The month-end performance estimate as of September 30, 2014 for Horse Cove Partners Absolute Return Strategy is +2.82%, net of fees1. For 2014 year to date, the strategy return is +16.65%, and since the inception of trading in December 2010, the strategy has achieved a total cumulative return of +168.807%.
Market Recap and Commentary
September appears to have been a turning point in the run of the bull market. We recorded an all-time high in the S&P 500 intraday on September 18, 2014 at 2012.34. For the month, the S&P 500 Total Return declined (-1.40%).
Fewer and fewer stocks were participating in the rising market and investors seemed quick to sell as the market turned. This is an acceleration of the swings up and down in both the market and volatility. This kind of activity is historically common at market tops and may be portending the end of the bull market that began in April of 2009.
We noted that the reported unemployment rate fell below 6% for the first time in years, just in time for the upcoming election. More troubling, and not widely reported, was the revelation in that Labor Report that the participation rate fell to 62.8%, the lowest level since 1978. The participation rate is the ratio of the labor force and the total US population. Fewer and fewer people are being asked to support more and more of the population. This is not a sign of a growing and healthy economy.
Performance and Trading Update
We started the month of September trading with the VIX at a low point that was tested later in the month. August ended with the VIX closing at 11.98%. Within two weeks, it had increased by 21.3% to 14.53%, only to hit a new low 3 days later at 11.52%. We ended the month at 17.08 or a 48.3% increase from the lows.
The month provided us with four opportunities to write put and call contracts, with a little mark to market at the end of the month and some carry-over from August. We sold puts at an average of 4.3 out of the money and calls at 2.875%. During the third week of trading, we had some margin issues to trade around as Interactive Brokers tightened collateral requirements, but nothing that we have not experienced before.
Here are the returns versus the S&P 500 total return index for the periods indicated:
Comparison of Risk Between “Traditional” Investment Approach and the Horse Cove Approach
At a recent meeting of our home association, I got acquainted with a new couple who were moving into the neighborhood. As usual, we began to share information on family, pets, schools, etc. When he asked “What do you do?” I answered that “My partner and I have a small investment company where we trade options.” His immediate response was “Isn’t that really risky?”
Since that is a common (and mistaken) belief with people who have limited familiarity with option trading, I thought I would try a different approach to explaining how what we do is different from “traditional”, “old school” investing.
I asked him if he worked with an investment advisor or stock broker who managed his assets or helped him select securities for investment. When he said he did, I said that he might find it interesting to ask his advisor five very pertinent questions the next time the advisor suggests an investment:
- What return should can you expect from the investment—10%, 15%, 20%, etc.?
- Over what time horizon will you experience that return—six months, one year, eighteen months, or longer?
- What is the probability that his recommendation will be correct?
- On what is the probability based—his record of making recommendations, his firm’s history of success, or his “feeling” that the recommendation is a “good one”?
- What will he recommend doing when you have achieved the return—hold on for an even greater return, sell the investment and invest in something else, or buy even more of the same investment?
I told my new acquaintance that I would expect the answers to be something like this:
- “My target is for you to earn 15%-20%.”
- “My time horizon is twelve to eighteen months.”
- “I’ve been right with a majority of my recommendations, but it is almost impossible to give an exact probability of success.”
- “The probability of being right is based on my extensive experience.”
- “I don’t know exactly what I will recommend when you achieve the return — we’ll have to see what things are like when we get there.”
“So in summary, your advisor would not have a precise return expectation, would not have an exact time horizon, can’t give you an exact probability of success, does not have an historical data base that confirms his odds of success, and cannot tell you what he will recommend when you get there. Is that about right?”
I then said, “Let me give you the answers to those same five question that we would give you if you were investing with Horse Cove Partners.”
- “Each time we place an investment, we know precisely what return we expect to produce, both in percentages and in $$.”
- “Since we only invest in weekly S&P Index options, our time horizon is always next Friday.”
- “Because we use a model that solves for the risk of each investment, we know exactly the probability of success—for Put options, typically 99.5% of being correct.”
- “Our probability of being correct is based on sixty-four years of historical weekly market movements of the S&P Index.”
- “When we close out the positions (in one week with a 99.5% probability of being successful), we start the same process over for the new week. We do this fifty-two times a year. For the past four years this process has produced an average annual return of 30% +.”
When I then asked him, “Which one of these approaches now sounds safe and which one sounds risky/less certain?” he said, “I think I want you to take a look at my portfolio and perhaps give me some suggestions.”
Horse Cove Update
The total assets under management now exceed $8.6 million in the Horse Cove Absolute Return strategy. As a firm, including assets under management in our affiliated firm, we are currently responsible for $15.3 million of assets.
We value each of our clients and the assets they have entrusted to us in our strategy and will continue to pursue attractive returns on their behalf.
About Horse Cove Partners LLC
Profiting from the art and science of taking risk.®
Horse Cove Partners was founded by Sam DeKinder and Kevin Ellis in January of 2013 with the commitment to help grow client’s 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.
“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
sdekinder@horsecovepartners.com
kellis@horsecovepartners.com
jmonahan@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 as of 9.30.2014, 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.
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Finally, to the extent that performance information is contained in this message, you are hereby advised, and you acknowledge it, that past performance does not assure future results, which are not guaranteed by Horse Cove Partners LLC or any of its affiliated entities or by any insurance mechanism.
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