Significantly Outperforming a Bear Market

[spartansaver]

For those of you that have meaningfully outperformed previous bear markets, what was at the center of your success? 

[Parsad]

I had moved to a ton of cash every time...late 1999...early 2008...late 2021.  Didn't expect the pandemic and got hit on that one...although I was still 15-20% cash at that time, and borrowed for the first time in my life to buy equities!  Cheers!

[WayWardCloud]

Great topic, I'm curious to hear you guys' stories!

 

Entered COVID at around 0.9x leverage and kept adding all the way down. I got to around around 1.35x leverage at the bottom and rode the whole thing back up. Didn't see the crisis coming at all, didn't time the bottom at all, didn't predict the quick recovery either... I just kept adding to my usual holdings as things got cheaper using an amount of leverage I was comfortable with.

[wabuffo]

In the past, I would make sure that 25-40% of my portfolio was in market-neutral special situations like liquidations, Ch.11s where the equity was money-good, etc.   It also helped that during economic contractions/bear market panics more of these types of situations would become available.   To me that's the secret to outperformance - do better than the broad indices during bear markets because its tough to outperform during bull markets.

 

FWIW,

Bill

[kab60]

Ideally I'd like something like 20% of my portfolio in special sits as they should be mostly uncorrelated bets, but we saw during covid how the spreads on deals blew out, so it's not necessarily a good source of cash. I think you need to know yourself and your portfolio to figure out what works best for you. Some like holding cash, I like having something very defensible I'm comfortable borrowing a bit against if things get ugly cheap (like Berkshire, tobacco etc.). I was well setup for the current correction/whatever you call it, as I pivoted a bit late last year/yearly '22 and added to cheap, defensible stuff I owned and liked with inbuilt inflation-protection that didn't seem to cost much despite inflation ticking up a lot (tobacco, oil, auto dealerships).

 

Better lucky that good I suppose, but generally I try to own stuff I have a hard time killing. For me it means I much prefer businesses with good economics and either very stable or countercyclical cashflows (like distributors that release working capital in a downturn). AND I want to pair that with management which have shown an ability to take advantage of whatever gets thrown at them - cheap acquisitions, cheap buybacks etc. It makes for a rather small universe of companies that I'm comfortable with, but it means I'm fine owning them in big size and love when they dip, so I don't need a whole lot of ideas.

[thepupil]

I know this is going to seem somewhat insane, but I have yet to conclude we are in a protracted bear market. 

 

We are experiencing a healthy decline in valuations and some covid retracing, some violent sectoral and factor rotations make it extra fun...but It's still not clear to me we're witnessing a "major regime change" or that the case for owning equities is much less strong today than it was 3,12,24,36,60 months ago. 

 

The exorcism of the froth gets me more bullish. 

 

I'm just going to buy whatever I like, whether we are in a bull, bear, pig, peacock, or rhinocerous market...I try to buy things that are defensible in a variety of market conditions...

Edited May 20, 2022 by thepupil

[Spekulatius]

Trading around helps. Bear markets have dislocations all the time - stocks goes up while similar stocks don't etc for example , because of technical reasons. Fierce bear market rallies (Sell the rip) etc. Just don't make it the primary focus, because it leads to underperformance once the bear market turns into a bull market.

[SharperDingaan]

Like most others we use the opportunity to buy more via margin. Almost always a new investment/vintage,  6 year hold (unlevered 12% ROE), and a call on the future performance of XYZ. Our opinion, vs the market/agency driven hate at the time.

 

Like most others we invest in easy special situations. The 10-20% gain on a round trip around an existing given position, the Investment ahead of an expected dividend. To some this is 'trading', but to most this is just an expected part of 'buy and hold'. You know the XYZ stock history, and the  approximate value, so use it.

 

We use good risk management, hold some FI, and consistently take $ off the table over time. So that comes the day .... we are quite comfortable with temporarily increasing the size of the portfolio by 30%, at the same time the portfolio is already down 30%.   

