VEGA: June 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/vega.
|MSCI AC World Index||3.20%||-6.25%|
|Cboe S&P 500 Buy Write Index (BXM)||-0.12%||-15.11%|
|Bloomberg Barclays U.S. Aggregate Bond Index (AGG)||2.90%||4.98%|
As of 06.30.2020.
In June, the market continued the upward momentum it began in mid-April. The S&P 500 closing out the month with a return of 1.78%. Fixed Income also posted positive returns, however not quite as robust as equities.
The top performers in June were equity based positions with Technology leading with a return of 6.94%. Both Large cap U.S. Equities (SPY) and Non-Developed U.S. (EFA and DBEU) also had top performing returns with 1.78%, 3.50% and 3.25%, respectively.
Unfortunately, the two positions that contributed negatively to returns were XLV and XLP with returns -2.44% and -0.22%, respectively.
|Ticker||Security Description||Portfolio Weight %|
|SPY||SPDR S&P 500 ETF TRUST||50.88%|
|EFA||ISHARES MSCI EAFE ETF||5.28%|
|BLACKROCK LIQUIDITY T 60||5.08%|
|XLV||HEALTH CARE SELECT SECTOR||5.04%|
|XLK||TECHNOLOGY SELECT SECT SPDR||4.59%|
|IGSB||ISHARES SHORT-TERM CORPORATE||3.88%|
|AGG||ISHARES CORE U.S. AGGREGATE||3.85%|
|MINT||PIMCO ENHANCED SHORT MATURIT||3.84%|
|JPST||JPMORGAN ULTRA-SHORT INCOME||3.83%|
|LMBS||FIRST TRUST LOW DURATION OPP||3.80%|
As of 06.30.2020.
June was an interesting month in terms of price appreciation for VEGA. During May VEGA has sold Covered Calls against SPY for a strike of $314. By early June, the Covered Calls were already In-The-Money significantly with SPY breaking $321 by June 9th. To regain price participation on SPY, the Covered Calls were closed for a loss. However, because SPY has risen significantly since adding the Covered Calls it was a good time to take some gain off the table and some shares of the SPY were sold. Unluckily just shortly after closing the Covered Calls the SPY fell back below the original strike and would have expired worthless. Not all was lost because the partial SPY shares were sold at much higher prices capturing the price appreciation near the highs. After expiration new Covered Calls were established against the SPY for a strike of $339. There was much discourse on reintroducing Covered Calls on EFA. However, it was determined that not enough premium was gain for the risk of losing upside participation for Non-U.S. Developed positions. As of this writing, the Covered Calls for July look to be in good order to expiration worthless. We will update you next commentary on the results of the current Covered Calls.
Protective Puts continue to be a perplexing space to deploy at this juncture. The Volatility Index or VIX still remains at elevated levels from its historical average of about 20. This is causing the Protective Puts to be expensive the implement into the VEGA strategy. Given that this is an election year with a pandemic and social unrest, volatility seems to be a given for the remainder of 2020 into 2021. However, the market is currently trending upward making the Protective Puts ineffective. The art of working with options is finding the right balance of risk and reward. There is a good probability that VEGA will reintroduce Protective Puts between now and September ahead of the election.
The 200-day trended upward to 24.38 at the beginning of June. As explained last month, it seems counter initiative that the 200-day moving average should rise when the VIX trended down, it was due to the very low VIX experienced in the summer of 2019 has begun to drop out of the 200-day moving average. This means that to do a volatility-based reinvestment VEGA would need to experience a VIX of above about 60 before cash could be deployed. During the month of June the VIX hit an intraday high of about 44.44, which is not close enough to the 60 needed to invest any remaining cash.
During the volatility that ensued at the on set of COVID-19 pandemic and subsequent months of unrest VEGA made several tactical shifts including removing Emerging Markets from the portfolio, replacing Financials with Communication Services and reconfiguring Fixed Income. During this time VEGA also took the opportunity to do a tax-loss harvest on Non-U.S. Developed. While recently several tactical adjustments were made, none were made in June 2020. There are no foreseen possible tactical moves in the near future.
When the new calls were sold against the S&P 500 in the beginning of June the beta of the portfolio was at .66. This is just slightly above our historical target beta of .60. Had the Covered Calls been added on EFA it would have adjusted the Beta downward by only .01 bringing it to .65. This is consistent the conversation around adding Covered Calls on EFA not adding enough risk reduction compared to giving up price appreciation should the sector rise.
VEGA completed a Fixed Income overhaul during May and June. In which High Yield and Bank Loans were removed in favor of ultra-low duration holdings. The current duration of the portfolio remains at about 2.20, up slightly from 2.19 last month. A majority of the VEGA’s holding lie in AA rating or above. The 12 month yield on the portfolio is currently at 1.91%.
