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Dennis Adonis No Comments

APSEC were proud to host a special ASA Member education webinar on May 15, 2020, where the Fund team discussed the importance of downside risk management in preserving and growing long-term wealth.

The team provided an introduction to equities hedging, including S&P/ASX SPI 200 Futures contracts and shorting on individual stocks. They also provided insights into the Fund’s trading strategies, which saw the Atlantic Pacific Australian Equity Fund return 17.2% in March, while the S&P/ASX 200 fell -20.6%.

Finally, we shared lessons on applying risk management techniques into your own portfolios for long-term wealth creation and preservation through all market cycles.

As we couldn’t address all of the audience questions within the webinar timeframe, we’ve created this reference guide to answer the key points that were raised.

Click on the plus sign to see the full answer to each question:

Glossary of key terms

Long – buying stocks to profit from an expected rise in value.

Short –  borrowing a security and selling it, planning to buy it back later for less and lock in the profit.

SPI – Share Price Index (eg. ASX 200 which you’ll see they refer to on the news, it’s a representation of the top 200 companies by market capitalisation – for example the ASX 200 was up 1% today).

ETF – Exchange Traded Fund (is a similar to a managed fund, however it’s listed on the ASX and typically invests in stocks to track a particular index/sector/commodity etc).

TWAP – Time Weighted Average Price (which is the average price of a security over a specified time).

VWAP – Volume Weighted Average Price (which is the ratio of the value traded to total volume traded over a particular time horizon. It is a measure of the average price at which a stock is traded).

Hedging – is a risk management strategy. It aims reduce or eliminate market risk, by taking an opposite position in a related asset (eg. Buying shares (Long) and Selling ASX 200 futures contracts (Short)).

Call option trades provide some risk reduction for me, on ASX 20 stocks. This is a lower entry cost and when you are holding stocks. Does your fund use options trades? also what are entry and exit fees?

The Fund can buy and sell options on Stocks and Futures. However, we do not use any derivatives other than ASX SPI.

Call options, when using as a buy-write strategy (sold call options to enhance income), provides no downside protection. We would not ever use this strategy moving through a volatile market environment. Intrinsically, options are very expensive to purchase when volatility rises so you need to be set before an event like this. As we do not believe in wasting money on the time decay of options due to the fact it is imprecise predicting the event, we prefer to simply use SPI to take away market exposure very quickly and efficiently.

An example of having protection on a long-term basis to protect you from an event like this would be to buy full put coverage against your long portfolio. This will cost you 6-10% (depending on where volatility is at the time of purchase) which doesn’t sound like a rewarding strategy when you can simply sell ASX SPI within minutes. We had days to react but were fortuitous to have had a full hedge on right before the downdraft.

Can you buy on ASX?

No, our fund is an unlisted managed fund. You simply fill out an application form for units, which you can obtain an application form our website here: www.apsec.com.au/how-to-invest

Did Nicolas say ETFs add to market volatility?

ETFs added to market volatility due to the size of flows that are now apparent. When they sold down, they impacted prices on the downside considerably. Prior to match on some days of 1-2% and then post-match at times 2-4%. This also occurred on up days with the same perverse outcomes.

Do you think we have hit bottom in March?

It is hard to say but we don’t think so. We will need to assess the trajectory of the economy and how that impacts spending habits and well as credit aggregates. The world is (and was) in a debt bubble and we were starting to see a deceleration of global growth prior to this event. Also, don’t forget immigration has supported Australian domestic growth for many decades and with this slowing dramatically with closed borders, the general stimulus from this contribution will leave economic activity depressed for quite some time.

Has your perspective of avoiding portfolio downside resulted in reduced performance on the upside?

We are a Hedge Fund and view risk symmetrically. It is true that in some market environments we take a more cautious approach. For example, when valuations are extreme (similar to what we have witnessed over the past 3 years) and where EPS revisions have been negative which is the case for the past couple of years at an aggregate level as well. But over the 7 years the Fund has been running, we have had much success from stock selection when valuations and business momentum were more conducive. The first three years of operation showed our abilities for stock selection and since inception we have highlighted how we perform in down markets. All together, we are now outperforming our benchmark after fees by 3.5% with much lower volatility which is what we set out to do.

How can I find out which stocks are being shorted?

