leveraged Anchor.  Unfortunately, we know that Leveraged Anchor does not “work” well on certain instruments (such as GLD or SLV) or those with already extremely low volatility, such as government bond indexes.  Thus, we elected to use a blend of the S&P 500 (SPY), the Russell 2000 (IWM/Small Caps), Large Cap International (EFA), and Technology (QQQ).  An argument could be made against QQQ as there is some overlap between it and SPY and that both are concentrated in US Large Caps.  However, it performs well with Anchor, and demonstrated low correlation with SPY at the time it was selected.  If it and SPY become highly correlated again, we may look to substitute a high-volume REIT ETF after testing. 
       
      One year after beginning trading, the results speak for themselves.  Here are the monthly returns for the Diversified Leveraged Anchor strategy:
       

       
      All of the starting values were slightly different, as each was based upon whole contracts, with a target investment of each sector between $130,000 - $140,000.  Note these results do not include commissions.  Any one of the four sectors performance was impressive, but the blend of the four was even better.
       
      An annual return of 57.70%, with a Sharpe ratio of 2.81, are returns no one should ever complain of – unless it was worse than just holding the underlying instruments, on a risk adjusted basis. Using published data from Morningstar, and starting with identical balances (so fractional shares were permitted), the returns of the underling ETFs over the same period were:
       

       
      As can be seen, if an investor had simply put their holdings in the same ETFs, they would have only returned 43.70% -- without any hedging in place.
       
      For a more succinct break down, over the last twelve months:
       
      Leveraged Anchor on SPY returned 44.19% while SPY itself only returned 38.65% (5.54% outperformance, while being hedged)
        Leveraged Anchor on EFA returned 40.97%, while EFA returned 37.33% (3.64% outperformance, while being hedged)
        Leveraged Anchor on QQQ returned 55.00%, while QQQ returned 27.79% (27.21% outperformance, while being hedged)
        Leveraged Anchor on IWM returned 90.86%, while IWM returned 71.62% (19.24% outperformance, while being hedged)
        Diversified Leveraged Anchor returned 57.70%, while a diversified ETF returned 43.70% (14.0% outperformance, while being hedged)  
      In other words, Leveraged Anchor worked on all four instruments, provided excess returns in a bull market, while still protecting against large drawdowns.
       
      Not surprisingly, the higher volatility instruments had a larger spread over the underlying instrument.  This is primarily due to the higher credits received.  We should expect the opposite to occur in extended drawdowns – which is another reason to continue to diversify.
       
      Because of the strategy’s continued success, in the very near future we will be launching this as a fund investment, with the goal of raising substantial capital.  All Steady Options members will be given the opportunity to invest in it first, as well as to help grow the fund via a solicitor arrangement if they so desire. 
       
      If anyone has any questions regarding the Diversified Leveraged Anchor strategy, please post your questions or email me at cwelsh@lorintinecapital.com.

       
      Christopher Welsh is a licensed investment advisor and president of LorintineCapital, LP. He provides investment advice to clients all over the United States and around the world. Christopher has been in financial services since 2008 and is a CERTIFIED FINANCIAL PLANNER™. Working with a CFP® professional represents the highest standard of financial planning advice. Christopher has a J.D. from the SMU Dedman School of Law, a Bachelor of Science in Computer Science, and a Bachelor of Science in Economics. Christopher is a regular contributor to the Steady Options Anchor Trades and Lorintine CapitalBlog.

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    • By cwelsh
      One of the “best” things for Leveraged Anchor occurred in February and March.  Up to this point, Leveraged Anchor’s success in a down market was largely theoretical.  We knew the math was right, and that the strategy had been back tested in down markets, but it had not been subject to a “real” market correction when invested.

      On February 6, 2020, Leveraged Anchor rolled its short position and long hedge when SPY was at 333.72.  Shortly after this the markets started to experience some volatility.  By the end of February, SPY had dropped 12.6%, the tracking account was assigned on the short position, and the value of the Leveraged Anchor Portfolio had dropped almost 9.5% drop from its peak and dropped 5.7% on the month. 

      With the market dropping 12.6% from the February 6 point and 9.3% on the month, Leveraged Anchor was outperforming, but the 9.5% drop (from the peak not from the point at which it was hedged) was a bit worrisome and some concerns developed on what would happen if the market kept dropping.  Well keep dropping it did.  Over the next few weeks, the market continued to plunge.  This quick plunge led the strategy to being assigned on the short puts again on March 23, 2020.  At this point the market had dropped all the way to 222.33 – losing over 33% of its value.  Yet over this same period, Leveraged Anchor rose back up some.
       
