Weekly RS Recap

October 31, 2016

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 (10/24/16 – 10/28/16) is as follows:

ranks

This example is presented for illustrative purposes only and does not represent a past or present recommendation.  The relative strength strategy is NOT a guarantee.  There may be times where all investments and strategies are unfavorable and depreciate in value.  The performance above is based on pure price returns, not inclusive of dividends, fees, or other expenses.  Past performance is not indicative of future results.  Potential for profits is accompanied by possibility of loss.

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David Letterman on Prospect Theory

October 25, 2016

I stumbled across this gem from the NYT recent interview with David Letterman:

More earnestly, he added: “Maybe life is the hard way, I don’t know. When the show was great, it was never as enjoyable as the misery of the show being bad. Is that human nature?”

Yep, it is definitely human nature.  And it has implications for our investment behavior as well.  From then entry on Prospect Theory in Investopedia:

According to prospect theory, losses have more emotional impact than an equivalent amount of gains. For example, in a traditional way of thinking, the amount of utility gained from receiving $50 should be equal to a situation in which you gained $100 and then lost $50. In both situations, the end result is a net gain of $50.

However, despite the fact that you still end up with a $50 gain in either case, most people view a single gain of $50 more favorably than gaining $100 and then losing $50…

…Prospect theory also explains the occurrence of the disposition effect, which is the tendency for investors to hold on to losing stocks for too long and sell winning stocks too soon. The most logical course of action would be to hold on to winning stocks in order to further gains and to sell losing stocks in order to prevent escalating losses.

When it comes to selling winning stocks prematurely, consider Kahneman and Tversky’s study in which people were willing to settle for a lower guaranteed gain of $500 compared to choosing a riskier option that either yields a gain of $1,000 or $0. This explains why investors realize the gains of winning stocks too soon: in each situation, both the subjects in the study and investors seek to cash in on the amount of gains that have already been guaranteed. This represents typical risk-averse behavior.

David Letterman perfectly articulated a condition that affects most of us: we feel the impact of loss and pain to a greater degree than we feel the impact of an equivalent amount of gain or joy.  Left unchecked this disposition effect creates all kinds of problems in our investing behavior.  We hold on to the losers because if we don’t actually sell a loser then we won’t have have to admit that the trade didn’t work and we think we are avoiding some measure of pain.  And the winners, well we sell them as fast as possible to avoid seeing those gains evaporate (even if it means missing out on the continuation of that trend).

The only problem with giving in to the disposition effect is that it leads to very poor investment results.  See Jim O’Shaughnessey’s What Works on Wall Street.

So what can be done?  As with most things in life that work, the solution is not complicated.  It only requires great discipline.  It is for this very purpose that adherence to models (which enforce discipline and helps combat the disposition effect) is front and center in the Dorsey Wright experience.  It may never become “easy” to take the trades that a well-designed model provides, but I can attest to the fact that it is easier and I believe more profitable than trying to navigate the markets without models.

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

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Weekly RS Recap

October 24, 2016

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 (10/17/16 – 10/21/16) is as follows:

ranks

This example is presented for illustrative purposes only and does not represent a past or present recommendation.  The relative strength strategy is NOT a guarantee.  There may be times where all investments and strategies are unfavorable and depreciate in value.  The performance above is based on pure price returns, not inclusive of dividends, fees, or other expenses.  Past performance is not indicative of future results.  Potential for profits is accompanied by possibility of loss.

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Relative Strength Spread

October 18, 2016

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 10/17/16:

rs-spread

The relative strength strategy is NOT a guarantee.  There may be times where all investments and strategies are unfavorable and depreciate in value.  Past performance is not indicative of future results.  Potential for profits is accompanied by possibility of loss.

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Elkhorn Commodity Rotation Strategy ETF (DWAC)

October 17, 2016

While the majority of investors allocate their dollars primarily between equities and fixed income, there are a number of alternative assets that may add value to the portfolio over time.  Furthermore, the advent of ETFs has made it easy for investors to gain exposure to areas of the financial markets that were previously reserved for the savviest of investors.  One such example is the Commodity asset class.  Today, investors can select from upwards of 140 ETFs and ETPs to introduce commodity exposure into the portfolio, instead of trading futures contracts. One of the newer ETF products to hit the market within this space is the Elkhorn Commodity Rotation Strategy ETF DWAC, which uses the Dorsey Wright methodology to target those commodities with the strongest relative strength characteristics.