 

Example: Assume 100K of cash that will only be required 6 months out. You can buy a T-Bill today & take zero risk, or invest in a company you know well, in anticipation of a dividend increase < 6 months. While you wait; the company vs T-Bill alternative, has a cash yield advantage. But if it works out; all else equal, the dividend increase will also raise the share price of the company. Sell the company in 6 months, get your money back, and your bonus is the difference in price plus the extra dividend. Did you take a whole lot of incremental risk to get this? not really.

 

SD 

Edited May 20, 2022 by SharperDingaan

[Xerxes]

My strategy is based on a key guiding principal:  I am dumber than I think I am. With that in mind : 

 

So 40% of the portfolio is with BRK, FFH, BAM, Onex etc. Let them do their thing. 

 

12% commodities 

16% in big tech  (heavy index exposure)

20% on blue chip basket  

the balance on semi-rubbish 

 

I got hammered on the rubbish stuff and big tech. But since I will be net buyer for the next 15 years, will continue to accumulate slowly. 
 

i employ zero margin 

 

 

 

 

Edited May 20, 2022 by Xerxes

[LC]

Trading around helps.
 

I do so by selling calls into bear rallies. I’ve recovered a lot of cost basis this way. 
 

Selling puts I find can be dangerous but where there is real carnage I will sell stinker puts. Got paid $10/contract to buy Adobe in the 200s a while back. That kind of stuff takes the sting out of the market contractions.

[flesh]

Agree with most of above. I'll add that when things get frothy, I usually sell most holdings and sell 1-2 week puts on things I like at 10-30% annualized until there's prices I'm comfortable to get long. Comfortable with brk at 300 but not 350. It's pretty rare if your duration is 1.5 weeks avg on sold puts at 10% below current prices that you'll be put much if any. You can keep selling them on the way down at lower and lower strikes until you want to go long. Often on one rip day 1 week before expiration you can buy them back for nothing annualized and the next day sell some more 10% lower strike. Works for me as I look at the port daily so just throw in a couple trades in the morning in ten minutes every other day sorta thing. 

 

This is pretty much my only income though so Idc much about taxes. You've got to make a lot before your effective income tax rates hit the cap gains rates considering you can always wait and sell this or that next year in a big gain year to move taxes around. Plus half the port is iras. 

 

When stocks are absurdly cheap you can use margin and buy short term way ootm money puts to protect your tolerance level or a margin call whatever. Buy them 1-4 weeks at a time because if things are that cheap they usually rip and you can take some margin off. If brk at 270 and you margin it buy puts strike 220 or thereabouts short term. At 300+ maybe you take some margin off depending on how deep you are etc, then stop buying puts. Also I'll use leaps, only when asymetric though. Had 10% of the port in 2 year calls 3-2020 share price 175 strike on calls 220, made 250% that sorta thing selling at share price 270. Ofc buy small caps..... they get hammered more than large during down turns... so that's easy. Always been that way. 

 

It's all really pretty easy if you just do what works and don't try to be too smart about stuff. Be patient and do your own thing. Basically what everyone here is saying is take risk off during high values and go big when cheap, play your own game. 

[Gregmal]

3 hours ago, thepupil said:

I know this is going to seem somewhat insane, but I have yet to conclude we are in a protracted bear market. 

 

We are experiencing a healthy decline in valuations and some covid retracing, some violent sectoral and factor rotations make it extra fun...but It's still not clear to me we're witnessing a "major regime change" or that the case for owning equities is much less strong today than it was 3,12,24,36,60 months ago. 

 

The exorcism of the froth gets me more bullish. 

 

I'm just going to buy whatever I like, whether we are in a bull, bear, pig, peacock, or rhinocerous market...I try to buy things that are defensible in a variety of market conditions...

Right on my man. Every single year since I’ve followed markets there’s these big scare themes. And like gossip mags at the grocery store checkout, people can’t get enough. Every 5% dip we have CNBC Market in Turmoil specials. Every 10%+ pullback we get Grantham, Hussman, and Faber interviews. Ultimately though, the markets are beautiful because they give you whatever you are looking for. 
 

As to outperforming…. Idk, outperform what? An index? Who the fuck cares? Focus on finding attractive opportunity sets. I agree special situation, event driven, and cash sub stuff helps greatly too. I also hedge with options. If the market decline 10% but you scrape 3% off via bearish hedges, provided your longs aren’t total dogs, it adds up over time. 
 

