Syfe Downside Protected Portfolio: Answer Your Top Questions

September 20, 2024

Why did Syfe introduce the Downside Protected Portfolio now?

We believe now is a strategic time to consider the Downside Protected Portfolio (Or Protected Portfolio for short) for three key reasons:

Firstly, Relatively Expensive Market: The S&P 500 is currently trading at relatively expensive valuations. While we remain optimistic due to strong earnings and long-term growth potential, historically, periods of high valuations have been more susceptible to pullbacks.
Secondly, Increased Expected Volatility: We are entering a critical period marked by both monetary policy and political uncertainties. The upcoming US elections in November add unpredictability to future policies, and the Fed is at a pivotal point where it may cut rates to address a softening job market. These factors are likely to lead to increased market volatility.
And thirdly, Attractive Pricing: The constituent ETFs in the Protected Portfolio are currently offering the highest upside return caps seen in the past five years. This makes the Protected Portfolio particularly appealing in the current market environment.

Why the Protected portfolio and why not directly invest into S&P 500?

In general, when investing in any portfolio, it’s important to consider not just the returns potential, but also the risks.

Historically, the S&P 500 has delivered strong returns, but it’s also experienced some significant downturns. For example, during the COVID-19 crash in 2020, the S&P 500 dropped by nearly 34%, and in 2022, it fell by over 25% due to the Fed’s aggressive rate hikes. What’s more, during these challenging periods, we saw that other asset classes like bonds, which are typically seen as safer investments, also suffered substantial losses—around 25% in 2020 and 24% in 2022. This left few options for investors seeking stability and diversification.

That’s where our Protected Portfolio comes in. It’s designed to offer a more resilient investment strategy due to its low correlation to both stocks and bonds. For instance, based on our backtest, during the March 2020 drawdown, our Protected Portfolio would have limited losses up to just 3.8%, and in 2022, it would only be down 2.7%.

Also, the Protected Portfolio gives you the best of both worlds – beyond just protecting against downside risks, the Protected Portfolio helps you participate in S&P 500 upside. It would have delivered a solid +5% annualised return over the past three years. While this is slightly lower than the S&P 500’s 8% return over the same period, it comes with significantly lesser volatility at 3.50% p.a. against 17.30% p.a. of the S&P. This means that your investment experience is smoother and less stressful, with fewer dramatic swings in your portfolio’s value.

So, while SPY can offer higher returns, our Protected Portfolio provides a more balanced approach, helping you achieve steady growth while protecting your investments from market downturns, and especially when considering the current market uncertainties.

Should I invest in the Downside Protected Portfolio?

We would say that there are 3 main client segments for whom this Downside Protected Portfolio is suitable for.

Risk averse Investors who wish to minimize potential losses while still capturing upside potential.

Investors who are more time opportunistic and are currently holding onto excess cash at the moment

Investors who are currently already invested in the US equities but are uncertain about the market’s direction.

How is the estimated max loss and current upside cap calculated?

The downside protection and upside cap is achieved through the options embedded into the constituent ETFs. The ETFs use a 3-layer approach to achieve its targeted protection and upside cap.

Layer 1 – Replicating S&P 500 Returns: The ETF buys a call option on the S&P 500, allowing it to mirror the index’s returns

Layer 2 – Providing Downside Protection: The ETF also buys a put option, which targets a predetermined maximum loss. This corresponds to the Est. max loss level in the Protected Portfolio. The put option protects the portfolio from large losses in falling markets.

Layer 3 – Financing the Protection: To cover the cost of the downside protection (i.e. the put option), the ETF sells a call option, which initially caps the upside level. This cap level corresponds to the Current Upside Cap in the Protected Portfolio.

Will the current upside cap limit my profits? If the current upside cap is say around 12%, does this mean I will only ever get a 12% upside?

The Current Upside Cap is part of how we finance the costs of downside protection. Let me elaborate. Initially, as the S&P 500 rises, yes the returns of the Protected Portfolio are limited to this cap level.

However, this is where Syfe’s optimisation process kicks in. As the S&P 500 continues to trend higher and approaches the Current Upside Cap, Syfe re-optimises the portfolio and adjusts the “Current Upside Cap” upwards. This is done by replacing the existing ETFs with new ones that offer a higher return cap, so that you can continue to participate in the market’s gains.
This makes Syfe’s Protected Portfolio an evergreen alternate portfolio for you to invest in.

Will the portfolio on the upside give 1:1 returns vs S&P 500?

As the Portfolio is designed to have lower volatility, its returns won’t directly match the S&P 500 on a 1:1 basis. For instance, if the S&P 500 gains 8%-10%, this Protected Portfolio might see a gain of around 4%-6%. As the portfolio continues to protect your downside, you can expect it to capture the market’s upside but at a more moderate pace.

Though importantly, as you continue to hold the portfolio over time, and the market performs, the returns should align more closely with the index, up to the Current Upside Cap.

Is the Est. Max Loss level guaranteed?

No, the Est Max Loss level is not guaranteed, but we expect that any potential losses will largely remain within this range.

The constituent ETFs use simple options. Options help us set a target range for how much your portfolio might gain or lose over a defined period of time. It’s like knowing the boundaries of a playing field and playtime before the game begins.

Most of the time, things go as expected. The options move in sync with expectations, offering protection when needed and capturing potential upside. Your Protected Portfolio stays within that expected range.

Rarely, in extreme conditions, where the market experiences significant unexpected moves, the portfolio may temporarily exceed the Est. Max Loss level. This can occur during periods of high volatility beyond the markets’ initial expectations. It’s like the ball flying out of bounds of the playing field. But as the market stabilizes, the option prices should return to the expected ranges and your Protected Portfolio should continue to help you achieve steady growth.

Syfe Downside Protected Portfolio – A Smarter Way to Invest in the S&P 500