      In other words, from February 6, 2020, SPY dropped 33.4%.  Over this same time Leveraged Anchor only dropped 1.1%.  Leveraged Anchor was performing even better than expected.  The twin benefit of having a large volatility spike increase the value of the puts and the advantage of using a 90 delta call proved more than efficient in a large down market. A 90 delta call loses $0.90 for every $1 SPY declines.  Further, as SPY declines, the delta declines as well.  In practical terms the more dramatic the market drop, the less dramatic drop in the option.
       
      At this point we realized that, at some point, the market would rebound – and Anchor would not.  (As the calls go up in value, the puts go down in value, we would have been lucky to “stay even” on a rebound).  However, our puts were so much in the money we could roll them down, take profit and free up cash, and keep the delta of the put above 90.  In other words, if the markets continued to go down, we would not suffer by being under hedged.
       
      In April, when it looked like the markets were returning (SPY was already back up to 280), that is exactly what we did.  Then with that free cash, we increased our position size, which allowed the strategy to participate in some of the up market.  It of course will not be dollar for dollar, but if Anchor goes down 1% when the market goes down 33%, and then Anchor goes up 25% when the market goes up 50% (after a 33% market decline, a 50% rebound is needed to get back to break even), Anchor ends up over 20% ahead.
       
      Of interesting note, had we rolled the puts down and increased our sizing when SPY was at 222, as opposed to 280, instead of going from 7 to 8 call contracts, we would have gone from 7 to 10, and Anchor would have finished the year another up an additional 10%.  I know of at least one member who successfully bottom ticked the market and extracted over 10% more by doing exactly that.  Knowing that that the strategy could have done better than it did is simply amazing. 
       
      With the success of the strategy, we began to think of how to improve it further, and an obvious solution presented itself – diversification.  Over the long term (and Leveraged Anchor is a long-term strategy), being diversified in different stock classes virtually always outperforms AND reduces volatility at the same time.  This led to the birth of Diversified Leveraged Anchor, also in April 2020.
       
      The timing of the launch could not have been better.  Over the past several years, the S&P 500 had been the top, or one of the top, performing asset classes.  However, over the next months, it would slip behind others. 

      Members are invited to read the Leveraged Anchor Implementation to see what the expectations were when the Anchor was launched. 
       


      Above is a table showing the performance of SPY, then using 25% leverage, 50%, and 75% leverage after certain market moves over a thirty day period.  After reviewing the above, and similar tables over longer periods of time, we made a decision that utilizing 50% leverage was optimal. As you can see, the strategy performed better than expected, in both bull and bear markets. If the market declines 40% or more, the portfolio would actually be in a positive territory. 

      On the year, Leveraged Anchor (SPY only), was up 31.7%, while the total return of the S&P 500 was 18.4%. This is an incredible result.  However, once applying diversification, the results improved even further.  The below results are from the time the diversified strategy launched (April), not from the start of the year.  The dates listed are the actual days the trade occurred:
       
       
        
                     
      The power of diversification can quickly be seen.  If the strategy remained only in SPY, it would have returned 35.93%, under performing each of the other three indexes.  By blending performance increased almost fifteen points to 50.74%. We would expect such results in every year that the S&P 500 is not the best performing index. 
       
      In the coming days, we will be:
      Re-balancing across the indexes if needed; and
        Exploring rolling the long call strikes up and out to increase cash and grow the position.  
      Rebalancing is a simple matter and must periodically be done to maintain the balance between each portion of the strategy.  However, concern must be given to potential tax consequences, changes in leverage, and, as fractional options are not available, what the possible rebalancing results look like. 
       
      Similarly, rolling the long calls to increase the position size (leverage), must be weighed against tax concerns.  It makes little sense to increase leverage by a few percentage points if there will be significant tax implications that can be avoid by waiting a few months.

      One of the questions we are often asked is "under what circumstances would you expect to lose money on the account?" We covered this in the The Downside Of Anchor article. 

      Another question is "How do newcomers "catch up" so everyone is playin the same game?" The members forum has a dedicated topic with detailed instructions of how to start a new portfolio. 
       