One of the main factors which helps enable a relative strength based strategy to generate strong returns is ample performance dispersion among the investable universe.  The most popular commodities discussed by mainstream media are precious metals (gold, silver, platinum) and energy (crude oil), but that only scratches the surface of this asset class as a whole. For example, the “softs” complex (which includes Sugar, Cotton, Cocoa, Orange juice, and Coffee) certainly isn’t making CNBC headlines on a daily basis, but Sugar futures are the top performing commodity on the year and have registered an impressive gain of over 50% in 2016.  On the flip side, agricultural Commodities such as Live Cattle (-20.22%), Wheat (-20.79%) and Lean Hogs (-25.27%) continue to lag and remain in very firm downtrends.  At some point these trends will change, but the dispersion which exists within the asset class remains wide year over year.

Generally speaking there are about 5 different commodity sectors: precious metals, industrial metals, livestock, agriculture, and energy.  One of the most commonly used benchmarks for the asset class is the S&P Goldman Sachs Commodities Index (GSCI).  It was launched in May 2007 and holds approximately 24 different commodities. The index allocations are world production weighted based on the average quantity of production of each commodity.  Currently, the index is allocated as follows:  Energy (70.44%), Industrial Metals (8%), Precious Metals (3.68%), Agriculture (12.78%), and finally Livestock (5.11%).   As a result, energy is the tail that wags the dog in this instance, accounting for more than two-thirds of the index’s performance. This is not unusual to see across many broad based commodity ETFs, making the DWAC quite different from the rest of the pack in terms of the exposure it offers.

The underlying index follows a Dorsey Wright relative strength based strategy to make its allocation decisions. The product also implements the dynamic roll methodology in order to avoid cost of carry issues at futures expiration. The universe for the underlying index includes 21 different commodities, and the index will target the top five on a monthly basis with a 20% weighting in each. The ability to tactically rotate through a broad universe of commodities and concentrate within the top performing sectors while eliminating exposure to the weak sectors is what makes this product both dynamic and unique. As of 9/30/2016, the current allocations in DWAC are as follows: Sugar, Silver, Coffee, Zinc, and Cotton. Additional information regarding historical allocations and other product info can be found on the DWAC factsheet.

DWAC vs. GSCI Equity Curves

1995-2015

Below we have as we plotted the equity curves in order to help compare historical performance of DWAC vs. GSCI.

1

DWAC inception date: Sept 21, 2016, GSCI inception date: May 7, 2007 – data prior to inception is based on a back-test of the underlying indexes.  Please see the disclosures for important information regarding back-testing.  DWAC Returns are calculated on a total return basis.  Past performance is not indicative of future results.  Potential for profits is accompanied by possibility of loss. 

DWAC vs. GSCI Performance

1995-2015

The table below gives a detailed perspective on the historical performance for each index.  Notice that DWAC offers a higher annualized return, and does so with lower annualized volatility.  Additionally, losses have been relatively contained when compared to the benchmark, while periods of outperformance have been instrumental in cumulative performance.

  • Cumulative Returns:  DWAC (+576.80%) vs. GSCI (-18.35%)
  • Annualized Returns:  DWAC (+10.02%) vs. GSCI (-1.01%)
  • Volatility (Annualized):  DWAC (22.23%) vs. GSCI (28.19%)
  • Largest Annual Loss:   DWAC (-20.24% – 1998) vs. GSCI (-46.49% – 2008)
  • Largest Annual Gain:  DWAC (+50.91% – 2006) vs. GSCI (+49.74% – 2000)
  • # Years Outperforming:  DWAC  (12 years) vs. GSCI  (8 years)
  • Total Performance in Outperforming Years:  DWAC (+253.90%) vs. GSCI (+73.11%)2

DWAC inception date: Sept 21, 2016, GSCI inception date: May 7, 2007 – data prior to inception is based on a back-test of the underlying indexes.  Please see the disclosures for important information regarding back-testing.  DWAC returns are calculated on a total return basis.  Returns do not include all potential transaction costs.  Past performance is not indicative of future results.  Potential for profits is accompanied by possibility of loss.

Performance data for the model is the result of hypothetical back-testing.  Performance data for prior to inception date is the result of backtested underlying index data.  Investors cannot invest directly in an index. Indexes have no fees.  Back-tested performance results have certain limitations. Back-testing performance differs from actual performance because it is achieved through retroactive application of an investment methodology designed with the benefit of hindsight. Model performance data as well as back-tested performance do not represent the impact of material economic and market factors might have on an investment advisor’s decision making process if the advisor were actually managing client money. Past performance is not indicative of future results. Potential for profits is accompanied by possibility of loss.

Neither the information nor any opinion expressed shall constitute an offer to sell or a solicitation or an offer to buy any securities, commodities or exchange traded products.  This document does not purport to be complete description of the securities or commodities, markets or developments to which reference is made.  

