ETF Strategy Summit

October 15-16, 2018 | Hyatt Regency | Dallas, TX


Steven Cucchiaro – 3EDGE Asset Management

Geopolitical Risks, Fixed Income Liquidity and Risk Management

Steven CucchiaroStephen Cucchiaro is the President & CIO at 3EDGE Asset Management. He has become known for his use of proprietary investment research methods including the application of concepts from engineering, system dynamics, complexity economics and multi-player game theory to analyze the global capital markets. We recently spoke with Stephen, who will be speaking at our ETF Strategy Summit (Oct. 15 – 16 – Dallas), as he shared his thoughts on geopolitical risks, fixed income liquidity and risk management.

ETF Strategy Summit: Does the world need any more ETFs? Are we at “peak” ETF?

Stephen Cucchiaro: As is oftentimes the case with successful investment products such as ETFs, the market has gone from a cottage industry to a relative behemoth in a fairly short period of time. However, ETF assets are still a relatively small percentage when one considers the total size of the global capital markets. Even with the dramatic growth of the ETF market, we do not believe that we have seen the last of rapid growth phase of the ETF industry for a while. For better or for worse, we do not believe that we have reached peak ETFs.

ETF Strategy Summit: Are you employing active ETFs in your strategies, and if so, how are you selecting ETF managers?

Stephen Cucchiaro: At 3EDGE Asset Management we act as a discretionary investment manager. We construct multi-asset investment portfolios primarily through the use of index ETFs. We invest across asset classes including; equities, fixed income, real assets – commodities and gold, as well as cash and currencies. We also invest across geographies including the U.S., Europe, Asia, Far-East and emerging and frontier markets. For the vast majority of our positions we invest through passive, index ETF vehicles. From time to time we may utilize an active ETF vehicle but those cases would be the exception. We manage portfolios internally on a discretionary basis and do not use other ETF managers.

ETF Strategy Summit: Which geopolitical risks might cause a black swan event over the next 12 months?

Stephen Cucchiaro: Tariffs and Trade Wars: Similar to other types of wars, trades wars may start out as fairly benign tit-for-tat exchanges used as negotiating tools for the countries involved. However, similar to actual wars they can at some point take on a life of their own and spiral out of control and become full-fledged trade wars. If this is the result of the Trump administration’s initial tariff policies, then that could certainly become a serious headwind for the global economy and the capital markets.

Italy – There is the potential for nationalism and the anti-globalists to solidify their anti-EU position in the upcoming fall elections, which could turn the election into more of a referendum on Italy remaining in the EU. Should Italy decide to exit the EU, the effects could be worse than Brexit because at least in the case of Brexit the UK maintained their own currency, which could act as a buffer in terms of the effects of Britain leaving the EU. This is not the case with Italy since it is bound to the Euro. Therefore, should Italy decide to exit the EU, it could well be the end of the European Union, at least in its current form.
ETF Strategy Summit: 3EDGE has raised concern about the number of products and strategies tied to LIBOR in the face of what could be an inflationary period moving forward – does this concern carry over to the ETF universe?

Stephen Cucchiaro: Perhaps not specific to Libor, but in the area of fixed income ETFs, we are always concerned and would urge caution whenever investors hold certain types of fixed income ETF vehicles. The reason is that particularly in certain areas of the fixed income markets there simply isn’t the same kind of liquidity available as there is in government securities or in the equity markets. Therefore, investors may be holding certain types of fixed income ETF vehicles that they believe to be highly liquid, however the actual underlying bonds that may make up the ETF may be less liquid than the ETF itself. Of course, under normal market conditions these fixed income ETFs trade without any problems, however, the problem could arise should there be some form of market disruption that triggers a sell-off in the bond market. At that point the perceived liquidity of some of the more esoteric fixed income ETF vehicles may not be available since the liquidity of the underlying fixed income securities themselves may not be present.

ETF Strategy Summit: How do you position a portfolio defensively using ETFs?

Stephen Cucchiaro: At 3EDGE Asset Management our goal is to generate attractive risk-adjusted returns over full market cycles. The foundation of our approach to risk management is our capacity to construct portfolios that are well diversified across both asset classes and geographies and the growth of the ETF market has provided us with more options in terms of portfolio construction. A typical 3EDGE portfolio will hold some amount of equities, fixed income, real assets (gold and commodities), as well as cash and currencies. Through our proprietary research model of the global capital markets we will dynamically adjust the allocation to the seven major asset groups that we model depending on our market outlook. If our model research should indicate that it is appropriate to be more defensive then we would reduce our allocations to equities and redeploy those assets to fixed income, real assets or cash depending on the reasons that our research models may have become more defensive.

ETF Strategy Summit: Thanks Stephen. We look forward to hearing more of your thoughts at the ETF Strategy Summit October 15 – 16 in Dallas.

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