Adaptive Strategies Designed to Thrive in Changing Environments: Strategies to Thrive During Inflation and Bear Markets

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  • 54 mins 12 secs
In this presentation, audience participants learn about the two major blind spots of the classic 60/40 investment portfolio, how passive investing typically fairs during periods of inflation and prolonged multi-year bear markets, the ideal type of multi-asset strategy for these two regimes, and how active multi-asset strategies can work to help investors create more robust portfolios for the new economic regime. This 60-minute webinar also includes a case study of a blended portfolio’s performance during various market environment to illustrate the theories being explained.
Learn more about the Rational/ReSolve Adaptive Asset Allocation Fund
Channel: Catalyst Funds

Rodrigo Gordillo: Hello everyone, and thank you for joining us today for this course and class on Strategies to Thrive During Inflation and Bear Markets. Before we actually begin, let's get into the important aspects of disclaimers, making sure that we're all reading through that pause if necessary, but let's just first, I'm going to tell you what we're going to review today. And today we're going to talk a little bit about myself and the team, so I'll get into introductions in a second. We are going to address, I think something that's very important to most advisors and investors' minds right now is what's happening with the 60/40. And we're going to really touch upon the axiomatic blind spots of the traditional 60/40 balance portfolio. And see then what we can do about it. We're going to talk about asset allocation during inflation volatility, we're going to discuss a few multi-asset strategies that go beyond equities and bonds to see if we can handle today's regime a little bit better, the history of multi-asset strategies, we're going to fill in some of the gaps that we have identified in the 60/40 blind spot.

Rodrigo Gordillo: And then we're finally going to close it up by talking about a case study of a fund, that's trying to do something that will help toward filling in those blind spots. So, just a little bit of background on myself and my team, my name is Rodrigo Gordillo. I am president and portfolio manager of ReSolve Asset Management global. These are my partners, Michael Philbrick, and Adam Butler. We founded ReSolve Asset Management and then opened up the global office a couple years back. So, I've been at it for 15 years, but my background goes way beyond that in terms of how my formative years have influenced how I view the world of investing from a very different lens than what I see a lot of people, a lot of investors look at the investment universe.

Rodrigo Gordillo: So, I was born and raised in Lima, Peru. I was lucky enough to be the son of a father who was a mathematician and also in software development at a time where a developing nation didn't necessarily have a lot of that, he was actually at the forefront of that with the Peruvian Navy. And so I was always exposed to both math and computers at an early age, so that has been an important part of what we do here at ReSolve, it's everything that we do is based on rules, very disciplined rules, precise execution, and systematic investing. But importantly, what happened is that in 1989, my father did have a very successful software development company, and actually at the same time, my grandfather had retired after being an accountant for his whole career, saved a lot of money, about a million dollars US.

Rodrigo Gordillo: And in 1989 through to the 1990s, it was a six month period where inflation went from 20% to 7200%, and anybody that had any savings basically went to zero in terms of purchasing power. At the same time, we saw our neighbors who had been struggling to pay their mortgage, and in fact were close to being evicted, able to pay down their full mortgage after that six month period with a very small amount of US dollars that they had under the mattress, right that's the depreciation of a local currency. So, those formative years really impacted the way I saw the world, we as a family, didn't stop thinking about this, as we immigrated to Canada, lived through the housing crisis when everybody concentrated their money in housing in the early '90s, then the tech crisis and so on. So, I've always been very acutely aware of the dangers of being overly concentrated in a single asset class.

Rodrigo Gordillo: And that has informed how I view the world of investing, what I basically have been focused on in all of our research, Adam, Mike and I is, how do you create an all weather strategy? How do you put together asset classes in ways where you can maximize your opportunity of survival in any market and economic regime? And to that end, we have written a lot of content on it. So, we consider ourselves to be educators first and foremost, we have been writing prolifically since 2009, over 250 articles, we wrote a book in 2015, we have several white papers in the top most downloaded researches in the social science research network. And as we started trying to communicate with the average investor, we started doing the podcast during the Corona pandemic, wrote some pieces that were more accessible, and I think the other one is the result masterclass series, which is a 10 part series that will review everything that we've talked about today in a bit more detail.

Rodrigo Gordillo: Every episode is about 15 to 20 minutes a piece, and it really is a way to understand what we consider to be an all weather approach to investing, okay. So, that is at background of the team, and you can always find us or just look us up on Twitter or YouTube, and you'll find a lot of content there for you to choose from. But let's get to the topic at hand, which is what the most glaring weakness in portfolios are today. And I think I've already set it up, but the reality is that we've lived in a very special time in finance over the last 40 years. Most people in the business, if not all of them have been in the business anywhere between, two years and 40 years, it's tough to find many who have lived beyond that.

