ETF Edge - Taking a different “tack” in the face of market volatility 4/14/25

Episode Date: April 14, 2025

There’s an old saying: ‘you can’t change the wind, but you can adjust your sails.’ If you’re having trouble navigating volatile market seas, consider letting an ETF for it for you. This is how.  Hosted by Simplecast, an AdsWizz company. See pcm.adswizz.com for information about our collection and use of personal data for advertising.

The ETF Edge podcast is sponsored by InvescoQQQ. Let's rethink possibility. Investco Distributors, Inc. Welcome to ETF Edge, the podcast. If you are looking to learn the latest insights on all things, exchange, traded funds, you are in the right place. Every week we're bringing you interviews, market analysis, and breaking down what it all means for investors.

I am your host, Bob Pisani. There's an old saying you can't change the wind, but you can't adjust your sales. There are ETFs that follow that philosophy and might be your right choice, right now. Here's my conversation with Katie Stockton, the founder and managing partner of Fairlead Strategies and with Troy Donahue, head of America's portfolio trading at BTIG. Katie, before I ask you about your ETF, you're a long-time active manager. I know, I've known you many years. Just tell us what are you doing now and what are you advising your clients? Well, there has been a very distinct loss of long-term upside momentum behind the S&P 500. And with that,

some of the sectors that we like to invest in have fallen out of favor. So what we try to do is help investors leverage the upside through sector rotation, but also minimize drawdowns. And that's obviously a big advantage longer term when you can just go into a less deep hole to climb out of. So with that, we have the ability to use asset allocation to manage risk, not just that sector rotation. Yeah.

So your tactical E-T-F, TAC-K, is symbol folks. Just passed a three-year mark. That's important because people look at benchmarks one month, one year, three years, a typical important benchmark. Now, you rotate between the 11 S&P 500 sectors, the equity sectors, but you also have gold you can rotate into and long and short-term treasuries, and I know it rebalances every month. So where is this invested now? Right now it leans defensive, but we still have an 87-5-ish percent exposure to the equity market

which is remarkable because we've managed to outperform the S&P 500 by a good measure this year despite that nearly full equity exposure And we've done that through more defensive sector exposure so we own consumer staples Utilities real estate sectors whereas we don't own technology anymore. That's a new sector that we've removed from the portfolio because of its loss of long-term momentum and we took that position and We put it into gold. We put it into the short-term treasuries which is our sort of cash equivalent and then also long-term treasuries. And it's that diversified risk-off exposure that can help us outperform. So this is fairly defensive when I look at it. So you consumer staples and utilities are there. And you have a small waiting in long-term treasuries.

Four and a half percent. Short-term treasuries, four and a half percent. Gold. Four and a half percent here. No holdings in tech, as you mentioned. But it's still almost 90 percent bond, Stocks, excuse me, 87% or so. Is that going to change at all? I think it will. So it's a model-driven fund. It's 100% systematic. So we developed the model over the course of years

and took our indicators, collected them, to arrive at conclusions about these sectors. In 2022, when the fund launched, it went to just one sector with a 12.5% position. And that means we held the 87.5% in those risk-off categories. So it has that ability to really be dynamic, not just among the sectors, but among those other categories. And that's helped it over the long term minimize the drawdowns. Every drawdown more than 8% in the S&P 500, TAC outperformed both the S&P and its primary benchmark.

You know, Troy, let me bring you in here. There have been a lot of attempts at developing tactical ETFs out there. There's some fairly large ones. And even in the $3 billion range, I know First Trust has one, Pacer has one. But outpacing the S&P 500 has really been very difficult in the last few years. What's the issue under what conditions might a tactical fund outperform? It's a pleasure to be here with you and Katie. Thank you.

We actually worked together for a number of years. That's right. Katie was a BTIG for a number of years. It's good to see you. She was always well-renowned for her technical analysis, so it's great to see it in an ETF product that has performed really well during this recent drawdown. TAC is a great example of how you can be nimble during these market times, and these tactical funds have the ability to rotate very quickly and move into positions that might otherwise be longer down the line. So we've had a big run-up in the last two and a half years, and investors were sitting in more beta products.

Now we've had this dramatic pullback, and investors are looking to protect capital and make sure that. they don't have these big drawdowns in their portfolios. But it has been tough being a tactical manager for a long time now. I mean, if you just sit and own the S&P 500, basically for the West, since the financial crisis, really notably outperformed. I'm an old Jack Bogle disciple. Everybody knows that. And Jack used to talk about mean reversion, that it's a very real thing. We're finally getting a little bit of mean reversion, maybe, maybe not so much in the bonds.

