The pandemic has turned today’s stock market upside down, making conventional investments such as stocks or cash and cash alternatives, less attractive. Consequently, investors are looking towards new products which provide a return but at the same time can mitigate risk. Compared to the past in which alternatives investments such as hedge funds, crypto, private equity funds or NFTs, were only of interest to high-net-worth individuals, are now becoming more palatable to the eyes of the investors.
Hedge funds, for example, are actively managed investment pools whose managers use a wide range of strategies in order to beat average investments returns for their clients (Investopedia, 2021). They are known as the risky alternative investment choice, however this depends entirely on the sStrategy used. Consequently, these kinds of products provide the best of both worlds, in terms of risk and return, only if the investment strategy adapts to adverse situations of the market. In times like this one, where uncertainty is a common denominator, individuals tend to rely on financials products which generate a return but at the same time can alleviate strong hits.
A chief investment officer which is well-known for going against the herd is Mark Spitznagel. Together with his mentor Nassim Nicholas Taleb, they came up with a risk mitigation strategy. Its focus on maximizing convexity, which is the degree of portfolio loss protection provided for a given capital allocation (Universa, 2021), made explosive returns in periods of market crisis. His strategies concentrate in suffering small losses for long periods when the markets are resilient and then make huge returns during occasional market blow-up. For example, back in 2007 when Spitznagel launched Universa, as the global financial crisis hit the whole market, his investment company made 115% in 2008, compared to the S&P 500 which lost 38.5% and hedge funds fell by 19% (Financial Times, 2021). What is more Spitznagel reserves a special outlook for the “tail-risk” funds for their perceived ability to protect against market shocks. This investment approach stands in buying expensive put options on stocks, which some consider it being dangerous due to the delicate situation. However, being Universa a market-maker due to its size, it can purchase options more cheaply and thus have an advantage compared to other hedge funds. As a result, Universa Investmets hedge fund returned 4’144% in the first quarter of 2020 (Market Insider, 2021).
Overall, finding the right investment approach and adapt it little by little, especially in times like these, can be arduous. Risk mitigation still remains a dilemma in nowadays investing environment since it depends how it is done. Diversification is not the most efficient way because it tends to lower the CAGRs, in terms of higher sharp ratios ( Safe Haven Investing, 2017). According to Spitznagel, true risk mitigation is achieving higher sustained CAGRs through vol tax savings and by concentrating on three main factors: Store-of-value, alpha and insurance.
Sources:
Financial Times. (2021). Against the herd: trader Mark Spitznagel on contrarian investing. https://www.ft.com/content/941fa030-8135-4964-9d7a-e5274c130592
Investopedia. (2021). What Is a Hedge Fund? https://www.investopedia.com/terms/h/hedgefund.asp#:%7E:text=%20Some%20of%20the%20unique%20risks%20of%20hedge,minor%20loss%20into%20a%20disastrous%20one.%20More%20
Market Insider. (2021). The boss of a “Black Swan” fund predicts an epic market crash, warns crypto isn’t a safe haven, and blasts the Fed in a new interview. Here are the 12 best quotes. https://markets.businessinsider.com/news/stocks/black-swan-mark-spitznagel-universa-investment-market-crash-crypto-fed-2021-9
Spitznagel, M., & Taleb, N. N. (2021). Safe Haven: Investing for Financial Storms (1st ed.). Wiley.
Universa. (2021). Universa Investments L.P. http://universa.net/