Mostly Voices [0:00]

A foolish consistency is the hobgoblin of little minds, adored by little statesmen and philosophers and divines. If a man does not keep pace with his companions, perhaps it is because he hears a different drummer. A different drummer.

Mostly Mary [0:19]

And now, coming to you from dead center on your dial, welcome to Risk Parity Radio, where we explore alternatives and asset allocations for the do-it-yourself investor. Broadcasting to you now from the comfort of his easy chair, here is your host, Frank Vasquez.

Mostly Uncle Frank [0:36]

Thank you, Mary, and welcome to Risk Parity Radio. If you are new here and wonder what we are talking about, you may wish to go back and listen to some of the foundational episodes for this program. Yeah, baby, yeah!

Mostly Voices [0:51]

And the basic foundational episodes are episodes 1, 3,

Mostly Uncle Frank [0:55]

5, 7, and 9. Some of our listeners, including Karen and Chris, have identified additional episodes that you may consider foundational. And those are episodes 12, 14, 16, 19, 21, 56, 82, and 184. And you probably should check those out too because we have the the finest podcast audience available. Top drawer, really top drawer, along with a host named after a hot dog.

Mostly Voices [1:34]

Lighten up, Francis.

Mostly Uncle Frank [1:37]

But now onward to episode 293. Today on Risk Parity Radio, we're just going to do what we do best here, which is attend to your emails.

Mostly Voices [1:49]

And so without further ado, Here I go once again with the email. And? First off. First off, we have an email from Brown. Hear your names. Mr.

Mostly Mary [2:02]

Brown, Mr. White, Mr. Blund, Mr. Blue, Mr. Orange, Mr. Pink. And Brown writes? Dear Uncle Frank and Aunt Mary, regarding your direct indexing strategy for the property and casualty insurance companies that you're holding in your portfolio, I'm interested in learning more about how you go about doing it. You mentioned that instead of using the Invesco KBW Property and Casualty Insurance ETF, you instead invest directly in the companies which the ETF holds. Looking at the ETF's holdings, it contains 25 different companies. Do you actually hold all the companies listed in the ETF at similar ratios to the current holdings of the ETF? Some of the companies the ETF holds, e.g. Chubb and Travelers Insurance, have tracked somewhat closely with the overall performance of the ETF, whereas other companies such as AIG have performed poorly and are quite dissimilar from the ETF's overall track record. You mentioned that back testing for the KBWP ETF is limited to 2012 or so. Did you back test the actual company stocks that you hold? to assess for longer performance track records, their diversifying potential against the overall stock market, et cetera. If you don't mind sharing with your audience, which property and casualty insurance companies do you actually hold, and at what percentages relative to each other? Lastly, are the dividends paid by KBWP or the property and casualty insurance companies you directly hold favorable from a tax perspective, i.e. all qualified dividends similar to utilities ETFs? Thank you again for sharing your knowledge and humor with us DYI investors. Sincerely, Brown. So you come for the knowledge? I am a scientist, not a philosopher. And stay for the humor.

Mostly Voices [4:01]

You are talking about the nonsensical ravings of a lunatic mind.

Mostly Uncle Frank [4:08]