The second quarter of 2020 was characterized by market resilience. Unwilling to falter in the face of global shutdowns and bleak economic readings, the world’s markets continued to chug onwards and upwards. For the three months ending June 30th, the MSCI ACWI Index returned 19.39% on a total return basis, coming just shy of completely eliminating the 21.26% decline experienced in the first quarter of the year and ending the quarter down 5.99% YTD. This rebound was also experienced, although to a smaller degree, in the developing portion of the world–the MSCI Emerging Markets Index ended the quarter up 18.18% compared to the index’s fall of 23.57% in the first quarter, leaving the index down 9.67% YTD. Domestically, the S&P 500 Index erased the 19.60% drop experienced during the first quarter with a 20.54% gain realized in Q2, leaving the index down just 2.59% YTD. The Russell 2000 made significant progress towards posting YTD gains by ending the quarter up 25.42%, though it still has some room to move in order to eliminate the 30.61% drop experienced in the first quarter, as the index finished YTD down 12.98%.
On the fixed income side of the market, the 3-month U.S. Treasury rate began the quarter at 0.09% and rose as high as 0.26% before ending the quarter at 0.14%. The yield on the 2-year note was also range-bound in the quarter (0.13-0.28%) before closing at a yield of 0.16% on June 30th, according to U.S. Treasury data. The long end of the yield curve exhibited more volatility than the short end, with the 10 year Treasury yield fluctuating throughout the quarter from 0.58% to 0.91%, ending at 0.66%, similar to where it started at 0.62%. Going forward, we expect the 10 year yield to remain range-bound in the 50-100 basis points zone, as the Fed has indicated it keep will its policy rate within a range of 0.00-0.25% for the foreseeable future which should anchor the short end of the curve, while we believe coronavirus and political volatility will anchor the long end of the curve.
The Bloomberg Barclays U.S. Aggregate and Global Aggregate Indices gained 2.9% and 3.32% respectively for the quarter, ending YTD up 6.14% and 2.98%. On the corporate side, the rebound continued in those companies investors deemed fit enough to weather the treacherous operating environment of a pandemic-ridden economy. Year-to-date, three major fixed income indices ended the quarter with positive returns (S&P 500 Investment Grade Corporate Bond Index, Bloomberg Barclays U.S. Aggregate, and the Bloomberg Barclays Global Aggregate). One notable exception is the U.S. High Yield Master II Index which, although posting an incredible 9.55% return for the quarter, is down 4.82% YTD resulting from its steep 13.12% fall in Q1. In comparison, the S&P 500 Investment Grade Corporate Bond Index ended the quarter up 7.76%, notching a 5.67% YTD return and highlighting the importance of the coveted distinction from the high-yield portion of the market.
Touching briefly on the composition of the extremely active debt-issuance market both globally and abroad, we see a rapidly changing environment during a time in which the need to raise capital has arguably never been matched. As the virus and resulting lockdowns persist, many companies continue to struggle with the near unavoidable liquidity crunch. Luckily enough, strong demand for yield and a low-cost borrowing environment have given distressed companies just the marketplace they need to raise capital, with the month of June topping the ten busiest months of high-yield debt sales as reported by Bloomberg. The active quarter of debt issuance was also based, in large part, on the U.S. Federal Reserve’s decision to begin directly intervening in the corporate debt and ETF space, although this was largely concentrated in the investment grade portion of the market.
As coronavirus cases continue to rise throughout the U.S. and abroad, the possibility of a quick reversion to operating normalcy continues to fade away from both investors and companies alike in our opinion. Each day that passes marks additional record-breaking related COVID-19 statistics, as the United States averages now slightly higher than 50,000 new cases daily and the world total of confirmed COVID-19 cases inches past 10.4 million, with more than 509,000 deaths at the end of June as reported by Johns Hopkins University. This realization has taken its toll on forecasting, as through June 25th at least 218 companies which are part of the S&P 500 (more than 40%) have pulled either their quarterly or annual guidance as reported by the Wall Street Journal. Resulting at least in part from this uncertainty, shares of the companies which withdrew guidance are down on average 18.2% YTD.
Looking forward, this lack of informed guidance for a majority of the index has understandably caused already present pessimism in the market to spread further into many analysts’ earnings expectations for the second quarter. In Factset’s most recent Earnings Insight report, Q2 2020 earnings growth is estimated to decline by 43.9%. If this decline holds true, it would mark the largest year-over-year decline in earnings reported by the index since the fourth quarter of 2008. When this estimated earnings decline is compared to Factset’s previous Q2 2020 earnings decline of -13.6% released on March 31st, the reality of investor and analyst pessimism truly starts to take hold.
