Section 1.1: Junk Bond Options

To be transparent, I've held puts on HYG (a junk bond exchange-traded fund) since September of last year (refer to the article below). Currently, I view these puts as my favored protection against a potential recession. Although junk bond yields have increased and the price of HYG has decreased, there's no immediate alarm within the junk bond sector.

One reason for this is that elevated commodity prices are advantageous for energy producers, who are significant issuers of junk bonds. However, if the Federal Reserve opts to raise interest rates in an effort to cool the economy, the most leveraged and vulnerable issuers in the junk bond market are likely to face the most severe consequences.

I previously discussed the concept of negative real yields on junk bonds, which you can find here.

Section 1.2: Defense Sector Stocks

In December, I speculated that escalating global tensions between Western nations and Russia, along with its allies, would lead to an uptick in U.S. defense spending—benefiting defense stocks. Notably, defense stocks have experienced some growth recently (for instance, Lockheed Martin has risen by 25% year-to-date), though not excessively so.

What is far more concerning is Vladimir Putin’s recent actions, portraying himself as a global antagonist, which may potentially embolden other authoritarian leaders to act similarly. To counteract such behavior, the West, particularly the U.S., requires formidable military capabilities—implying a substantial increase in defense budgets.

Section 1.3: The Cockroach Portfolio

I approach the recommendation of this portfolio with caution, as it allocates half of its assets into U.S. Treasury bonds (which can be detrimental in a rising rate environment unless there’s a recession leading to a flight to safety) and cash (which is less favorable during periods of high inflation). Nevertheless, the fundamental concept of crafting a portfolio designed to weather any economic scenario is commendable.

The cockroach portfolio divides its investments equally among stocks (S&P 500), U.S. Treasuries, gold, and cash. For further details, the rationale behind this division is that it allows the portfolio to endure growth, recession, inflation, and deflation.

We could enhance this portfolio by:

• Shifting a portion of the S&P 500 allocation towards growth stocks.
• Redirecting some of the gold investment into a broad commodity index.
• Allocating part of the cash to other safe-haven currencies (such as the Japanese Yen and Swiss Franc) and allocating a small portion to cryptocurrency.

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