      While I know 2020 has been a tough, even tragic, year for many people, it certainly has not been for Anchor, and it is our hope that a growing portfolio using this strategy has at least somewhat helped. The strategy not only outperformed the markets, it also allowed our members to sleep well at night and not worry about market timing. 
       
      As always, if there are questions or suggestions, please do not hesitate to post them.  Anchor has had an incredible decade of evolution to get to this point, and I we are always open to improving it in other ways if it can be done.
       
      Christopher Welsh is a licensed investment advisor in the State of Texas and is the president of an investment firm, Lorintine Capital, LP which is a general partner of three separate private funds. He is also an attorney practicing in Dallas, Texas. Chris has been practicing since 2006 and is a CERTIFIED FINANCIAL PLANNER™. Working with a CFP® professional represents the highest standard of financial planning advice. He offers investment advice to his clients, both in the law practice and outside of it. Chris has a Bachelor of Science in Economics, a Bachelor of Science in Computer Science from Texas A&M University, and a law degree from Southern Methodist University. Chris manages the Anchor Trades portfolio and oversees Lorintine Capital's
       
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    • By cwelsh
      Prior to answering that question though, we must revisit what exactly Anchor is, and what it is not.  The Anchor Strategy is a hedging strategy that hedges on a year to year basis.  Many investors have been puzzled as to why Anchor has not been going up with the market over the past week (as SPY has gone from around 220 to 260, Anchor accounts have either remained flat or even gone down slightly).  That is to be expected from how the strategy is designed.  No investor should see substantial gains in their portfolio until SPY starts moving above where the trade was opened.
       
      For example, if you opened the Anchor Strategy when SPY was at 300, using the 285 puts, and the market crashes ten percent or more, you should expect your account to stay approximately the same as when the account was opened.  We saw this occur when the markets dropped 30% or more and the Anchor accounts actually went up slightly in value.  However, as the markets start going back up toward the 300 level when your account was opened, Anchor will not go up in value.  That’s simply because the puts are going to be losing value at the same rate (if not faster) than the long positions gain.  In other words, until SPY gets back above 300, you should not expect your account to increase in value.
       
      This frustrates many investors.  Everyone loves the 30% outperformance on the way down, but hates the 20% under performance on the way back up.  But remember, the strategy is a year to year hedging strategy.  It was not designed to profit after a large market decline, but rather was designed to protect capital in down markets and when new highs are reached (new highs based on the point of your initial year hedging), then you should expect gains.
       
      Quite a few investors though are not happy with this result.  They want the protection in down markets, but also to gain as the markets go back up.  The last week in the market, as SPY has gone from 222 to 260, has been a great example of exactly how this occurs.  Take the model portfolio – on March 23, 2020 it was worth $141,684.  Over the next seven days, an incredible bull market occurred, as SPY rose 17%.  After the roll of the short puts on March 30, the model portfolio has dropped in value to $124,847,  a drop of 11.88% in a week.  This places Anchor down 8.3% on the year (down 5.4% in the first quarter) and the market down 18.75% (320 to 260).  Given that Anchor’s hedge doesn’t even kick in until a 5% drop in the market, this result is exactly in line with what is expected.  However, no investor in Anchor is happy at the 11.88% loss in a week as investors mistakenly believe Anchor provides protection against that.  It does not.  Anchor is a  year to year strategy not a week to week.  The strategy is beating the markets by 7% and protecting against large declines.  If the markets reverse back down, the strategy will greatly excel again.
       
      So how is an investor to profit as markets rebound? The only way to do this is to adjust/reset the Anchor Strategy.  However, as noted numerous times, “resetting” or opening a new Anchor account after a large decline is quite expensive and sets investors up for underperformance.  So what are investors to do?  Below is a brief analysis of the four different options available:
       
      Option 1 – Do Nothing
      I am not an advocate of changing strategy mid-flight.  The Anchor Strategy is a capital preservation strategy and it is doing that spectacularly.    If an investor were to take either of the below options, and the market declines further, they would be in a significantly worse position than if they did nothing, thereby losing some capital. 
       
      If you reset the position, to a lower hedge (a) the cost of the hedge is much higher, which will act as a drag on the portfolio as paying for the hedge is more difficult and (b) if the market drops further, the account will drop more than if no changes had been made.  The reason for this is two-fold.  First, we open the hedge 5% out of the money.  This means if the market drops 5%, the account will essentially have little to no protection.  The investor will just “lose” that five percent again (having lost that five percent on the initial decline).
       