Rodrigo Gordillo: And what we have really benefited from since 1981, when Volcker broke the back of inflation is largely a period of disinflationary growth. So, benign inflation and persistent growth with the exception of a small period in the 2000s. And so we've all benefited from the tailwinds of that, and particularly the 60/40 portfolio has benefited from those tailwinds. What I'm showing you here is the 60/40 equity line going all the way back to 1900 in real dollar terms, okay. So, what I've just been talking about has been the 19, sorry the last 40 years, 1981 to now, and what we've done in this chart is we've disaggregated the different regimes between disinflationary growth in brown, stagflation in blue, inflationary growth and gray and disinflationary bust in purple. And what you'll note is that indeed from 1981 to now, we have lived in a period where there's been disinflationary growth.

Rodrigo Gordillo: In fact, we have benefited from that reduction in rates, we've benefited from the great moderation as in late 1980s, we had China open up, we had the Berlin Wall come down and open up a plethora of labor force to the market. Other Asian countries followed the path that China followed and provided a really unique opportunity for us to be able to grow at a very low cost. But as you know, prior to that, the norm was not disinflationary growth, the norm was everything else. And the problem with the traditional 60/40, when everything else is happening is that it's not an ideal combination of asset classes to provide the growth that's necessary, or at least that we've said is necessary for investors at that 4% rate a year, as you can see we lived through this a little bit in the 2000 to 2010 period, where we had a lost decade, in real terms.

Rodrigo Gordillo:  And so this should be eye opening for people in the industry, but because again, we are outweighed by the good parts of the 60/40, then it's really tough to see the benefit of not keeping it simple, low fee index based strategies, like a Vanguard that can get you through it and provide the results that you need at a low cost for investors long term, but understanding its history, 21 years of flat returns, 20 years of flat returns, 18 years, and also the nine years that we all kind of saw is important to understand in order to survive and thrive during the next decade.

Rodrigo Gordillo: Now, when it comes, forget about the history, let's just talk about what we've seen, be correlated, where the 60/40 has been correlated to in terms of the two very important dynamics and markets, which is growth dynamics and inflation dynamics. So, what this chart shows is what is correlated positively or negatively to growth, right? So, if we have positive growth, we see obviously intuitively that equities and 60/40, which is dominated by equity risk tends to be highly correlated to positive economic growth. On the Y axis, sorry, on the X axis, we see that we are looking at a correlation for inflation, so when there's low correlation, what does well? When there's high correlation what does well? And again, just highlighting here, the treasuries tend to do, poorly in low correlation, and it also tends to do well in negative growth environments.

Rodrigo Gordillo: So, it actually offsets a lot of the losses in equities, but not enough where if it's part of the 60/40 it'll provide much of an impact. At least it won't definitely provide a positive equity line in a bear market. So, what we're seeing here is that there's a ton of space in the 60/40, that is blank, right? What about really poor deflationary periods with low growth? That's not covered here. What about high inflation or any inflation? The 60/40 tends to not be there at all. So, what we see when we talk to investors that are starting to identify this gap is that they're deciding to move towards inflation assets, right? The easiest step is to start saying, "Well, we're going to start rotating into the sectors, the equity sectors that are inflation sensitive, such as energy based stocks or mining companies." That's one way to mitigate against inflation, for sure.

Rodrigo Gordillo: The other one is buying gold or buying Treasury Inflation-Protected Securities TIPS, and more and more we're seeing people adopt and buying simple buy and hold commodity indices in order to mitigate against that inflation period, not against negative growth shocks, but against inflation. And so I want to address that because I think it's something that becomes a little bit more complicated when we're talking about strategic asset allocation, as in long term holds that you're going to be rebalancing that back to. There's a study done by AHL, by the Man Group and AHL that showed, they basically went back to 1926 and added up the amount of times that the market has been in an inflationary regime, okay. And the amount of times that we've been in other environments, and what we see here is that the inflationary regime from 1926 to now, it's been about 19% of the time and 81% of the time it's been other.

Rodrigo Gordillo: Now, what we wanted to see is if indeed commodities or passive exposure to commodities, would've offset losses and everything else, and it turns out that it's pretty accurate. So, precious metals, agri, soft, livestock, energies, gold, silver, all tended to do fairly well, most do double digit returns in periods of inflation. So, certainly if you can time it right, and you can get your long exposures to commodities at the right time, you should benefit from these asset classes and protect some of the portfolios that, some of the equities and bonds that are as we're seeing today, losing money at the same time. The problem of course comes in holding a strategic allocation to commodities, the other 81% of the time. And the other 81% of the time, what we see here is that it offers in negative carry as in negative annualized rate of returns.

Rodrigo Gordillo: So, you're pulling down returns to your portfolio most of the time, okay. Now maybe people feel like, "Okay, well, we're going into an inflationary decade, I'll just hold it, hold that long only commodity, or long only energy stocks, and mining company position for a decade, and then switch out of it." They often talk about the 1970s as a time where it's a perfect model for what we're seeing today. Well, the problem with that is that, inflation, isn't just inflation every single year, year in and year out for that inflationary decade in the '70s, inflation is more what we call inflation volatility. So, this is a chart of the 1970s, the yellow line represents the commodity index, the blue line represents the US S&P 500 Index, and the black line represents US tenured treasuries.

