That’s good to know.skierincolorado wrote: ↑Wed Aug 18, 2021 4:56 pmHistorically accurate. You can plot CASHX as if you owned it and see it goes up faster during periods of high rates. For example, if it has an annual return of 4% in 2003, then shorting it (-100) would mean you had a -4% return / borrowing cost.RubyTuesday wrote: ↑Wed Aug 18, 2021 4:46 pmDoes the simulation with CASHX use current cost of leverage for entire term or is using historically accurate / estimates of borrowing costs?skierincolorado wrote: ↑Wed Aug 18, 2021 4:42 pmThe yield curve has gone inverted a number of times during the period I posted backtested. And yet the ITT win substantially. The reason for this is that 1) usually the yield curve is not inverted and 2) when it is inverted, it usually precedes a drop in interest rates that increases the price of bondssecondopinion wrote: ↑Wed Aug 18, 2021 4:00 pmI guess one can. Good to know that.
When I saw the chart with the leveraged leveraged examples, I had to think why in the world this is not being taken advantage of in the market in the extreme. However, I am seeing a critical problem that could be costly to leverage the ITT: what if the yield curve is inverted (and possibly steeply)? You pay more to borrow than what you would get in yield (and rolling returns would also be negative); hence, you lose money (and probably rather quickly from all the leverage). In the LTT case, you are not going to lose money given that curve because you have not borrowed at a worse rate than the bond gives (albeit total returns are probably not impressive).
Of course, steep yield curves that are not inverted will be golden to your proposed strategy.
Answer: LTT are safer than leveraged ITT despite the short term volatility equivalence.
#2 is the whole reason the yield curve goes inverted.. investors are predicting a drop in interest rates and are thus fine accepting lower rates on ITT than STT, because they want to lock in some decent rates for 5-7 years.
I plan to continue buying ITT on leverage when the yield curve is inverted. Historically these have been profitable times to buy (see 2007 for example).
I guess the bottom line(s) for me are:
- I have long term retirement liabilities
- I believe the appropriate risk free asset is a duration matched treasury (or inflation protected treasury security)
- to adjust my overall risk tolerance, it makes sense to me to manage my stock exposure
- to provide better risk adjusted returns (my risk is long term and real), to the extent i will use leverage it will be to leverage the risk free asset
Something like 50/35/35/20/-40 (stock, LTT, LTTIPS, BND, cash) makes more sense to me than something like 80/60/-40 (stock, ITT, cash).
Better CAGR, lower Std Dev, higher Sharpe, better manages my long term real risks.