Author: shyam

Funding Your Dollar Dreams

Future dollar liabilities

Whether you are planning an international vacation, sending your kids to grad school abroad or immigrating on a millionaire visa, you need dollars to fund them. Think of them as future dollar liabilities. As an investor in India, the biggest problem is that Rupee returns may not be enough to purse your Dollar dreams.

Recently, we took a look at how US midcaps have out-performed Indian midcaps the last decade (here.) The risk is not only that Indian midcaps will under-perform but also that the Indian Rupee (INR) will continue on its downward trajectory vs. the dollar (USD)

Here is a chart of USDINR (in black) and NASDAQ India TR Index (NQINT, in red.) The NQINT index is a broad-based Indian equity dollar index. Between 2007-01-03 and 2018-12-31, the rupee has depreciated by an annualized rate of 3.89%. And measured in dollars, Indian equities have returned an annualized 6.02%.

Even though some actively managed Indian midcap funds have given similar returns to US midcaps, they have done so with vastly higher volatility. Here’s a similar chart of VO (Vanguard Mid-Cap ETF, black) vs. SBI Magnum Midcap Fund (red, dollar adjusted) for the same time-period:

VO is slightly ahead with an annualized 7.06% return vs. Magnum’s 6.12%. However, note the steep drawdowns of Magnum vs. VO.

Taking care of business

Assuming you apply a bit of prudence and allocate more and more to bonds as your get closer to your target date to reduce volatility, you still end up with a mismatch between your dollar liabilities/expenses vs. rupee assets. One way the solve this is to invest directly into US equity funds. You can do this one of two ways:

  1. Buy Fund-of-Funds (FoFs) that invest in US equity.
  2. Open a US brokerage account and buy a target-date fund directly.

The problem with buying an FoF is that the acronym also stands for “Fees-over-Fees,” given how you pay both for the wrapper and the biscuit inside. For example, the Franklin India Feeder – Franklin U.S. Opportunities Fund has an expense ratio of 1.74% (0.92%, if direct) to buy a mutual fund (Franklin U.S. Opportunities Fund I(acc)USD) that charges another 0.85% on top (FTI, MS.) Whereas, IUSG, an ETF that tracks its benchmark (Russell 3000 Growth,) has an expense ratio of only 0.04%. To make matters worse, the mutual fund has under-performed its benchmark (see).

Most investors are not aware of option #2. Opening a brokerage account in the US is pretty straightforward. TD Ameritrade does a pretty decent job of onboarding new accounts. But the problem is in transferring funds. While Indian brokerage accounts can be funded through a mouse click, transferring funds abroad requires some paper-and-leg-work. You need to fill out a bunch of forms and take it to your bank. But the process is worth it given the cost savings throughout the life of the investment and the breadth of choices available through this channel.

Target date funds

Most investors save with a specific goal in mind. Say, your kid is 5 years old and you want to fund his grad school abroad – a good 20 years away. The easiest and cheapest way to go about this is through Vanguard’s target date funds.

From their website:
Each Target Retirement Trust invests in several low-cost Vanguard index funds to create a broadly diversified mix of stocks and bonds. The year in a Target Retirement Trust’s name is its target date, the approximate year in which an investor in the trust expects to retire and leave the workforce. A Target Retirement Trust will hold more stocks the further it is from its target date, seeking stocks’ higher potential growth. To reduce risk as the target date approaches, Vanguard’s investment managers will gradually decrease the trust’s stock holdings and increase its bond holdings.

Given that we are in 2019, you can just buy the Vanguard Target Retirement 2035 Trust and average into to it for the next 20 years to fund your kid’s education abroad.

Conclusion

Your dreams grow along with your income, if not faster. If those dreams involve international travel or studies, it makes sense to bite the bullet today and start saving for your dollar dreams in dollars. It is cheaper, over the long run, to do so through a US brokerage account.

Disclaimer: This blog post is for informational purposes alone. Do not treat this as investment advice.

Country Index Returns 2018

NASDAQ OMX indices are a great way to get same currency, apples-to-apples datasets. Here are the country specific total-return index returns (key) for 2018:
INDEX-NQ.absolute

And here are returns relative to the NASDAQ Global TR Index (NQGIT):
INDEX-NQ.NQGIT

Russia, dinged by US sanctions and a stalling economy, surprisingly put in one of the best equity returns.