Rodrigo Gordillo: So, this is nominal in real terms, both of these lines at the bottom, would've been down here in negative territory, but what you notice right away is that this inflationary "decade" is not a decade of inflation, it's a period of inflation led by volatility of inflation. A lot of volatility in the commodity markets in the 1973, '74 bear market here. And then as the equity markets recovered, we saw 37% correction, right? Like that's a tough hold for most people, most investors is a strategic holding, and of course then you had the late stage inflationary burst that led to point to point 649% rate of return. So, definitely from point to point, it was a great hedge, but the question is how many people would've been able to hold on to that? Okay, let me fast forward to the last commodity bull market that we saw, the last supercycle that we saw in commodities was from 2000 to February 2011, okay. Just to talk about what an inflation decade looks like.

Rodrigo Gordillo: And once again, we see a similar outcome in this case, we're showing again in yellow commodities, in blue now we're showing the Vanguard Balance Fund since we have data for that. So again, not in real terms, this would've been much lower in real terms, but the point here is that from point to point as a strategic allocation, 268% fantastic, I don't know of many allocators that are able to hold on to a 31% drawdown, a 60% drawdown and let me be clear, these little drops here are quite treacherous, they're not easy to hold onto. This period here is when all the major brick mutual funds came in vogue, Brazil, Russia, India, China. This is when pension plans were changing their investment policy statements to be able to hold passive exposure to the Deutsche Bank Commodity Index and the Goldman Sachs Commodity Index and so on, of course, many of them gave up on it near the bottom here.

Rodrigo Gordillo: So again, very tough to use a commodity, pure long only commodity as a hedge against inflation. So, what did the paper from Man Group come up with? Well, they're very well known for trend strategy. So, what is a trend strategy? It's getting exposure to all the major global markets, bonds, advocates, equities, commodities, and so on. And everybody has their own unique approach, but basically a way to think about it is if an asset class is above the 100 day go long, if it's below the 100 day, go short, that is the trend factor it's not necessarily what they used in this paper, but it's a good way to really see what trend is, and it's the idea of trying to capture hurting behavior long term.

Rodrigo Gordillo: The good news is that one, and it's there's many multi-asset strategies one can use, but this one that they identified in the paper was able to do two things at once, right. It was able to provide those double digit returns during the 19% of the time that we were in inflationary regimes. And then so you were able to have your cake, but you were able to eat it too in the other 81% of the time where inflation wasn't a thing, so 9, 4, 11, 8, and the all asset meaning the most diversified version of this seems to be the most robust, okay. So, this is just a strategy that one might use in order to do better for inflation than just buying a passive exposure to equity, sensitive to commodities, to commodity index, to TIPS or gold. But there's more than just trends in fact, I spent my career and just trying to figure out what the most robust way to go about this would be, and it is certainly the step one being as globally diversified as possible.

Rodrigo Gordillo: And why is that important? While going back to those dynamics that really drive market assets every single day, every week, every month, every year, and it is the inflation dynamics and the growth dynamics. So, what we see here in this axis here, you see rising inflation and slowing inflation at the bottom, you see slowing growth and accelerating growth, and what we've put together is the asset classes that tend to really thrive in those four different quadrants of inflationary boom, disinflationary boom, deflationary bust, and inflationary stagnation. So, these should be fairly intuitive to everybody here, the further we are out, the more volatile the asset class, but since we just addressed the '70s, let's take a look at what we would expect to do well in the '70s and what we expect to do well in rising inflation and slow in growth is gold and commodities, right?

Rodrigo Gordillo: This is just when you're debasing the currency, real things are going to be higher in price. Had they existed at the time emerging bond spreads and inflation protected bonds would've done okay, at least held their own. Gold and commodities probably more, well, they did significantly higher than the rate of decline in purchasing power, as people plowed into those asset classes. In a period likely 1999 to 2011, that I just showed, well, that's a period of not just inflation, but inflationary growth, it was a demand pull type inflation in contrast to the '70s, which was a supply shock and a recessionary type of period, right? So, in a inflationary boom period, you're going to see global growth and you're going to see emerging equities do well in international realistic gold commodities, emerging bonds, and then inflation protected bonds at least hold the price of inflation. In a period like '08 or what we saw during the Corona crisis, we should expect long treasuries and other sovereign bonds like German Bunds, UK gilts, Canadian sovereign bonds doing well.

