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Expanding the Opportunity Set

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A Unique Strategy to Invest Across Multiple Asset Classes

When peo­ple dis­cuss “the mar­ket”, what exact­ly are they refer­ring to?

Thank­ful­ly, the Dow Jones Indus­tri­al 30 aver­age, with its numer­ous short­com­ings is used less and less as a broad proxy for the over­all mar­ket. These days the go-to bench­mark for stock mar­ket per­for­mance is the S&P 500 index. But how much of “the stock mar­ket” does the S&P 500 real­ly cov­er?

The S&P 500 is a mar­ket-cap­i­tal­iza­tion weight­ed index of 500 U.S. based com­pa­nies, select­ed by a com­mit­tee to broad­ly rep­re­sent the U.S. econ­o­my. Since the index is cap-weight­ed there is def­i­nite­ly a large-cap bias to it. The top 10 names out of 500 make up 17.61% and the top 25 names equate to 32.53% (Source: Morn­ingstar Direct.  As of 12/29/2015). How­ev­er, for the pur­pos­es of this post, what is more impor­tant is what is NOT includ­ed in the S&P 500.

By design, the S&P 500 does not include small cap com­pa­nies or non-U.S. based firms. In the pie chart below we see the mar­ket cap­i­tal­iza­tions of the world’s equi­ty mar­kets. While the S&P 500 counts for a sig­nif­i­cant chunk of the world mar­kets at $18.3trn, it is, in fact, a minor­i­ty of the world port­fo­lio.

Worldwide Market Cap 2015 - Swan Blog

As of Novem­ber 30th, the mid cap and small cap mar­kets account for $2.2trn dol­lars. The devel­oped inter­na­tion­al mar­kets are almost as large as the U.S. mar­kets at $17.4trn. In spite of their recent woes, emerg­ing mar­kets are still sig­nif­i­cant at $3.9trn.

All told, there is $23.5trn, or 56.2% of the world’s equi­ty mar­kets not rep­re­sent­ed in the S&P 500.  (Source: Zephyr Allo­ca­tion­AD­VI­SOR)

Does that mat­ter? Cer­tain­ly from a port­fo­lio con­struc­tion stand­point it seems log­i­cal that an investor would desire to have as many “tools in the tool­box” as pos­si­ble. Inten­tion­al­ly lim­it­ing one’s oppor­tu­ni­ty set to only large cap U.S. invest­ments seems nar­row-mind­ed and self-defeat­ing.

Opportunity Cost in Avoiding Exposure to Multiple Asset Classes

More­over, there would be an oppor­tu­ni­ty cost to for­go­ing small caps, devel­oped inter­na­tion­al, and emerg­ing mar­kets.

If there is one truth to invest­ing, it is that things move in cycles. Just because one asset class or style is in favor one peri­od is no guar­an­tee it will be in favor the next. In the table below we see a col­or-cod­ed illus­tra­tion of the annu­al per­for­mance of these four asset class­es from 1989 to 2015.

While cer­tain­ly there have been times when the S&P 500 was the best option, more often than not, oth­er options have out­per­formed. In fact, in 9 years out of 28, the S&P 500 was the worst-per­form­ing option.

Correlation Across Various Assets - Swan Blog


Viewed anoth­er way, some­times these oth­er equi­ty asset class­es can have extend­ed peri­ods of out­per­for­mance ver­sus the S&P 500.

The graph below illus­trates the rolling, three-year excess returns of small caps (Rus­sell 2000), devel­oped inter­na­tion­al (MSCI EAFE) and emerg­ing mar­kets (MSCI Emg Mkt) ver­sus the S&P 500.


Expected Return Across Various Assets - Swan Blog

Expanding the Tool Set

With that in mind, Swan Glob­al Invest­ments is bring­ing the Defined Risk Strat­e­gy to dif­fer­ent asset class­es, such as small cap and inter­na­tion­al stocks. The Defined Risk Emerg­ing mar­kets fund has been avail­able for just over a year now. The imple­men­ta­tion of the Defined Risk Strat­e­gy remains exact­ly the same — “Always invest­ed, always hedged.”  Swan invests 85%-90% of a strategy’s hold­ings in a pas­sive­ly man­aged ETF on the asset class. Swan then hedges against major mar­ket sell-offs by pur­chas­ing long-term put options and seeks to gen­er­ate addi­tion­al returns via sell­ing short-term option pre­mi­um. Giv­en the fact that these asset class­es are often viewed as being riski­er than U.S. Large Cap equi­ties fur­ther strength­ens the argu­ment for apply­ing the Defined Risk Strat­e­gy to them. By hav­ing mul­ti­ple asset class­es avail­able with DRS pro­tec­tion, Swan believes one can cre­ate bet­ter over­all port­fo­lios through diver­si­fi­ca­tion from dif­fer­ing cor­re­la­tions.