      Secondly, the SPY long call position currently has a delta of around 0.7.  This means if the market drops $1, the investor’s account will only drop $0.70.  If the position is reset to a call of close to one, then if the market drops $1, the investor’s account will also drop $1. 
       
      If the investor is in a capital preservation mode, and does not want to increase risk, the best option is to simply continue to manage the strategy as designed.
       
      Option 2 – Reset the Position
      Many investors though want (or expect) gains to come from investments when the market is going up, even if they have greatly outperformed over the past 30-60 days.  The thought process normally goes like this:
      A. I beat the market by 25% last month; B. I will be very frustrated if next month the market goes up 20% and I go up 0%; C. I am ok if the market goes down 10% and my account goes down 10% because I am still outperforming the market on the year by 25%; D. I don’t need my investments right now for expenses; and E. I would rather take on additional risk to try to grow my account as the market goes back up (if it goes back up).  
      If this fits your profile, closing out the existing Anchor position and “resetting” it to a new position would not be a bad decision.  (I am strongly leaning toward this in my personal account.  But I do not need the money to live on, I have decades left before retirement, and I would rather take the chance to gain even more and take on the risk of losing 10% -- but that is not the case for everyone – each investor needs to take their own situation into account).
       
      How would this be accomplished?  Simple…liquidate the current Anchor Strategy and simply re-enter.  As noted above, the current model portfolio is valued at a few dollars under $125,000.  If an investor were to launch a new Levered Anchor Position on $125,000, it would look like:
       
      Buy to open 8 contracts June 18, 2021 170 Calls for $94.85 (about 66% leverage, 7 contracts would give 45% leverage, 9 contracts 87% leverage) – Total cost: $75,880 Sell to open 8 contracts March 19, 2021 Puts for $25.81 (Use the June 2021 calls to ensure long term capital gains while using the March 2021 puts as its closest to 365 days and if the markets move up quickly and the hedge has to be adjusted, it is cheaper and investors have the ability to roll up and out as well) – Total cost: $20,648; Buy to open 4 contracts of the March 19, 2021 260 puts for $31.04 (to hedge the short puts) – Total cost: $12,416; Sell to open 4 contracts of the April 22, 2020 262 puts for $14.36 – Total credit: $5,744; Buy 230 shares of BIL for $91.62 – Total cost: $21,072.60; and Hold $727.40 in cash.  
      If an investor were to use 9 long calls, to increase the leverage, then that investor should also increase the short hedge and short contracts to 5.  All investors should remember, over time, Anchor tries to target needing a short credit of $0.80/contract/week when initializing the position.  The above requires double that to pay for the hedge.  This means the hedge is basically twice as expensive to pay for.  As long as volatility remains high, that’s easily doable.  However, as markets rebound, short put credits greatly decline in value. 
       
      I would not expect to be able to pay for the above hedge over the next year, particularly if it has to be rolled up as markets go up.  However, while this means investors will lag the performance of the market as the markets go up, their total performance over the year, including the market downturn, should be better.  E.g. Anchor is currently outperforming by 7%.  If it lags the market by 5% on the uptick, the adjustment still leads to market outperformance, and investors do not have to watch their account stay the same (or go down) as the markets rise.
       
      Option 3 - Sell Puts that are Deeper in the Money
      Traditionally Anchor sells puts that are around a .55 delta (1-2 strikes in the money), 24 days out, and rolls such puts once the strategy has captured most of the time value of the short puts.  Investors could profit some more by selling puts that are further in the money.  For instance, instead of selling the 262 puts, an investor may sell the 280 put.  If the markets rise swiftly, having sold further in the money will be more profitable than aggressively rolling the short puts.
       