The regulator, ASIC, compiles short-selling statistics from each entity on a lagged 4-day basis. It is compulsory to supply this information to the regulator. Their website link is: https://asic.gov.au/regulatory-resources/markets/short-selling/short-position-reports-table/

Alternatively, HALO has a short sell page which we update daily to reflect the latest information.

HALO technologies short selling screenshot

How can I find out which stocks are being shorted?

The regulator, ASIC, compiles short-selling statistics from each entity on a lagged 4-day basis. It is compulsory to supply this information to the regulator. Their website link is: https://asic.gov.au/regulatory-resources/markets/short-selling/short-position-reports-table/

Alternatively, HALO has a short sell page which we update daily to reflect the latest information.

HALO technologies short selling screenshot

How do you decide the % to long and % to shorts?

Generally, we target long and shorts dynamically in and around Macro events, reporting seasons and other company update schedules. There is also an overlay for where we are in the valuation cycle as well as business upgrade cycle.

How do you invest in the fund please?

By completing an application form, which the APSEC Team can assist you with. The application form can be found on our website here www.apsec.com.au/how-to-invest or you can find all of our contact details here www.apsec.com.au/contact-us

If you sell down, then you will recognize a loss and be out of the market - is that what you want?

Most certainly. But the key is to review mean-reversion and other market data to ascertain when you should get back in again. Which is what we do and is why over the long run we believe we will outperform most long-only strategies. If we can remove significant market drawdowns from our returns, then we will do that.

I'm frightened of shorts - how can I get comfortable without investing too much?

They way we use Short selling in the Fund, is typically for risk mitigation purposes. Being able to short, particularly with shorting the ASX 200 futures contracts, allows us to minimise the downside risks and reduce the overall volatility of the Fund compared to the market. Some investors like to start with a small investment and then build it up over time.

In March the US government said there will give unlimited stimulus and support. Does that mean the market will never crash?

No. They are always reacting after a crash. Also, this stimulus is very directed and admittedly they have gone further out on the risk curve but ultimately there are still large pockets of the economy that will not have this benefit eg small companies which are the major employers in most economies. Stimulus per se does not necessarily allow economies to repair. In fact, it hides the failures that should be allowed to occur.

In terms of the ‘triggers’ you use to signal buying or selling.... are those parameters and orders derived through algorithms?

The buy and sell signals we view in HALO are derived from a mathematical model. Orders are never placed because of the output in HALO but are further analysed from a quality perspective. The actual trades are implemented via standard “over-the-day” algorithms like TWAP (time-weighted average price) or VWAP (volume-weighted average price) rather than limit prices.

Is there a minimum investment for APSEC for a retail investor?

$10,000.

Many ASA members and SMSf's hold LICs which have universally been slugged in the recent draw down. In the context of the new 'ETF' world, where do you see the future for LICs? How does one effectively hedge LICs against draw down?

LICs will exist to the extent to which Investment Managers will raise capital through these vehicles. They essentially lock-up capital for Fund Manager to use at their discretion.

It really depends on the type of the exposure the LIC has, to then know which instrument could be used to effectively hedge against it. Feel free to call the APSEC Team on 1300 379 307 or email enquiries@apsec.com.au

What is the cost of joining the fund?

No entry or exit fee is applied. Depending on if you have an advisor, they may charge you an advice fee. The Fund’s management expenses are described in detail in the current PDS on page 33.

The Fund has a management fee of 2% p.a, which is calculated on a monthly basis within the unit price.

Performance Fees: 15% (above ASX 200 Accumulation Index + 3% p.a) subject to a high-water mark.

What's your opinion of hedging using SPI options, or XJO index options?

Similar view to using options on stocks. They are very imprecise to use in terms of timing. In our view, you need to tie their use to future events, not hoping there is an event. Generally, when you want to buy them volatility has gone through the roof and are no longer attractive to use to hedge. In other words, they cost you money to get set with no knowing as to whether you will use their properties.

Why are they called Hedge funds? What does it mean?

They are called Hedge Funds because they can go both Long (Buy) and Short (Sell) securities, to make sure money is made despite market fluctuations. A hedge fund is an alternative investment that is designed to protect investment portfolios from market uncertainty, while generating positive returns in both up and down markets. They are designed to deliver an absolute return for investors, with less volatility and irrespective of the market direction.