[IP] DAX Hedge

To build a portfolio the German DAX (GER30) components were used. The instrument is created by opening opposite positions on competing companies stocks. The shares with the best risk/return ratio (long position) are compared to the least attractive ones of the rivals (short position). Portfolio weights are optimized in order to reduce the correlation with the market index (hedging) which makes it possible to limit economic risks of Germany and EU.

The following companies were given the largest weights in the portfolio:

• Fresenius Medical Care (FME): medical equipment and materials
• Fresenius SE & Co (FRE): medical equipment
• Henkel AG (HEN): household detergents, beauty care
• Lanxess AG (LXS): chemicals.

The systematic risks caused by recession, stock exchange panic or economic slowdown are reduced while comparing the portfolio with DAX index. The chart below illustrates the cumulative portfolio yield (red line) and that of the index (black line).

Cumulative return of DAX and of hedged DAX portfolio since 2009

In 2011 several European indices lost few percent in a week after the U.S. lost the AAA rating and Greece fell into the debt crisis. DAX index experienced the record slump since 1993. Investors that invested in the index in 2009 (the time when the EU economy began its recovery) lost almost all their cumulative yield, 18% out of 20%. At the same time the index portfolio continued to grow with the 20% yield since 2009. Despite the fact that portfolio weights are based on the historical data of 2009-2014, its yield is steadily growing in 2015 (blue line on the chart).