But we're getting some mean reversion in the markets. certain global markets are outperforming. Defensive sectors have been doing well for a good part of the year as well. That's contrary to trend. That's certainly nice to see. It's a vindication of the mean reversion crowd at this point. But still, it's been tough. Yeah, it's certainly been very tough.

But I think these are the times where tactical ETFs can differentiate themselves and show that their approach and their diversification from the rest of the market can help benefit investors in their portfolios because they can provide those asymmetrical returns and help avoid some of those big drawdowns that we've seen. Yeah. So, Tady, I just want to understand. Your strategy would underperform if tech was dominant, which is what we've seen in the last few years,

and it would outperform if the market was dropping and bonds were rallying, for example. I'm just trying to get a sense of how it would outperform. I would comment on the active versus passive management. The active management, think of it as dynamic, right? So it will respond to market movements. And that's important, especially when, if you can miss the 2008s or even the 2022s, you will be at a long-term advantage in your portfolio. For those that do have that long-term time horizon, that's really very appealing.

So TAG, if it has, by the nature of the equal weight sector positions that we carry, it will be by default underweight technology when it owns technology, which we own from most of 23 through 24 up until very recently. So that natural underweight position would suggest that in the strong tapes that our tech led, we would have tack as a core holding and supplement it with other technology exposure. Usually the questions we get mostly about our technology stocks, right? So they can go buy Netflix and Microsoft and supplement those core more boring positions, but they're lower beta, lower correlation.

And even in a very strong tape, there is some benefit for financial advisors to have products. that do have a lower correlation to the S&P 500, just from a risk management perspective. But give me a sense of what you're thinking right now. So rebalances every month. Is it the beginning of the month? Yes, right at the beginning. So we wait for that month end closing data

to check the integrity of the models and indicators, and then we recalibrate usually the first couple of days of the month. And with that, we reset to 12.5% sector weightings. If we had a full sector position, we would have those, you know, all eight buckets filled with the sectors, but we will morph into that more risk-off exposure as the market warrants it. So in this case, did you own tech at some part in the year?

We did, yeah, we just removed tech in March. In March. So April, now, technology sector is not in there, and you have waiting to gold, 4%, that's right. Long-term Treasury, 4% short-term treasuries. Yeah, and we would expect to see that grow just because of our market call, which is for more of a prolonged bare cycle during which we will expect those alternative asset classes to outperform that includes gold which we've already seen

develop but also the Treasury market is better suited to us right now than the equity market in terms of risk or reward and we're talking about maybe not the next five years but maybe the next year or so that's going to be the case so we're very comfortable with that natural shift and this recent move in the bond market's been a little perplexing though I mean bonds down yields up. You would think the other way would happen if there was a concern about a slowdown. It's a trading range. If you look at yields, you know, zoom out, you'll see a trading range there. And yet the safety and the yield that they offer, I think, will be relatively attractive to what

we're finding with the volatility increase on the equity front. So we find appeal there. But like you said, international for those funds that do move into international markets, there's appeal there as well. The relative performance has shifted meaningfully behind some of the developed global market. So there's a lot of opportunity, but right now it isn't what it looked like in 23 or 24, where it was so mega-cap-centric. And for advisors, they really can't afford to have a super mega-cap-centric portfolio in terms of the risk that they carry with that, right? We saw the shift very dramatically out of those names as of December, and it's become very real. Yeah, but I want to go back to this diversification part, Troy. And diversification hasn't been

terribly successful in the last few years. I mean, just owning the S&P 500 really has been enough. And now we see global markets outperforming. So as I said, mean reversion is a very real phenomenon, even if it can take a long time. In your fund, it wouldn't necessarily show up, the international diversification. But we're seeing it in the ETF space, certainly, right now. There's been inflows for the first time in a while on some global bond funds or global stock funds. Yeah, we're seeing global stock funds, gain assets, People are really looking at different parts of the world to see where they can diversify their holdings. I think whenever you get types of pullbacks like we've seen, investors will look at their portfolios and see where they can reallocate or rebalance to make sure that it still aligns with their investment needs and goals.

Yeah. And how do you align it with investment needs when nobody's owned international for 15 years? I mean, it's hard to, again, go back to Jack Bogle. He would argue under what circumstances do you want to own international. Act often said because 40% of the revenues occur outside the United States, the earnings, excuse me, you know, you have some international exposure in the S&P 500. But most people would argue, you know, 10% exposure to an international equity fund would be normal in a, you know, a diversified portfolio. Yet I know a lot of people don't own anything international at all and haven't for years. I would say the key is that you shouldn't have a static weighting in any one asset class or region.

