UNIVERSA INVESTMENTS L.P.

2601 South Bayshore Drive | Suite 2030 | Miami, FL 33133

tel
786.483.3140

fax

786.483.3141

universa.net

MARCH 16, 2018

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DECENNIAL LETTER
MARCH 2008
-
FEBRUARY 2018

W
HAT
�
S
P
AST
I
S
P
ROLOGUE

Dear Universa investors, This month marks the ten-

year anniversary of Universa�s

tail hedging program (the �Black Swan Protection Protocol�)

. As we ring the bells
and reflect on how far we�ve come,
I am reminded of an old Russian proverb that warns,
�Dwell on the past, lose an eye. Forget the past, lose both eyes.�
What a diverse decade it has been, spanning a great bust and boom, some very high
volatility and some very low. It was a superb test for us, and a little
retrospection is in order.
So let�s review how we performed as a risk
mitigation strategy for you, including in comparison with other strategies that
also presumed to serve such a function.
Risk mitigation performance must of course be measured by its �portfolio effect��
specifically, the impact it has on the compound annual growth rate (CAGR) of the
entire portfolio whose risk it is trying to mitigate. As I will discuss later in
this letter, this is all that really matters in risk mitigation, and has always
been our focus. It is where the rubber meets the road. Below is
Universa�s ten
-year life-to-date legacy of risk mitigation performance. We paired our actual net
performance (monthly administrator-provided net returns, using yours from your
start date, expressed as returns on a standardized capital investment) with an SPX
position (a realistic proxy for the systematic risk being
mitigated) to create a hypothetical �risk
-
mitigated portfolio.� That portfolio�s net performance is summarized
below, along with the similarly-constructed portfolio performance of five other
standard-bearers in risk mitigation. Consider this a risk mitigation scorecard for
the past decade.

Portfolio CAGR (%)

Strategy 1Y 5Y 10Y 10Y min Universa Tail Hedge (3.33%) + SPX (96.67%)
15.7 12.2 12.3 0.6
iShares 20Y+ Treasury (25%) + SPX (75%)
12.8 12.0 9.7 -15.1
CBOE Eurekahedge Long Volatility (25%) + SPX (75%)
10.9 10.4 9.1 -13.8
Gold (25%) + SPX (75%)
14.2 10.6 8.5 -25.4
Hedge Fund Index (25%) + SPX (75%)
14.6 12.2 8.2 -27.5
CTA Index (25%) + SPX (75%)
12.4 11.2 7.9 -21.5
Universa 12.3%
A DECADE OF RISK MITIGATION (March 2008
�
February 2018)

UNIVERSA INVESTMENTS L.P.

2
2601 South Bayshore Drive | Suite 2030 | Miami, FL 33133

tel
786.483.3140

fax

786.483.3141

universa.net

The equity curve shows each risk-mitigated portfolio

�s growth of capital
over the last ten years. The table shows ea
ch portfolio�s la
test one-year trailing 12-
month return (labeled �1Y�), last five
-year and ten-year CAGR (or
�geometric mean� annual
return,
labeled �5Y� and �10Y�, respectively),
and lowest annual return over the last ten years
(labeled �10Y min�).
Green cells indicate the highest two returns among the six portfolios in any given
column, and red cells indicate the lowest two. In our ten-year life-to-date, a
3.33% portfolio allocation of capital to
Universa�s tail hedge has added
2.6% to the CAGR of an SPX portfolio (the SPX total CAGR over that period was
9.7%). To put this in perspective, this is the mathematical equivalent of that same
3.33% allocated to a ten-year annuity yielding about 76% per year. In contrast,
each of the other risk mitigation strategies actually
subtracted
value over the same period, regardless of their allocation sizes. (Other risk
mitigation strategies omitted from this comparison basically produced results
within the ranges of these five standard-bearers, or worse; they are shown in the
Appendix.) Moreover, during the last one-year and five-year periods, when the SPX
experienced very positive returns, U
niversa�s risk mitigation strategy also outperformed these alternative risk
mitigation strategies.
It is common for
people to simplistically view tail hedging, the way we do it here at Universa, as
a �drag� on their portfolio in the
absence of a market crash. However, when framed correctly, as we have tried to do
here with our risk mitigation scorecard, the picture changes. It becomes apparent
what a real portfolio drag most other risk mitigation strategies have actually
been. (This is like the joke about the camper who only needs to outrun his friend,
rather than the
bear that�s chasing them. Over the past decade, Universa�s risk mitigation
strategy needed to outrun only these
other strategies
�
but we also outran the SPX.) Despite our firepower in a market crash (and my scorn
for monetary-bubbles), we have always been truly agnostic as to the direction of
the stock market. The 3.33% portfolio allocation size to Universa was chosen
because it is (and has always been) the approximate effective allocation size
recommended in practice at Universa
(relative to a client�s total
equity exposure). The 25% portfolio allocation size to the other risk mitigation
strategies was chosen to be meaningful and realistic for an average investor
(relative to their total equity exposure). That turned out to be insufficient for
any of those strategies to provide a level of downside protection anywhere close to
the level Universa provided. This is clearly
evidenced in the �10Y min� column
, a good proxy for the systematic risk remaining in each portfolio (thanks to the
2008 data point in our time series). The HFRI allocation, for instance, actually
resembled adding more SPX-like risk to the portfolio. If we were to try to
calibrate
ex post
the allocation sizes for each of the risk mitigation strategies in order to
maximize their ten-year portfolio CAGRs
, the optimal size for each strategy (with the exception of Universa�s and
the Treasury strategy) would actually be 0%. That means for best
results, you shouldn�t have added any of those
strategies to your SPX portfolio at all. Despite our efforts, the risk mitigation
scorecard remains something of an apples-to-oranges comparison.
The source of Universa�s