 

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Weekly RS Recap

October 17, 2016

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 (10/7/16 – 10/14/16) is as follows:

ranks

This example is presented for illustrative purposes only and does not represent a past or present recommendation.  The relative strength strategy is NOT a guarantee.  There may be times where all investments and strategies are unfavorable and depreciate in value.  The performance above is based on pure price returns, not inclusive of dividends, fees, or other expenses.  Past performance is not indicative of future results.  Potential for profits is accompanied by possibility of loss.

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Manager Insights: Third Quarter Review

October 10, 2016

The stock market spent the majority of the summer months moving sideways in a tight trading range.  The S&P 500 finished the quarter up almost 4%, and is sitting on a gain of 7.8% so far this year.  International equity markets were a bright spot, and outperformed domestic markets.  Developed markets finished up 6.5% and Emerging markets finished with a gain of 9.2%.  Bonds also finished in positive territory with a 0.5% gain.  Commodities were a weak spot in the third quarter.  After strong gains in the first six months of the year, the S&P GSCI Commodity Index gave back 4.2% over the summer and now sits at a gain of 5.3% for the year.

We continue to see rotation below the surface in a number of different asset classes.  This is nothing new, but we think the rotations we are seeing now have the potential to be very beneficial to our strategies.  In the U.S. equity markets there has been a momentum shift out of areas such as high dividend and low volatility stocks.  The relentless reach for yield drove many investors into stocks instead of bonds, and drove valuations to historically high levels.  The same valuation issues cropped up in low volatility stocks, which have been quite the hot ticket for the last year or so.  These are not the areas that usually lead a robust bull market.  Low Volatility, especially, tends to lead during down markets.  As a result, there was a lot of hand wringing about how solid the market actually was with that kind of leadership.  We felt the leadership we were seeing was more a result of investor’s preference for yield (and the lack of good fixed income options) rather than an indictment on the overall market.

The new leadership that appears to be emerging is what is traditionally considered positive for a strong bull market.  Small capitalization stocks have had spotty performance for a while, but they really picked up steam in the third quarter.  The Russell 2000 Total Return index finished with a gain of 9% moving it well ahead of the S&P 500 for the year.  Technology stocks also dramatically outperformed what could be considered the old leadership (Utilities, Consumer Staples, and Low Volatility) over the summer.  The relative improvement in these higher volatility areas shows investors are gaining more confidence in the market.  Confidence is an incredibly important piece of the puzzle for momentum strategies so we are looking at this new development very favorably.

The appetite for higher volatility investments is also increasing internationally.  As previously mentioned, Emerging markets had a fantastic third quarter.  Latin America has been the biggest driver of that performance so far this year.  For the past couple of years, international markets have not fared as well as our domestic markets.  That appears to be changing, and we are seeing increasing allocations to Emerging markets in those account styles that allocate internationally and globally.  The overall composition of those portfolios has changed dramatically over the course of the year.

As we head in to the final three months of the year it is impossible not to think about the upcoming election.  Frankly, it is nothing short of a circus sideshow at this point.  We fully understand the uncertainty people feel because neither candidate seems like a good choice.  That, however, is politics, and we are investing.  We encourage you not to get caught up in the headlines.  We do expect some volatility around election time, but we don’t think either candidate’s victory means doom or exuberance for the stock market.  It is incredibly difficult to forecast how politics will affect the market, and most so called experts get it wrong.  Keep your politics out of your investing plan and you will be much better off for it in the long run.  Never forget that there is always some reason not to invest, but the reality is that investing in stocks is a tremendous way to build wealth over time.

The final three months of the year should be interesting to say the least.  There are pieces falling in to place that lead us to believe our relative strength strategies can do quite well if these trends are sustainable.  If you have any questions about any of our strategies please give us a call at any time.

This information is from sources believed to be reliable, but no guarantee is made to its accuracy.  This should not be considered a solicitation to buy or sell any security.  Unless otherwise stated, performance numbers are not inclusive of dividends or fees.  Investors cannot invest directly in an Index.  Past performance is not indicative of future results.  Potential for profits is accompanied by possibility of loss.

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Q4 2016 PowerShares DWA Momentum ETFs

October 10, 2016

The PowerShares DWA Momentum Indexes are reconstituted on a quarterly basis.  These indexes are designed to evaluate their respective investment universes and build an index of stocks with superior relative strength characteristics.   This quarter’s allocations are shown below.

PDP: PowerShares DWA Momentum ETF

pdp

DWAS: PowerShares DWA Small Cap Momentum ETF

dwas

DWAQ: PowerShares DWA NASDAQ Momentum ETF

dwaq

PIZ: PowerShares DWA Developed Markets Momentum ETF

piz

PIE: PowerShares DWA Emerging Markets Momentum ETF

pie

Source: Dorsey Wright, MSCI, Standard & Poor’s, and NASDAQ, Allocations subject to change

We also apply this momentum-indexing methodology on a sector level:

sector-momentum

See www.powershares.com for more information.  