It should be related to the strength of that region, whether it's coming from momentum, price momentum like we use as our primary input or fundamental or macro inputs. So a more dynamic allocation, something that can replace the traditional portfolios, maybe those portfolios were 60, 40 or something like that. But that assumes that price momentum is a long-term successful strategy over long-term buy-and-haul market cap. And that's debatable, of course, as you know. Yeah, I mean, it's my day. job so I'm biased. I know, obviously. But you get my point, Troy. I mean, again, Jack would be

smiling down saying, Bob, you think, you think that you know when to go in and go out of these things. And that was his fundamental beef with technical analysis in general. I think technical analysis got a very good reputation in 2008. And it was a time at which the technicians really turned a lot faster than... Well, in 2002, the dot-com bus, the technical analysts were screaming long before the fundamental people were. And that's where, you know, when volatility goes up, the demand for technical analysis goes up as well. Yeah. And just because an ETF is actively managed doesn't mean it can't utilize a rebalancing schedule. I mean, you, you, in theory, every month, actually look at this thing and rebalance. And we believe in long-term investing. So to use month and closing data, we're

eliminating a lot of that intra-week noise that the market suffers. And we're, you know, with that It's very disciplined active management. It's not like, oh, Katie wakes up today and, you know, something's telling her, you know. The emotional biases would get in the way then. It's really very math-driven, frankly, measuring price momentum, measuring relative performance, measuring overbought, over-sold metrics, and all of that taken together, formulate support for you. This is a very good point. She's bringing up about behavioral biases because one of the things we find out is one of the reasons people underperform is behavioral biases literally infect their thinking,

Literally behavioral biases throw your thinking off things like overconfidence and trend follow too much trend following throws your so your point is having a mathematical formula rather than you getting up saying the tea leaves are not going in the right direction is the right way to go listening to the market responding to its movements rather than trying to be predictive and acknowledging when those movements are great enough to suggest there's been a major change That's what we're trying to respond to. And, of course, also at the same time, finding those opportunities when the market becomes disjointed like it did very recently. So being there to take advantage of the upswings when they come.

Yeah. Troy, there's also fixed income tactical ETS. I know we've been talking about equity ones, but State Street, for example, has a fixed income sector rotation ETF. The symbols FISR, Frank ISR. And they rotate. Essentially, they just go back and forth between short and long-term treasuries, mortgage-backed securities, high yield, and corporate bonds. So it does exist in the fixed-income world as well. Yeah, absolutely. Even though most of the assets in tactical ETFs are equity products, there's sector rotation, there's country rotation, factory rotation, there's cash toggles. there's also those same strategies employed in fixed income ETFs. And so you're seeing that today where they can quickly maneuver out of certain products

that aren't in vogue that they think won't perform as well in the near term. Yeah. There's been some arguments. I've had some active fixed income people come on and argue when I bring up this, how difficult it is to outperform by switching in and out. that bond tactical bond does better than tactical equities for some particular reason. They seem to want to believe this, that our track record as active bond managers is better than the track record of the active equity managers.

I'm not sure that's necessarily true other than that there's billions of different CUSIPs out there for bonds, and you have a lot more choices that you can trade around on. But they have made consistently this argument for a couple of years now. Well, I hope Katie will prove them wrong on that front. I appreciate that. It's a tough game. Well, you're able to access people like a Jim Bianco, who I know has a tactical bond fund. You're able to access these very smart people through the ETF structure, which also has much lower fees generally than either mutual funds or hedge funds private products.

So I think that's such a gift with these actively managed funds to be able to get access to these managers. and then on top of that with that nice tax wrapper that the ETF structure provides, for a sector rotation strategy like mine, if an advisor is trading in and out of the sector spider ETFs as much as we do, they would incur a lot of taxable events. Yeah, yeah, it's a good point. Now it's time to round out the conversation with some analysis and perspective to help you better understand ETFs.

This is the Markets 102 portion of the podcast. Troy Donahue, head of America's portfolio trading at BTIG, continues with us now. And Troy, we had a great discussion with Katie Stockton about active management and tactical ETFs. What's interesting to me is we're still having good flows this year, despite all the market volatility. But active has really been strong. I think it's 30% of flows right now this year.

It's probably 10% of all the assets under management. Can you characterize what you're seeing so far this year in terms of flows? Yeah, active management has been doing really well. that 30% is kind of a misnomer because they don't have as much in AUM overall, but the percentage of AUM increase has been notable. I think that speaks to how many active ETFs have been launched since 2019 when the ETF rule went into place. It created clear and consistent framework for issuers to launch these ETFs.

