McCall’s Call: Double-Dip Portfolio Review

October 05, 2011

A year later is as good a time as any for a double-dip ETF portfolio review.

 

The third quarter was the worst for U.S. stocks in three years, as the S&P 500 fell by 14 percent and it’s now near a new 52-week low. Investors who have been in defensive ETFs could have been able to avoid the most recent sell-off. But, has it been a good idea to be in these defensive investments over the last 13 months?

Matthew D. McCallI’ll answer by taking a look back at a “double-dip recession” portfolio that I laid out here in September 2010 in a piece titled “Hot ETFs For A Double Dip.”

Since that time, the SPDR S&P 500 ETF (NYSEArca: SPY) is up 4.9 percent through the end of the quarter, including dividends. Many investors may find it hard to fathom that stocks are up over the last 13 months, but, until the third quarter, they were performing quite well.

Even though the double-dip ETF portfolio is set up for a recession and a bear market, it was still up 1.1 percent over the last 13 months, which may come as a surprise. Even more important is how the portfolio held up during the sell-off that began in early May.

From the end of April 2011 through the end of September, SPY fell 16 percent while the double-dip ETF portfolio gained 14.4 percent. The 30 percent difference in a mere five months shows that a recession-proof portfolio isn’t just about playing defense, but can also generate profit during overall market weakness.

The Portfolio

Each of the 10 ETFs in the portfolio were equally weighted when I designed it, and dividends were accounted for in the total returns. From Sept. 1, 2010 through the end of September, four of the ETFs had negative returns and the other six rose.

During the market sell-off from May 1 through the end of September, all ETFs in the portfolio had positive returns—four in double digits. Keep in mind this is with the SPY down 16 percent.

The ProShares Short S&P 500 ETF (NYSEArca: SH) is an ETF that moves 1-for-1 the inverse of the underlying index. During the 13-month period, the ETF fell by 11 percent, but during the market sell-off, SH was a great hedge with a gain of 15.3 percent.

This ETF is about as straightforward as it gets when it comes to hedging a portfolio against an overall market sell-off. Bear in mind, this inverse ETF rebalances daily, so returns over time can deviate significantly from the index. Therefore, most people don’t hold such ETFs for long periods.

Currency Matters

The Rydex CurrencyShares Japanese Yen ETF (NYSEArca: FXY) hasn’t taken a hit during the sell-off. Often considered a safe haven, the yen has held up well during up and down markets.

Over the 13-month span, FXY was up 9 percent, and during the sell-off, it gained 5 percent. It’s been a reliable hedge during bear markets and it holds up fine when stocks move higher. This is the No. 1 reason my firm owns shares of FXY.

The Market Vectors Double Short Euro ETF (NYSEArca: DRR) meanwhile lost 14.6 percent over the 13-month span, as the dollar fell against the euro for a large part of the first half of 2011.

But as stocks began to fall and the debt crisis in Europe started creating anxiety in financial markets , the greenback became a safe haven for currency investors. This sent the euro to new multimonth lows, and DRR gained 19.3 percent during the sell-off.

Typically I wouldn’t recommend a leveraged ETF for the long term; however, there’s no other short euro ETF now available. As I noted regarding the daily rebalancing of the inverse ProShares S&P 500 ETF, be careful when using leveraged long or short ETFs.

 

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