is a little known investment forum called Bogleheads.org
These guys were fanatical about
regular old index fund investing.
That is, until a new member joined,
a member whose ideas would shake the core of
the community and change it forever.
This member goes by the name HedgeFundie.
Some thought he was an investment banker or in tech.
Others thought he was just an investment
whack job living in his mum's basement.
No matter who he is, his ideas really stood out.
With regular old index fund investing,
instead of buying individual stocks, you buy
something like the S&P 500 Index Fund.
This fund gives you a small slice of
the top 500 stocks all in one ticker.
John Bogle, who created Vanguard,
actually pioneered this idea.
Hence the cult of the Bogleheads.
The index fund idea is that by buying
the entire market, you essentially buy the haystack
instead of searching for the needle.
And then you simply hold that haystack forever.
And it turns out over the long run,
this actually is a better strategy than picking
individual stocks for just about everyone.
But what if those returns could be amplified?
That's exactly what Hedgefundie the aim to find out.
See, there's two ways to increase
your gains in the stock market.
First is less diversification, picking fewer assets in
attempt to find that needle in the haystack.
Or second, you can apply
leverage amplifying your returns.
Now, most investors will choose concentration over
leverage because it feels more familiar and less risky
HedgeFundie was loyal to the John Bogle style
of indexing, but he believed he could increase returns
and minimize downside risk all at the same time.
His idea was groundbreaking for the
Bogleheads within his community.
Now let's say you had $1,000 to invest.
First, you'd buy $550 of the three
times leveraged S&P 500 index.
This fund gives you a 300% daily
return of the S&P 500.
If the index goes up 1%, you make 3%.
But this also means if it goes down 1%, you lose 3%.
But that in itself doesn't offer a ton of safety.
So next you would buy $450 of the
TMF 3X 20-year treasury bond ETF.
Then every quarter you rebalance the portfolio
to remain a consistent 55-45 split.
And the results of this
strategy are absolutely fascinating.
When the stock market is doing well, you make
at least three times more money than if you
just held an index outright, blowing the average Boglehead's
return completely out of the water.
But leveraged ETFs are nothing new.
A group of Bogleheads fought against HedgeFundie's
post, demanding more data and bringing up issues
like volatility drag, where in a bad day
the market could wipe out months of gains.
But this is where the 45% bond
portion of the portfolio comes in.
Whenever the stock market goes down, your
leveraged index fund loses three times more
than the market does, which is bad.
But this isn't the end of the world
because stocks are inversely correlated with bonds.
Meaning at the same time you're down on your
stock position, you're up on your bond position.
The profit in bonds would then be
rebalanced to buy more ETF shares.
The Boglehead slowly began to embrace
Hedgefundie's ideas as he made post after
post uncovering research and defending his strategy.
He was winning members over one by one.
But the little by little approach wasn't enough.
His ideas made sense, but not
everyone was totally behind him.
HedgeFundie needed data that would prove once and for
all that his strategy was better than a regular leveraged
ETF and better than holding an index fund outright.
And this is what led HedgeFundie to build a backtest.
The idea was to test his strategy versus
the market all the way back to 1955.
If his method was proven to be superior, he
would finally have the full respect of the community
and his ideas would be set in stone.
So he built the model, plugged in the
data, and allowed the simulation to run until
finally it spit out conclusive data.
His strategy beat the S&P 500 by a lot.
The simulations showed that investing $10,000 in the regular
S&P 500 netted $5 million by 2019.
In the same time period, Hedgefundie's
method returned a 7.4 million, a 48%
higher return holding near identical assets.
The Bobbleheads had no option but to celebrate Hedgefundie,
who essentially grabbed their hands and led them
to gold, an investment strategy that could beat the
total market with nearly zero effort.
Now this led some of the Bogleheads excited about the
data to question
The bonds, after all, make up a
small majority of the total returns.
And looking at the data, leverage funds have had
an amazing run for the past ten years.
In fact, if you invested just $10,000
in a leveraged Nasdaq for the last ten years,
you'd actually have over $1 million.
But it's not always that way.
Going back historically, you'd have some major
drawbacks, because when the markets do crash
significantly, your leverage fund can take many,
many years to get back on track.
He regularly points out that this is a higher
risk strategy and offers suggestions to help limit risk.
A couple of these methods included increasing your
bond allocations as you grow older and dollar
cost averaging over time into the strategy.
This reduces the risk of buying heavily all
at once and the market dipping quickly.
But all of this begs the question,
And this comes down to a few factors.
The first is our impression of leverage
when we think of taking on debt.
We see flashes of hedge funds like Archegos getting
liquidated or Evergrande missing multibillion dollar payments
businesses and people who took on way too much risk,
and it ended very, very poorly.
But the truth is, leverage in and
of itself isn't good or evil.
