How Our AMD Portfolio Is Weathering The Coronavirus Correction
Summary
- Last month, before the current correction started, I wrote of the coronavirus risk to AMD's supply chains and presented a hedged portfolio built around an AMD position.
- Here, I recap how that AMD hedged portfolio was constructed and show how it has weathered the coronavirus correction so far.
- Although the AMD portfolio was hedged against a greater-than-16% decline, it was only down 4.36% as of Tuesday's close, versus SPY which was down 10.89%.
- Looking for a helping hand in the market? Members of Bulletproof Investing get exclusive ideas and guidance to navigate any climate. Get started today »
AMD promotes the Borderlands 3 Broken Hearts Day seasonal event (image via AMD Gaming's Twitter account).
A Hedged Portfolio Around An AMD Position
Last month, before the current coronavirus correction started, I wrote an article about building a hedged portfolio around an Advanced Micro Devices (AMD) position, in light of the coronavirus risk to its supply chains. Let's see how our AMD portfolio has weathered the correction so far. First, a reminder of how the portfolio was constructed and what it consisted of in addition to AMD.
Constructing The February AMD Hedged Portfolio
We used the Hedged Portfolio Method to build a concentrated portfolio around AMD in February starting with these premises:
- You had $250,000 to invest.
- You were unwilling to risk a drawdown of more than 16% during the next six months, so you wanted to be hedged against any decline greater than that.
- You wanted to invest in a handful of names, including AMD, with a goal of maximizing your expected total return net of hedging costs.
These were the steps involved for those who wanted to do this manually (your returns would obviously have varied based on which approach you used).
Step 1: Estimate Potential Returns
The goal of this step was to find names that had the potential to generate high total returns to include alongside AMD. Our system calculates its own potential returns by analyzing adjusted price history and options market sentiment, but you could have derived yours from Wall Street price targets or the price targets given by Seeking Alpha contributors you follow. Your initial universe could have been as big as Portfolio Armor's (the ~4,500 stocks and Exchange-Traded Products with options traded on them in the U.S.) or something smaller, such as the Dow 30.
Step 2: Calculate Hedging Costs
Since you were going to hedge, gross potential returns were less important to you than potential returns net of hedging costs. To figure those out, you needed to figure out the optimal or least expensive way to hedge each name. I wrote about how to find optimal hedges here. For this example, you would have been looking for the cost of hedging against declines of 16% or greater. The lower the decline you were looking to hedge against, the narrower the list of names you would have been able to use.
Step 3: Rank Names By Net Potential Return
For each of the names in your initial universe that had a positive potential return, you would have subtracted the hedging cost you calculated in Step 2 to get a net potential return.
Step 4: Buy And Hedge
Here, you would simply have bought and hedged a handful of names that had the highest potential returns net of hedging costs. The automated approach we'll show below included a fine-tuning step to minimize your cash and another fine-tuning step to decide whether to hedge with puts or collars, but those four steps were the basics.
The February AMD Hedged Portfolio
Using the process outlined above, this was what our automated hedged portfolio construction tool presented us:
Screen capture via author.
In addition to AMD, the site included Apple (AAPL), Generac (GNRC), and Synnex (SNX) as primary securities, based on their net potential returns when hedged against >16% declines (the system is agnostic about whether an underlying security is a stock or an ETF, but in this case, all of the primary securities were stocks). The system attempted to allocate roughly equal dollar amounts to each of those names, but rounded down the dollar amounts to make sure it had round lots of each stock.
In its fine-tuning step, it selected Lumentum (LITE) to absorb cash left over from the process of rounding down the primary securities. LITE is hedged with an optimal, or least expensive, collar with a cap set at the current seven-day (annual) yield of the Fidelity Government Cash Reserves money market fund (FDRXX). The hedging cost of this is negative: The idea here is to get a shot at a higher return than cash while lowering the overall hedging cost of the portfolio and limiting your downside risk in accordance with your risk tolerance.
Performance Of The Underlying Securities Since
This is how the underlying securities in the hedged portfolio have performed since, unhedged:
Data by YCharts
AMD was the worst-performing name here, down 18.54%. The other four names, which were selected by my system, lost less. Assuming, for simplicity's sake, your portfolio was equally weighted and you held each position from Feb. 20 until Tuesday's close, you would have been down 10.49%.
Performance Of The Hedged Portfolio So Far
Here's how the hedged portfolio performed.