Rodrigo Gordillo:  And in fact, in a wait long, 30 year treasuries were up something to the effect of 25, 30%, gold was up as well, right. Both things were up as well in March in the first quarter of 2020, so it's just something when people fly to safety and when they're slowing growth and slowing inflation, and then in accelerating growth and slowing inflation, what we see is what we saw most in 30, out of the 40 years in our recent history that you're going to see develop that bond to developed equities do really well, okay. So, why do we want to look at these? Well, because they all tend to do and thrive and suffer at different times. This is just four major categories, so I can make my point here from 1970 to today, we see global equities here, US government bonds, commodities in gold.

Rodrigo Gordillo:  And what I'm highlighting is their times and periods of pain, and what we notice right away is that they don't overlap, they don't overlap. Isn't this a definition of diversification, shouldn't we want a little bit of all of these, not just global equities and bonds, if we understand the underlying dynamics, if we can be predictable about the fact that gold and commodities are going to go up in price, when we're de basing our currencies and inflation is in play, shouldn't we own some of them, right? Shouldn't we own it in a smart way, global equities, they're going to thrive during periods of growth and not going to thrive during periods of recession, global government bonds are going to be a flight to safety. And then what's interesting is when you put them together, we tend to choose two of these four lines and they end up at the same spot during this period, right.

Rodrigo Gordillo: We really shouldn't care which one we choose if we just care about the endpoint, but we don't, we care about the journey, and so the idea here is to use a concept that Ray Dalio from Bridgewater founded, and it's this idea of an all weather long only strategy, a strategic asset allocation strategy that can thrive in inflation, deflation, and growth, and low growth. And that's one where you have things that do well in growth equities, things that do well in deflation bonds, things that do well in inflation commodities, but you're not going to let the maniacs take over the asylum, right. Because commodities have significantly higher volatility than equities or bonds, and so you don't want to give too much of your allocation to bonds, what you want to do is you want to put your risk parity goggles on, meaning you want to make sure that they have equal risk contribution at all times, and measure given their correlations and volatility, how much risk is each complex contributing to the portfolio and keeping that in constant balance rather than caring about the dollar, the strategic dollar amount.

Rodrigo Gordillo: So, you'll see in a risk parity, in an active risk parity mandate that the allocations will change constantly, but putting your risk parity goggles on the risk contribution will remain the same. And so putting these things together and updating our weights based on keeping risk constant, you might see a risk parody portfolio that looks like this, right. This is the all weather strategy that Ray Dalio puts together for his institutional clients and for his own family. And this is something that has been near and dear to my research since the beginning, and so if you think about this equity, and if you look at this, this should be what everybody wants. And the only problem of course comes with human nature and human behavior, when for example, commodities are doing this and you feel like you're not participating, or when gold's doing this, when equities are doing better than the rate of growth of the risk parity line.

Rodrigo Gordillo: So, there's an element of behavioral drawbacks here, but certainly from a pure portfolio construction, this seems to be a more robust approach based on fundamental realities of these asset classes from a first principle basis, not trying to predict the future, just keeping balance and getting exposure to all these asset classes. So that, is actually a pretty fantastic way of protecting your portfolio against inflation, that's a multi-asset approach that we espoused. The other one is, so we just talked about the Man Investment Group and how they use trend as a long short approach to providing active management in this global space. But what's so special about trend, well, trend tends to do well over time, but not all the time, there's been a number of papers, going back at centuries, some have gone back six centuries to see that trend factor.

Rodrigo Gordillo:  And if you examine the data, you'll find that most of the time it does well, but it could go decades just providing very low single digit returns. And the question is, are there other long, short, active mandates that you could look at that will act similarly and offset some of the blind spots that even trend has? And the answer is yes, and this is something that institutions have used forever. And luckily today there are more and more of these liquid alternatives that offer active management in these places. So, I just talked about trend following as one, so I won't get into that one again. The blind spot of trend following, one of them anyway, is this idea that the higher an asset class is going, the more you want to allocate to it. Well, I think we all know intuitively that if something goes parabolic, you might want to short it when it goes too high up away from its mean.

Rodrigo Gordillo: So, that's where mean reversion strategies come in, so mean reversion strategies are just kind of in cash, and then when we observe then asset class that is way out of whack, you want to take the opposite back, so these two tend to compliment each other. Seasonality is one of the longest running exchange trader fund in North America, it's one based out of Canada, has been running this for 10 years, just seasonal patterns, seasonal patterns in commodities, seasonal patterns in bonds and equities. I mean, you can understand that commodities have pretty strong seasonal realities when the harvest comes in, when the hedgers need to hedge, and when the speculators are willing to provide that hedge on the fixed income side, governments of the world, collect their taxes, they have to park it somewhere, so they generate them to park it in their treasuries, which bumps up the price until they're they start spending, and then that price goes down.