But overall, rearrange your focus. Ignore the crowds. Typically a good starting point is looking at what everyone is currently consumed with at the moment…and immediately discounting that hysteria. Look at the other side. Look elsewhere. There is really not much money ever made doing what everyone else is doing. 

Edited May 20, 2022 by Gregmal

[Viking]

15 hours ago, spartansaver said:

For those of you that have meaningfully outperformed previous bear markets, what was at the center of your success? 

it was different each time:

1.) 2000 bear: i never owned any .com stocks on the way up (late 90’s). Old economy stocks WERE HATED and that was what i owned (banks with big dividend yields etc). I also owned government bonds (last time i actually owned bonds). 
2.) 2008 bear: was all in on Fairfax who owned a shitload of CDS. Home run. I was a close follower of the calculated risk blog… provided incredible insight for years as to what was going on in US real estate in 2006-2007-2008 and post bust. Calculated risk is still doing the same today (his recent stuff on housing has been super insightful).

3.) 2018 bear: fully invested with big over concentration in BAC. Got bailed out when the Fed did its abrupt 180 (eased) when the stock market was having its taper tantrum. It was a great reminder of just how much the Fed NOW controlled financial market performance.
4.) 2020 bear: moved to 100% cash when it became clear what the pandemic was doing to Asia; and then Europe 10-14 days later (and would be hitting North America about 2 weeks later). It was a slow moving train wreck happening in plain sight. I was too cautious on the upside (bought largely at the bottom but sold way too early). It was ANOTHER great reminder of just how much the Fed controlled financial market performance.

5.) 2022 bear: concentrated in oil to start the year (lucky). Started shifting largely to cash in Feb. Exited oil way too early (in hindsight). Still a little over 60% cash today. Largest positions today (will likely change): FFH, BAC ($36), GIL (@C$39), RECP (@$13).

What was the ‘center of my success’ during bear markets?

1.) i had an investment framework that fit how i was wired emotionally (this framework includes maco and has evolved over the years). Lots of reading (inquisitive). Open minded. Lots of tinkering (buying different things). When the light bulb goes off… act decisively.

2.) i was rational - each bear market was being driven by COMPLETELY different factors

3.) i trusted my assessment/judgement

4.) i am an independent thinker - not afraid to go against the crowd. Or others on his board (best recent example is all the hate for holding a large cash position at times of uncertainty). 

5.) i was decisive

6.) i stuck with things i understood well

7.) concentration: i went with my highest conviction idea(s)

Stage of life matters - because it ripples through 1-7 above. Today, preservation of capital is WAY MORE IMPORTANT to me than it was 20 years ago (i have ‘enough’ for me and my family to live a great life). Mentally, as i age out, i am also finding my tolerances to market sell offs is different than when i was younger (i learned this during the brief 2018 bear). 
—————

Lots of great earlier posts. My key take away: there is no one right way for everyone. And that is what makes investing so hard for most people. Each of us needs to find a strategy that fits how we are wired (fits our intellect, emotional make-up, level of interest, time, stage of life etc). Like Druckenmiller says: be inquisitive and open minded…

—————

An investor can do a lot of dumb things over the years and still do very well (i am looking in the mirror when i say this). The key is to avoid permanent loss of capital. Especially later in life (when the amount of capital is largest). There is a reason Buffett has ‘don’t lose what you got’ as Rule #1. And what is Buffett’s Rule #2? DON’T FORGET RULE #1. Food for thought….

—————

i continue to think the Fed is the most important driver of where financial markets go from here. And right now they are all aggressive hawks. And they are (supposedly) just getting started. So my guess is stocks are going lower, and possibly much lower in the coming months. So i am going to continue to be patient on the buy side. 

Edited May 20, 2022 by Viking

[Spekulatius]

@Viking Actually the Fed hasn't done much. They just raised the interest rates a tiny bit. What has happened is that the market participants are front running the Fed . Who know what really ends up happening.

