Hortz: What did your research determine as to the best downside protection strategies to employ?
Robinson: A theme we saw throughout our analysis—and this should come as no surprise—was that there is no free lunch in investing. Advisors face a real challenge in selecting the best instrument for downside protection because sometimes solving for one problem creates less than ideal conditions elsewhere.
For example, if solving for drawdown improvement and “crisis alpha,” then the VIX could be an obvious choice. However, both the behavioral and quantitative pain from holding the VIX and seeing it drag on performance over nearly every other environment can be too great for many investors.
As another example, while U.S. 10-year Treasuries performed mostly in a favorable fashion in our study, a limitation with our analysis is that our sample period of 2000 to 2020 was marked only by falling interest rates. It stands to reason that, should the interest rate environment in the U.S. materially shift, Treasuries might prove to be less additive to a traditional portfolio than in the past.
Therefore, while some clear distinctions emerged among the instruments, we stopped short of proclaiming any ‘absolutes’ because each advisor may weigh the factors used in our analysis differently than we do in the Guide. Or they may not value these factors at all.
Hortz: What does success for advisors and clients look like in integrating your research into their investment process?
Robinson: There is a symbiotic association between advisor and client success.
For advisors, success involves retaining clients by being relentlessly focused on financial plans. This has two parts: first, it is developing the roadmap that helps a client achieve their goal; next, it is guiding the client to stay anchored to the plan even in times of euphoria, fear, volatility, change, and every other cycle the market will go through at some point.
For clients, success means sticking to the plan up until its intended, pre-determined end date—with an exception for when goals change, of course.
Building a portfolio that is quantitatively sound and also behaviorally friendly is a foundational element. But it first involves getting clear about what variables advisors and their clients value the most.
An advisor may have clients who cannot stomach substantial divergence from traditional benchmarks. For these individuals, it may be appropriate to select diversifiers that are more correlated to equities but also can preserve capital – trend strategies and managed futures come to mind based on the data outlined in the Guide.
On the other hand, if material outperformance during bear markets is important, it is imperative to know and communicate ahead of time that there is a high probability of performance drag on the portfolio by adding instruments like the VIX or an inverse S&P strategy.
With so many options bombarding advisors, we consider our Guide a great success anytime an advisor tells us it provided them with some order and clarity.
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