Rodrigo Gordillo: Now, like anything, these seasonal patterns tend to dominate overtime, but not all the time. So, you want to be able to have a little bit of everything yield or carry. I think, again, this is something that should be fairly intuitive asset classes that provide a positive yield are likely to do better than asset classes that provide a negative yield, and so we identify, if the Mexican pesos is paying more than the German currency, then we're going to go long one, short the other in the commodity space if it costs money to buy a future delivery of a product, then that's a negative cost, you don't want to have those in your book, you want to have ones that are out of whack, maybe momentarily, where they're actually, it's cheaper to house that commodity until maturity, which is when the contract comes due.

Rodrigo Gordillo: So, you can also play yield strategies in the commodity space, relative value, buy things that are cheap, sell things that are expensive or short things that are expensive. And then volatility, I think we've seen a lot of the volatility risk premium out there, conversations about this in the last few years, but this one is basically from our perspective is when hedging, when people need to hedge, they tend to over hedge, when the people need to get out of their hedges, they tend to get out too fast, so there is again, a behavioral play here where you can take advantage of in this case going long volatility at the right time, and it can act as a great tail protection strategy. So, the reason that we look at these is because they have an underlying reason to exist long term, they also help fill in each other's blind spots.

Rodrigo Gordillo: So, diversification, once again is the way to survive, diversification is the only road to riches as Peter Bernstein has set in the past. And so here we see a market quilt from 2000 to 2020 showing how each one of these factors tend to meander on and off over the years, it's really tough to predict which one's going to be the best one, and that's the last thing you want to do is to over fit and choose one, because it's done the best over 30 years, the reality is if you believe that the underlying reasons for those anomalies to exist are going to continue, then you should hold as many of them as you can. And so you can see the trend in green did really well until 2010 and then had a mediocre run after that.

Rodrigo Gordillo: Whereas seasonality, encounter trend tend to pick up the slack. So, these factors, these approaches to multifactor tend to be really robust again, to things like inflation and negative growth shock. So, let's take a look at what that's a, just going back in history one more time, what that actually looks like. So, what I did here is I'm going to go back to the 1970s, I'm going to show you the same chart with the commodity line here in yellow, but now I'm overlaying two strategies. The black one is at all weather risk parity portfolio, okay. And so what you see here is that being balanced and being able to have exposures to all these things at the right level risk, so this one runs at a 10% level of volatility. What you get is actually a much smoother ride than that yellow line, and you have a similar outcome than just holding that commodity.

Rodrigo Gordillo:   Again, it's smoother, you might find some jealousy during periods when commodities are going from 1971 to 1974. But again, from a perspective of stick to it ness, it seems to be a pretty good, robust approach, and there are many risk parity funds out there available to investors today. The blue line is pulled from AQRs paper on a, I think it was called A Century of Evidence on Trend-Following Investing, and so that's the data from the paper, just showing that being able to go long and short seems to mitigate against these bear markets, both and during the commodity correction from inflation, right. In the 2000s similar thing, the black line is the advanced research Risk Parity Index, which you can find online pretty steady, again, not a lot of volatility tends to come out similarly in terms of returns to that commodity sleeve, so from an inflation perspective, it tends to do the job.

Rodrigo Gordillo: The blue line is the Goldman Sachs Macro Risk Premia Index scale to 10% volatility, which is similar to that of a 60/40 portfolio. And what we see is the ability to go short and long during a period of a bit of chaos tends to add a lot of value, right? And the more the chaos, the more opportunity sets there are in these global spaces. I think that the Goldman Sachs uses value yield or carry and trend as their three go to factors in this equity line, all right. So again, when you're thinking about what can I do to fill in that inflation blind spot turns out that both the risk parity approach and the multi-asset strategy tends to provide not only better results, but if you're adding it as a sleeve in your portfolio, significant offset to your S&P 500 too.

Rodrigo Gordillo: Now I'm going to go through the same things, I just focused on inflation, because I want to focus on one thing at a time. So, we just were able to fill in the blind spot of inflation that 60/40 has. Now let's see if we can fill in the blind spot of bear markets, so back to the 1970s, same equity lines, but now I'm highlighting that long bear market and very deep bear market of the 1972 to '74. So, that's a 42% drawdown in the in US equities at the same time, the AQR diversified trend index was up 138%. Risk parity was kind of flattish to slightly up again, kind of a boring all weather type approach, but you can see the benefits from filling in that second blind spot of prolonged bear markets. Back to the 2000s.

Rodrigo Gordillo: Once again, we see if we focus in on the two major bear markets, this is a tech crisis from 2000 to the bottom was March 2003. And from May 2007, all the way down to March 2009, that's a 47% drawdown, 53% drawdown, what happened here? Well, we saw risk parity during the tech crisis and a smooth ride, very well-balanced exposures, most of the returns coming from treasuries and then in a way, pretty decent, a minor blip here, risk parity is susceptible to abrupt liquidity events like we saw in October of '08, but significantly of course, better than what we see here, right? So, still protective, and of course the Goldman Sachs Index tends to do even better. All right, now the question is why? It seems like a no brainer, it certainly has seemed for me from my whole career, even before I started in the business, looking at these concepts of the permanent portfolio, the idea of balance and global diversification.

