Investment Opportunities in a Down Market

  • Written by David
  • June 10, 2009 at 9:43 am
  • 2
  • What to do? What to own? Where to invest?

    How well are you managing risk these days?

    Over the years, I have analyzed many a client’s 401k statements. A typical 401k plan allows for many investment options in the name of diversification. Oddly, almost all of these options will lead to a similar result when markets move in any direction. That’s not diversification at all.

    Many years ago, I realized that I would need to create asset allocations much differently than what the herd of the marketplace offered. The garden-variety asset allocation of large-company, medium-sized company and small-company stocks was not going to cut it. This doesn’t reduce risk.

    What the investor needs is an “inverse” asset class that moves up during sharp, major market declines. This asset class offers superior protection against downside risk when compared to traditional asset allocation models. Traditional asset classes are highly correlated offering little downside protection during major market declines.

    Years ago I also realized that creating client portfolios one ‘stock pick’ at a time was a kin to the surgeon awakening the patient from surgery asking for approval to tie another suture. This cobbled-together approach was of no interest to me. Rather, my desire was to create portfolios in a holistic approach thus maximizing the client’s probability for financial success.

    This led me to the direction that I have been practicing for years, using the services of professional ‘strategists’ (which is what our industry calls investment firms that create asset allocations).

    I have detailed this approach within my practice through a blog posting date July 11, 2008 titled “Dave, How Do You Construct Portfolios?” Therefore I will not spend time on this matter here. What I was looking for years ago, and thankfully found, was a portfolio strategist who exhibited forward thinking in portfolio construction. Simply, it was not good enough to just use past performance for asset allocation design.

    A part of the forward thinking is the use of inverse asset classes to manage and mitigate short-term market declines. Although client assets were down in 2008, the use of an asset allocation design to include inverse asset classes reduced the size of decline compared to the broad market. Let me review and focus on the asset allocation tools inside my ‘virtual’ toolbox that have offered superior risk mitigation in 2008 and well in to 2009.

    What are these Inverse Asset Classes?

    Let us look at the asset class that is at the heart of the inverse asset class strategy as described above. This tool is called AMP for Actively Managed Protection. AMP is a tool managed by a 150-year-old international asset manager, Credit Suisse Asset Management (CSAM). CSAM was hired to manage put options, an asset class that has been available to institutional investors for decades. Put options, which give the holder the right to sell a security at a fixed price, move in the opposite direction of the broad market indices. Put options have received a bad rap over the years, as many individual investors have been attracted to options for mere speculation. However, placed in the hands of professional institutional asset managers, put options serve their intended purpose, which is to mitigate large losses inside of one’s portfolio.

    As can be seen from the chart below, when the markets fell in 2008, the cumulative return of AMP rose significantly. This is the design of AMP. A cynical individual might opine, why not just invest in AMP entirely last year?  That would be speculating, and that’s what many ‘retail’ investors do with the asset class, and lose.

    By the end of 2008, the conversation was no longer theoretical

    As you can see in the chart below, the highest value of AMP in 2008 was on November 20th, the market low for 2008. AMP was doing exactly as it was required to do; move up in dramatic fashion while the broad markets plunged. Until this year, the idea of AMP inside a client portfolio was mainly a theoretical discussion as to how it could work in a severe declining market. By the end of 2008, the conversation was no longer theoretical.


    The use of inverse asset classes can be found in a number of strategies available through my firm. Two of the strategies inside my ‘virtual’ toolbox that continue to offer superior risk mitigation in 2008 and well in to 2009 include:

    • Preservation Strategy (PS)

    Risk Mandate: One downside risk objective

    • Active Return Opportunities (ARO)

    Risk Mandate: Includes six downside risk objectives

    A quick graphic review of the strategies during fourth quarter 2008 follows:

    Below you will see 4QT 2008 (green) and full year (blue) 2008 performance of the Preservation Strategy compared to a 60/40 mix of S&P 500/Barclays Aggregate Bond Index as well as the S&P 500 Index.

    During the fourth quarter (green), the Preservation Strategy declined a very modest 0.2% as compared to a 11.9% decline for the blend and a 21.9% decline for the S&P 500 Index.

    For the full year (blue), Preservation Strategy posted a negative 4.7% as compared to -22.1% for the 60/40 blend and -37.0% for the S&P 500 Index.


    Below you will see 4QT 2008 performance for three risk profiles for the Active Return Opportunities (ARO) Strategies. For each of the risk profiles, there are three asset allocation strategies, Domestic, Global and Current Income. The grey bars reflect the returns for the S&P 500 Index and the 60/40 index blend.

    In all ARO profiles, fourth quarter return was much less negative for all strategies when compared to comparable unmanaged indices.


    I offer those of you who are not David Gratke Wealth Advisors, LLC clients the following:

    A Cup of Coffee and a Second Opinion

    When the markets turn as volatile and confusing as they have over the past year, even the most patient investors may come to question the wisdom of the investment plan that they’ve been following.

    At David Gratke Wealth Advisors, LLC, we’ve seen a lot of difficult markets come and go over the past twenty-three years. And we can certainly empathize with people who find the current environment troublesome and disturbing. We’d like to help, if we can, and to that end, here’s what we offer, a cup of coffee, and a second opinion.

    By appointment, you’re welcome to come in and sit with us for a while. We’ll ask you to outline your financial goals – what your investment portfolio is intended to do for you. Then we’ll review the portfolio for and with you.

    If we think your investments continue to be well-suited to your long-term goals – in spite of the current market turmoil – we’ll gladly tell you so, and send you on your way. If, on the other hand, we think some of your investments no longer fit with your goals, we’ll explain why, in plain English. And, if you like, we’ll recommend some alternatives.

    Either way, the coffee is on us. Thanks for reading.

    David Gratke




  • Gratke Wealth, LLC is a registered investment adviser in the State of Oregon. The adviser may not transact business in states where it is not appropriately registered, excluded or exempted from registration. Individualized responses to persons that involve either the effecting of transaction in securities, or the rendering of personalized investment advice for compensation, will not be made without registration or exemption.