So forget all the complex trading methodology / strategies... Why not keep it simple? Let's say I'm using a margin Interactive Broker account - Interest rate of 1.62% (as of posting). I start off with $100,000, leverage myself 1.75:1, and purchase $175,000 worth of securities with 5% dividends to get a net of $8,750 per year (8.75% return). Take out the interest rate, and I'm left with about 7% return - (Obviously, this is assuming the stock price stays the same). Now, if I take the highest 5 dividend paying companies in the Dow Jones Index (averaging 5% return), it's pretty safe, no? I mean, 7% return isn't even considering the fact that the DJIA historically appreciates 5% / year on average over the past hundred years. So we're talking 7-12% return / year hypothetically. Not bad eh?
When they go down 20%, what do you do? You're at 1.75 leverage, so you just lost 35% of your position, or you're down to $65,000. Now you have the choice of cutting your losses or sticking with the position, in effect doubling down.
You can do the same by buying currencies that pay high interest rates. It still doesn't protect you from the depreciation of the underlying. If you're looking at long timeframes (25 yrs+) you might survive drawdowns with small leverage but you'll get huge variance in your returns. And it's not sustainable since the dividend could be cut down. Concerning currencies, it works well if you intend to live in the country paying high interest in case of depreciation of the currency against your base currency...
I guess you are new to this and weren't around the last couple of years when the Dow dropped over 50% from the high. So what are you going to do when your balance drops to 12,500? Still think your strategy is good?
Actually, it is because of the statistics from the past years that caught my attention. After factoring in dividend payments from the Dow, you actually had a positive return even after factoring in the Great Recession. I understand the concept of doubling down (magnify gains AND losses) - I'm just looking for the best "doubling down" strategy.
From memory, the market returned a bit more than 13% p.y. since 1900. That's about 9% real return. Nevertheless the variance was huge.
Make a collar (sell a call, buy a put) to prevent from downside risk. You are leveraged, so you may blowup is market goes down big again.
Has anyone experienced long term success with collars to hedge against a "blow-up"? However, since the dividend is priced into the options, with a much more expensive put than call option, then the cost of the collar would exceed the dividend payout... any insights... Walter