Day Hagan Research Update

DAY HAGAN RESEARCH UPDATE

CASH IS A DEFENSIVE ASSET CLASS

SUMMARY

The Day Hagan Tactical Dividend strategy continues to hold historically high level of cash. And there are reasons for it.

WRITTEN BY

Donald L. Hagan, CFA

POSTED

October 20, 2016

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An astute advisor recently asked about our plans for the current cash positions in the Day Hagan Tactical Dividend portfolios, as well as what the cash positions looked like during the 2007-2009 bear market.

My response began by detailing the cash positions from 2007-2009. As you know, the S&P 500 peaked on October 9, 2007 and then declined 57% into March 9, 2009.


OBSERVATION DATE PERCENT CASH
2007-10-31 9.890
2007-11-30 10.090
2007-12-31 35.590
2008-01-31 37.270
2008-02-29 37.170
2008-03-31 37.010
2008-04-30 36.950
2008-06-02 36.870
2008-06-30 38.590
2008-07-31 37.400
2008-09-02 36.510
2008-09-30 38.000
2008-10-31 47.900
2008-12-01 51.100
2008-12-31 50.500
2009-02-02 51.600
2009-03-02 54.100
2009-03-31 53.800
2009-04-30 11.900
2009-06-01 3.000

(Cash allocations based on a representative account and individual cash positions varied slightly due to portfolio size and other trading-related factors.)

As you can see, the strategy’s process correctly responded to the market’s upheaval and dramatically increased cash levels by the end of 2007. Those historically high cash positions were maintained as the market declined sharply into March 2009. At that point, cash was then put to work and by the end of April, 2009, as the bear market ended, the percentage of cash had declined from the previous month’s 53.8% to 11.9%. The bull market was on. 

The low, of course, was on March 9, 2009, so cash wasn’t invested at the exact bottom. (I am fairly confident that we are unlikely to ever call the exact bottoms and tops in the market.) Nevertheless, the important point is that the process and strategy was able to put the cash to work quickly once rewards versus risk became attractive

The Tactical Dividend process has been in place since 2002, and has prevailed throughout bull markets, bear markets, sideways markets and all of the curve balls thrown during that time (QE, Greece, Arab Spring, Russia/Crimea, Democrats, Republicans, Brexit, and hundreds of other crisis events). It has prevailed for a very simple reason: It stays true to its discipline.

The discipline is: If there aren’t enough industries—and companies within those industries—that meet our time-tested criteria to be included in our portfolios, we will hold cash until investable companies become available. We will not relent or water-down our discipline by buying stocks that have poor reward versus risk profiles.

In other words, our cash position is a direct reflection of how many good opportunities there are in the equity markets based on a disciplined process. If there aren’t a lot of good buys, we will hold a lot of cash. Our view is that we’d rather own a portfolio of companies with great prospects than force investment into companies with not-so-great prospects.

And that’s the current environment we find ourselves in—there aren’t a lot of great prospects. We have a few industry groups that are nearing buy thresholds, but none are quite there yet.

We are most certainly looking forward to putting our cash to work. Not only do we increase our potential return, but my view is that historically, when the process gives the all-clear to add exposure, it’s not just an all-clear for buying more stocks, but an indication that the global business environment is likely improving—and that’s good for everybody.

Until that time, we will continue to manage risks, which, based on the level of our portfolio’s cash holdings, are relatively high.

As I concluded with my email to the advisor:

“Bottom Line: Our strategy raised cash when the market became risky. That cash was then put to work when market fundamentals moved back in the investor’s favor. A lot of people bought tech stocks in early 2000, houses in early 2007 and tulips in 1637! Only kidding, but it is amazing how investors’ actions can be driven by emotion rather than common sense.”

We will continue down the path of common sense and a disciplined process.

Have a wonderful week,

Donald L. Hagan, CFA
Day Hagan Asset Management
Day Hagan Investment Research

— Written 10.19.2016

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