Rodrigo Gordillo: But today, what we see is that the vast majority of the space has abandoned active management period, has abandoned the idea of diversification period, it has not paid to be diversified, it has only paid to be domestically oriented and specifically domestically oriented in growth stocks, okay. Now growth stocks tend to thrive, like they really tend to take all of the marbles during periods of benign inflation and persistent growth. We see this in the late 1920s, we see this in the '40s and '50s, right before the big inflationary events, we saw it in the late 1990s and we're seeing it again today or we have seen it in the last decade today. This is where people are willing to pay a lot of money to projects that are 30 years out that have no casual to pipe dream type investments where, because the cost of money is so low, we're willing to fund these long term projects.

Rodrigo Gordillo:  The problem is when inflation rears its ugly head, everything starts to fall apart and grow stocks tend to go from the Darlings to the bottom of the heap. And so in the last decade, what we saw is a shift from values, investing, winning, active equity management, active bond management, active global management being really solid and outperforming a passive strategy, passive portfolio to something like this. Last decade, when there was benign inflation and persistent growth, most of the liquidity went toward US domestic equities, most of the liquidity went towards specifically growth stocks, which is a repeatable pattern here. And when that happens, you see flat lining most years of asset classes in this case, thank goodness people did give up on that passive commodity sleeve for their client's portfolios, because at some point it was like a 75% draw down, but a lot of flatness, draw down here and then, go nowhere for a while.

Rodrigo Gordillo: This type of market where we see flat and choppy existed in equity markets globally, existed in bond markets globally with the exception of US equities and US bonds. And so this is a tough decade for being diversified, risk parity did okay by the way, from point to point, pretty amazing. It continued to be as persistent as the concept alludes to be, and for active long short, it was a bit rougher, but still positive expectancy, right. Going back to the period of like what happens when that active stops working, well, it's still not terrible, the problem is of course from the water cooler discussions that we see a period here where a concentrated equity market like the S&P, which is absolutely dominated, every other global market is going to be tough to stick to, right. But if you understand it, if you understand why you're holding a multi-asset, then you might be in a better spot long term, because you never know when the tides change.

Rodrigo Gordillo: So, ultimately when it comes to thinking about filling in those two blind spots, right, I'm adding now more asset classes here. So we have, again, just a reminder, this is things at the top will be things that are highly correlated to growth, at the bottom things that are lowly correlated to growth, here highly correlated to inflation, lowly correlated to inflation. So, real estate again is another one that people like to invest in, it is highly correlated to growth, we need growth and lower inflation in order for that to thrive, TIPS tend to be neither like a zero correlation to inflation in a surprising way and does slightly just as well as treasuries do in bear markets, commodities tend to be the best, but we talked about the blind spots of commodities as well. So, I think that what I'm trying to, and I hope I've pushed across here is that there are these two major blind spots require more thoughtful allocations.

Rodrigo Gordillo: We are in a privileged position right now where the regulators have allowed good multi-asset active management through the liquid alts rules to be made available to investors today. And these multi-asset, as I've shown in the research here tend to do a good job, not just at inflation and not just to growth, but at both, it tends to fill in two blind spots all at the same time. And so as people are assessing their 60 and their 40, you might want to start thinking about making room for actively managed multi-asset is the moral of the story here, okay. And so let me get to the final part of this presentation, which is a case study. Case study where this fund has put it all together, okay. So, this is the rational resolve adaptive asset allocation fund the fund that we sub advise for rational funds. Starting with what the fund invests in, and this is what is available to the fund to invest in at any given time, the wide variety of equity markets that market cap equity markets and the ability to go long and short.

Rodrigo Gordillo: Fixed income, all this is, and we're talking about sovereign bonds because credit is a combination of equity, risk and bond risk, this is AJEVERSE high type of market. We want pure exposures to these asset classes for that diversification benefit. The exposure of foreign exchange, and then look at the amount of line items here that are in the commodity space, energies, grains, metals, softs, and then for a little bit of protection to be able to go long volatility is important, okay. And so we talked about creating all weather strategies and putting them together. Well, this is the universe that we're going to do it with.

Rodrigo Gordillo: The question is how do we want to put it together? And going back to Ray Dalio, the way that Bridgewater runs their company is they have their all weather, long only tactical, right. Because they're changing allocations over time, to keep that balance. And then you have your long, short multi-asset alpha, they have their pure alpha strategy. And from an institutional perspective they mix and match. What the rational resolve adaptive asset allocation fund has done is it's made that decision on your behalf, so for every dollar that you give this fund, you're going to get half of the exposure is going to go to global risk parity to that all weather approach that I discussed already. And then the other half is going to go to systematic global macro, so you're going to get whatever return the risk parity provides, you're going to get one part of that, and then stacked on top you're going to get the alpha return.

