How would you answer the following question: What result do you want to achieve with a particular “pile” of money? 

A popular, but oversimplified answer is, “Just make me money.” A better answer would be based on the intended purpose of the money. Just like specialty players on a sports team, the activity of investing has specialty techniques that are worth being aware of.

They are finely focused techniques specifically designed to achieve certain defined results.

The popular standard approaches such as passive indexing and broad-based asset allocation, while also very useful, are not capable of achieving the results we will mention below.

A partial list of specialty purposes someone might have is:  

  • Cash Flow.   Generates an inflow of spendable dollars as opposed to unrealized capital appreciation. Pension funds or retirees are examples of clients who would care about cash flow.
  • Risk Reduction.   Protects against either the loss of accumulated funds, or reduces the wide up & down swings of the market. Particularly conservative investors or retirees, for example.
  • Advantage-Based Techniques.   Reduces or eliminates the subjective nature of some strategies and instead benefits from a strategy that in some way has a defined process … usually a mathematical decision making process. Investors who want to participate more proactively, for instance.
  • Bond Alternatives.   Replaces some or all bond allocations with something that will achieve the same objective, but not be exposed to the potential problems of being in bonds during a rising interest rate environment. This applies to anyone holding bonds.
  • Yield Enhancement. Generates a little more profit from existing assets without changing the current strategy. For example, investors who don’t want to change current managers, or who have positions they don’t want to sell, or who just want to reap as much profit as is reasonably available to them.
  • Flat Market Techniques.   Keeps assets productive during the many multi-year time periods in which the general price movement would otherwise be flat (range-bound to a zero sum gain). This applies to everyone.
  • Tax Efficiency.   Generates gains in a particularly tax-efficient manner. Such as a technique that allows gains to be classified within the scope of the “1256 Rule” (60% long term gains / 40% short term gains).
  • Relevant Trend Exposure.   Takes advantage of major developments in the world that might be relatively more profitable than the average idea. The Marcellus Shale energy opportunity is an example.
  • Alternative Space Exposure.   Takes advantage of the benefits of using asset classes that one might otherwise ignore. Commodities and private equity, for example.

So how does one achieve one or more of these specialty purposes?

Option Overlay Techniques:

This technique, applied properly, and in varying degrees, addresses the first seven items from the list above. It’s a technique that uses the equity and index option markets as its profit source, rather than the more common source of capital appreciation. The intent is to generate conservative, repeatable, incremental monthly yield, independent of the market, from assets that would otherwise have little or no cash flow. This is relevant because historically, markets often have had long periods of flat patterns producing below average returns. Traditional investment strategies that are based mostly on capital appreciation may be ineffective during those periods. This strategy is designed to add value during those flat periods, and to be an enhancement during other periods. 

Equity Indexed Annuities:

This technique, applied properly, and in varying degrees, addresses risk reduction, advantage-based techniques, bond alternative, and alternative space exposure from the list above. It’s an investment tool that uses a hybrid product from an insurance company to achieve the desired risk and returns. The main intent, as we use it, is to eliminate negative returns from a portion of the portfolio, while still having exposure to the upside of the market. This is relevant because, in the scheme of things, reducing losses is sometimes just as powerful as creating gains.

Specialty strategies are valuable additions to a well constructed portfolio. For those with purposes similar to those mentioned here, exploring the possibilities might enhance their overall performance.