risk mitigation outperformance is no secret: It was driven by our �convexity��

the degree of portfolio loss-
protection provided for a given capital allocation, or the �bang
-for-the-
buck��
that is, of course, our particular
modus operandi
at Universa. This translates into a lower capital allocation of only 3.33% needed
to produce a meaningfully larger protective crash profit. And, that 3.33% (even
when experiencing losses)
 poses less �drag� relative to the far greater amount of capital invested in the
SPX the
rest of the time.

UNIVERSA INVESTMENTS L.P.

3
2601 South Bayshore Drive | Suite 2030 | Miami, FL 33133

tel
786.483.3140

fax

786.483.3141

universa.net

While the past can be an imperfect gauge of future risk mitigation value, it can
nonetheless provide insight that
prevents us from �flying blind,� which seems to describe many of these more
orthodox risk mitigation efforts
today. A stra
tegy that worked in the past naturally isn�t guaranteed to work again in the
future. Yet, if a strategy didn�t work in the past, isn�t there something
inherently unscientific about expecting that it will in the future? In
other words,
Popper�s falsificatio
nism applies: Though we cannot necessarily accept a strategy as always effective,
we recognize when we must reject it.
Heeding the warnings of the old Russian proverb, we at Universa don�t like the
thought of losing even one eye! So, of course, we don�t re
ly just on the past in demonstrating our risk mitigation. As Universa investors,
you have had the benefit of knowing first-hand (either from the risk reports we
provide regularly or your own stress tests of your transparent portfolio) that we
have delivered consistent and robust crash protection throughout your tenure as
clients. We have employed no forecasting, no timing, no finger to the wind
�
none of which ultimately adds risk mitigation value, by definition. Effective risk
mitigation requires consistency
and robustness. It shouldn�t be a
black box or a mere statistical regularity. Our risk mitigation approach plays too
significant a role in a portfolio
for that, more than the mere incremental �alpha� of a typical allocation.
So much of what passes for risk mitigation strategies simply is not that; rather,
they result in what Peter Lynch
referred to as �diworsification.� They may moderately lower
portfolio risk, but more importantly they also lower its CAGR. When done right,
and as we have seen first-hand and delivered these past ten years, effective risk
mitigation does more than just lower risk. It transforms the entire portfolio,
adding unique value that no other type of investment can. It is the tail that wags
the dog.
Bernoulli and the Geometric Mean
Why do we use the CAGR, or geometric mean annual return, as our metric to evaluate
the effectiveness of a risk mitigation strategy? A vexing conundrum known to most
investors is losing, for instance, 50% one period and then making 100% the
next; you�ve experienced an impressive arithmetic mean (or �ensemble average�)
return of 25%, yet you just barely made it back to even with a geometric mean (or
�time average�) of 0%. As a single wager, a coin toss of
either a +100% or -
50% return looks smart, but as an ongoing and compounding parlay, it�s a big waste
of time.
Your long-
run performance (of just breaking even) would be highly �non
-
ergodic�.

The arithmetic mean return of an investment just doesn�t convey all that much abo
ut its risk mitigation value, and
needn�t translate into a portfolio�s CAGR.
As it turned out, over the past ten years the arithmetic mean annual return on
invested capital in the standalone Universa tail hedge was quite high at 52.7%,
while the arithmetic mean annual returns of the other five standalone strategies
ranged from 1% to 6.3%.
But this doesn�t really tell the
story of the relative risk mitigation performance of all these strategies. As I
have previously written and demonstrated to you elsewhere,
even if we hypothetically adjusted Universa�s
standalone arithmetic mean annual return to
exactly zero
over the past ten years (by, say, hypothetically lowering our annual return in
2008 accordingly), the CAGR of that combined hypothetical Universa tail hedge and
SPX