Happy Holidays from TCM
From our families to yours, a sincere thank you for your continued support and our warmest wishes for a happy holiday season and a prosperous New Year!
mostly sunny
US equity markets extended their rising trend in 2024 with the S&P 500 and Nasdaq 100 indexes gaining roughly 25% on the year through mid-December* in a mostly smooth path that saw three moves toward crisis conditions around a Japanese rate hike in August, in the runup to the US Presidential Election in November and after a hawkish rate cut from the Fed at its December meeting (shaded areas below). While the December episode is currently ongoing, stress quickly resolved in each of the first two instances and with the year nearly complete, the S&P 500’s deepest correction in 2024* has been just 8.5%, on par with some of the mildest years in history. *As of 12/18/24
Volatility Dashboard YTD as of 12/18/24. Source: TCM. Click for larger image.
From its low in October 2023, the S&P 500 has now gained 41%** with few interruptions and when markets are trending higher, investment success often requires doing less, not more. For hedged equity strategies, this means minimizing the expense of risk control and while most are obligated to carry continuous protection, TCM’s tactical risk management approach is free to reduce or even eliminate hedge expense when conditions warrant. **Source: barchart.com, 11/1/23 - 12/18/24
In the bullish environment since November 2023, this has produced substantial improvement in total return versus other hedged strategies (chart) that far from an outlier, has often been the case with Tactical Beta outperforming its hedged equity peers*** in 70% of all six month periods since inception when the S&P 500 recorded a gain. ***JPM Hedged Eq (JHEQX), Swan Def Risk (SDRIX) and Gateway Fd A (GATEX)
Total return net of fees, 11/1/23 - 12/18/24. Source: TCM, barchart.com. Click for larger image.
Of course, stocks don’t move in a straight line and investors are often challenged by corrections like those on December 18th that could either be a temporary detour or the first step toward a major decline. While market solutions to this issue tend to lie on either end of the spectrum between surrender (passive indexing) or preoccupation (continuous hedging), TCM’s strategy aims to be somewhere in the middle, seeking to hedge only against systemic events that are the true risk to portfolios. Though the “success rate” of this hedging strategy will match the rarity of systemic events, its demonstrated ability to produce a large positive impact in those circumstances and its efficiency during vastly more common bull markets produces in our opinion the most practical combination of total return and risk management of any hedged strategy on the market today.
current conditions
Heading into 2025, the bar seems to be set very high for US stocks and with investors heavily exposed and expecting further gains in the coming year (charts below), the risk from any disappointment could be substantial, as demonstrated by the market’s strong reaction to the recent slight disappointment from the Fed.
At a high level, rising expectations for stocks are being driven by the trend lower in interest rates that supports a higher P/E multiple for long duration assets including stocks. Though this falling trend is expected to continue in 2025, recently sticky inflation is recalling the 1970’s “double dip” pattern that would throw a major wrench into the Fed’s easing plans (charts below).
Of note, should this scenario be avoided and the Fed’s expectations of lower rates come to pass, income strategies will likely become more valuable. Currently sporting a net annual yield north of 16%, TCM’s Hedged Yield strategy stands apart from other income sources (chart) with low interest rate sensitivity and an overall risk profile similar to equities.
on the horizon
While the TCM investment process does not rely on predictions, it can be useful to sketch what positive and negative scenarios might look like from here.
A market negative scenario could plausibly stem from a US recession that increases the potential for systemic crisis. In such an environment, experience suggests an intense period of sharp stock market declines accompanied by the classic crisis sequence of an inverted VIX futures curve followed by extreme VIX levels as financial system issues cascade. This is why the highest VIX levels are historically found during recessions and with their ability to use long VIX exposures, all TCM portfolios have strong potential in such a scenario. The only TCM portfolio with the ability to be purely long VIX, Alpha Seeker aims to profit from such a scenario while other TCM strategies use VIX as a hedge to insulate portfolios from one.
In a market-positive scenario, deficits and inflation are reigned in, unshackling the productive economy and resulting in strong growth in productivity and earnings. In this scenario, risk assets would be expected to perform well, likely led by high-growth names like those found in Hedged Disruptor. With a rising tide lifting equity indexes and compressing volatility, TCM’s tactical risk management would likely focus on minimizing hedge expense while Alpha Seeker could look to take advantage of low and stable volatility using positions similar to its strong year in 2017.
In reality, the market rarely follows a singular scenario for long, rendering even the most well-thought out plans irrelevant. Rather than relying on any individual outlook, we continue to find more value in TCM’s process for distilling the crowd-sourced opinion of the VIX.