It's simply a force multiplier.
You wouldn't say this lever is good because
the weights are equal or this one is
bad because one side has a force multiplier.
Now what's strange is, despite the leverage horror
stories that we see in the news, we
actually use leverage all the time.
Take purchasing a home, even your 20s.
with $25,000 down, you can easily buy a $250,000 house.
The bank still owns your home, but you
now have $250,000 in exposure to the market.
One of the best investments I have ever personally made was
a house that I bought for $365,000 when I was 21.
I'd been running my moving and storage business
for a few years, and I managed to
save up around $30,000 for a down payment.
I bought the house, lived in it
and rented the additional rooms out.
I still own that house,
My equity, amazingly, is around $400,000
on that $30,000 down payment.
So the home price about doubled.
But because of leverage,
What's a bit strange, though, is you hear that
story and you probably don't think I took on
a lot of risk, but in any other asset,
that level of leverage would be insane.
I think the difference is with stocks,
you can see the price every day.
With the house, you can't.
There isn't a guy outside my house saying,
hey, I just want to let you know
your house is worth $10,000 less this month.
That just doesn't happen.
But it kind of does in stocks.
So this begs the question, how does
a 3X leverage fund work?
Are there additional risks that
Hedgefundie might be missing?
He uses the UPRO 3X ETF.
What's important here is funds like UPRO
seek investment results of 300% of the
daily performance of the index.
This distinction here is really important because
it can change the long run returns
due to something called volatility drag.
Basically, because returns are compounded daily, you can
be left with a longterm return or potential
loss of far more than 300%, despite the
return daily being just 3X.
Now, another alternative to getting leverage is to buy
a stock through something called
But with this, you need to pay a price.
Leverage isn't free.
No one's going to sell you an option if they
don't believe that they can make a profit doing so.
The money paid for an option is a premium.
Not all that different from the premium
you pay on your insurance, but the
problem with options is you're often paying
extra because premiums are generally overpriced.
See historically, the options
market overprices volatility.
The VIX index is commonly referred to
as the fear index for Wall Street.
And when the VIX is high,
it's because people are afraid.
When the VIX is high,
options premiums are often overpriced.
But why is that?
When looking at historical studies, you
can see that implied or forecasted
volatility often overstates actual historic volatility.
There's a simple reason for this,
Yes, Black Swan events do exist, but by
and large, fear is overpriced in markets.
And who benefits from this overstated volatility?
The ones selling the options.
- We're down by between three and four and a half percent.
- It's the Chinese economy and
the reasons why it's collapsed.
- But there will be a financial crisis.
- That means the crypto and the stock market is crashing.
- The S&P 500 index fell to 2300 points.
- In the book "Thinking Fast and Slow", Daniel Kahneman says
that people are more drawn towards fear
and panic than they are rationality.
Weighted against each other, losses loom far
larger than gains in people's minds.
The pain of losing $100 is more
intense than the joy of making $100.
And nor is this fear more evident than the inherent
fear investors seem to have about taking on leverage.
And this isn't me saying that a leveraged ETF
is a risk free way to triple your return. No, far from it.
This is not for everyone.
Like we mentioned earlier, if the market dips
severely, it can take many years for a
leveraged ETF just to get back on track.
On top of this, there's a non zero
chance of losing it all, your entire investment.
Let's say you're invested in a 3X
leveraged S&P 500 ETF.
If the S&P somehow dropped 34% in a
single day, you would lose 100% of your investment.
Now, a drop this size has never happened.
It's far larger than the largest drop
in history, but it's still important to
understand that this is possible.
And even more, this highlights the importance that
Hedgefundie places on having 45% of funds in bonds,
which helps you actually make money during market downturns.
After figuring all of this out, Hedgefundie
changed the Bogleheads forum forever, tempting many users
to try out this radically new strategy.
It went from a conservative index
fund forum to members applying massive
leverage and experimenting with rebalancing strategies.
For some, playing around with allocation is
like trying to bake the perfect recipe.
You just keep tweaking the formula bit by bit
in search of the perfect balance, when in reality
it's impossible to find the perfect balance because we
don't know what the future holds.
And we do need to remember the survivorship bias
because as well as Hedgefundie's strategy works in
backtests, we can't be certain it will perform the
same in the future and this leads us to
the question of where is Hedgefundie now?
He's been using this strategy for years and I was determined
to find out how things have been going for him but
it appears I'm not the only one looking for him.
After more than 4000 posts he has
disappeared from the Bogleheads forum completely.
I tried to reach out to him for an interview but
I was unable to make contact and in a way it
feels a bit poetic that he came into a community aiming
to make everyone a little bit richer, completely altered their way
of thinking and left without a trace.
Some members are glad to see him go
but most wish that he would come back.
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