Extreme Volatility Presented the Opportunities and Profit Streams—and CIHEX Shifted to Take Advantage

In a turbulent period for the markets, Calamos has been hosting a series of Calamos CIO Conference Calls for investment professionals. Below are notes from a call Wednesday, May 6, with Eli Pars, CFA, Co-CIO, Head of Alternative Strategies and Co-Head of Convertible Strategies, Senior Co-Portfolio Manager, and David O’Donohue, Senior Vice President, Co-Portfolio Manager. To listen to the call in its entirety, go to www.calamos.com/CIOhedgedequity-5-6

For highlights on the March calls with the team, see this post.

“What’s unique about today, and how can we use it?”—that’s how Calamos Hedged Equity Fund (CIHEX) PMs Pars and O’Donohue explain the advantage of managing a dynamic options-based fund at all times, but particularly in the recent market turbulence.

Managing a “living, breathing hedge” on a portfolio of equities enabled the fund to mitigate more than half of the recent equity downturn while capturing more than half of the subsequent bounce back. The result: Year to date as of May 5, the fund’s return is -3.78% versus the S&P’s -10.65%.

Pars recalled the actions taken during the drawdown and in subsequent weeks as the market recovered. As the market moved down, the team’s focus was on rolling out hedges and “clearing runway” for the market to come back.

(To explain “clearing runway,” he offered the example of buying calls that were short: “We might short something for $20, and their value drops to $2. They’re only going to $0 so at some point it makes sense to buy those back and clear some runway for when the market moves back up.”)

Throughout the period, the team continuously adjusted hedges, traded around and generally took advantage of what continues to be elevated volatility. Most recently, Pars said, call selling has become more attractive, and serves as a source of income for the fund. At the same time, puts as a means of mitigating downside risk continue to be in place, despite their expense.

O’Donohue elaborated on the cumulative effect of the series of decisions made by the team.

“When we talk about wanting to capture 60% of the market’s upside and 40% of the downside,” he said, “it isn’t about capturing 60% of every up day or every up period and 40% percent of every down day or every down period. It’s really about capturing a little more up and a little less down over multiple periods.”

“As markets move,” he continued, “we want to use that to add in pieces. What piece can I add in today that I couldn’t yesterday or last week or last month? If we wake up tomorrow and the market is up 3%, how can I use that to add a piece? Can I sell a call higher, can I add a put or a put spread for 30% less than it cost yesterday?”

This flexibility, O’Donohue noted, isn’t available to other options-based funds, many of which preordain the amount of calls they’re going to sell and puts they’re going to buy in a period.

Making Subtle Shifts at Different Points

The start of 2020—the four months that Pars said felt more like five years—will be remembered for its large daily moves.

“There was an eight-day stretch in March where the smallest daily move was 4.89%,” said O’Donohue. “But equally important for us, there was an eight-day stretch starting on the Thursday before Easter when the market didn’t really move. It was in a pretty similar place at the end as it was in the beginning. But during that period there were four up days and four down days, and the average daily move was about 2%.

“That’s a lot of opportunity for us to add in pieces and also realize profits—we sold calls and covered them the next day, and resold them the day after that. That’s an opportunity and profit stream that didn’t exist in 2017,” O’Donohue said.

CIHEX has the advantage of not needing to make aggressive market calls, O’Donohue said. Rather, the team makes “subtle shifts” at different points.

He explained, “When markets are near highs and volatility is low and the cost of hedging is low, we are likely to be more defensive and more focused on how we’d do in a 10% or 20 % pullback. After a 34% pullback [such as was experienced in March], we’re going to be longer leaning and more focused on maximizing how we do in a recovery.

“Now after a 25% recovery and volatility falling, we are somewhere in the middle. But as the market rises, we’re trying to build up layers of hedge and add back some of those puts that we weren’t able to in March. The flexibility is what enables us to have more favorable participation rates.”

Investment professionals, for more information about CIHEX, please contact your Calamos Investment Consultant at 888-571-2567 or caminfo@calamos.com.