I guess I have you coming and going. You had me at hello. Just so everybody knows what we're talking about here, I had talked from time to time on previous occasions that part of our stock holdings and our personal portfolio are devoted to an allocation of property and casualty insurance companies. And yes, those do pay qualified dividends just to get that out of the way. In terms of factors that is part of the value holding. in the portfolio, and it essentially plays like a mid-cap value kind of holding. What I found is interesting about those companies in terms of diversification is that they seem to perform pretty close to the overall market overall, but they perform very differently at different times and so are very well diversified. So, for example, these companies over the past month have actually gained 3 or 4% in value while most everything in the stock market has been falling in value. And I think what's going on is they tend to increase in value when short-term interest rates are rising because as insurance companies, they are forced to hold lots of short-term debt to pay out claims. And so it's like free money whenever the Fed is raising interest rates as far as they're concerned because they have to hold that kind of short-term debt anyway. So the easiest way to invest in that group of companies is to invest in an ETF called KBWP, which basically owns the 25 biggest companies in property and casualty insurance. Unfortunately, that fund is not a cheap fund to own. It's not really, really expensive, but I think it's at 0.4 or something like that. So instead of owning that fund directly, what we've done is just essentially direct indexed and owned companies within the fund. Now that fund is cap weighted, so in fact 40% of the fund is held in just five companies, which are travelers, Chubb, AIG, Progressive, and the Arch Capital Group. And you can see this by looking at Morningstar at the portfolio. It'll tell you exactly what's in this fund and what its holdings are. I didn't see much reason to own all 25 companies in this fund for the purpose of having a diversified holding in it because those last 10 or so companies are barely holding anything anyway. So as a compromise, what we've done is just hold the top 10 holdings in that fund, which are mostly those five companies, and then just equally weighted those companies. And we look at that every year or so and do some rebalancing. Over the past couple of years, we've actually been selling a lot of those companies because they've done better than the stock market, including having a positive return in 2022. Now, as you imagine, that would cause some tracking error, at least as the fund is concerned. But we don't really care about the fund as the fund. What we care about is the exposure to the kind of companies that we're talking about. and I ran a little analysis and portfolio visualizer so you can see what holding the top 10 companies in the fund looks like. In fact, it performs better than the fund itself. Cool. And I think just because the top holdings in that company actually are the best performers of those companies. There are advantages or economies of scale to being very large in the insurance business, as you can imagine. Yes! Now talking about AIG in particular, that company has a very peculiar history. The first thing you should know about it is the fund did actually not acquire AIG until 2018. And I believe that was because the character of that company was not a pure property and casualty insurance company, and it was under federal protection, if you will. because if you know the history of AIG, it was one of the big investors in credit default swaps prior to 2008 and essentially went bankrupt in 2008, but was basically bailed out or preserved so that the counterparties to AIG would not go under themselves. So the post-financial crisis AIG is a much different company than the pre-crisis AIG and now has kind of returned to its roots, if you will, and gotten rid of all those speculative aspects and really just focuses more on the property and casualty insurance business. But I think that's a reason why this is so difficult to back test in this area because you have companies like that that have changed character over the years and were not really property and casualty insurance plays at certain points in time. But that is also why I do not tend to go telling people that everybody needs to go out and do this simply because I don't have data that goes back that far. The theory of it of this kind of investment though is well trodden and the reason that I looked at it to begin with was simply looking at how Berkshire Hathaway works and the idea that they hold a significant amount of Property and casualty insurance companies within Berkshire Hathaway led me to wonder, well, why would they do that? And how diversified are those kind of companies from the other kinds of companies they might be holding? So basically, what I'm saying is for me and for us personally, while I don't have data that goes back earlier than the financial crisis, I do have confidence in the mechanisms of the way Warren Buffett invests and Charlie Munger and the way they run that company to lead me to believe that this is a good long-term holding to have. And when you look at its correlations with the rest of the market, that is really the icing on the cake and what makes me say, I'd rather have a big allocation to that than, say, REITs or utilities, because it also fills that value bucket.

Mostly Voices [10:24]

I could have used a little more cowbell.

Mostly Uncle Frank [10:28]

So if it's of interest to you, I suggest you do check it out on your own. And I will put another back test in the Portfolio Visualizer to compare against the others where I just did 20% in each of the top five companies. It doesn't do quite as well as 10% of each of the top 10 companies in the fund, but it does better than the fund itself overall. I still do wonder why these companies perform so differently than the rest of the market at various times, including periods like 2022, but I do have to believe that it has something to do with the structure of insurance companies and the fact that they are forced to hold lots of short-term debt. At least that's my story and I'm sticking to it. So hopefully you find that interesting and useful, and thank you for your email. Second off, we have an email from Justin, Justin of Risk Parity Chronicles. Yeah, baby, yeah!

Mostly Voices [11:34]

And Justin writes, Hey Frank,

Mostly Uncle Frank [11:37]

thanks for the shout outs in your two most recent episodes.

Mostly Mary [11:41]

I caught that mention around the nine minute mark of episode 291 about using RSBT or RSST in a portfolio, and have saved that to my ideas for future post folder. We'll try to get that soon, as the big news in these parts is that I've returned to the blog world. We'll be giving that Risk Parity Roundup idea that we talked about a try. Look for the first installment of that in mid-October. Any chance you can get some John Wick sound bites into the show? A true modern classic. Also, I made a donation to the Father McKenna Center for the Walk, but I don't need a t-shirt or anything. Have a great walk. I'll be there in spirit, Justin.