 

As far as corrections are concerned, they seem to happen now much quicker and are more vicious in a sense. The fall 2018 correction was quick, the COVID-19 correction decline  was super fast (faster than 2008 in fact) and the current correction is also a quick one. No grinding bear markets any more. The whole correction started with speculative stuff like SPAC's, then the ARKK stuff and then moved to the growth stock generals (FANGS etc) as well as banks, consumer stocks and others. The current correction is just 3-4 month old really, but started last year in Spring with the highly speculative stuff (which pretty much got obliterated by now).

 

If anything, i think this correction could be over quicker than people think, based on prior experience.

[Gregmal]

31 minutes ago, Spekulatius said:

@Viking Actually the Fed hasn't done much. They just raised the interest rates a tiny bit. What has happened is that the market participants are front running the Fed . Who know what really ends up happening.

 

As far as corrections are concerned, they seem to happen now much quicker and are more vicious in a sense. The fall 2018 correction was quick, the COVID-19 correction decline  was super fast (faster than 2008 in fact) and the current correction is also a quick one. No grinding bear markets any more. The whole correction started with speculative stuff like SPAC's, then the ARKK stuff and then moved to the growth stock generals (FANGS etc) as well as banks, consumer stocks and others. The current correction is just 3-4 month old really, but started last year in Spring with the highly speculative stuff (which pretty much got obliterated by now).

 

If anything, i think this correction could be over quicker than people think, based on prior experience.

Exactly.
 

Outperforming anything comes down to separating noise from reality. Nothing has really changed other than overvalued stocks, buoyed by COVID related bumps, became the straw that broke the back of the overvalued and high multiple trade. It went on for 5-10 years, it’ll probably take some time to sort out. But it seems to just be a classic rotation. The only thing the Fed really has had to do with anything is encourage/discourage momentum. They haven’t had any influence on real investing. In my head I think, is James Dolan celebrating the potential Chelsea deal value implications, or cheering on the success of the Rangers? Or crying and considering getting rid of his teams because the market might go down next week? As a share owner sometimes I wish it was the later, but that’s beside the point. If you aren’t comfortable with what you own going down you shouldn’t own it at all. That’s in essence what the market is coming to terms with. As @LearningMachine says, when do I get my money back? And for much of the market, people now say “oh shit”. Even with good high quality stuff. “Oh shit”. If you’re buying good cash flows or at huge discounts to asset value….it then becomes “thank you I’ll have another”. Times like these separate the men from the boys and the boys from the girls.

Edited May 20, 2022 by Gregmal

[Viking]

The Fed controls interest rates and interest rates have spiked much higher, especially the past 2 months. The bond market is much bigger than the stock market and rising rates have created epic wealth destruction in bonds. And the 10 year US treasury is what all stocks are priced off of; as the 10 year yield has spiked higher we are having a …. surprise, surprise… bear market in stocks. So i do think what the Fed does… matters a great deal to financial markets. 
 

The question is where does the Fed go from here. Do we actually get 50 basis point of increases the next three meetings? Are they able to run off the balance sheet starting June 1? Or does something break first?

 

I see two scenarios in the short term:

1.) nothing breaks; financial conditions continue to tighten and the economy slows (no recession but tepid growth). This will allow the Fed to continue with higher rates and QT. This will be bad for stocks.

2.) something breaks and we have a panic of some sort. Fed reverses course. This will be terrible for stocks initially (when the breakage happens) and then likely good for stocks (supportive Fed).

 

Bottom line, as long as the Fed continues down its current path i see stocks going lower. Get out your popcorn… interesting times…

—————

The problem with history is… in the last 75 years we have a sample size of 1 of what happens to the economy when inflation runs to +8%. And the 1970’s is a terrible example to try and use today given how different the world/economy is - like the crazy amount of debt today. So investors are flying blind right now. This is the being rational part of investing… knowing what you don’t know.

One very interesting lesson from the 1970’s is stock averages can go sideways for a decade (meaning your real return is brutal)… But don’t worry, we are also told stocks are a great hedge for inflation. Seriously?
 

