Buy and Hedge Retirement Strategy Adjustment

Source: Federal Reserve Bank of St. Louis

Adjustments To Structure of Portfolio Within Buy and Hedge Retirement

Buy and Hedge Retirement has always had two components that include call options representing notional ownership of the S&P 500 Index and yield generating positions.

We use long calls due to the limited risk in that we can only lose or risk what they are purchased for no matter how far down a market goes. We refer to about an 8-10% downside equity risk over a 1-year period within accounts. The rest of the account utilizes yield generating positions to help offset a portion of the cost of the long calls in accounts. For the better part of a decade the yield portion of the portfolio has used various combinations of short duration high yield.

Above you’ll notice a chart of the 1-year US Treasury Bill where yields topped 4% this week for the first time in 15 years.

This has given us the opportunity to use short duration US treasury bills as the income piece in portfolios.

Why Adjust the Fixed Income Portion?

This reduces risk in portfolios while generating the requisite yield to fund our long call equity exposure.

Yields in shorter duration treasuries haven’t been this high since October of 2007. Simply put, this investment choice has not been available to us but with rates moving higher, we are able to capitalize and further manage risk in portfolios.

Moving to short-term treasuries will result in a reduction in interest rate risk, nearly eliminate default risk, and significantly reduce market risk.

Treasuries don’t share the same correlation with equities that short duration high yield does.

We think this move will make you even more comfortable with what was already a strategy designed to help you sleep better at night but stay invested.

What About the Equity Portion of the Portfolio?

Part of the benefit of buy and hedge is to reinvest avoided losses at lower levels as part of normal rebalancing.

We are taking this opportunity to reset our long calls at lower strike prices. This allows for higher upside capture should markets rebound without adding additional material risk. We also are adding additional rungs of option maturities to increase flexibility in the future. With the adjustments to the fixed income piece, it made sense to reset the entire account build at the same time.

The same risk and upside capture targets remain as they were previously.

For those using Buy and Hedge Retirement in taxable accounts, this adjustment will provide some tax harvesting in realizing losses during 2022.

What To Expect Going Forward

This week the ZEGA trading team will be hard at work rebalancing accounts.

For some of you who haven’t managed client accounts holding treasuries, you should expect to see the exact positions within accounts. A bond’s yield to maturity is the annualized return based on a combination of an eventual move in the market value to par ($1000) at maturity and/or the coupon payments. 

Those of you utilizing TD Ameritrade can view treasury positions by logging into TD Veo as opposed to Thinkpipes. At Schwab simply go to the advisor center and look at the positions. 

The ZEGA team is available to answer any questions you might have. 

Hopefully this update helps to provide the foundation for the adjustment and the benefits we think it will bring to you and your clients.