The July 31, 2016 month-end performance estimate for the Horse Cove Partners Absolute Return Strategy is (-1.49%) net of fees1. Since the December 2010 inception of trading, the Strategy has achieved a total cumulative return of +248.17%.
Market Recap and Commentary
The S&P 500 Total Return Index was up 3.69% for the month, and is up 7.66% for the year.
The S&P 500 Index had one of its best months in a long time. From the Brexit intra-day low of 1991.68 on June 27, 2016, the S&P 500 climbed 9.31% to its intra-day high on July 29, 2016, of 2177.09. That is a new all-time intra-day high for the S&P 500. The record high close for the S&P 500 is now 2175.11 set on July 22, 2016.
Volatility, as measured by the (VIX), remains at or near historic lows. July saw an intra-day low on the VIX of 11.40%. The last time the VIX was that low was August 5, 2015, when it hit 10.88% during the day.
Performance and Trading Update
For the month, the Horse Cove Absolute Return Strategy composite return was down (-1.49%), compared with the S&P 500 Total Return Index that was up 3.86%. Year to date, the Strategy is up 10.61% compared to the S&P 500--up 7.66%.
A rising market is usually accompanied by falling volatility and, in turn, lower option premiums for sellers, as fear leaves the market. July proved to be one of those periods of time. We collected light premiums each week and were tested the third week of the month when we exercised our risk management disciplines and bought calls back for a loss. After trading for four weeks, the strategy broke even. Inclusive of the second quarter performance fees paid in July, we are reporting a loss for the month.
We trade S&P 500 options weekly. Those options typically expire at 4:15 on Friday afternoon. To sell an option, you need free collateral. In the execution of the Horse Cove Strategy, we buy the short puts and calls back each week so we can free up the collateral and trade on Thursday or Friday for the following week.
The third week of the month, however, is a nuanced exception. There is no S&P 500 Index option expiring at the end of the day on Friday. Instead, the market uses the monthly option that stops trading at the end of the day on Thursday and it expires (is priced and settled) at the open on Friday morning. Those options do not trade in the overnight market after the close on Thursday.
This “time gap” between the close on Thursday and the open on Friday creates an opportunity and a risk. We can let the options expire at the open on Friday, have all the collateral cleared and still trade on Friday for the following week. However, the risk is that there can be a big swing between the close and the settlement price, which could cause the options to “go in the money” if you’re too close.
The issue is the settlement price for the index options on the third Friday of the month is not the price you see on Bloomberg or CNBC when the market opens. Rather, it is the composite price of the first trade of each stock in the S&P 500 on Friday morning. Horse Cove had sold the 2170 calls that week. On July 21, 2016, the S&P 500 closed at 2165.17. The open on Friday is shown as 2166.47. We had several inquiries as to why we bought them back at a loss when they expired out of the money.
The settlement price was 2172.54, which would have resulted in a significantly higher trading loss for the week than was achieved. Our experience has taught us that this is a possibility. We have rules that caused us to exit the trade at a loss to eliminate just this risk. Although we accepted a small loss, we avoided a potentially much larger loss.
IRA Update
Here are the returns for the consolidated IRA accounts for the periods indicated:
IRA accounts must use Reg. T Margin which, means that fewer option contracts can be written than in the “regular” accounts that use Portfolio Margin. Over time, this will result in lower returns when compared to the “regular” accounts.
More of Nothing?
The trend towards negative interest rates continues to rise as central banks struggle to turn the tide of weakness and the consequences of too much debt. It has always struck us as odd, that central banks throughout the world have tried to solve the global problem of debt by creating more.
In the U.S., the 10 year government bonds now pay less than 1.5% per year. A 30 year US Bond pays 2.3% per year and falling. Bond rates are now negative in the Eurozone, Sweden, Switzerland and Japan. A top bond analyst is now predicting the 30 year bond rate in Japan will go negative within two years.
The traditional meme of portfolio diversification calls for a portfolio allocation of 60% to equities and 40% to bonds. Following that places a substantial portion of ones’ portfolio in an allocation that is guaranteed to lose money. That strikes us as “more of nothing” and fits perfectly with the idea that you can solve the problem of too much debt by creating more.
While new to many investors, we believe that the Horse Cove Partner’s Absolute Return Strategy of selling premiums weekly provides a proven, established process to add to the total return of any portfolio, particularly for those investors looking to do better than “nothing”.
Please let us know how we can help you in attaining your financial “independence”.