Code and charts are on github.

Book Review: The Quants

In the book The Quants: How a New Breed of Math Whizzes Conquered Wall Street and Nearly Destroyed It (Amazon,) Scott Patterson provides a peek into the world of quantitative finance with the meltdown of 2007/2008 as a backdrop.

The book is gripping. It almost reads like a whodunit. It is like a modern-day update to Schwager’s Market Wizards series. However, I am not sure I agree with the book’s narrative that quantitative models caused and made volatility worse. In reality, an unwind of any crowded trade can trigger a doom loop of volatility. And in a margin call, the most liquid assets are the first to go. Secondly, for a book that covers statistical arbitrage, long/short value and momentum strategies and capital structure arbitrage using credit default swaps, missing Bridgewater and their risk-parity model is a big one.

Recommendation: Worth a read.

Momentum: Peek under the hood before you invest

Quantitative momentum investing is fairly new in India. To compare different strategies, you need real-world data spanning a complete cycle. The best proxy for this turns out to be US listed ETFs – they have one price (unlike mutual fund share classes) and their adjusted prices can be easily downloaded. Here, we take a look at two momentum ETFs, DWAQ and MTUM, to highlight why investors should go beyond just running a screen for “momentum” and investing in whatever comes up first.

DWAQ vs. QQQ

DWAQ, the Invesco DWA NASDAQ Momentum ETF, was listed back in May 2003. QQQ is a plain vanilla market cap ETF based on the Nasdaq-100 Index. Here are the descriptions from their issuer websites:

The Invesco DWA NASDAQ Momentum ETF is based on the Dorsey Wright® NASDAQ Technical Leaders Index. The Index is comprised of approximately 100 securities from an eligible universe of approximately 1,000 securities of large capitalization companies from the NASDAQ US Benchmark Index. All securities in the universe are ranked using a proprietary relative strength (momentum) measure. Each security’s score is based on intermediate and long-term price movements relative to a representative market benchmark and the other eligible securities. The top 100 securities are selected for the Index. (Invesco)

The Invesco QQQ is an exchange-traded fund based on the Nasdaq-100 Index®. The Index includes 100 of the largest domestic and international nonfinancial companies listed on the Nasdaq Stock Market based on market capitalization. (Invesco)

Here are their relative returns:

Not the torch bearer for momentum that we had hoped for.

MTUM vs. VONE

MTUM, the iShares Edge MSCI USA Momentum Factor ETF, came a good 10 years after DWAQ. Not constrained just to the Nasdaq, it provides wider exposure to large- and mid-cap U.S. stocks exhibiting relatively higher price momentum. (iShares) It is only fair that we compare it to VONE, which is Vanguard’s Russell 1000 ETF. Russell 1000 covers most of the US large- and mid-cap universe. (Vanguard)

Here are their relative returns:

Not bad! That’s almost a 4% difference in annualized returns.

MTUM vs. DWAQ

DWAQ trailed MTUM by about 5% in annualized returns for the period. Probably because it has a more diversified portfolio compared to MTUM’s. This should have lead to shallower drawdowns but that is not the case – DWAQ returns are a lot more volatile than MTUM’s. Will MTUM’s volatility adjusted price momentum continue to out-perform DWAQ’s “proprietary relative strength” momentum? Who knows?

If you think it is a tough job deciding between the two, consider this: there are over 40 momentum ETFs currently listed in the US. Each one slices the data a bit differently, making it absolutely essential that you peek under the hood before you click that buy button!

Charts created using the StockViz Compare Tool.

Streaks, Part II – Backtest

In Part I of this series, we saw that it is very rare for two consecutive down months to be followed by a third one. Here, we present a simple backtest that goes long NIFTY 50 for a month if the previous two months were negative.

backtest cumulative returns

The shallow drawdowns of this strategy makes it ideal for leveraged trades. NIFTY futures are about 7x levered. That should transform the 190% gross return to about 1330%, beating buy and hold by a wide margin. The MIDCAP 100 index behaves similar to this between the 2005 through 2018 time-frame. However, the results are not so great if you include data prior to 2005.

This looks like a case of severe data-mining and should be discounted as such. But it is an interesting result nevertheless.

Code and charts are on github.