Mostly Voices [12:21]

People keep asking if I'm back, and I haven't really had an answer. But now, yeah, I'm thinking I'm back.

Mostly Uncle Frank [12:30]

Well, first off, thank you for that donation to the Father McKenna Center, which is our charity for this podcast. We have no sponsors. We only have this charity. Full disclosure, I'm on the board of it, and I am the treasurer. We have our main fundraiser for the year this Saturday, which is called our Walk for McKenna, where we walk around the area of Washington, DC, where Father McKenna lived and worked and served the homeless there and raise money for it and have t-shirts and everything. Groovy, baby! If you are in the DC area, you are welcome to join us down there on North Capitol and I Streets, starting at 8 o'clock in the morning, walking at 9. But even if you can't join us, your generous donations are most welcome.

Mostly Voices [13:24]

You are correct, sir, yes.

Mostly Uncle Frank [13:28]

And I'll link to that in the show notes again.

Mostly Voices [13:39]

Now, as most of you know, Justin is one of our longtime listeners who recognize the deficiencies in our programming It's not that I'm lazy. It's that I just don't care.

Mostly Uncle Frank [13:43]

And sought to remedy some of them by creating a blog that would track and talk about many of the same issues that we talk about here. And that blog is up. It's called Risk Parity Chronicles. It's done a lot of work on it. The best Jerry, the best. But had been on hiatus for part of the year. I know he's put up one post recently and will start doing them again in earnest next month. He will be doing some summaries of what we have in this program in case you'd rather not listen to me drone on and carry on.

Mostly Voices [14:18]

I could stand up here and talk on and on like some bow weevil sitting on a stump bragging to a dog in heat. And all the other distractions we have around here.

Mostly Uncle Frank [14:31]

And his name is John C. So you'll be able to get some of this in blog form at Risk Parity Chronicles starting next month. Surely you can't be serious. I am serious.

Mostly Voices [14:42]

And don't call me Shirley. Including probably most of the links we're posting.

Mostly Uncle Frank [14:47]

But Justin and I are kindred spirits, have the same kind of business model, which goes a little bit like this.

Mostly Voices [14:56]

I got this inkling, I got this idea for a business model. I just want to run it past you. Here's how it would work. You get a bunch of people around the world who are doing highly skilled work, but they're willing to do it for free and volunteer their time, 20, sometimes 30 hours a week. Oh, but I'm not done. And then what they create, they give it away rather than sell it. What's going on? Why are people doing this? Why are these people, many of whom are technically sophisticated, highly sophisticated, highly skilled people who have jobs. They have jobs. They're working at Jobs for Pay doing sophisticated technological work. And yet, during their limited discretionary time, they do equally if not more technically sophisticated work, not for their employer, but for someone else, for free. It's going to be huge.

Mostly Uncle Frank [15:51]

And so it's nice to have you back, Justin, and thank you for your email. They know you're coming, of course.

Mostly Voices [15:59]

But it won't matter. Next up, we have an email from My Contact Info.

Mostly Uncle Frank [16:14]

Oh, I didn't know you were doing one. Oh, sure.

Mostly Voices [16:19]

I think I've improved on your methods a bit, too.

Mostly Mary [16:22]

And our old friend, My Contact Info writes：Frank, I recall that you use interactive brokers. Not sure if this is a suitable topic, but if you deem it worthy, I would very much look forward to your assessment of the platform versus others that you have used over your investment lifetime. Thank you.

