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Summary

  • A tactical Unified Bond Strategy (UBS) has been developed that has the potential of providing good annual growth (>14%) with a maximum drawdown of 4%.
  • The UBS is composed of three different bond sub-strategies previously published that employ different tactical parameters and ETF universes.
  • The sub-strategies utilize different asset classes of bond ETFs in order to produce good performance in varying market conditions including rising interest rates.
  • The UBS (with proxies) has a backtested annual growth of 16.6% and a Sharpe Ratio of 2.4 from 2008-present.
  • The UBS (using actual ETFs) has a backtested annual growth of 14.4% and a Sharpe Ratio of 3.4 from 2012-present.

One performance parameter that is of paramount interest to risk aversion investors involved in tactical strategies for retirement portfolios is the Sharpe Ratio. The Sharpe Ratio measures reward per unit of risk. It is defined as the annualized average excess return divided by the standard deviation of excess return. Excess return is calculated using the cash ETF specified. Bond strategies typically have higher Sharpe Ratios than equity strategies, albeit with lower annual growth. But if risk aversion controls a person's thinking, then one would want a Sharpe Ratio as high as possible in a tactical bond strategy, while still maintaining reasonable annual growth.

I have developed a new tactical bond strategy that combines three previous bond strategies I have published. By combining these three bond strategies, the combined Sharpe Ratio is greater than the Sharpe Ratios of each individual strategy. The new bond strategy is called the Unified Bond Strategy, UBS. It is composed of:

1. Bond-Only Strategy (25%)

2. Low Volatility Bond Strategy (25%)

3. Rising Rate Bond Strategy (50%)

Further information on the structure of these bond sub-strategies can be found in previous SA articles I have written (please click on the strategies). The UBS is updated semi-monthly.

These three bond sub-strategies cover a wide range of market conditions, including a rising rate market environment. Many different types of bond ETFs are utilized. The ETF universe of the UBS consists of the following ETFs: (NYSEARCA:BIL), (NYSEARCA:BKLN), (NYSEARCA:BLV), (NYSEARCA:BWX), (NYSEARCA:EMB), (NYSEARCA:HYG), (NYSEARCA:HYLD), (NYSEARCA:HYMB), (NYSEARCA:HYS), (NYSEARCA:IEF), (NYSEARCA:SHY), (NYSEARCA:TBF), and (NYSEARCA:TLT). A description of the each ETF is given in the table below.

(click to enlarge)

Backtesting bond tactical strategies is problematic because many bond ETFs have not existed very long. In order to backtest UBS to 2008, I had to use a mutual fund proxy (MUTF:VWEHX) for HYLD in the LVB Strategy and for HYS in the RRBS3. The backtested results from 2008-present using ETFreplay software are shown below. Please realize a longer backtest time period is desired, but this is the best that can be done with the present data.

The Compounded Annual Growth Return, CAGR, is 16.6%, the Sharpe Number is 2.46, and the maximum drawdown is 3.6%. The total return is 165.1% compared to the benchmark (NYSEARCA:AGG) total return of 33.1%. The annual return is over 10% every year from 2008-2013.

(click to enlarge)

The actual UBS (without proxies) can only be backtested to 2012. The backtested results from 2012-present using the actual ETF universe are shown below. The CAGR is 14.5% and the Sharpe Ratio is 3.44. The maximum drawdown is 3.0% and the volatility is 4.0%, extremely low numbers. The overall return is 36.9% compared to 4.6% for the benchmark, AGG. Please note that the year 2013 had rising rates for mid- and long-term treasuries, and the UBS did quite well in this market environment.

(click to enlarge)

The UBS is only recommended for non-taxable retirement accounts. Semi-monthly updates of this strategy will be posted on my Instablog on the 1st and 16th of every month (or the next business day if those days fall on the weekend).

Source: Tactical Unified Bond Strategy With High Sharpe Ratio