Rodrigo Gordillo: This is known as portable alpha, where we recently wrote a paper called Return Stacking Strategies For Overcoming a Low Return Environment, which I highly recommend that people look up and read. But it's this idea of providing the best beta, the best global market portfolio, and then stacking returns on top that are non correlated. So, this systematic global macro sleeve tends to have a very low correlation to risk parity, which means that we're stacking returns, but not necessarily stacking risk as things zig and zag. An example of thinking about this is a ski company is going to make money at the end of the year, right. In Canada where I immigrated to you didn't have ski companies, you had ski companies and then you also had bike companies, because bike companies on their own are going to make money over the years, but it makes much more sense to offset the cash flows to have skis and bikes, right?

Rodrigo Gordillo:  Again, the key aspect here is that they both make money independently, but when you're making all the money from selling skis in the winter, you can grab the winnings from that and reinvest it into your summer business, which is the bike company, and that rebalancing premium allows you to grow the bike company even further than you would've otherwise without it. And then provide positive cash flows when you would otherwise have flatter negative cash flows in your bike company and sorry in your ski company, right. So, you get two assets by having global parity and systematic macro, both are expected to make positive returns, both are expected to do it at different times, and therefore there's a rebalancing and reinvestment premium there. Now both of these do still have a bit of a blind spot, I mentioned in 2008, that global risk parity tends to have a blind spot on liquidity events, we saw it in '08 and we saw it a little bit in March 2020.

Rodrigo Gordillo: It actually did a pretty good job for the first couple of weeks of the correction, and then there was a period where everybody just wanted cash. Systematic level macro, it can be net long or net short it's not neutral at any point, so if it's caught in net long, and there is a liquidity event, there might be a little bit of a gap. So, to fill that gap from a portfolio construction perspective in actually providing in all weather type approach, you'll see the ability we call this cover your tail or dynamic tail protection and this is using the volatility contracts, the VIX and the V stocks, VIX is the S&P 500 contract, V stocks is the European version of it where you can measure multiple triggers that allow you to go long VIX, long volatility.

Rodrigo Gordillo: So now we have, and that's by the way, mostly turned off, it really is an overlay, it is 95% of the time sitting in the sidelines and 5% of the time trying to come in there, minimize volatility and fill in some of the draw down gaps, okay. And so to show you what these styles look like, we pulled together three indices, public indices that kind of show the styles that I just described. So, on the bottom left here is I pulled from the S&P risk parity index, right. So, S&P runs a risk parity index, and you can see right away that it's a much smoother ride from 2004 to now. The much lower draw downs, much smoother ride throughout the years with that balance better than the MSEIL country world index or global equities. So, that's kind of the base, right now reminder, this is the gap down, we saw a little bit of gap down in 2020, how do we fill those gaps?

Rodrigo Gordillo:  Well, in this case, I'm showing the CBOE Eurekahedge Long Volatility Hedge Fund Index, which is just a bunch of hedge funds trying to time when to go long volatility. And you can see that they're not designed to make money, most years they're designed to make money during these periods of acute crisis. Similar in 2020 from here to here, it's kind of flat from here to here is slightly down, but you would expect to have a zero carry here and there's better ways to do this than this index, but you get the point. This fills in this gap, this fills in this gap, you rebalance between the two, you get a little bit of magic. So, these are very complimentary, and then finally we're looking at the alpha, right? That overlay that we talked about in this case, we're using the HFRI Macro Systematic Diversified Index.

Rodrigo Gordillo: And again, alpha tends to thrive during periods of chaos, 2000 to 2011 was a period of chaos, there were two major bear markets, there was a cyclical inflationary up and down throughout the decade, there was a commodity bull cycle. When you have supply chain disruptions, global growth here, wars and recessions here, you're going to see long short managers do really well, and that's exactly what we saw. So, from 1990 to 1999, it was an okay kind of outcome but from here to here, it was really unique. Then you get into that disinflationary growth where there's only instead of having 25 places to invest, all of a sudden you have one or two with the gross stocks while you're going to have a decade of single digit returns, right?

Rodrigo Gordillo: Luckily this part here, compliments risk parity, and risk parity here in that's parabolic move tends to compliment this look kind of flattish decade of alpha. Again, each one of these like a ski and bike company, do make money over time but not all the time, here you have your ice cream, your fudge, you have your cherry on top, all of them pretty tasty, but together they seem to compliment each other quite nicely. So, the goal of this fund, given everything that we've researched already, that we've shown you, is this idea of being able to deal with, be resilient to inflationary stagnation, inflationary boom, disinflationary bust, and disinflationary boom, using commodities, rates, currencies, and stocks, things that we couldn't do before, right or when we were just doing 60/40 or before liquid alternatives came to play.