Fast forward to today… how is inflation impacting earnings of companies? The longer inflation runs at elevated levels the more it is shrinking profit margins and profits. For the companies i follow every quarter they are having a harder and harder time managing the various inflationary pressures (meaning inflation is shrinking profits). In the beginning inflation was a GOOD THING - as it allowed companies to aggressively raise prices and EXPAND profit margins. No longer. The cost increases from inflationary pressures are GROWING. At the same time it is getting harder to pass through massive price increases as consumer are getting sick and tired of rising prices and starting to pull back on spending. We are now seeing increasing revenue growth (hooray) and FALLING unit growth (oh shit). 
 

Where this really gets interesting is if inflation stays elevated into 2H of 2022. Sounds like most people on this board are in camp transitory… and think it will be coming down quote a bit in 2H. I am not so sure (i really have no idea). 

Edited May 21, 2022 by Viking

[Gregmal]

Sounds like you’re….gonna be in cash for a while. 
 

All seriousness, I think attributing what computers and short term market participants do and a 50 bps hike to the same root I think is a bit of overkill. No different than a hedge fund guy talking up a stock. It can and does move markets short term for all sorts of reasons. But it doesn’t mean that the hedge fund guy controls the returns for that stock. Not the fundamentals. Rates matter, and they don’t. It’s complex rather than just rates low good for stocks, rates high bad. We still have a sub 3% 10 year and we’ve had some of the greatest bull markets in history with rates significantly higher than that. You can take virtually any short term series of events and draw all sorts of conclusions though. But at some point it gets carried away with itself. I mean, how did housing do from say, 1970 right before the torrid inflation up til the big housing crash in early 1990s? There’s always places to invest.

[Castanza]

Does the Fed even need to raise rates? Most of this inflation is supply chain related. Hopefully shake out over the next 1-2 years. Curbing demand is temporary…and difficult to manage without unintended consequences. Rates hikes help in some areas but hurts in others…Seems we need an act of congress and not the Fed. 

[Viking]

Interest rates below zero were blowing asset bubbles everywhere: bonds, stocks and real estate. Average increase in house prices in US was $50,000. The Fed wanted to stimulate the economy via the wealth effect. I give the Fed (and Bank of Canada) an A+. Interest rates now getting normalized makes sense.

 

Inflation is being driven by a bunch of things. Wealth effect - see above. Economy running too hot = no workers = big wage inflation. High commodity prices (oil, metals, agriculture etc) = high inflation. Supply chain issues. 
 

Bottom line, Fed needs to get inflation down. What caused inflation to spike higher doesn’t really matter at this point in time. The cat is clearly out of the bag. The Fed’s job is price stability. The Fed’s mantra is ‘control the controllable’ and that is aggregate demand. Lower aggregate demand = lower inflation.

[Gregmal]

So what happened to home prices and rents during the greatest inflationary period in history? How about energy? Asking for a friend. 

[Parsad]

3 hours ago, Castanza said:

Does the Fed even need to raise rates? Most of this inflation is supply chain related. Hopefully shake out over the next 1-2 years. Curbing demand is temporary…and difficult to manage without unintended consequences. Rates hikes help in some areas but hurts in others…Seems we need an act of congress and not the Fed. 

 

All inflation is supply/demand related...whether it is due to lack of infrastructure, scarcity or transport coordination.  So, yes they should have been moving rates up a while ago, as it wasn't short-term transitory, but more of a longer-term nature.  Things should improve by early/mid next year, but they have to curb demand to meet supply right now. 

 

There isn't a whole lot that congress can do that will alleviate that over 12 months...oil production takes 6-8 months to start up, let alone get production going significantly...refineries take nearly as long...you can't run ports more than 24 hours a day...and with a hot economy, demand for oil isn't going to decrease. 

 

So it all trickles up (rather than trickle down economics) and every one in the chain passes costs on to the final point...the consumer!  So, rates should have been going up since the middle of last year, but probably in 25 basis point increments...not the herky-jerky reactive behavior of the Fed.  Cheers!

[scorpioncapital]

To the claim that stocks did poorly in the 1970s I saw an article on SA where the author says that stocks actually doubled during the 70s. It was the high p/e tech stocks that did not do well. So it sounds to me that the forces of inflated gains in earnings does not fully offset the high prices of leading companies if the inflation is high enough. However buying cheaper stocks throughout the period did not do so badly. 

