Objective research to aid investing decisions

Value Investing Strategy (Strategy Overview)

Allocations for June 2024 (Final)
Cash TLT LQD SPY

Momentum Investing Strategy (Strategy Overview)

Allocations for June 2024 (Final)
1st ETF 2nd ETF 3rd ETF

Technical Trading

Does technical trading work, or not? Rationalists dismiss it; behavioralists investigate it. Is there any verdict? These blog entries relate to technical trading.

Global Macro and Managed Futures Performance Review

Should qualified investors count on global macro (GM) and managed futures (MF, or alternatively CTA for commodity trading advisors) hedge funds to beat the market? In their November 2023 paper entitled “Global Macro and Managed Futures Hedge Fund Strategies: Portfolio Differentiators?”, Rodney Sullivan and Matthew Wey assess the performances of GM and MF hedge fund categories, defined as:

  • GM – try to anticipate how political trends and global economic activity will affect valuations of global equities, bonds, currencies and commodities.
  • MF – rely systematic trading programs based on historical prices/market trends across stocks, bonds, currencies and commodities.

For comparison, they also look at the long-short equity (LSE) hedge fund category. They decompose category returns into components driven by exposures to U.S. stock and bond market return factors, other factor premiums and unexplained alpha. They focus on how fund categories have changed since the 2008 financial crisis, emphasizing performances during market downtowns. Using index returns from Hedge Fund Research (equal-weighted) and Credit Suisse (asset-weighted) during January 1994 through December 2022, they find that:

Keep Reading

Exploit Follower Stocks?

Is there an exploitable way to find which stocks lead and which stocks lag in returns? In their October 2023 paper entitled “Detecting Lead-Lag Relationships in Stock Returns and Portfolio Strategies”, Álvaro Cartea, Mihai Cucuringu and Qi Jin test three ways to measure and exploit linear and non-linear lead-lag relationships in individual stock returns via three steps:

  1. Use daily returns for stocks over the last 60 trading days to compute all pairwise lead-lag relationships using one of two cross-correlation methods (linear relationships) or a third method based on the Levy-area of pairwise asset returns (linear and non-linear relationships).
  2. Rank all stocks from strongest leaders to weakest followers for each of the three sets of pairwise relationships.
  3. Each day for each set of ranks, if the sign of the average prior-day return of the strongest 20% of leader stocks is positive (negative):
    • Buy (sell) an equal-weighted portfolio of the weakest 20% of follower stocks.
    • Sell (buy) an offsetting position in SPDR S&P 500 (SPY) to approximate market neutrality.

Their universe each trading day is the top 25% of market capitalizations cross NYSE, NASDAQ and AMEX, excluding stocks with missing returns during the last 60 trading days. To test leader-follower relationship persistence, they consider also measurement frequencies of every two days, weekly, every two weeks, every three weeks and monthly. Using daily prices, market capitalizations, trading volumes and sectors of listed U.S. stocks during July 1963 through December 2022, they find that:

Keep Reading

Reviving Short-term Reversal?

Are there ways to revive the fading performance of the short-term reversal (STR) strategy, which is long stocks with the lowest returns last month and short stocks with the highest? In their September 2023 paper entitled “Reversing the Trend of Short-Term Reversal”, David Blitz, Bart van der Grient and Iman Honarvar investigate revival of the strategy by suppressing its conflicts with either industry momentum or general momentum. Specifically, at the end of each month, they sort stocks into fifths (quintiles) in three ways:

  1. Generic STR – sorting on simple last-month returns.
  2. Industry-adjusted STR – sorting on last-month returns minus respective last-month industry returns.
  3. Residual STR – sorting on 3-factor alphas (adjusting for market, size and book-to-market factors over rolling 36-month intervals), scaled for volatility over the past 36 months.

