My Kingdom for a Hedge!

Chidem Kurdas

Today people sold stocks and piled into US Treasuries, driving 10-year yields to another low. Everybody is trying to protect themselves.  Funds are hedging their portfolios but to put up defense against a crash is very costly now. There is no good-value, low-risk place to hide. Risky assets, on the other hand, are cheap.

Buying Treasuries looks like the one thing not to do. Treasuries are overbought and very, very rich, says Ajay Rajadhyaksha, head of US fixed income and securitized products at Barclays Capital. He has not advised clients to short sell Treasuries because US government debt could get another lift from the European debt crisis, swatting short sellers. However, it is getting to the level where institutions may want to take profit and get out of Treasuries, he said.

Larry Kantor, head of research at Barclays Capital, says they do not advise investors to abandon risky assets altogether. He and his analysts don’t expect a recession but do expect continuing volatility.

Barry Knapp, head of US equity strategy at Barclays, points out that equities are exceptionally cheap—risks appear to be priced into stocks.

But if you want to buy insurance in the form of put options against falling prices, it will cost you dearly. Hedge funds are paying a lot now to hedge tail risk, says Mr. Knapp.

By contrast, call options are inexpensive. Mr. Kantor points out that if you have a positive outlook, you could buy call options that will pay handsomely in the event today’s fears turn out to be unfounded.

It may be a good time to be a contrarian.

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