It’s Not You, It’s Me…..

January 12, 2012

It’s not you, it’s me….  I think everyone has used that line at some point, but nobody does it better than George Costanza!

I have been putting data together to update our white papers.  It’s no secret that running a Global Tactical Asset Allocation (TAA) strategy was difficult last year.  But when I looked at the data it was very clear that the problem wasn’t the strategies.  The real problem was how the market behaved during 2011.  It’s not you, it’s me.  It’s not your trend following strategy, it’s what you’re trying to follow.  The market was essentially a psycho, stage 5 clinger last year!

The data I will reference in this post is an extension of the data we published last year in two white papers.  If you haven’t read them you can find them here.  Our research process for this dataset takes a diverse universe of ETF’s and creates 100 different equity curves for a number of different momentum factors.  The universe has a number of different asset classes represented including Equities (Domestic & Foreign), Bonds, Commodities, Currencies, and Real Estate.  The results provide a good idea about how a momentum-based, global TAA strategy would have performed.  By creating 100 different equity curves we are taking luck out of the equation and showing a realistic range of outcomes from buying high relative strength securities out of our universe.

Most of the momentum factors we follow underperformed last year.  The factors we are showing refer to the lookback period to do our rankings.  The 1MORET factor (1-month return) means we used 1 month of data to calculate our momentum ranks (all securities are held until they fall out of the top of the ranks, which might be as short as one week or as long as a couple of years).  The 12MORET factor uses the prior 12 months of price data to rank the securities.  The 3-month factor actually performed the best in 2011, but only 40 out of the 100 trials outperformed the S&P 500, so you needed some luck to outperform.  The 6-month factor was the next best, but only 1 trial outperformed so you needed to be really lucky.  All the other trials were very poor.  There was so much short-term volatility back and forth last year that the very short 1-month formulation period was deadly.  It paid not to be too quick on the trigger last year!

Full Year 2011

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But looking at 2011 in aggregate doesn’t really tell the whole story.  The beginning of the year was good for these strategies.  That person you were dating held it together pretty well for the first couple of dates!  Through the end of April, most of the strategies were outperforming the S&P 500 on average.  The 6-month factor was doing great as all 100 trials were outperforming.  Ironically, the factor doing the worst was the 3-month factor.

2011 Through April

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The problems for trend following strategies began in May.  There were a series of sharp trend reversals in a number of different assets: Bonds, Stocks, Precious Metals, Currencies (Yen & Swiss Franc).  No matter what factor you were using from May to the end of the year it was difficult.  It was tough to get traction anywhere.  The only factor that did even so-so was the 3-month factor, and that was the worst factor through April.  That’s just one of many examples of how crazy the 2011 market was!

2nd Half 2011

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So where do we go from here?  Well, the, “It’s not you, it’s me…” line always leads to a breakup.  That’s probably not a bad idea when dealing with something that doesn’t change.  Does that psycho, stage 5 clinger ever get any better?  Nope.  It only gets worse.

But markets change, and TAA based on momentum is very adaptive.  We will not be in a choppy, range bound environment forever.  Trends will emerge. (If they don’t, it will be the first time in history.)

Investors were euphoric about momentum-based TAA strategies in the first part of the year.  Looking at the data you can see why – they were working exceptionally well.  After the last few months, people are certainly not as excited.  In reality, now is the time to be really excited about relative strength strategies, not back in April.  Now is the time you want to be adding money.

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Cat on a Hot Stove

January 12, 2012

The cat, having sat upon a hot stove lid, will not sit upon a hot stove lid again. But he won’t sit upon a cold stove lid, either.—-Mark Twain

When you get burned, it’s important to learn your lesson.  As Mark Twain’s witticism suggests, it’s also important not to learn the wrong thing!  I was thinking about this in reference to James Surowiecki’s recent column in The New Yorker.  He notes:

It isn’t just that volatility costs ordinary investors money. It also makes them  more likely to give up on the stock market entirely: over the past three years,  investors have pulled almost two hundred and fifty billion dollars out of equity  funds, even though stock prices have almost doubled since the lowest point of  the crash. And, while some of that money has gone into exchange-traded funds,  most of it has just left the market. This flight from stocks is probably not a good thing for people’s retirement  accounts—after all, in a capitalist country owning some capital is usually a  smart way to make money. But it may well be a good thing for investors’ psychological well-being. In effect, they’ve decided that, in a market as  volatile as this one, the only way to win the game is simply not to play.

Even though stock prices have almost doubled.  Wow.

The problem here is pretty obvious.  Most investors don’t really want to earn good returns over time–they want to earn good returns all the time.  That’s not going to happen.  Investors are not winning by not playing.  They are just admitting defeat.  Winning the game takes a completely different mindset.

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401k Millionaires

January 12, 2012

Smart Money ran a short piece about the 0.2%.

The 0.2% are the fraction of investors that have more than $1 million in their 401k plan.  Are they doing anything differently than other employees?

“The one characteristic that differentiates the winners from the non-winners here is contribution rate — a high percentage of those million-dollar savers had constant participation and high contribution rates,” he [Jack VanDerhei, Employee Benefit Research Institute’s research director] says.

This is probably worth a New Year’s resolution.  Call your HR department or whoever handles the 401k in your office and bump up your contribution rate.  Combined with intelligent financial management, something that a qualified advisor should be able to help you with, it shouldn’t be that difficult to get to $1 million over the course of a working career.

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Fund Flows

January 12, 2012

The Investment Company Institute is the national association of U.S. investment companies, including mutual funds, closed-end funds, exchange-traded funds (ETFs), and unit investment trusts (UITs).  Members of ICI manage total assets of $11.82 trillion and serve nearly 90 million shareholders.  Flow estimates are derived from data collected covering more than 95 percent of industry assets and are adjusted to represent industry totals.

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