The hedged portfolio was down 4.36%, versus the SPDR S&P 500 ETF (SPY), which was down 10.91% over the same time frame.
Wrapping Up
It's worth noting that although this portfolio was hedged against a >16% decline, and its underlying securities were down an average of 10.49%, the hedged portfolio was down only 4.36%. This was due in part to the time value of the put options protecting the underlying securities, since these options were selected so that they would protect against a >16% based on their intrinsic value alone. Nevertheless, holders of this hedged portfolio can be confident that their downside risk will be strictly limited - and if the market turns around within the next several months, their positions in AMD and the other primary securities have uncapped potential upside. Let's check back in a few months and see how this portfolio is doing.
Better Returns Through Security Selection
I take a unique approach to security selection in my Marketplace service, working to generate better returns by reducing outliers. You can see evidence of that in the hedged portfolio discussed in this article, and read about my approach in this article, "Better Returns By Reducing Outliers."
This article was written by
Analyst’s Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.
Seeking Alpha's Disclosure: Past performance is no guarantee of future results. No recommendation or advice is being given as to whether any investment is suitable for a particular investor. Any views or opinions expressed above may not reflect those of Seeking Alpha as a whole. Seeking Alpha is not a licensed securities dealer, broker or US investment adviser or investment bank. Our analysts are third party authors that include both professional investors and individual investors who may not be licensed or certified by any institute or regulatory body.
Recommended For You
Comments (22)
By this estimate, by about May 8th, all open hospital beds in the US will be filled. (This says nothing, of course, about whether these beds are suitable for isolation of patients with a highly infectious virus.)
If we’re wrong by a factor of two regarding the fraction of severe cases, that only changes the timeline of bed saturation by 6 days in either direction. If 20% of cases require hospitalization, we run out of beds by ~May 2nd.
If only 5% of cases require it, we can make it until ~May 14th. 2.5% gets us to May 20th. This, of course, assumes that there is no uptick in demand for beds from *other* (non-COVID19) causes, which seems like a dubious assumption.
As healthcare system becomes increasingly burdened, Rx shortages, etc, people w/ chronic conditions that are normally well-managed may find themselves slipping into severe states of medical distress requiring intensive care & hospitalization. But let’s ignore that for now.
Alright, so that’s beds. Now masks. Feds say we have a national stockpile of 12M N95 masks and 30M surgical masks (which are not ideal, but better than nothing).
There are about 18M healthcare workers in the US. Let’s assume only 6M HCW are working on any given day. (This is likely an underestimate as most people work most days of the week, but again, I’m playing conservative at every turn.)
As COVID19 cases saturate virtually every state and county, which seems likely to happen any day now, it will soon be irresponsible for all HCWs to not wear a mask. These HCWs would burn through N95 stockpile in 2 days if each HCW only got ONE mask per day.
One per day would be neither sanitary nor pragmatic, though this is indeed what we saw in Wuhan, with HCWs collapsing on their shift from dehydration because they were trying to avoid changing their PPE suits as they cannot be reused.
How quickly could we ramp up production of new masks? Not very fast at all. The vast majority are manufactured overseas, almost all in China. Even when manufactured here in US, the raw materials are predominantly from overseas... again, predominantly from China.
Keep in mind that all countries globally will be going through the exact same crises and shortages simultaneously. We can’t force trade in our favor.
Now consider how these 2 factors – bed and mask shortages – compound each other’s severity. Full hospitals + few masks + HCWs running around between beds without proper PPE = very bad mix.
HCWs are already getting infected even w/ access to full PPE. In the face of PPE limitations this severe, it’s only a matter of time. HCWs will start dropping from the workforce for weeks at a time, leading to a shortage of HCWs that then further compounds both issues above.
We could go on and on about thousands of factors – # of ventilators, or even simple things like saline drip bags. You see where this is going.
Importantly, I cannot stress this enough: even if I’m wrong – even VERY wrong – about core assumptions like % of severe cases or current case #, it only changes the timeline by days or weeks. This is how exponential growth in an immunologically naïve population works.
You read stuff, do you have any explanation why Hong Kong has 1-2 cases per day when Italy has 3000?
www.straitstimes.com/...
Why ?
It's coming from rock bottom. LOL.
Don't be so sure.
I like amd but amd is not immune
And because every rally is a head fake, so too will AMD face some upside resistance.
AMD is a buy. Those who missed it before the great run-up will get a second chance.Wait. That is the DIY way.
47 cases
31 recovered.
1 dead.
believe it or not. it's your call.