Systematic Relative Strength

On March 1, 2007, we partnered with PowerShares to bring to market the first momentum ETF, The PowerShares DWA Momentum ETF (PDP). This ETF is based on our Technical Leaders Index which is designed to rank a universe of about 1,000 U.S. mid and large cap stocks, using our PnF relative strength methodology, and identify the top decile (top 100 stocks) in our rankings. This index is reconstituted on a quarterly basis.

PDP now has $1.9 billion in assets and has outperformed the S&P; YTD, over the last 1, 3, and 5 years, and inception to date (ITD).

Source: Bloomberg, as of 10/29/15. Returns are inclusive of dividends, but do not include all transaction costs.

If someone simply bought PDP on 3/1/2007 and held the ETF to today, they may not be aware of all the changes in the Technical Leaders Index over time. The table below summarizes all the index changes that have happened behind the scenes.

Source: Dorsey Wright, as of 9/30/15. Returns are not inclusive of dividends or all transaction costs.

Some observations:

• 83% of all index trades were held for less than 4 quarters. In other words, these were the strong momentum stocks that we bought that did not sustain their momentum and were quickly removed from the index. The highlighted column shows the return of our index holdings relative to the S&P; 500 during the period of time that we held them. Stocks held for only 1 or 2 quarters underperformed the S&P; 500 on average.
• 17% of all index trades were held for longer than 4 quarters. These were the holdings that, on average, outperformed the S&P; 500. You’ll notice that the longer the stocks were held in the index the better they tended to perform relative to the S&P; 500.

This type of return profile is probably not surprising to those familiar with trend following. After all, the essence of the strategy is to cut your losers and let your winners run. We’ve all read the statistics about the percentage of active managers that fail to beat an index. Here is a smart beta alternative to active management that has demonstrated the ability to add value over time.

The relative strength strategy is NOT a guarantee. There may be times where all investments and strategies are unfavorable and depreciate in value.

What a month so far for the equity markets – through last night, the S&P; 500 is up 8.87% and the MSCI EAFE is up 7.66% in October*. We have seen a particularly strong snap-back in our Systematic RS International portfolio. See below for the MTD performance of our current holdings**:

Historical performance (through September 2015) of our Systematic RS International portfolio is shown below:

In light of the recent strong performance of this strategy, I would suggest that now might be a good time to consider an allocation for your clients. Please e-mail [email protected] for a fact sheet and click here disclosures about this portfolio.

*9/30/15 – 10/28/15 Price return only, not inclusive of dividends or transaction costs, EFA is used for MSCI EAFE. **Not all current holdings were owned for the entire month, some may be been added during the month. The relative strength strategy is NOT a guarantee. There may be times where all investments and strategies are unfavorable and depreciate in value.

The chart below measures the percentage of high relative strength stocks (top quartile of our ranks) that are trading above their 50-day moving average (universe of mid and large cap stocks.) As of 10/27/15.

This index has rebounded sharply after hitting a single-day low of 8% on 8/25/15. The 10-day moving average of this indicator is 75% and the one-day reading is 77%.

This example is presented for illustrative purposes only and does not represent a past recommendation. The performance above is based on pure price returns, not inclusive of dividends or all transaction costs. Investors cannot invest directly in an index. Indexes have no fees. Past performance is not indicative of future results. Potential for profits is accompanied by possibility of loss.

Not all sector exposure is created equal. In fact, there can be significant differences in holdings and performance between a momentum-weighted and capitalization-weighted sector ETF. Consider the table below which shows the top 5 holdings of our PowerShares DWA Momentum Sector ETFs shaded in green and the weights of those same positions in a capitalization-weighted ETF, shaded in blue.

Source: Powershares and State State Street Advisors, 10/19/15

What accounts for the differences in holdings?

• A stock can have large capitalization, but weak momentum
• The investment universe for the PowerShares Momentum ETFs includes Small, Mid, and Large Cap stocks

Also, keep in mind that the number of stocks in each momentum sector ETF can range from approximately 30-75. When small caps have better relative strength we will tend to have more holdings and when large caps are in favor we will tend to have fewer holdings. See the table below for the current number of stocks in each sector momentum index as well as their current market value.

Source: PowerShares, as of 10/19/15

YTD performance of our momentum sector ETFs vs. their capitalization-weighted peers is shown below:

As of 10/22/15. The performance above is based on pure price returns, not inclusive of dividends or all transaction costs. Past performance is not indicative of future results. Potential for profits is accompanied by possibility of loss.

So far in 2015, 6 of our 9 momentum sector ETFs are outperforming their capitalization-weighted peers.

The relative strength strategy is NOT a guarantee. There may be times where all investments and strategies are unfavorable and depreciate in value. See www.powershares.com for a prospectus. Dorsey Wright is the index provider for a suite of momentum ETFs with PowerShares.

The chart below is the spread between the relative strength leaders and relative strength laggards (top quartile of stocks in our ranks divided by the bottom quartile of stocks in our ranks; universe of U.S. mid and large cap stocks). When the chart is rising, relative strength leaders are performing better than relative strength laggards. As of 10/19/15:

This example is presented for illustrative purposes only and does not represent a past recommendation. The performance above is based on pure price returns, not inclusive of dividends or all transaction costs. Investors cannot invest directly in an index. Indexes have no fees. Past performance is not indicative of future results. Potential for profits is accompanied by possibility of loss.