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

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Weekly RS Recap

October 10, 2016

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 (10/3/16 – 10/7/16) is as follows:

ranks-10-10-16

This example is presented for illustrative purposes only and does not represent a past or present recommendation.  The relative strength strategy is NOT a guarantee.  There may be times where all investments and strategies are unfavorable and depreciate in value.  The performance above is based on pure price returns, not inclusive of dividends, fees, or other expenses.  Past performance is not indicative of future results.  Potential for profits is accompanied by possibility of loss.

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Adapt or Die

October 4, 2016

The Economist recently pointed out just how much change there has been in the characteristics of the companies that make the list of the top ten market cap companies today versus 2006:

James Manyika, of the McKinsey Global Institute, points out that today’s superstar companies are big in different ways from their predecessors. In the old days companies with large revenues and global footprints almost always had lots of assets and employees. Some superstar companies, such as Walmart and Exxon, still do. But digital companies with huge market valuations and market shares typically have few assets. In 1990 the top three carmakers in Detroit between them had nominal revenues of $250 billion, a market capitalisation of $36 billion and 1.2m employees. In 2014 the top three companies in Silicon Valley had revenues of $247 billion and a market capitalisation of over $1 trillion but just 137,000 employees.

economist

Three of the companies that made the list in 2006 continue to make the list today (Exxon Mobil, General Electric, and Microsoft).  Here’s what I find most interesting about those companies that made the list at the end of 2006—their performance since that time has largely been dismal (with the exception of MSFT).

perf_economist

Microsoft was the only one of the ten to have performance that exceeded that of the S&P 500.  Six of the ten have actually had negative total returns since the end of 2006.  Anyone who thinks it is safe to go with the biggest, most well-known companies for their portfolio would have been unpleasantly surprised by the results.

There is wisdom in the old adage The only constant in life is change.  It’s true!  The markets exemplify this reality every day.  It is for this very reason that the relative strength tools you have at your fingertips with the Dorsey Wright Platform are so essential.  They provide a disciplined way to stay with the relatively strong stocks and seek to avoid the relatively weak stocks.

The relative strength strategy is NOT a guarantee.  There may be times where all investments and strategies are unfavorable and depreciate in value.  This example is presented for illustrative purposes only and does not represent a past recommendation.

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September SMA Performance Update

October 1, 2016

Detailed performance of our Systematic Relative Strength Portfolios is shown below.  International, Core, Aggressive, and Balanced added to their margins of outperformance for the year.  We continue to like what we see from a technical perspective with the broad U.S. equity market in a positive trend and above the range of the last couple of years.  We have also seen a strong pick-up in international equity performance—particularly in emerging markets.

sma-perf

To receive the brochure for these portfolios, please e-mail andyh@dorseymm.com or call 626-535-0630.  Click here to see the list of platforms where these separately managed accounts are currently available.

Total account performance shown is total return net of management fees for all Dorsey, Wright & Associates managed accounts, managed for each complete quarter for each objective, regardless of levels of fixed income and cash in each account.  Information is from sources believed to be reliable, but no guarantee is made to its accuracy.  This should not be considered a solicitation to buy or sell any security.  Past performance should not be considered indicative of future results.  The S&P 500 is a stock market index based on the market capitalizations of 500 leading companies publicly traded in the U.S. stock market, as defined by Standard & Poor’s.  The Barclays Aggregate Bond Index is a broad base index, maintained by Barclays Capital, and is used to represent investment grade bonds being traded in the United States.  The 60/40 benchmark is 60% S&P 500 Total Return Index and 40% Barclays Aggregate Bond Index.  The NASDAQ Global ex US Total Return Index is a stock market index that is designed to measure the equity market performance of markets outside of the United States and is maintained by Nasdaq.  The Dow Jones Moderate Portfolio Index is a global asset allocation benchmark.  60% of the benchmark is represented equally with nine Dow Jones equity indexes.  40% of the benchmark is represented with five Barclays Capital fixed income indexes. Each investor should carefully consider the investment objectives, risks and expenses of any Exchange-Traded Fund (“ETF”) prior to investing. Before investing in an ETF investors should obtain and carefully read the relevant prospectus and documents the issuer has filed with the SEC.  ETFs may result in the layering of fees as ETFs impose their own advisory and other fees.  To obtain more complete information about the product the documents are publicly available for free via EDGAR on the SEC website (http://www.sec.gov) There are risks inherent in international investments, which may make such investments unsuitable for certain clients. These include, for example, economic, political, currency exchange, rate fluctuations, and limited availability of information on international securities.

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