Last Updated on 9 January 2021 by F.R.Costa
A long-short portfolio is a good strategy to protect for the downside. Article originally published at Master Investor Magazine December 2020 Issue 69.
Bonds can be converted quickly into cash, which means they can be used to pay for your kids’ education and to buy more stocks. Thus, don’t be afraid of keeping more bonds when stock markets are overvalued, just to buy more stocks when the stock market crashes.
Many believe that the 60/40 stock-bond portfolio allocation is dead. Some go further and argue against holding bonds to any extent, as there are better ways, they claim, to protect against the downside, such as put options, for example. With yields being so low, the opportunity cost of carrying bonds in a portfolio is very high, in particular those of high quality (as they carry the lowest yields). But high-quality bonds are essentially cash and cash shouldn’t be considered a burden.
We should also not forget that the pandemic crisis isn’t over yet. Past experience shows that it takes years for viruses to be defeated. The record time taken to develop the vaccines and the enthusiastic reception from the stock market may open space for future disappointment and market corrections. If not, it will at least take time to distribute the vaccine, which means months of further restricted economic activity. Sooner or later, unemployment numbers will grow, despite the current efforts to hold them down through artificial measures that disallow or restrict the permanent dismissal of employees. For all this, I believe central banks still have further ammunition, which will translate into even lower yields. This is in particular the case in the US.