Swan Glob­al Invest­ments explores its efforts to expand its solu­tion set to cov­er addi­tion­al asset class­es in a piece called “Diver­si­fy­ing with the Defined Risk Strat­e­gy.” Both an exec­u­tive sum­ma­ry and com­pre­hen­sive ver­sion are avail­able.

Also feel free to con­tact your Swan rep­re­sen­ta­tive at 970–382-8901, or vis­it our Con­tact page if you have fur­ther ques­tions.


Marc Odo, Marc Odo, CFA®, CAIA®, CIPM®, CFP®, Director of Investment Solutions - Swan Global InvestmentsAbout the author: Marc Odo, CFA®, CAIA®, CIPM®, CFP®, Direc­tor of Invest­ment Solu­tions, is respon­si­ble for help­ing clients and prospects gain a detailed under­stand­ing of Swan’s Defined Risk Strat­e­gy, includ­ing how it fits into an over­all invest­ment strat­e­gy. For­mer­ly Marc was the Direc­tor of Research for 11 years at Zephyr Asso­ciates.


Impor­tant Notes and Dis­clo­sures:

Swan Glob­al Invest­ments, LLC is a SEC reg­is­tered Invest­ment Advi­sor that spe­cial­izes in man­ag­ing mon­ey using the pro­pri­etary Defined Risk Strat­e­gy (“DRS”). SEC reg­is­tra­tion does not denote any spe­cial train­ing or qual­i­fi­ca­tion con­ferred by the SEC. Swan offers and man­ages the DRS for investors includ­ing indi­vid­u­als, insti­tu­tions and oth­er invest­ment advi­sor firms. Any his­tor­i­cal num­bers, awards and recog­ni­tions pre­sent­ed are based on the per­for­mance of a (GIPS®) com­pos­ite, Swan’s DRS Select Com­pos­ite, which includes non-qual­i­fied dis­cre­tionary accounts invest­ed in since incep­tion, July 1997, and are net of fees and expens­es. Swan claims com­pli­ance with the Glob­al Invest­ment Per­for­mance Stan­dards (GIPS®). All data used here­in; includ­ing the sta­tis­ti­cal infor­ma­tion, ver­i­fi­ca­tion and per­for­mance reports are avail­able upon request. The S&P 500 Index is a mar­ket cap weight­ed index of 500 wide­ly held stocks often used as a proxy for the over­all U.S. equi­ty mar­ket. Index­es are unman­aged and have no fees or expens­es. An invest­ment can­not be made direct­ly in an index. Swan’s invest­ments may con­sist of secu­ri­ties which vary sig­nif­i­cant­ly from those in the bench­mark index­es list­ed above and per­for­mance cal­cu­la­tion meth­ods may not be entire­ly com­pa­ra­ble. Accord­ing­ly, com­par­ing results shown to those of such index­es may be of lim­it­ed use. The adviser’s depen­dence on its DRS process and judg­ments about the attrac­tive­ness, val­ue and poten­tial appre­ci­a­tion of par­tic­u­lar ETFs and options in which the advis­er invests or writes may prove to be incor­rect and may not pro­duce the desired results. There is no guar­an­tee any invest­ment or the DRS will meet its objec­tives. All invest­ments involve the risk of poten­tial invest­ment loss­es as well as the poten­tial for invest­ment gains. Pri­or per­for­mance is not a guar­an­tee of future results and there can be no assur­ance, and investors should not assume, that future per­for­mance will be com­pa­ra­ble to past per­for­mance. All invest­ment strate­gies have the poten­tial for prof­it or loss. Fur­ther infor­ma­tion is avail­able upon request by con­tact­ing the com­pa­ny direct­ly at 970–382-8901 orwww.swanglobalinvestments.com002-SGI-010616[/fusion_builder_column][/fusion_builder_row][/fusion_builder_container]

By |2018-10-09T16:57:18+00:00January 19th, 2016|Blog|Comments Off on Expanding the Opportunity Set