HDGE: 4th Quarter 2020 Portfolio Manager Review
Performance data quoted represents past performance and is no guarantee of future results. Current performance may be lower or higher than the performance data quoted. Investment return and principal value will fluctuate so that an investor’s shares, when redeemed, may be worth more or less than original cost. Returns less than one year are not annualized. For the fund’s most recent standardized and month-end performance, please click www.advisorshares.com/etfs/hdge.
For the fourth quarter 2020, the AdvisorShares Ranger Equity Bear ETF (NYSE Arca: HDGE) returned -8.76% while the S&P 500 returned 3.84%.
Market sentiment is now beyond euphoric.
Sentiment is at generational highs. This chart from Haver Analytics is instructive. The shaded grey area highlights the 12-month forward returns, while the thin line is a measure of bullish sentiment. We are marking sentiment not seen since the peak of the dot-com bubble in 2000. Forward returns after periods of euphoria are negative. When will the downturn happen? With sentiment, valuations, and other factors positioned at the extremes, buckle up for 2021. No one can predict the future, but now is the time to hedge.
As one data point that highlights the practical result of such euphoria, Bloomberg brings us the performance of stocks ranked by the profitability of the underlying companies. Investors clearly favored the weakest stocks by this measure. In order for a stock to rise 40% in 2020, it was likely a company that was both unprofitable and burning cash! Companies that had the “misfortune” of being profitable underperformed the broader market. We have been living through a low-quality stock rally.
The same worrisome trend is seen when looking at the new issue market, or IPOs (initial public offerings). The ratio of IPOs of money-losing companies to those generating income is staggering. The current situation is far and away worse than it was during the Internet Bubble.
While the trend higher can continue, we are increasingly skeptical that these gains will be sustained. When these factors swing back, the losses are likely to be steep.
One of the aggravating factors that will make any downdraft deeper is the widespread use of margin debt. As the market climbs higher, investors are borrowing more and more on margin to increase their exposure. This chart, courtesy of Advisor Perspectives, shows investor credit balances since 1995. While margin balances have not quite returned to new highs yet, they are high and surging.
In the past, there have been peaks in margin balances right before significant sharp declines in the market. This is why we watch this metric so closely.
All of this unfettered bullishness takes place against a backdrop of extremely stretched valuations. Siblis Research and Bloomberg bring us this chart, which lays out the percentage of companies in the S&P with P/E ratios above 30 and those with P/Es below 5. As you can see, the proportion of these expensive stocks has superseded dot-com era levels. The market became increasingly overvalued during the fourth quarter.
Internal factor behavior confirms these risks. Two Rivers Analytics tracks a series of factors associated with speculative behavior. These are considered granular measures of the types of stocks investors are buying at the moment. Several of these risk factors are in deeply overstretched territory. The stock of unprofitable companies have been sharply outperforming the broader market since October. Momentum has been outperforming all year, with a sharp rally beginning November. Low Return on Investment (ROI) companies have seen stocks rise all year, with another sharp rally from November. Stocks with the highest short interest have risen dramatically recently, as have stocks of companies in aggressive industries. All are signs that investors are chasing performance in the strongest “FOMO” (Fear of Missing Out) rally in recent history.
Stocks were grouped and ranked by the relevant factor as of the end of the prior month and the returns computed for the month just ended. Stocks chosen were based on Two Rivers Analytics’ universe of stocks. © Copyright 2019. All Rights Reserved Two Rivers Analytics. Further Distribution Prohibited without prior permission.
|Ticker||Security Description||Portfolio Weight %|
|CTXS||CITRIX SYSTEMS INC||-3.06%|
|CACC||CREDIT ACCEPTANCE CORP||-2.90%|
|OLLI||OLLIE’S BARGAIN OUTLET HOLDI||-2.74%|
|CSGS||CSG SYSTEMS INTL INC||-2.65%|
|AKAM||AKAMAI TECHNOLOGIES INC||-2.64%|
As of 12.31.2020. Cash not included.