ISCF - The Contrarian All-Weather Portfolio Gained During Bank Crisis

2023-03-20 10:16:54 ET

Summary

• I presented a contrarian all-weather portfolio in an article series last year. This is a quick take on its performance during the banking crisis and the brutal 2022 market.
• The S&P dropped, but the all-weather portfolio gained and outperformed a comparable risk 40-60 benchmark during the crisis.
• In 2022 the all-weather portfolio experienced modest losses while outperforming its benchmark by nearly eight percentage points.
• Portfolio winners were Treasury bonds, TIPs, gold, silver and cash during the crisis. Natural resources shined during 2022.
• The outlook supports continued emphasis on all-weather portfolio diversification.

This is a follow-up to my three-part series last year, Ignore Market Forecasts and Adopt An All-Weather Portfolio , The Contrarian’s All-Weather Retirement Portfolio and The Contrarian’s All-Weather Retirement Portfolio – Top Picks By Asset Class. I previously discussed reasons to hold assets that perform well in a variety of conditions, including:

• Economic growth
• Recession
• Inflation
• Deflation and disinflation

But what about bank runs and bank failures? On March 10 ^th , the biggest failure of a U.S. bank since the global financial crisis was playing out at Silicon Valley Bank (SIVB). This was followed by a shut-down at Signature Bank and a bank consortium stepping in to support First Republic Bank (FRC). Then Swiss authorities stepped in to support teetering Credit Suisse (CS). On Sunday, UBS (UBS) announced it was taking over the bank.

This prompted me to have a look at how the Contrarian All-Weather Portfolio has fared during these events. In this quick-take, I also provide a look back on 2022 performance.

The Contrarian's All-Weather Portfolio Composition

The table below shows the portfolio holdings and allocations. For those not familiar, you may wish to read the previous articles to learn about the rationale behind the portfolio design.

The Contrarian's All-Weather Portfolio Has Made Money So Far During the Banking Crisis

The table below shows the performance of the portfolio since the SVB announcement on March 8 ^th until the close on March 17 ^th .

While the S&P 500 ( SPY ) declined 2%, the All-Weather Portfolio gained 1.6%. We also compared the portfolio to a comparable risk benchmark, the Vanguard LifeStrategy Conservative Growth Fund (VSCGX). The latter holds a mix of 40% equities and 60% bonds, each of which has international diversification. So far during the crisis, VSCGX also gained, albeit less than the All-Weather Portfolio, up 0.6%.

The Contrarian All-Weather Portfolio Winners Included Treasury Bonds, TIPs, Gold, Silver and Cash

The table below shows that defensive assets (highlighted in green), led by gold and silver enabled the portfolio to make money during the recent period. Gold has soared from $1,809 to $1,989. Silver is up even more, gaining 11.7%. Treasuries and cash have also provided protection.

The portfolio’s bias towards international and emerging markets equities didn’t help. So far, those sectors have declined more than the S&P, with declines ranging from 3.1% to 8.8%. Natural resources equities, standouts during 2022, also fared poorly during the crisis. Declines ranged from 6.6% to 7.5%.

The Contrarian All-Weather Portfolio Had Strong Relative Performance in 2022

The All-Weather Portfolio returns of -6.6% in 2022 were strong relative to the S&P, which dropped 18%. The benchmark VSCGX was down 15%. Commodity asset classes (highlighted in green) aided performance last year. MLPs gained 21% and natural resources equities were up 15%.

The portfolio’s emphasis on short to intermediate duration U.S. Treasury bonds also dampened losses relative to its benchmark VSCGX. The latter has an effective duration of 6.8, compared to about 4.0 for the All-Weather Portfolio. VSCGX also holds 43% in B through AA rated debt in addition to its 57% in AAA rated debt. The TIPs allocation in the All-Weather portfolio also dampened some of the bond market carnage of 2022.

I explained the rationale behind shorter duration and avoidance of lower quality, non-Treasury bonds in The Contrarian’s All-Weather Retirement Portfolio – Top Picks By Asset Class.

Outlook

I am encouraged that the All-Weather portfolio has held up well during the recent crisis and handily outperformed the market as well as a comparable benchmark in 2022. Yet the future is highly uncertain.

Market sentiment, as measured by the Investors Intelligence Bulls to Bears Ratio, reached extreme lows (less than 1) several times during 2022. This has historically boded well for the S&P 500, as noted in The Best Market Indicator Over the Past 34 Years . The AAII investor sentiment index has had similar readings. Indeed, the market has recovered since the October 2022 lows, up about 9%. The Investors Intelligence indicator has also since recovered to a more neutral 1.5.

The banking crisis may further suppress sentiment near-term. Perhaps there will be more bank failures and bailouts, accompanied by stock market declines. Or the crisis may pass quickly. The Fed may begin to soften its tight policy stance, maybe even this week via a pause in rate hikes. Bullish sentiment may carry the day again. If the latter occurs, the All-Weather Portfolio, with its underweighting of U.S. equities and heavy defensive stance, may substantially lag the S&P and more conventional portfolio benchmarks.

However, as I’ve described in several of my recent articles, the following factors could favor investors who adopt a balanced all-weather portfolio:

• Continued high U.S. equity valuations, signaling ten-year forward annual returns of only 4-7%
• The outlook for gold (and silver), as noted in The Case for $5,000 Gold
• The likelihood of continued high inflation , supporting commodities and TIPs
• Pressure on the dollar , supporting foreign equities

Having said that, these are not forecasts, rather possibilities that I believe have reasonable probabilities . As always with investing, there are many scenarios that could unfold. That’s why I’ve expressed several times on this site to Ignore Market Forecasts and Adopt an All-Weather Portfolio .

Conclusion

The Contrarian All-Weather Retirement Portfolio performed well in 2022, one of the most difficult years in investment history, when both bonds and stocks declined substantially. During the most recent banking crisis challenge it has also held up well - even gaining. More importantly, the portfolio has proven itself over the long-term across many market cycles. It generated solid annual returns of nearly 6% with maximum drawdowns of only 5% over the past 25 years.

Yet, some holdings may not be attractive to investors who look through the rearview mirror, like to trend follow, or buy the latest hot stocks. But the portfolio may be attractive to investors who believe in time-tested principles of diversification, investing in value for the long-term, and not following the crowd.

As always, I look forward to your comments.

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