Mostly Uncle Frank [16:42]

Well, I first went to interactive brokers over 10 years ago now. because looking at the research at that time, it definitely was the lowest cost broker in terms of commissions, way lower than the other offers, and it also had very low margin rates if you wanted to borrow against your portfolio. So we've used that as the primary place for our taxable account money for the past decade or so. But as we all know, in the meantime, we've seen vast improvements by a lot of the other Providers of brokerage services. And we and our family have used E-Trade, we've used Schwab, we've used Fidelity. All of those, I think, are very similar in terms of what most people would be doing managing a portfolio, which isn't a whole lot of transactions, but they're now all offering essentially no fee trading, fractional shares. that is kind of the state of the art since 2020 that any brokerage you use ought to offer those kind of features. And you can get that at Interactive Brokers or you can get their traditional very low cost commissions. I have found Fidelity the easiest to use in terms of user experience. And so if you are new to investing or just looking for someplace that works well, You can't go wrong with using Fidelity. They have everything you need there. They have a decent phone app. It is more customer and user friendly than Interactive Brokers is certainly. Interactive Brokers is really designed for people who run hedge funds and family offices and traders and things like that. And people who want access to international markets. But for your average user or DIY investor, in the US. Fidelity is fine. Schwab is also fine. Many people like Schwab's banking parts of it. I know they make it easy for people to access their accounts internationally, although I don't keep up with the details of that. Two of my kids have accounts at Schwab. We have this legacy account at E-Trade, which I think was originally at Brown & Company, but now that's being absorbed into Merrill and I don't know. exactly whether they will change it or not. I think they'll probably leave it the same because they do want to compete with the Fidelities of the world. And most people are also aware that TD Ameritrade is being absorbed into Schwab. The odd man out here is Vanguard, really. Not because they don't provide good services, at least for buying Vanguard funds. It's just they're not quite up to snuff in terms of customer service and some of their offerings as Fidelity and Schwab are today. If you are there already and are fine with it, I wouldn't move. But if you were starting out today opening a new account, I probably would not go there. It is interesting though. You can see the vestiges of the history of each of these kind of places, even though they're kind of converging on a common model these days. Interactive Brokers was originally designed, as I said, for traders and people operating hedge funds and family offices and things like that. Schwab was the original low-cost discount broker going back to the 1970s. Fidelity was originally the place to go get managed funds, the Peter Lynch's and all of that. That goes back to the 80s and 90s. And of course, Vanguard was the originator of the low-cost index fund. But their platform was always designed around that closed system of mutual funds. and the idea of that business model, which T Rowe Price has also followed over the years, is that you go there and then you're kind of locked into their system with their mutual funds, which you can't really buy outside of there. That whole business model broke down with the introduction of ETFs and the availability of ETFs, because now ETFs are the better and more efficient way to invest over mutual funds. and since they are offered everywhere, there's no reason to have to go to some particular provider to get access to some particular mutual fund. But that still is Vanguard's history and legacy. I heard an interview of the person who was responsible for putting out Vanguard's ETFs, and he said that Jack Bogle really opposed the whole idea because he didn't want the company to go in that direction. But essentially he was overruled because everybody else there knew that that was the way of the future and they better get on the train. before it left the station. And so now Vanguard has just as many or more ETFs as anybody else offers. And you can buy them wherever finer ETF products are sold, including Fidelity and Schwab and elsewhere. So I think there are lots of good options out there these days. But sort of the minimum requirements would be access to ETFs, all of the ETFs in the world without restriction. and no transaction fees anymore. And if you're not getting that kind of service, you may want to look elsewhere. But this decision should not impact your overall investment performances if you have those two features. Anyway, hope you found that interesting and thank you for your email. I'm putting you to sleep. Last off. Last off, we have a loooong email. From somebody who wishes to remain anonymous. I have no name.

Mostly Mary [22:29]

Well, that right there may be the reason you've had difficulty finding gainful employment.

Mostly Uncle Frank [22:35]

And our anonymous friend writes：Dear Frank and Mary, I hope you're doing well as we head into

Mostly Mary [22:42]