Rodrigo Gordillo: So, how has this done year to date? I mean, it's been a long time, since we've seen inflation and a negative growth shocks, a stagflation type environment that started probably in November, December, right. How have our bonds done versus this case study? And what we see is in yellow from this is a year to date returns for global equities in yellow, actually it's until April 12th, which is when this was approved. So, you can see here a route down at the same time as global bonds have also taking a leg down. So, they're basically losing money to the same degree, and they're highly correlated to each other, again, predictable expected under, if you understand the dynamics of inflation and growth, you know that this is a regime that could be very real, we felt it and saw it in the 1970s, and a fund that can do the both risk parity, systematic long, short, global macro, and tail protection done.

Rodrigo Gordillo: Well, you can see it protects and then thrives, right? Being able to provide that offset to these two asset classes. How was this fund able to do that? What things was it doing and what was it shorting? Well in this particular circumstance, this is the top five and top short positions ending March 31st, that's on the fact sheet. And what you see here is that the long positions were gas oil, heating oil, brand crude, crude, and the reason for that is as we know, there's been supply chain disruptions, there's been the war with the Ukraine that has led to energy prices going through the roof. The bottom short positions have been the S&P 500 being able to short the S&P something that most advisors and investors can't do, being able to short platinum, right? That's been a negative growth environment for platinum.

Rodrigo Gordillo: And importantly, if most people have an investment policy statement with a strategic allocation of fixed income and a strategic allocation equities, having a third leg, a multi-asset long short approach that has the ability to thoughtfully go short bonds is going to be crucial. And in this case, we see that our three largest short positions were German Bunds, Italian bonds and five year US treasury. So again, a key aspect to have mandate flexibility and portfolio agility while being maximally diversified. Over time, this fund, I'm highlighting the three years here, because that is roughly around three and a half, maybe four years at this point when resolve took over the fund. The five year number, so 2016, 2017, and most of 2018 or half of 2018 was a predecessor manager that was not resolved, it was a trend manager, just pure trend.

Rodrigo Gordillo: So, this approach that we're talking about today is been in place since 2018, and so, yeah what we've been able to provide is maybe not the 16% return annualized, right, but still a pretty decent rate of return while providing very low correlation exposure for those investors that only have equities and bonds. And for that effort, and for that portfolio construction, we found ourselves as a 5 Star fund in Morningstar as of today, and pretty high up in our rankings for the year to date, one year, three year and five year. So, this whole concept has been ReSolve's life's work in order to be able to provide investors and advisors that provide ballast and offsets for people who are worried about high inflation regime, you're worried about a multi-year bear market, this is important the multi-year aspect, why I was showing you the 2000 to 2003, I was showing you the 2007, 2009.

Rodrigo Gordillo: Those are traditional bear markets, where we are seeing rotation from a winning asset class, like growth stocks to toward for example, this year value stocks and energy sectors and so on. So, there's a rotation happening that takes a long time, this idea of buying the dip maybe something that we've experienced over the last 10 years, but if 100 years can tell us a story, is that the prolonged bear markets tend to have multiple dips, I think I counted eight dips during the tech crisis, I think I counted 12 and during the credit crisis. So we may be, I think I've counted three so far this year as of May 2022. So, we got to be prepared for those multi-year bear markets, and I think things like this will do well. If it's a abrupt loss in bear recovery and its position incorrectly, you might find that even multi-asset or risk parity might not necessarily be there, but for prolonged bear markets should.

Rodrigo Gordillo:  And then ultimately the dream is to have multiple sleeves that are non correlated to what you own, I think multi-asset, and risk parity tend to do that for you. So, we've just scratched the surface, I've been talking about this and writing about this for over a decade, and there's plenty of information out there from us, for you. We want to make sure that people are prepared. I have a real passion for what happened to me and my youth, not happening to anybody here in their future, during the retirements, they have a good sequence of returns that they have no issues with volatility and have a maximum safe withdrawal rate.

Rodrigo Gordillo: All of these things are going to be super important for everybody in the next couple decades, and I hope that this has been useful. I want to reiterate how important it is to continue your education, if you go to, you'll be able to continue that and understand a bit more nuance, what I've just described today. And so every episode has it's 15, 20 minutes a piece. We set the table, we talk about diversity, we talked about balance, we'll talk about factor and long, short investing, we'll talk about tail protection, but every episode has a link that then goes to a transcript, and that transcript also in that transcript page will also have other papers that we've written on that particular topic. So, continue your education don't leave it here, if you want to join us on our podcast every Friday at 4 o'clock, we do a live cast.

Rodrigo Gordillo: If you want to join us and ask questions, we're happy to take them and discuss every Friday we'll have a unique guest, that'll help us hone in our skills even further. And with that, I will end this presentation. Thank you very much for all of your time and attention, and if you do want to get in touch over Twitter, you can look me up @RodGordilloP, or if you want to look us up at our website, for that case study mutual fund, you can go to and look for the adaptive asset allocation fund. Thank you very much, and I hope this was useful.


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