1) For what it's worth, volatility decay will tend to enhance returns in a bull market for the same reason it exacerbates losses in a bear or sideways market. This means in a rising rates scenario I would actually expect an inverse leveraged ETF to do better than a margin account that shorts treasuries with the same leverage. This actually just happened in 2022.
This is a counterexample to the numbers Wei Dai posted, to show that volatility decay is not necessarily always harmful.
That said... 1) The article recommends financial instruments that are extremely volatile, as the percentage gains and losses I posted above indicate. 2) Long term treasuries have ~5% gains/year historically, so shorting long term treasuries under normal circumstances means you will keep losing 5% every year (or 15% if you are 3x).
As I said earlier, volatility decay on its own is not the worst thing in the world if you have positive expected returns. But if you combine volatility decay with extremely high volatility and historical negative returns, I do believe that would make it a risky combination. I ultimately agree with Wei_Dai.
2) 2022 and the 1970s showed that inflation or nominal GDP growth can wreak havoc on asset values.
The discussion here is on real rates though, not nominal rates. Do we examples of rates rising in a low inflation environment? Yes! I came across a couple while browsing another forum a while ago. I will copy the relevant post below with some edits. I will not link the post from the other forum as I am a new poster on the EA forum and I don't want to be flagged for spamming. You will have to assume the dates are cherry picked. ================================================================= From Dec 2015 to Dec 2018, fed increased int from 0-.25 to 2.25-2.5 (a 10x increase!) and [55% S&P 500 and 45% long term treasuries] [nearly matched 100% S&P 500]. Edit: [A 55% S&P 500 and 45% inverse long term treasuries does worse]: https://www.portfoliovisualizer.com/bac ... tion2_1=45
From Jun 2004 to Jun 2006, fed increased from 1.25% to 5.25% and [55% S&P 500 and 45% long term treasuries] also [nearly matched 100% S&P 500]. Edit: [A 55% S&P 500 and 45% inverse long term treasuries does worse]: https://www.portfoliovisualizer.com/bac ... n10_1=-200 =================================================================
3) Finally, I must express my appreciation for the valuable insights presented in this piece. The authors' diligent research and thoughtful analysis truly made an impact on my perspective. I am now more wary of assets that are sensitive to interest rates than the average investor.
1)
For what it's worth, volatility decay will tend to enhance returns in a bull market for the same reason it exacerbates losses in a bear or sideways market.
This means in a rising rates scenario I would actually expect an inverse leveraged ETF to do better than a margin account that shorts treasuries with the same leverage. This actually just happened in 2022.
In 2022, TLT the 1x long term treasuries ETF lost 31%, TMF the 3x long term treasuries ETF lost 'only' 73%, while TTT the 3x short long term treasuries ETF gained 150%.
TLT – Performance – iShares 20+ Year Treasury Bond ETF | Morningstar
TMF – Performance – Direxion Daily 20+ Yr Trsy Bull 3X ETF | Morningstar
TTT – Portfolio – ProShares UltraPro Short 20+ Year Trs | Morningstar
This is a counterexample to the numbers Wei Dai posted, to show that volatility decay is not necessarily always harmful.
That said...
1) The article recommends financial instruments that are extremely volatile, as the percentage gains and losses I posted above indicate.
2) Long term treasuries have ~5% gains/year historically, so shorting long term treasuries under normal circumstances means you will keep losing 5% every year (or 15% if you are 3x).
As I said earlier, volatility decay on its own is not the worst thing in the world if you have positive expected returns. But if you combine volatility decay with extremely high volatility and historical negative returns, I do believe that would make it a risky combination. I ultimately agree with Wei_Dai.
2)
2022 and the 1970s showed that inflation or nominal GDP growth can wreak havoc on asset values.
The discussion here is on real rates though, not nominal rates. Do we examples of rates rising in a low inflation environment? Yes! I came across a couple while browsing another forum a while ago. I will copy the relevant post below with some edits. I will not link the post from the other forum as I am a new poster on the EA forum and I don't want to be flagged for spamming. You will have to assume the dates are cherry picked.
=================================================================
From Dec 2015 to Dec 2018, fed increased int from 0-.25 to 2.25-2.5 (a 10x increase!) and [55% S&P 500 and 45% long term treasuries] [nearly matched 100% S&P 500]. Edit: [A 55% S&P 500 and 45% inverse long term treasuries does worse]:
https://www.portfoliovisualizer.com/bac ... tion2_1=45
From Jun 2004 to Jun 2006, fed increased from 1.25% to 5.25% and [55% S&P 500 and 45% long term treasuries] also [nearly matched 100% S&P 500]. Edit: [A 55% S&P 500 and 45% inverse long term treasuries does worse]:
https://www.portfoliovisualizer.com/bac ... n10_1=-200
=================================================================
3)
Finally, I must express my appreciation for the valuable insights presented in this piece. The authors' diligent research and thoughtful analysis truly made an impact on my perspective. I am now more wary of assets that are sensitive to interest rates than the average investor.