      The risks to such strategy include:
      With a higher delta, if the market declines, the short puts will decline in value faster than a position closer to at the money; Selling puts further in the money requires higher margin and cash requirements, particularly in IRAs; and If the markets are slowly increasing, it may be more profitable to roll short puts at the money.  
      Option 4 (Most Risky) – Temporarily go Long
      The biggest drag on option II above is the cost of the hedge.  Several investors have expressed a desire to take on more risk and not hedge.  The logic of this strategy goes:
      A. I beat the market by 25% last month; B. I will be very frustrated if next month the market goes up 20% and I go up 0%, or worse; C. I am ok if the market goes down 10% and my account goes down 10% because I am still outperforming the market on the year by 25%; D. I am ok if the market goes down 25% and my account goes down 25% because I’m still beating the market on the year; E. I don’t need my investments right now for expenses; and F. I would rather take on additional risk to try to grow my account as the market goes back up (if it goes back up).  
      How would this decision be accomplished?  Similar to above, liquidate the current Anchor Strategy and simply re-enter the long positions without purchasing the hedge.  As noted above, the current model portfolio is valued at a few dollars under $125,000.  If an investor were to launch a new Levered Anchor Position on $125,000, it would look like:
       
      Buy to open 8 contracts June 18, 2021 170 Calls for $94.85 (about 66% leverage, 7 contracts would give 45% leverage, 9 contracts 87% leverage) – Total cost: $75,880 Buy 530 shares of BIL for $91.62 – Total cost: $48,558.60; and Hold $561.40 in cash. There is substantial risk to the above.  If the markets drop from 260 to 220, investors should expect their long calls to decline to $60.50 (approximately), a drop in their portfolio of over 21% -- more than the market drops.  If this strategy were to be implemented, I would highly suggest taking on less leverage.  By reducing the leverage to 45%, the 21% loss would be reduced to 19%.  By reducing to six contracts, the loss would be reduced to 16%. 
       
      Another risk to keep in mind is that in the event of a large market drop (below SPY 170), the investor’s account could be looking at 50% total losses. 
       
      To combat such risks, an investor could temporarily eliminate leverage and buy SPY shares.  Or the investor could implement a partial hedge.  Even a 50% hedge would help alleviate some of the risk.  Further, when volatility drops, and the long hedge becomes more affordable, long puts should be purchased.
       
      If an investor was in the Anchor Strategy to preserve capital, switching to a long only position to try to “gain” when the markets gains is not a smart decision.
       
      Another common question is “when should I make the decision to re-structure Anchor?  The proper answer is “at the bottom tick of the market.”  Of course, if an investor knows when the bottom is going to hit, there are much better ways to take advantage of the situation. 
       
      The next best time to enter is at the same time as an investor would enter the Anchor Strategy normally – namely after one or more up days in a row, when volatility has declined.  In the model account, we are taking the following steps:
      Stay particularly aggressive in rolling the short puts up as the market moves up; Not change the positions until more economic news comes out – there is significant uncertainty on unemployment numbers, production, the length of time the economy will be shut down, how lenders and financing will be impacted, etc., which means sacrificing downside protection right now doesn’t make much sense; If there’s another major downtick (back down to below SPY 230) then look to perhaps implement item II above, or a blend of II and III.  
      Remember the purpose of Anchor – capital preservation and positive returns as the market goes above each investor’s entry point. 

       
      Christopher Welsh is a licensed investment advisor and president of LorintineCapital, LP. He provides investment advice to clients all over the United States and around the world. Christopher has been in financial services since 2008 and is a CERTIFIED FINANCIAL PLANNER™. Working with a CFP® professional represents the highest standard of financial planning advice. Christopher has a J.D. from the SMU Dedman School of Law, a Bachelor of Science in Computer Science, and a Bachelor of Science in Economics. Christopher is a regular contributor to the Steady Options Anchor Trades and Lorintine CapitalBlog.

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    • By cwelsh
      The new tracking account was opened on January 2, 2019 when SPY was right at $249.00 with a balance of $100,000.  In the tracking account, trading commissions were ignored.  The initial portfolio looked like:


       
      Six contracts of the 175 calls gave us control over $105,000 of SPY, and we held $36,000 of BIL. This gave us about 140% leverage on the account, a moderate amount, but enough that we should not lag when the market increased.
       
      I have a couple of comments on our initial portfolio.  First, our initial hedge was only 1.6% out of the money.  During the year we changed that to 5%, allowing for a loss in the event of a small market decline but trading it off for a higher upside.  Second, during the year we also “split” the hedge of the short puts and the long portfolio.  The short put hedge stayed at the money, as one of the bigger risks to the portfolio is a large spread between the short put that is sold during the week and the actual put hedging it.

