Diversified Bullish

Musings About Investing (Not Financial Advice)

May 25, 2024

Three Examples of Hedge Trades That Can Balance Your Portfolio

Don't put all your eggs in one basket. We can avoid this scenario by taking positions that act as a hedge against one another. Here are some examples of hedge pair trades that I've taken in my portfolio:

1) Nvidia vs. Emerging Semiconductors

Right now the most common argument against buying Nvidia stock is that they may not be able to maintain their 95% market share only forever.

I'm holding an Nvidia long position but realized when I buy other semiconductors it's a hedge against their dominant position eroding over time.

Here are the top 10 holdings of the SOXX Semiconductor ETF:

NVDA NVIDIA Corporation (9.74%)
AVGO Broadcom Inc. (7.95%)
QCOM QUALCOMM Incorporated (7.41%)
AMD Advanced Micro Devices, Inc. (6.18%)
MU Micron Technology, Inc. (5.18%)
ADI Analog Devices, Inc. (4.54%)
TXN Texas Instruments Incorporated (4.38%)
MCHP Microchip Technology Incorporated (4.33%)
TSM Taiwan Semiconductor Manufacturing (4.17%)
KLAC Kla Corp (4.16%)

source: https://www.ishares.com/us/products/239705/ishares-phlx-semiconductor-etf

Other notable holdings include Intel, Marvell, Lam Research and a basket of 30+ semiconductor related companies. If you're bullish on semiconductors, why not play the field? You're still buying Nvidia, but spreading your bet amongst a bunch of promising companies. If you believe a rising tide lifts all boats and there will be many winners in our AI future... why not own some Nvidia and something like the SOXX ETF?

2) Tesla + EVs + China Automakers (Future Automobiles) Vs. Toyota + Ford (Legacy Automobiles)

Tesla boomed in the early 2020s by riding the EV wave and a low interest rate environment to payday. However, now the reality of 2024 is setting in for the electric vehicle market. Our EV future is somewhat postponed at the moment, or maybe it will take longer than we thought.

Where we are in the EV timeline depends on where you live. Countries like Ethiopia are preventing the import of internal combustion engines!

In China, the EV future is progressing faster than anywhere else in the world. China automakers are showing a new wave of affordable, tech forward electric vehicles are possible. Tesla is not the only one who can win at electric vehicles anymore. The rest of the world's automakers know a sleeping giant looms with Chinese automakers. Companies like BYD, Xpeng, Li Auto and Nio will play a significant role in the world's automotive landscape of the future.

Hybrid vehicles have emerged as the most sought after type of vehicle after Tesla rode the EV boom into 2021. Toyota is notably the biggest winner in the resurgence of hybrids and the purest play to fade our electric vehicle future. Toyota has been vocal in their opposition against the feasibility of electric vehicles. Ford is also losing money on its electric vehicle program but has remained committed to a profitable electric vehicle in the future, so they are less of a direct play against Tesla.

Holding both Tesla and legacy auto is a way to play both sides of the transition to electric vehicles. If consumer tastes move towards hybrids in the short term, Tesla will have a tougher environment to sell cars and Toyota will reap rewards from selling more hybrids. If electric vehicles gain traction quicker than expected, fade legacy auto if they fail to adapt to what kind of car people want to buy in the future. According to Llama 3 AI, we have an estimated 50-60 years of gasoline fossil fuels left on the planet. Someday, we'll need EVs and it won't be a choice. Who knows when that will actually happen. Play both sides of the trade by holding Tesla or Chinese electric vehicle makers against legacy automakers.

3) Bitcoin vs. Ethereum + Alt-Coins

Bitcoin was the first mover in the crypto world. Ethereum has solidified as #2 in the crypto space. Most likely both will be important in cryptocurrency's future, but you could see better returns in some alt-coins in the short term. Crypto has a feel like there will be "many winners" in the long run, but who knows how many and for which use cases. Or maybe it will be like big tech, with only an oligarchy of coins reaching elite status. It's too early to tell how this space will shake out in the long run, so I'm holding some smaller cap coins along with a heavy weighting of the blue-chip coins.

Wrapping Up

It's important to identify when an industry has "many winners" versus possibly only a few elite companies that emerge in the long run. It's possible to have the right industry, but not the right execution by the company you own. We can mitigate risk by making trades that hedge each other. This might limit gains on a higher conviction play, but it also caps your losses if the play doesn't pan out.