Introducing Portfolio Shield™

Portfolio Shield™ is an algorithmic-momentum portfolio strategy designed to give investors what they want. It has the potential to beat the S&P 500® over a 3, 5, and 10-year time horizon with a mechanism to reduce downside risk when markets become volatile.

Why Haven’t I Heard of this Before?

Portfolio Shield™ was invented by Steven Van Metre, CFP® in 2017, and fully back tested using historical market data provided by Morningstar® through 2003.

Is This the Next Generation of Investing?

Yes! Portfolio Shield™ is the next generation of portfolio strategies that brings a momentum-algorithmic strategy to passive index investing.

Is the Morningstar® Investment Detail Report Accurate?

The momentum-algorithm formula is run on data provided by Morningstar®. The return and risk analytics, as shown on the Investment Detail Report, are also run by Morningstar®. Morningstar® is the premier provider of data and analytics for the finance industry.

Portfolio Shield Investment Detail Report – November 2017

What is the Momentum-Algorithm?

An algorithm is a procedure for solving a mathematical problem. In this case, on the first trading day of each month the Portfolio Shield™ momentum-algorithm takes the cumulative 6-month return of the S&P 500® (SPY: SPDR® S&P 500® ETF), Nasdaq-100 Index® (QQQ: PowerShares QQQ™ ETF), Russell 2000 (IWM: iShares Russell 2000 ETF), and a long-term US Treasury bond fund (TLT: iShares 20+ Year Treasury Bond ETF), and sorts them based on the highest to the lowest return.

Under normal conditions, the algorithm will allocate the portfolio to the three equity funds. If the 6-month cumulative return of the US Treasury bond fund is higher than the 6-month cumulative return of any of the three equity funds, then the bond fund is added to the portfolio.

The formula then applies a proprietary formula to determine the weighting in the portfolio. The algorithm is run on the first trading day of each month and the portfolio is adjusted accordingly based on the algorithm.

Why the 6-Month Look Back on Returns?

The momentum-algorithm uses the cumulative 6-month return because it gives investors the best return-to-risk ratio compared to other time frames. It generates a smoother, or less volatile return that more closely tracks the upside return of the S&P 500®.

How Does It Work?

The strategy is designed to allocate itself to the S&P 500®, Nasdaq-100, and Russell 2000 when the equity markets are rising. When the equity markets slow down or start to correct, the algorithm adjusts and adds a long-term U.S. Treasury fund to the portfolio.

The Treasury fund acts as a brake to reduce the downside risk of the portfolio when stocks go down. This works because when stocks fall, bonds typically rise. The bond allocation has the potential to offset a large portion of the fall in the equity allocation.

Once risk levels subside, the algorithm adjusts the portfolio back to the three equity funds.

Why Are There Only Four Positions in the Model?

The goal of Portfolio Shield™ is to beat the S&P 500® over a 3 year, or longer, time horizon. With that objective in mind, the equity allocation must be limited to indices that can match or outperform the S&P 500®, but with a mechanism to minimize downside risk. To mitigate risk when equities are falling, internal testing shows that one long-duration U.S. Treasury fund is effective at reducing the overall risk of the portfolio.

How does It Compare to a Traditional Diversified Portfolio?

When the equity markets are rising, the Portfolio Shield™ momentum-algorithm allocates the portfolio to the S&P 500®, Nasdaq-100 and Russell 2000. When market conditions change and U.S. Treasuries start outperforming the equity indexes, the momentum-algorithm adjusts the portfolio by adding the U.S. Treasury fund to the portfolio to compensate for rising volatility in the equity market. Once volatility subsides, the momentum-algorithm recommends a return to a full equity portfolio.

By design, diversified asset-allocation portfolios sacrifice upside return when the U.S. equity market is rising and as a result, they rarely beat the U.S. equity markets over the long-term. In exchange for less upside return, asset-allocation portfolios should protect investors by minimizing losses when equity markets are falling. For example, during the Great Financial Crisis of 2007-08, many investors in asset allocation portfolios lost more money than they expected, while the Morningstar® back tested data shows that Portfolio Shield® may have minimized those loses.