      For instance, in the above portfolio there is more than $6.00 of downside risk between the short put and its hedge.  (It is more than six dollars due to the delta of the hedge compared to the delta of the short position – in other words, the short position is more sensitive to down movements than the long hedge).  To offset this risk, we kept the portion of the hedge against the short puts higher.

      Almost immediately after opening the position and continuing throughout the year, the market took off upwards, moving over 2.5% up in the first week alone.  In fact, the market moved up so quickly, we ended up having to roll the long hedge after the first month, rolling to the January 20 258 Puts when SPY hit 270.  It was at this roll that we adopted the five percent out of the money hedge. 

      The market kept moving up, resulting in us having to roll the long hedge again on April 2, 2019 when SPY hit 285.  At this point we “split” the hedge and our portfolio looked like:


       
      With SPY trading at 285, the six contracts at five percent out of the money, hedging the actual long portion of the portfolio were purchased at a strike of 270.  The four contracts hedging the short puts that are sold to generate income were purchased at a strike of 285 – the then current value of SPY.

      The market did not stop its rise, leading to another roll of the hedge on November 1, 2019.  That makes three rolls up of the long hedge during one calendar year – a record number for Anchor and one that we would expect to act as a drag on the account.  However, due to the leverage employed, any drag was minimal. 

      December 30, 2019 came around, necessitating a roll of the long call position. Due to portfolio gains, the strategy also had to purchase some additional long puts to continue to hedge the entire position.  After this roll, with SPY at $320.74, the portfolio looked like:


                 
      Over the full year, SPY went from $249.00 to $320.74, a gain of 28.8% (31.2% including dividends).  Over that same period, Leveraged Anchor increased from $100,000 to $136,094.88 – a gain of 36.1%. The final number for 2019 is 38.4% gain. In other words, the strategy outperformed the S&P 500 by 7.2%.  Individual accounts will be less, as there are trading costs and commissions, but even if an individual trader’s commissions ran two percent (an extremely high number), performance is still superb. 
       
      In reviewing the strategy, several points emerge:
      Adding forty percent of leverage resulted in outperforming the market by twenty five percent.  This means the three rolls of the hedge during the year bled the account by about fifteen percent, which is to be expected.  Another way of looking at this is, had we not been hedged, the performance would be higher, but if a trader did that, the trader would be significantly increasing risk;
        Given the outperformance, it may be worth rolling the hedge more frequently to reduce risks from downturns;
        Given the outperformance, it may be worth rolling the hedge of the short puts more frequently to reduce the risk from small short term pull backs and whipsawing; and
        For large accounts, diversifying into other instruments on other market indexes (small caps and international) should be explored. Thoughts and opinions on rolling the hedge more frequently, or on any other concerns or ideas for the strategy are always appreciated, as we are always looking to improve the strategy further. 
       
      Thanks everyone for a great year, and let’s hope next year performs just as well. 

      Christopher Welsh is a licensed investment advisor and president of LorintineCapital, LP. He provides investment advice to clients all over the United States and around the world. Christopher has been in financial services since 2008 and is a CERTIFIED FINANCIAL PLANNER™. Working with a CFP® professional represents the highest standard of financial planning advice. Christopher has a J.D. from the SMU Dedman School of Law, a Bachelor of Science in Computer Science, and a Bachelor of Science in Economics. Christopher is a regular contributor to the Steady Options Anchor Trades and Lorintine CapitalBlog.
       
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    • By cwelsh
      Our confidence in the strategy continues to grow as well; enough that we are exploring how to more broadly market it next year, with a goal of getting to $100m or more under management on the strategy.

      Unfortunately, it has also led to some misunderstanding of what the strategy is capable of. In the past few weeks, I have received statements such as:
      "I love being in a strategy that can’t go down.” “I can’t believe I can beat the market without risk.” “I like being able to sleep knowing my maximum drawdown is 5% or less.” “I’m worried that I might lose all of my money in Anchor, can you explain it better?” None of these statements are true.  Leveraged Anchor absolutely can, and at times will, go down.  There is certainly risk, and the maximum drawdown potential is over five percent.  At the same time, the only way to lose all your money is if the options markets completely collapse and cease to function.  The purpose of this article is to provide some clarity on these issues.