About Horse Cove Partners LLC
Profiting from the art and science of taking risk.®
Horse Cove Partners was named the #1 Option Strategy Ranked by Net Returns in June 2016 by BarclayHedge.com. This marks the 17th time Horse Cove has received a monthly Performance Award-Option Strategies Ranked by Net Returns since it became eligible in October of 2014.
Horse Cove Partners was founded by Sam DeKinder and Kevin Ellis in January of 2013 with the commitment to help grow clients’ assets with a highly disciplined investment strategy, replicated weekly, to extract absolute returns from the market by trading short volatility option spreads. The firm was launched after more than two years of trading experience with personal assets that began in December of 2010. The firm is built on the strength of hedge fund trading expertise developed beginning in 2002.
Assets under management at the end of July 2016 were $27.31 million.
“We do not believe we are smarter than the market, nor can we time the market in any given week or month. As a result, we take an investment approach similar to an insurance company in that our investment strategy focuses on probability of success and the management of risk. We believe that it is possible to realize positive returns through disciplined focus on the risk of each trade with a weekly investment horizon, and accepting intelligent losses when risk events occur.”
We would like to thank you for your continued support and look forward to being in touch with you in the near future.
Sincerely,
Sam DeKinder, Kevin Ellis
John Monahan
Michael Crissey
Greg Hyde
Don Trotter
sdekinder@horsecovepartners.com
kellis@horsecovepartners.com
jmonahan@horsecovepartners.com
mcrissey@horsecovepartners.com
ghyde@horsecovepartners.com
dtrotter@horsecovepartners.com
Horse Cove Partners LLC
1899 Powers Ferry RD SE
Suite 120
Atlanta, GA 30339
678-905-5723 main
1Net estimate on a consolidated basis of similar accounts as of 7.31.2016, which is preliminary and subject to revision. Performance estimate described herein as “YTD” are net of fees and expenses including a 2% per year management fee and 20% incentive fee and also assumes investors have been invested with no withdrawals.
THIS MESSAGE AND ANY FILES TRANSMITTED WITH IT ARE CONFIDENTIAL AND PRIVILEGED. IF YOU ARE NOT THE INTENDED RECIPIENT, PLEASE NOTIFY THE SENDER IMMEDIATELY AT 1 (978) 905 5723. IF YOU ARE NOT THE NAMED ADDRESSEE YOU SHOULD NOT COPY OR DISCLOSE THE CONTENT OF THIS MESSAGE AND OF ANY FILES TRANSMITTED WITH IT TO ANY OTHER PERSON.
Internet communications are not secure and subject to possible data corruption, either accidentally or on purpose, and may contain viruses. The content of this message should not be construed as an investment advice unless explicitly stated as such in the text of this message. Further, this message should not be construed as the solicitation of an offer to purchase or an offer to sell any securities or other financial instruments, including, without limitation, interest in any private investment managed by Horse Cove Partners LLC or any of its affiliated entities.
Past Performance is not a guarantee of future results. Investing involves risk, including the possible loss of principal and fluctuation of value. The returns are based on the Investment Manager's strategy and not actual client accounts. The Horse Cove Absolute Return and IRA Return strategies seek to extract absolute returns from the market by trading short volatility option spreads. The strategies reflect the deduction of advisory fees and any other expenses that a client would have paid or actually paid. Model results do not represent actual trading and they may not reflect the impact that material economic and market factors might have had on the Portfolio Manager’s decision-making if the advisor were actually managing the clients' money. The S&P 500 index is used for comparative purposes only. The volatility of an index is materially different from that of the model portfolio. The S&P 500 refers to the Standard and Poor's 500 Index which is a capitalization-weighted index of 500 stocks. The index is designed to measure performance of the broad domestic stock market. The VIX (CBOE volatility index) is the ticker symbol for the Chicago Board Options Exchange (CBOE) Volatility Index, which shows the market's expectation of 30-day volatility. It is constructed using the implied volatilities of a wide range of S&P 500 index options. This volatility is meant to be forward looking and is calculated from both calls and puts. The VIX is a widely used measure of market risk and is often referred to as the "investor fear gauge." Option trading entails a high level of risk. The models do not include the reinvestment of dividends and capital gains because options don't pay dividends. Please read the Characteristics and Risks or Standardized Options available from the Options Clearing Corporation website: http://www.optionsclearing.com for further details.
IRS CIRCULAR 230 NOTICE. Any advice expressed above as to tax matters was neither written nor intended by the sender or any Horse Cove Partners LLC affiliated entities to be used and cannot be used by any taxpayer for the purpose of avoiding tax penalties that may be imposed under U.S. tax law.