How is it Better than a Volatility Controlled Portfolio?

The Portfolio Shield™ momentum-algorithm is predictive, as it begins to adjust when equity prices top out and bond prices begin to rise. It also reacts quicker to market bottoms because the momentum-algorithm is based on price return, which gives Portfolio Shield™ the potential to adjust more quickly to an all-equity portfolio near a market bottom.

A volatility-controlled portfolio, which is widely used in the variable-annuity market, is a variation of the traditional asset-allocation model that uses a volatility index to determine the weighting of the portfolio. When volatility is low, the portfolio will increase its allocation to equities. When volatility is high, it will increase its allocation to bonds. While this sounds good, a volatility-controlled model relies solely on a volatility index to determine the weighting of the portfolio.

Volatility-controlled portfolios are reactionary, meaning they adjust after volatility begins to rise or even worse, spike. These strategies also rely on the relationship that when volatility rises, risk assets, such as equities, usually fall. That isn’t always the case. Equities can fall during periods of low volatility. Volatility controlled products often miss out on reallocating near market bottoms because volatility is often remains elevated at market bottoms.

How is This Better Than a “Robo” Advisor?

The Portfolio Shield™ momentum-algorithm is invested in the three equity funds and adds bonds to the portfolio when markets become volatile. This strategy gives an investor a greater opportunity to outperform an automated portfolio allocation program with the potential to minimize losses.

In comparison, most software or “robo-advisors” that are available to the public, offer investors an automated portfolio-allocation program. Such a program creates a diversified asset-allocation portfolio and then the program continuously rebalances the portfolio to maintain a desired level of risk. When equities are rising, the program sells equities to buy bonds and, when bonds are rising, the program sells bonds to buy equities. Since the program sells what is rising, an investor is likely to under-perform over the long-term.

How Did Portfolio Shield™ Perform During the 2007-08 Recession?

Based on the back tested data provided by Morningstar®, Portfolio Shield™ performed very well during the 2007-08 recession. In August 2007, before the equity markets crashed, the momentum-algorithm would have begun allocating the portfolio to bonds. Going into early 2008, the momentum-algorithm would have increased the weighting of bonds in the portfolio, which would have minimized downside risk. The momentum-algorithm would have maintained an allocation to bonds until June 2009 where it would have recommended a return to all equities once market volatility subsided.

Does it Always Beat the Market?

Portfolio Shield™ is designed to have the potential to beat the market over a 3 to 10-year time horizon. It doesn’t always beat the market on a year-to-year basis.

Are Trades Automated?

All trades are placed by the portfolio manager(s).

What if I Want to Further Lower My Risk?

Any investor can request an increased money market allocation, which will reduce the risk of their portfolio.

Can the Underlying Indices Be Changed?

Yes, the indices can be changed should future economic or market conditions warrant a change.

Are There Times the Strategy Doesn’t Work?

Yes. This strategy doesn’t work during times when both equities and bonds are falling. While those periods are infrequent and are often short, they do exist.

What If All the Positions Are Falling?

The Portfolio Shield™ manager(s) has the option to temporarily move the entire model to cash until the risks subside.

Can I Lose Money?

Yes. While the momentum-algorithm reduces risk, it can’t eliminate risk.

Are You Planning on Creating Other Strategies?

Yes! The momentum-algorithm can be adapted for other strategies in the future.

What Types of Accounts Can Portfolio Shield™ Invest In?

Portfolio Shield™ is available for Traditional IRAs, Roth IRAs, after-tax accounts, inherited IRAs and Roth IRAs, Individual 401(k)s, SEP IRAs and more. Portfolio Shield™ can even be offered as an option in employer-sponsored plans.

Who Do I Contact to Get Started?

Steven Van Metre Financial