On a brighter note, it does appear that many investors are beginning to increase their risk appetite, presumably due to global fiscal and monetary authorities continued commitment to backstopping critical markets. The U.S. Corporate BBB Option-Adjusted Spread, a measure of the additional premium investors require for holding a corporate bond versus one backed by the government, fell to 2.09% during the second quarter. This spread reached a peak of 4.88% on March 23rd, and hovered around the level of 1.3% prior to the onset of COVID-19.
Despite growing concerns over a second wave of infections and resulting prolonged economic recovery, the domestic economy has thus-far staged an incredible comeback from March/April Lows. First addressing the supplier side of the market, rebound trends continued strongly throughout the second quarter. As reported by the IHS Markit Flash U.S. Composite PMI (Purchasing Manager’s Index) released in late June (chart below), all observed indices notched sizeable gains, with the Composite Index finishing the quarter at an estimated 46.8. Although this reading still indicates greater contraction in business activity, the contraction is the softest since the pandemic escalated in February.
Furthermore, business sentiment for near-term operating outlook reversed the declining trend experienced during end of Q1 / beginning of Q2 as shown by the proxy indicator of new orders for durable goods. This measure, as reported by the U.S. Census Bureau, ended the month of May up 15.8%. In dollar terms, however, new orders registered at levels last seen in 2010.
According to the Census Bureau Survey below, this change in business sentiment appears to be universally enjoyed throughout both small and large businesses, as 13 of 16 observed small business sectors reported a higher share of businesses adding to employment at the beginning of June as compared to mid-May. While it remains unknown if this trend will continue in the near term as “hotspot” states such as California, Texas, and Florida revert to earlier lockdown measures, it is nonetheless reassuring to see business activity react quickly to state sanctioned reopening’s.
Switching now to the consumer level, this increase in business activity has only gone so far in terms of reversion to unemployment levels seen prior to COVID-19. Specifically using the initial jobless claims as a lens into the state of the domestic labor market, we assume it has met a temporary floor. While decisively lower from its peak of just under 7 million claims experienced in mid-March, new claims have leveled off during the last half of June at approximately 1.5 million or a total number of insured unemployed of 19.5 million people.
Touching briefly on consumer sentiment, one can expect regional economic recovery to be largely event-based with regard to COVID-19 containment measure’s success as shown by the latest University of Michigan’s Survey of Consumers. From the low readings in April, the Index of Consumer Sentiment rose from 71 to 78.1, the Current Economic Conditions Index increased from 72.4 to 87.1, and the Index of Consumer Expectations rose from 65.9 to 72.3. Of extreme importance in our minds, however, is the geographic binding of changes in sentiment to COVID-containment success, as the organization notes a steep fall in sentiment during the second half of June as the reality of the potential for a second wave set in for many states which were quick to reopen their economies. This potential appears to weigh heavily on the minds of consumers which populate the West and South geographic regions of the U.S., those which have been seen to be epicenters for the virus’ resurgence in the country.
On a global level, while economic recovery trends differ throughout the developed and emerging world, one trend that remains consistent is fiscal and monetary support. The levels of financial intervention, both direct and indirect through loan guarantees, have continued to dwarf anything seen in history. However, a key difference between the emerging and developed portions of the world is the level of financial intervention. Accounting for fiscal and monetary programs employed though June, it becomes clear to us that the developed world is placing much higher degree of importance in external stimulus and aid than the developing world, whose leaders are considerably hard-pressed to increase their already distressed balance sheets.
While these levels of fiscal and monetary supports are likely far from over, global GDP forecasts for the year and onward continue to be revised downward as the virus continues to display incredible levels of resistance to most measures besides full-blown economic lockdowns. Up to this point, the International Monetary Fund (IMF), in their latest June report, painted an even darker picture of the global outlook as they revised their 2020 GDP growth rate down from -3.0% to -4.9%.
The negative revisions continued for forward looking estimates as well, as the IMF noted persistent social distancing into the second half of 2020, greater damage to supply potential from the larger-than anticipated hit to activity during lockdowns, and a hit to productivity as reopening businesses ramp up necessary workplace safety and hygiene practices. Overall, this leaves 2021 Global GDP readings 6.5% below where the projections stood in the pre-COVID-19 projections released in January 2020.
Thank you for your continued trust in Partnervest.
Partnervest Advisory Services, Chief Investment Officer
AdvisorShares STAR Global Buy-Wrtie ETF (VEGA) Co-Portfolio Manager