Thursday, January 8, 2009

Managing Risk for Each Security in the Asset allocation

I think that it is important to manage one's asset allocation in a dynamic fashion and to manage each individual position  within the allocation.  The dynamic process that I follow is not to shift money between classes on a short term basis, to capture what I might consider to be a short term trading opportunity in an asset class, but to shift money from over weight positions to under weight asset classes for holdings period normally in excess of one year.  So, now for example, I am starting to shift some money out of long term corporate bonds into commodities, and I  just placed a day limit order to purchase a metal using a small part of the proceeds from the recent sells of CUZPRA, FCZ and JZV which all fall in my long bond asset category.   Eric Bolling convinced me with his argument.  I have no intention of selling any new commodity position at anytime within the next year, possibly holding onto most of them for several years.  My gold and silver allocation, just as an example, has remained constant for at least a decade, with a moment of consideration given to lightening up when gold went above $1,000 an ounce.  This would make my approach different from what some call tactical asset allocation. 

On the other hand, managing positions within an asset class is a different process.  The basic tenets, for the long bond position for example, is to manage risk by increasing yield where possible, buying opportunistically at a discount to par value whenever I can, improving the priority status of the class as a whole, and generally improving my position by decreasing the total dollar amount invested in the class while improving the yield and potential capital gains potential.   This might include for example in trading functionally equivalent securities until I have less money in the functionally equivalent security or securities, at a higher yield than the original position(s), with some profits realized as a result of the trading activity, and this requires both attention and patience, as shown in the KTN and KVW trades.  I do not think that I mentioned the opportunistic buys and sales of KVF where I no longer have a position but I would mentally include the profits from those trades in doing and assessing my risk reduction activities.   

Another example of reducing risk in just one position would be to buy 200 of a bond like PNX at 6, for example, which means that you already need to know about it to assess the opportunity, and then sale 1/2 after a rally to 12 to 14.   In effect, before tax considerations come into play, the effective exposure to the security has been reduced to nil.     I failed in doing it right myself on that one but generally hit the nail on the head more than I miss.  

 Another type of risk reduction and risk management technique that I utilize is to group similar securities in a class or category, like REIT cumulative preferred stocks, and to trade them with the objective of trying to reach a 10% to 20% return per year with dividends and stock sales, which may require some stop loss activity.  Thus, I will not hesitate to sell on a 20% spike occurring some trading day since that brings me that much closer to the objective rate of annualized return for this very small sub asset class.   So, now I have a hodgepodge of positions in REIT preferred stocks, some are held at small losses and others have had spectacular gains since purchase, GRTPRF is up over 100% since purchase in late November 2008 but is viewed as highly risky. GRTPRF: A WALK ON THE WILD SIDE/ KTN add  I am just giving it some leeway to the outrageous dividend yield at my cost of $2.9. They will be traded virtually every month of the year until they completely lose any attractive valuation characteristics, and they would certainly be far less desirable at 20 than at less than 10 for example.   This class had, I believe, a zero allocation for most of 2008 until September, with some some quick trading activity on select issues, until they all fell down in a waterfall pattern starting in October to less than half of their par values, or in many cases 75 to 90% below par value.   Then they became the small sub asset class in the long corporate bond category subject to trading rules to manage their risk. (as I said, I know that traditional preferred stocks are viewed as equity but that is not how I look at them. Instead, for the reasons previously given, I view them as debt like securities, expressing or claiming no equity interest in the business, and as low on the debt or debt like totem pole of priority as you can get, just above common stock).

Another way to manage risk for a class of securities in an asset allocation is to hedge part of the position with a short or double short ETF.  I started to do this with my long corporate bond position by buying the double short ETF for the long treasury.  It has unfortunately moved up way to much in price for me to complete the hedge so I reduced by a tad my over weight position in long bonds. 

I discussed also in detail using SDS as insurance and a hedge for the stock part of a portfolio during what I call the entire period of an elevated unstable VIX pattern.  My only caveat to what I said earlier is that the position may need to be managed by adding  to and subtracting from SDS during the unstable VIX pattern period. 

For a speculative common stock position, like Synta, I will buy and sell the security, hopefully for long term capital gains but that is not a requirement, and then establish a position hopefully for the long term at the lowest price purchase cost.  This kind of activity is now easy given the tremendous fall in the stock market since October 2007.  I have no trouble finding scores of securities sold at a profit that are now far below my last purchase price.  For a stock like Synta, I would add this caveat.  If you happen to have a position on a day when it announces the failure of its main drug candidate, which day may or may not happen, you will wish that you never heard of the company.  My reason for adding another 50 is that the deal with Roche might keep it from falling below 2 or 3 if that announcement came some day which improved some the overall risk profile of the company but not by a great amount either. 

I did manage risk in an IRA today by selling the most speculative position in it, Delek (DK) with a GTC limit order at 6.25, partially replacing the proceeds used to buy 30 of PGN yesterday, a company viewed as less risky but also with less upside potential.    

I am starting to be impressed by the returns that I am now receiving from my bond ETFs.  It certainly helps the psyche to look at a lot of green up arrows on down days for the stock market. 

Someone like John Bogle would not approve of what I do and it is certainly not a process many should try to follow even if they had the time and the inclination to do so. 


  I am not a financial advisor but an individual investor trying to navigate my way through a difficult market. In these posts, I am acting as an unpaid financial journalist and an occasional political commentator.   I am also aggregating financial news stories that I view as important and providing any reader of these posts, assuming there are more than a couple, with links to those articles, sort of a filtered, somewhat intelligent, free search engine.  Any discussion made by me of particular securities  is not a recommendation to buy or to sell.  Trade at your own risk.  Consult with your financial advisor prior to making any purchase or sale. I will try to identify my sales too but it may take a few minutes after I implement them to create a post explaining my reasons.  The sale may before or after the post.  Before buying or selling any stock, even one recommended by a trusted financial advisor,  please research it and make up your own mind which is what I always try to do.  Research would include reading reports, reviewing financial records, earnings estimates, sec filings and prior earnings releases and news.  In this post, and all others by me, I am merely describing my reasons for purchasing  or selling securities, and the potential pitfalls that I identified prior to purchase or the reasons for a sale.  The securities mentioned in this and all posts written by me may not be suitable for others based on their unique financial position and risk profile.  Always read the prospectus before buying a Trust Certificate, bond, preferred stock or other bond or bond like investments.  Information contained in my posts has been obtained from sources believed to be reliable but cannot be guaranteed.  These posts by me do not constitute investment advice, nor shall they be construed as a guarantee of future results, or as an offer of any transaction in securities.   All content in these posts is provided for informational and entertainment purposes only, and it is a form of entertainment for me. 

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