For each approach each month, they form a hedge portfolio that is long (short) the quintile with the lowest (highest) past performances. For all three approaches, they impose regional neutrality by sorting stocks separately within North America, Europe and the Pacific region. They also consider developed and emerging markets segmentation. Using end-of-month data for all stocks in the MSCI World index during December 1985 through December 2022 (an average of 1,745 stocks per year), they find that: Keep Reading

RSI 14/Threshold 30 Applied to SPY with Fixed Holding Interval

Referring to commonly used Relative Strength Index (RSI) oversold parameter settings, but seeking to avoid exiting rebounds too soon, a subscriber asked about performances of the following four rules as applied to SPDR S&P 500 ETF Trust (SPY):

  1. Buy when daily RSI 14 falls under 30 and hold for six months.
  2. Buy when daily RSI 14 rises above 30 and hold for six months.
  3. Buy when weekly RSI 14 falls under 30 and hold for six months.
  4. Buy when weekly RSI 14 rises above 30 and hold for six months.

To investigate, we use a 126-day (26-week) holding interval for daily (weekly) calculations. We assume that overlapping signals reset the clock. In other words, if there are buy signals while already in SPY, we extend the holding interval to six months after the last overlapping buy signal. We ignore frictions for switching between SPY and cash and assume no return on cash. We ignore tax implications of trading. We use buy-and-hold SPY as a benchmark. Key metrics are compound annual growth rate (CAGR) and maximum drawdown (MaxDD), but we also look at average 6-month returns and return volatilities while in SPY. Using daily and weekly raw (for RSI calculations) and dividend-adjusted (for return calculations) SPY closing prices from the end of January 1993 through mid-August 2023, we find that:

Comparing Ivy 5 Allocation Strategy Variations

A subscriber requested comparison of four variations of an “Ivy 5” asset class allocation strategy, as follows:

  1. Ivy 5 EW: Assign equal weight (EW), meaning 20%, to each of the five positions and rebalance annually.
  2. Ivy 5 EW + SMA10: Same as Ivy 5 EW, but take to cash any position for which the asset is below its 10-month simple moving average (SMA10).
  3. Ivy 5 Volatility Cap: Allocate to each position a percentage up to 20% such that the position has an expected annualized volatility of no more than 10% based on daily volatility over the past month, recalculated monthly. If under 20%, allocate the balance of the position to cash.
  4. Ivy 5 Volatility Cap + SMA10: Same as Ivy 5 Volatility Cap, but take completely to cash any position for which the asset is below its SMA10.

To perform the tests, we employ the following five asset class proxies:

iShares 7-10 Year Treasury Bond ETF (IEF)
SPDR S&P 500 ETF Trust (SPY)
Vanguard Real Estate Index Fund (VNQ)
iShares MSCI EAFE ETF (EFA)
Invesco DB Commodity Index Tracking Fund (DBC)

We consider monthly performance statistics, annual performance statistics, and full-sample compound annual growth rate (CAGR) and maximum drawdown (MaxDD). Annual Sharpe ratio uses average monthly yield on 3-month U.S. Treasury bills (T-bills) as the risk-free rate. The DBC series in combination with the SMA10 rule are limiting with respect to sample start date and the first return calculations. Using daily and monthly dividend-adjusted closing prices for the five asset class proxies and T-bill yield as return on cash during February 2006 through July 2023, we find that:

Keep Reading

How to Identify and Follow Trends

Why is trend following so persistently popular among investors? In their March 2022 paper entitled “A Guide to Trend Following Strategies”, Stuart Broadfoot and Daniel Leveau describe popular trend identification methods and provide an example of how to build/test a multi-asset class trend following strategy in four steps. Using trend following index data during January 2000 through May 2022 and prices for 52 futures contract series during January 2000 through January 2022, they find that: Keep Reading

SMA Signal Effectiveness Across Stock ETFs

Simple moving averages (SMA) are perhaps the most widely used and simplest market regime indicators. For example, many investors estimate that a stock index, exchange-traded fund (ETF) or individual stock priced above (below) its 200-day SMA is in a good (bad) regime. Do SMA signals/signal combinations usefully and consistently distinguish good and bad regimes across different kinds of U.S. stock ETFs? To investigate, we test regime signals of 50-day, 100-day and 200-day SMAs and combinations of them across broad equity market (DIASPYIWBIWM and QQQ), equity style (IWDIWFIWN and IWO) and equity sector (XLBXLEXLFXLIXLKXLPXLUXLV and XLY) ETFs. We consider also three individual stocks: Apple (AAPL), Berkshire Hathaway (BRK-B) and Wal-Mart (WMT). We focus on compound annual growth rate (CAGR) and maximum drawdown (MaxDD) for comparisons, but also look at a few other performance metrics. Using daily dividend-adjusted closes of these 18 ETFs and three stocks during late July 2000 (limited by IWN and IWO) through early May 2023, we find that: Keep Reading