      First, the strategy can, and will, go down.  If an individual invests $100,000 and purchase protection five percent out of the money, then the expected scenario in a market crash is the account drops to at least $95,000.  Actual performance may be slightly better or slightly worse.  If volatility goes up and the delta of the long calls declines, the account might not go down that much.  On the other hand, if volatility does not drop very much and the decline is not that sharp, the position may lose on the short puts and the decline may be worse (maybe in the 7%-9% range, depending on the changes in volatility).  In either case, a drawdown can certainly occur.  It is a virtual certainty at some point that the accounts go down in value.
       
      Second, an assumption that Anchor cannot go down ignores the fact that the strategy does not roll the hedge every day.  Take the following situation:
      Open an account for $100,000 and hedge at $95,000; The account grows to $108,000 (right about the time to roll); and Just before rolling the long hedge, the market drops 50%. The drop on the investor’s account will be back down to around the $95,000 level, plus or minus a couple of percentage points based on the performance of the short puts.  While this is a five percent loss from the opening balance it is twelve percent loss from the account high.  Investors need to remember the strategy protects from the opening level (or rolled level)not from the current high.
       
      This leads to the question of why the hedge is not rolled more frequently, even up to every time the market goes up.  The simplest explanation is cost.  The largest drag on Anchor is the cost of the hedge.  Every time the hedge is rolled, the strategy incurs a cost.  At some point it becomes impossible to pay for the hedge in a year.  However, given that the strategy rolls as the market goes up, and the position is levered, the strategy can afford to incur some increased costs. 

      There has been significant testing into the “optimal” time to roll the hedge.  What was learned is “optimal” is fluid – based on volatility, time left in the prior hedge, and a few other factors.  This led to the creation of a “range” on which to roll.  It is known if we roll every five percent market gain the costs can overwhelm performance.  If rolls only occur after 12.5% or more gains, then money is left on the table on drawdowns.  Thus, the rule of thumb of “7.5% to 10%” was created.

      If you are an investor who is more conservative, comfortable with limiting upside some, then more frequent rolls of the hedge are fine.  If you are a longer term, more aggressive, growth investor, then less frequent rolls are just as acceptable.

      Another factor many do not consider is the impact of using leverage.  The amount of leverage does matter and impacts risk of the portfolio.  Leveraged Anchor performs the worst in markets that are flat for long periods of time or that decline slowly in small amounts.  If the market slowly bleeds (1%-3%) over a three-week period, the strategy takes small losses on the short puts, without actually gaining on the long puts. 

      One of the worst possible outcomes for the strategy would be if the market loses 1% every quarter for four quarters in a row in a very uniform manner.  Under that scenario, the strategy has lost money on selling the puts short (e.g., not paid for the hedge), has lost money on the calls (because the 5% hedge never kicks in – the market is only down 4%), and even the puts covering the shorts will not have increased in value.  It is entirely possible for the market to be down 4% and the strategy down 10%, or more. 

      The use of leverage worsens this problem, as the cost of hedging has gone up, and if the hedge is not paid for, that increased cost has a larger impact.  A portfolio with no hedging may have a maximum loss of 8%, while a portfolio with over 100% leveraged may double such losses in small declining markets.  (Please note such numbers are for example only.)

      Leveraged Anchor accepts this risk as historically less than 15% of annual stock markets tend to meet the “flat” criteria.  If the strategy outperforms in up markets and outperforms in large down markets, we feel having underperformance 15% of the time is acceptable.  This is particularly true for the long-term investor.  Of course, there is no guarantee that historic trends continue, and all Anchor investors should be aware of the markets in which the strategy may underperform expectations.

      No investor should think Leveraged Anchor is risk free, that drawdowns are not possible, or that the strategy will outperform in all market conditions.  Such statements simply are not true.  What investors should expect is superior performance due to leverage in bull markets and having catastrophic market protection.  Given most market drawdowns are of the significant variety, this helps investors sleep.  The strategy provides superior risk adjusted returns – not risk free.
       
      Christopher Welsh is a licensed investment advisor in the State of Texas and is the president of an investment firm, Lorintine Capital, LP which is a general partner of three separate private funds. He is also an attorney practicing in Dallas, Texas. Chris has been practicing since 2006 and is a CERTIFIED FINANCIAL PLANNER™. Working with a CFP® professional represents the highest standard of financial planning advice. He offers investment advice to his clients, both in the law practice and outside of it. Chris has a Bachelor of Science in Economics, a Bachelor of Science in Computer Science from Texas A&M University, and a law degree from Southern Methodist University. Chris manages the Anchor Trades portfolio, the Steady Options Fund, and oversees Lorintine Capital's distressed real estate debt fund.
       