fall. As always, your podcast is a favorite and I hope it continues for a long time. It has been instrumental in my growth as a DIY investor. Oh, behave. Yeah. One, are you allowed to discuss investment strategies as a financial coach? I coach friends on budgets and saving, but have not gone into investments. I can't recall which episode you shared the blog post where I was interviewed by Nomadic Sam on my portfolio. I wanted to give you an update and comment on your recent episode regarding momentum. In my retirement portfolio, I was 100% equities, 70/30 value and momentum. In order to help rebalance timing luck, I split equally between QMOM MTUM and I M O M slash IMTM. I also have a modified golden ratio that is being used for intermediate liabilities, a down payment, which consists of approximately 50% equities, value and momentum, 25% Treasuries, 15% managed futures, RSST, KMLM, QMHIX and 10% gold. At the end of my blog post, I wrote about exploring a levered risk parity portfolio instead of a 100% equity portfolio for retirement. Well, I made the shift. I'm happier than a pig in slop, though I'd refer to it more as a risk diversification portfolio since I'm not quite equal weighting risk. I felt so comfortable in the intermediate portfolio and never loved the idea of having 100% of my retirement in equities. There have been three periods in the last hundred years where U.S. stocks have underperformed T-bills for at least 13 years. The longest was 17. That's a heck of a long time to put all your eggs in one basket and not capitulate. I've got willpower, but that much? Not gonna do it. Wouldn't be prudent at this juncture. That being said, a factor-tilted, geographically diversified portfolio should help. But how much? So I've shifted my portfolio to an allocation that I believe targets risk of 100% equities with a smoother ride. The key was releasing my leverage constraint. And now with so many capital efficient funds, it's possible. I had a few rules in building it. One, for now, ETFs and mutual funds only. I don't want to deal with managing leverage if the market has extreme moves and I'm on vacation or swept up in work. Keep it as simple as possible, but do not let the simplicity tail wag the highly diversified portfolio dog. There is no perfect portfolio. Do the best you can with the tools you have. If you understand the fund and its process, you don't need to wait to see how it performs. You won't likely learn much anyway over five to ten years, because that's just noise statistically. If you don't understand the fund, don't invest in it until you do. So what does my new portfolio look like? 40% long only global value Avantis Funds, 20% QLEIX long short multi-factor equity, 24% RSST 100% large cap stocks plus trend, 16% TYA, 2.5 times levered intermediate treasuries, which comes out to 74% equities, 20% market neutral multifactor, 24% trend following, and 40% intermediate treasuries. 1.58 times leverage.

Mostly Voices [26:44]

Golden ratio, anyone? That is the straight stuff, O Funkmaster.

Mostly Mary [26:48]

And note that QLEIX gives you extra factor exposure juice, value momentum quality sentiment, and a 0.5 beta overlay. What have I effectively done? I've reduced my beta to 0.75, but have kept my exposure to other factors the same：value, momentum, quality, and added two more bets：time series momentum and term. These have approximately zero and sometimes negative correlation to each other, So even though I have more bets, I'll have less risk, sharp and drawdowns. Using long only funds, couldn't go back far enough with QLEIX, I modeled a similar portfolio and will share the screenshots below since it has my own SG trend index uploaded. Here's an excellent article by Larry Swedroe on how to think about diversification. Factor regressions and characteristics are extremely useful to see what your fund actually loads up on. As much as I appreciate the simplicity of your allocations to growth funds, you can do much better holding something like Dimensional Large Cap Profitability Funds. Something like VUG is buying overpriced, overvalued stocks. What you really want is high profitability at a fair or cheap price. I personally prefer Momentum as a standard for growth negatively correlated to value, and while you are correct that the various funds have different constructions, it really comes down to a few key points. One, what is their loading factor? Again, Portfolio Visualizer has a great tool for this. At the end of the day, momentum is simple, and they are all essentially targeting momentum signals. Not complex. It's a dumb strategy that has been highly effective. Two, how often do they rebalance? This matters more. MTUM, for instance, only rebalances semi-annually. QMoM rebalances quarterly. All things being equal, the best way to capture momentum is to rebalance more often. Three, how many securities do the funds hold? Alpha Architect has some great resources to learn about momentum. What I also like when talking about diversification is that by holding value and momentum, you're diversifying across strategies too. fundamental and technical. Factor regressions for DUHP, mutual fund version, VUG and VOO can be found here. To swing all the way back around, my levered retirement portfolio looks very similar now to my intermediate golden ratio. At the portfolio level, scaled down to 100%, that portfolio is 46.8% equities, 12.6% market neutral multifactor, 15.2% trend, 25.3% intermediate treasuries. Thank you for teaching me these principles and helping me learn to apply them. Bow to your sensei. Bow to your sensei.