Speed of Stock Index Decline as Future Return Indicator

Does the speed of a stock index decline from a recent high help decide whether to buy-the-dip or wait? In his April 2023 paper entitled “The 5% Canary”, Andrew Thrasher evaluates the whether the duration of initial 5% declines from 52-week highs for the S&P 500 Index and Dow Jones Industrial Average (DJIA) help quantify severity of subsequent drawdowns and attractiveness of buying the dip. Specifically, he defines:

  1. A Canary signal as a 5% index decline within 15 trading days after a 52-week high, and two consecutive index closes under its 200-day simple moving average (SMA) within 42 trading days of a Canary signal as a Confirmed Canary signal.
  2. The start of post-Confirmed Canary index uptrends (Buy-the-Dip signals) as the 50-day SMA crossing above the 200-day SMA.

Using daily closing levels of the S&P 500 Index during January 1950 through October 2022 and of DJIA during January 1900 through March 2022, and for some non-U.S. market indexes, he finds that: Keep Reading

Day Trading with an Opening Range Breakout Strategy

Can day traders reliably get rich quick? In their April 2023 paper entitled “Can Day Trading Really Be Profitable? Evidence of Sustainable Long-term Profits from Opening Range Breakout (ORB) Day Trading Strategy vs. Benchmark in the US Stock Market”, Carlo Zarattini and Andrew Aziz test the performance of a 5-minute Opening Range Breakout (ORB) strategy applied to Invesco QQQ Trust (QQQ), as follows:

  • If QQQ rises (falls) during the first 5-minute interval of trading, buy (sell) QQQ at the start of the second 5-minute interval. Take no position if the first 5-minute open and close are about the same.
  • For a long (short) position, set a stop-loss at the low (high) of the first 5-minute interval.
  • Set a profit target (stop-gain) at 10 times the absolute difference between entry and stop prices.
  • If neither stop-loss nor stop-gain trigger during the day, liquidate at the market close.

For testing, they use recorded trade prices at exactly 9:35AM, the stop-loss/stop-gain prices and recorded trade prices at exactly 4:00PM. They assume $25,000 starting capital, maximum 4X leverage and $0.0005/share commission (in the range 0.0001% to 0.0005% for QQQ), with no bid-ask spread, no impact of trading (slippage) and no other execution price uncertainty. They size each trade such that a stop-loss would deplete 1% of current capital. Their benchmark is buying and holding QQQ. They also test the same ORB strategy applied to ProShares UltraPro QQQ (TQQQ) to circumvent broker leverage constraints, plus a TQQQ variation with stop-loss equal to 5% of the 14-day average true range (ATR) and no profit target (exit at market close). Using the specified QQQ and TQQQ intraday price data during January 1, 2016 through February 17, 2023, they find that:

Keep Reading

10-month vs. 40-week vs. 200-day SMA

A reader requested: “I would love to see a backtest pitting a 10-month simple moving average (SMA) against a 200-day SMA for SPDR S&P 500 (SPY). I assume trading costs would go through the roof on the latter, but do performance gains offset additional costs?” Others asked about a 40-week SMA. To investigate, we use the three SMAs to time SPY since its inception and compare results. Specifically, we buy (sell) SPY at the close as it crosses above (below) the SMA, anticipating crossing signals such that trades occur at the close on the signal day (assuming calculations can occur just before the close). The baseline SMA calculation series is dividend-adjusted, but we also check use of unadjusted prices and underlying S&P 500 Index levels. We assume return on cash is the 3-month U.S. Treasury bill (T-bill) yield (ignoring settlement delays). We use a baseline 0.1% one-way SPY-cash switching frictions and test sensitivity to frictions ranging from 0.0% to 0.5% (but assume dividend reinvestment is frictionless). We ignore tax implications of trading. Using daily dividend-adjusted and unadjusted closes for SPY, daily closes of the S&P 500 Index and daily T-bill yield from the end of January 1993 through mid-April 2023, we find that:

Keep Reading

Login
Daily Email Updates
Filter Research
  • Research Categories (select one or more)