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    • By cwelsh
      One of the largest reasons for this is that different asset classes tend to outperform other classes in any given year:
       

       
      As well as Leveraged Anchor has performed over the past couple of years, a large part of that performance can be attributed to the S&P 500 simply performing well – a trend that may or may not continue.  Given that the developers of the Leveraged Anchor strategy developed it in part on the premise of “we don’t know what the market is going to do over the next year,” diversification of the strategy only makes sense.
       
      In furtherance of this, the strategy was diversified into four different indexes:
      SPY – S&P 500; QQQ – Nasdaq; EFA – Large cap international excluding US and Canada; and IWM – Russell 2000 (small caps).  
      While there is some overlap between the S&P 500 and the Nasdaq, the two indexes have had differing performances over the last decade:
       


      Given the popularity of the two indexes, we wanted to gain exposure to both.  A driving factor in selecting the above instruments was volume of their option markets, as our strategy is almost entirely option driven.  All four of the above are top 10 instruments in total daily option volume and number of open contracts.  Liquidity should not be a major concern on any of the above except for the very largest of portfolios (and in which case there are ways to trade the indexes more directly than ETFs). 
       
      Consideration was given to including real estate through a REIT or REIT ETF, but the only possible instrument identified that traded weekly options was IRY and it has fairly low option volume so was excluded.  Consideration was also given to adding in commodities (such as GLD or SLV) or bonds (such as HYG) but such instruments did not perform well in testing of the Leveraged Anchor strategy – at all – in any market conditions, so such instruments were excluded.  This does not mean such instruments do not have a place in a full portfolio – they absolutely do – but they just do not currently have a place in a Diversified Leveraged Anchor portfolio.

      Theory is one thing, but how has it worked in practice since going live?  Too often in stock and option trading theory does not match reality.  Fortunately, several months in, diversification has worked exactly as intended.
      The first EFA Leveraged Anchor position was opened on April 14, 2020.  Through July 1, 2020, the underlying EFA stock position was up 8.91% and the Leveraged Anchor EFA position was up 7.28%. 
       
      The first QQQ Leveraged Anchor position was opened on April 17, 2020.  Through July 1, 2020, the underlying QQQ stock position was up 17.44% and the Leveraged Anchor QQQ position was up 21.64%.
       
      The first IWM Leveraged Anchor position was opened on April 28, 2020.  Through July 1, 2020, the underlying IWM stock position was up 9.27% and the Leveraged Anchor IWM position was up 9.11%.
       
      Over the same general period, SPY stock was up 8.58% and the Leveraged Anchor SPY position was up 5.35%.
       
      In other words, an undiversified Leveraged Anchor position was up 5.35% while the Diversified Leveraged Anchor position was up 10.85% -- more than double the performance.
       
      Overall, each of the new Leveraged Anchor instruments has performed as expected, if not better (QQQ has done much better than expected).  All three of IWM, EFA, and QQQ required the long hedge to be rolled in the first three months, which is normally a large cost item and operates as a drag on performance.  And while such a drag can be seen on EFA and IWM, such drag was minimal and should balance out as the hedge is continually paid for over a full year period.
       
      In short, in the limited window of time we have diversified the Leveraged Anchor strategy, we are very pleased with the results and look to continue success over the coming months.

      Christopher Welsh is a licensed investment advisor in the State of Texas and is the president of an investment firm, Lorintine Capital, LP which is a general partner of three separate private funds. He is also an attorney practicing in Dallas, Texas. Chris has been practicing since 2006 and is a CERTIFIED FINANCIAL PLANNER™. Working with a CFP® professional represents the highest standard of financial planning advice. He offers investment advice to his clients, both in the law practice and outside of it. Chris has a Bachelor of Science in Economics, a Bachelor of Science in Computer Science from Texas A&M University, and a law degree from Southern Methodist University. Chris manages the Anchor Trades portfolio, the Steady Options Fund, and oversees Lorintine Capital's distressed real estate debt fund.
       
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      Anchor Trades Portfolio Launched Defining The Anchor Strategy Leveraged Anchor Is Boosting Performance Leveraged Anchor Update Leveraged Anchor Implementation Leveraged Anchor: A Three Month Review Anchor Maximum Drawdown Analysis A More Diversified Anchor Strategy
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