Mostly Voices [29:53]

One last thing. Just one more thing, please. I thought you had a clock to punch. I do. I'm leaving right now.

Mostly Mary [30:04]

I've attached images of a back test that extends to the 90s. it's close enough. If using QLEIX to model my portfolio, you're only going to get 10 years out of it. QMHIX is a good stand-in for the trend portion of RSST as it is being built for 15% volatility. Be sure not to compare managed future funds of different volatilities. It would be like comparing VOO to UPRO. I also showed an all value strategy VT and S&P 500. I think it's unwise to extrapolate the Sharpe ratio and outperformance of the S&P into the future. This last decade was a blowout year, but you never know. My crystal ball is also cloudy. As you can see, I've got several here. A really big one here, which is huge. Actually, I threw it out once I started listening to your podcast. I'll choose diversification. Helps me sleep at night. Here's that backtest. And a link to my old blog post. Thank you, trending value.

Mostly Uncle Frank [31:17]

Well, I think you got Mary Buggett again here with the length of this.

Mostly Voices [31:23]

Mary Mary, I need your hug.

Mostly Uncle Frank [31:27]

And most of it does not appear to be a question, but simply telling us what you're up to and providing us with some links. And I will provide all those things in the show notes. I'm glad you're really thinking about these things and taking advantage of all the tools and options that we have here these days. I know some of you really like momentum.

Mostly Voices [31:47]

Yeah, well, the due to binds.

Mostly Uncle Frank [31:51]

You and Alexei ought to get together sometime. the dude abide. And I certainly think it's a viable strategy. I just don't personally have any insight into it other than I think it works best as an overlay to the size and value factors that we talk about. This is an interesting four fund levered portfolio you've constructed. Well, as you mentioned, some of the funds are too new to really know how they will play out over time. But I'm also wondering about that Avantis Global Value Fund and how that will work out with the others. I believe that's AVGV for anyone looking it up and we talked about it a couple of episodes ago. I'll see if I can link to a article from Optimized Portfolio about that fund again. The other ones you mentioned were QLEIX, RSST, which is that new large cap and managed futures trending fund, and then TYA, which we've talked about sometime in the past, which is levered intermediate treasuries. It is interesting you ended up with 1.58 times leverage, because that does seem to be the sweet spot as to how much leverage is the right amount of leverage. for most of these kind of portfolios. As for your one question, are you allowed to discuss investment strategies as a financial coach? I coach friends on budgets and saving, but I've not gone into investments. And the answer is, oh, this is not legal advice. There is no defined term for financial coach as to what a financial coach actually does. So I would say you can pretty much talk about anything related to finances. What I would really avoid doing is touching anybody else's money. Forget about it. Or selling them any products. Because once you start doing those sorts of things, you do come under a variety of regulations that you may or may not be following. So I would just avoid that. Reminds me what we learned in legal ethics back in the day. One of my professors used to say things like, Your money is green. Your client's money has black and white stripes on it. Because that's what she'll be wearing if you misappropriate your client's money. And so I think that's very good advice. And I keep my hands off other people's money.

Mostly Voices [34:26]

You can't handle the gambling problem.

Mostly Uncle Frank [34:29]

Thank you for bringing all these interesting ideas to our attention. Hopefully people will benefit from the links. and thank you for your email. But now I see our signal is beginning to fade. If you have comments or questions for me, please send them to frank@riskparityradio.com that email is frank@riskparityradio.com or you can go to the website www.riskparityradio.com put your message into the contact form and I'll get it that way. If you haven't had a chance to do it, Please go to your favorite podcast provider and like, subscribe, follow, give me some stars or a review. That would be great. Mmmkay. Thank you once again for tuning in. This is Frank Vasquez with Risk Parity Radio.

Mostly Voices [35:20]

Signing off. Wait, there's much, much more. To make the offer completely irresistible, you'll get this unique spiral slicer, down and down, around and around, and you'll have a beautiful garnish for your dinner table. Now how much would you pay?

Mostly Mary [35:36]

The Risk Parity Radio Show is hosted by Frank Vasquez. The content provided is for entertainment and informational purposes only and does not constitute financial, investment, tax, or legal advice. Please consult with your own advisors before taking any actions based on any information you have heard here, making sure to take into account your own personal circumstances.