 

[Castanza]

7 hours ago, Parsad said:

 

All inflation is supply/demand related...whether it is due to lack of infrastructure, scarcity or transport coordination.  So, yes they should have been moving rates up a while ago, as it wasn't short-term transitory, but more of a longer-term nature.  Things should improve by early/mid next year, but they have to curb demand to meet supply right now. 

 

There isn't a whole lot that congress can do that will alleviate that over 12 months...oil production takes 6-8 months to start up, let alone get production going significantly...refineries take nearly as long...you can't run ports more than 24 hours a day...and with a hot economy, demand for oil isn't going to decrease. 

 

So it all trickles up (rather than trickle down economics) and every one in the chain passes costs on to the final point...the consumer!  So, rates should have been going up since the middle of last year, but probably in 25 basis point increments...not the herky-jerky reactive behavior of the Fed.  Cheers!

Yeah and that make sense. I agree that rates in general have been too low for too long, but I’m worried about (and it seems like the Fed is as well) of overrunning the thesis of inflation. This situation is very different from past scenarios and it seems like uncharted waters. Let the market work! There are still countries just opening up including China. 
 

idk, I get what you’re saying but this situation feels like every move you make there is an equal or opposite reaction waiting in another sector to push back. Look at the situation with fertilizer production and gas prices. It’s impossible to produce this stuff at a profit right now. Couple this with droughts in the US, war in Ukraine and we are going to have very high corn prices resulting in bleed through to other sectors like livestock. Interest rates aren’t helping here at all….Maybe sometimes they should just let it shake out. The Fed has a worn and rusty tool box that gives them very little precisions. Politicians almost always focus on the wrong issues and situations ($30 min wage to combat inflation LOL c’mon man!…) 

 

Global most major countries are in same boat. They have right around 7-9% inflation. After this mess clears I think it’s going to be a race for de-globalization. At the end of the day this is mostly noise to me and honestly provides investment opportunities so I guess I can’t complain too much. 

[CorpRaider]

I run a reasonably large portion of my investments (like 20%) according to a trend following strategy.  No real free lunches but assuming that marginal utility/option value of your cash goes up during bear markets (ones that trend...no help in 1987) it seems like a good strategy.  That account is down almost 5.4% YTD (very unaudited).  Acct has mostly been in bills this year but I took a whipsaw when the S&P popped back up for a minute and had to ride down one month because I only test monthly (was hard not to override).

 

The alpha architect guys have at least one trend-related offering: $VMOT.  I'm seeing down 7.25% YTD (but it consists of value and momo underlying funds with trend overlay).

 

I think Meb Faber at Cambria has some trend following ETFs too.  I think it's VAMO and GMOM use some trend following signals. Looks like both are up in the range of 5-6% YTD

 

You gotta' be willing to get annoyed at the compounder right tail 100 bagger neversell sermons from the mount during the bull booms tho.  haha.  

 

I've been thinking of trying out a levered BRK trend following + value strategy.  Where have I gone wrong...

 

Edited May 25, 2022 by CorpRaider

[flesh]

https://www.multpl.com/s-p-500-earnings/table/by-year

 

Whoa, 1966-1988. What year did the buff dog say he didn't understand the market anymore? 68? 69?

 

This period is when he laid the seeds to go from multi m to multi b though. 

 

https://dqydj.com/historical-home-prices/

 

Looks like median home went from about 21k-55k from 68 to 80. I like the inflation adjusted bit, helpful. 

I found it interesting that my house will sell for about 50% more than the inflation adjusted peak in 2006ish. Time to sell it?

 

I looked at all this a few months ago but Greg brought it up. Unfortunately, I don't know what this mean, maybe re was too low at the starting point?

 

What the statistical name for it when you start your graph at the point in time that makes your point the best? I'd call it framing. It's like when the left touts income inequality, graph always starts about 1980 at the peak of equality due to a decade of inflation and high rates. Right before decades of lowering interest rates benefiting those with assets. There should be asterisks next to everything humans say.