The table below shows the performance of a universe of mid and large cap U.S. equities, broken down by relative strength decile and quartile and then compared to the universe return. Those at the top of the ranks are those stocks which have the best intermediate-term relative strength. Relative strength strategies buy securities that have strong intermediate-term relative strength and hold them as long as they remain strong.

Last week’s performance (10/12/15 – 10/16/15) is as follows:

This example is presented for illustrative purposes only and does not represent a past recommendation. The performance above is based on pure price returns, not inclusive of dividends or all transaction costs. Past performance is not indicative of future results. Potential for profits is accompanied by possibility of loss.

The chart below measures the percentage of high relative strength stocks (top quartile of our ranks) that are trading above their 50-day moving average (universe of mid and large cap stocks.) As of 10/13/15.

The 10-day moving average of this indicator is 54% and the one-day reading is 65%.

This example is presented for illustrative purposes only and does not represent a past recommendation. The performance above is based on pure price returns, not inclusive of dividends or all transaction costs. Investors cannot invest directly in an index. Indexes have no fees. Past performance is not indicative of future results. Potential for profits is accompanied by possibility of loss.

The chart below is the spread between the relative strength leaders and relative strength laggards (top quartile of stocks in our ranks divided by the bottom quartile of stocks in our ranks; universe of U.S. mid and large cap stocks). When the chart is rising, relative strength leaders are performing better than relative strength laggards. As of 10/12/15:

This example is presented for illustrative purposes only and does not represent a past recommendation. The performance above is based on pure price returns, not inclusive of dividends or all transaction costs. Investors cannot invest directly in an index. Indexes have no fees. Past performance is not indicative of future results. Potential for profits is accompanied by possibility of loss.

The table below shows the performance of a universe of mid and large cap U.S. equities, broken down by relative strength decile and then compared to the universe return. Those at the top of the ranks are those stocks which have the best intermediate-term relative strength. Relative strength strategies buy securities that have strong intermediate-term relative strength and hold them as long as they remain strong.

Last week’s performance (10/5/15 – 10/9/15) is as follows:

Whoa. What a week for the RS laggards.

This example is presented for illustrative purposes only and does not represent a past recommendation. The performance above is based on pure price returns, not inclusive of dividends or all transaction costs. Past performance is not indicative of future results. Potential for profits is accompanied by possibility of loss.

Here is the press release for today’s product launch. Those interested in using the “Power4” methodology now have a way to do that within a single CUSIP.

DOWNERS GROVE, Ill., Oct. 9, 2015 /PRNewswire/ — Invesco PowerShares Capital Management, LLC, a leading global provider of exchange-traded funds (ETFs), announced today the launch of the PowerShares DWA Tactical Sector Rotation Portfolio (DWTR). Dorsey, Wright & Associates (DWA) is a leading registered investment advisory firm based in Richmond, Virginia.

DWTR implements an unemotional approach, focusing on relative strength, a momentum indicator that compares the magnitude of recent gains to recent losses in an attempt to determine overbought and oversold conditions of an asset, as a longer term strategy that may help reduce potential turnover, but is also adaptive enough to rotate a portfolio on a monthly basis as the market dictates. PowerShares’ solution benefits from a sector rotation strategy that provides factor exposure to momentum and also features a cash component (represented by 0-6 month T-Bills) for risk management during market downturns.

“The power of this strategy results from its ability to take the DWA Sector 4 Index and package it in the efficient ETF wrapper, which potentially reduces tax burden, transaction costs, and eases portfolio implementation,” said Nick Kalivas, senior equity product strategist at Invesco PowerShares. “Another potential benefit to this momentum strategy is that it may be used in tactical and strategic allocations when combined with other smart beta products or asset classes.”

“Invesco PowerShares has been a valued partner to Dorsey Wright for close to a decade,” said Tammy DeRosier, President at Dorsey, Wright & Associates. “We are excited to continue our work together, launching this unique sector rotation strategy product that seeks to dynamically adjust monthly to sector trends, as well as prevailing market conditions.”

DWA’s methodology uses technical analysis to identify market trends which can potentially be used to capitalize on performance differences between sectors. Allocations are then adjusted based on DWA’s proprietary relative strength methodology.

Product Information found here.

The table below shows the performance of a universe of mid and large cap U.S. equities, broken down by relative strength decile and then compared to the universe return. Those at the top of the ranks are those stocks which have the best intermediate-term relative strength. Relative strength strategies buy securities that have strong intermediate-term relative strength and hold them as long as they remain strong.

Last week’s performance (9/28/15 – 10/2/15) is as follows:

RS laggards had the better week last week.

This example is presented for illustrative purposes only and does not represent a past recommendation. The performance above is based on pure price returns, not inclusive of dividends or all transaction costs. Past performance is not indicative of future results. Potential for profits is accompanied by possibility of loss.