So most of the ETF launches of the last six years have been active. and that's where they've devoted their resources to trying to bring in the assets. It's been interesting to watch this. The one problem I have of calling things active is most of the flows into what we call active are not what you and I think old school active stock picking, where you're actually picking stocks. Most of it is indexing plus kind of concepts, like dimensional, for example, or Avantus. These firms go out and largely track the S&P 500 but put a value overlay on top of it.

So it's very methodical. It's not the old school kind of stock picking that we think of. It is active of a sort. Most of the money still is going into plain vanilla ETSs, right? S&P 500 funds that are out there. I mean, it's a slow but steady drip for years and years now. Yeah, ETF assets continue to rise. Last year we were talking about the first trillion dollar year in AUM going into ETS.

and it's continuing along this year. I think the basis for this is that investors are starting to realize that the tax efficiencies of the ETF and the intraday liquidity of the ETFs give them a good product to build their portfolios around and they're investing in all sorts of market cycles to take advantage. There's plenty of products to utilize and build out their portfolios and that's why we're seeing such a strong assets underman I'm looking ahead to the rest of this year. The SEC is going to be very active. We have a new chairman, of course. But one of the things that's very noticeable is we've had over 50 asset managers, including Dimential and other big firms, filing applications at the SEC seeking approval for this dual share classes, essentially mutual fund and ETFs in the same share class with the same fund here.

Can you explain what that is and why that could be potentially very important? Well, sponsors will be able to utilize the same share class for their mutual funds, have the track record attached to it, and they'll be able to have investors go into either of the products. This will be important for sponsors that have the legacy mutual funds and want to compete with the process that Vanguard set up years ago. But it's raising a lot of questions on how it'll work, when it will be passed, and when they're going to be actually able to implement it if ever. for their different classes. There seems to be a lot of interest. The SEC seems to be making this a priority. It seems to me there's a good chance that's going to happen this year.

Yeah, and that's why we're starting to get a lot of questions on what it would look like, whether broker-dealer's will have capacity to handle all the different share classes and what it entails. The main advantage here is tax efficiency. So if I'm in a fund where there's redemptions and they have to sell stock, there could be some kind of capital gains passed on, right? They're selling stock here, essentially. If I'm in an ETF share class, it might be more efficient. How do you spread out and make the, I'm trying to point out the advantage of the

ETF share class here, the tax efficiency. Yeah, the investors of the ETF share class will only realize a taxable gain or loss when they sell that ETF. Not from the share share shares that are in the ETF. Correct. And so they have the ability to manage their portfolios a lot better by holding the ETF, not getting a tax bill at the end of the year because someone traded or the actual fund sponsor sold shares of the underlying.

How about crypto? We've got, what, $100 billion in assets? It's going to the great 2024. It's one of the most successful launches in history for an ETF product, crypto, Bitcoin, spot Bitcoin ETF specifically. Any sense of what may happen in 2025 again? If I could tell you where Bitcoin was going, I would... Well, not on the price of Bitcoin, but other products.

There's new futures ETFs for several crypto products out there that could potentially turn into spot products, it seems to me. Yeah, 2024 was a great year for crypto funds in the sense that they were able to launch them in an ETF wrapper. It allowed for investors to go into asset classes that they historically didn't have access to in one simple product. And I think that trend is going to continue along with different products and different underlying asset classes within the crypto space. Yeah, it's going to be an interesting time watching this, the crypto business go ahead here.

So we've had this correction in the bull market, and markets gyrating. Investors are playing a lot of defense here. Are you seeing any unusual moves? We reported, for example, some of the crazy moves in leverage and inverse ETFs, for example, that are quite noticeable. Anything that's really stick out to you in the last few weeks? Well, the markets have been grinding higher for two and a half years. Investors were mainly in those beta products that we talked about earlier, happy with getting the return of these passive funds. Now, with the correction, they're definitely playing more defense and looking at where they can allocate in order to prevent any

undo drawdowns in their portfolios. The market has performed very well in the sense that all these different products have allowed different investors to access to the different products they historically didn't have, whether that be leverage, whether that be volatility, crypto, as you mentioned, and ETFs have held up well. Okay. Troy, thank you very much for joining us. Appreciate it as always. That does it for ETF Edge, the podcast. Thank you for listening and join us again next week or head to etfedge.cc.c.com. How does InvestcoQQQ rethink possibility?

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