This week there were no position changes in the Sector Plus model. Our current three positions are SOXL, ERX, and DRN. SOXL hit its final target and will be exited in the Stops&Targets model but that position will remain open in Basic model. To open next week, we will remain in those three ETFs.
The SPY closed the week down -0.63%. The ETF Sector Plus model had a good week ending up +1.15%. The ETF Sector Plus Strategy is up +34.71% year-to-date compared to its benchmark, the SPY, which is now up +5.11% year-to-date.
This Week’s Strategy Lesson: Proof of Concept
In the last two weeks we have rolled out an alternate way to trade both the ETF Sector Plus and ETF Country Plus models. We spent extensive time with a bottom-up approach evaluating the properties and characteristics of the historical data. We also took a top down approach coming up with goals and objectives that we wanted a stops and targets system to accomplish. Let’s go over some of the things we learned through this process.
Proof of Concept
At its core, the ETF Plus strategies are about the value of our trend strength indicator in finding higher probability longer term trading ideas. The ranking system and rules tell us generally what and when to get into and when to get out. The rest of our basic system was just trade and money management.
Trade and money management are extremely important, but the better your initial signals are, the more freedom you have in designing management rules around the signals. High frequency systems with very small edges need precise rules to allow the probabilities to play out in your favor. Whereas, lower frequency longer term trend trades can still be quite profitable under a variety of rule sets.
What we discovered from our investigations is that trade history is solid enough that there are many ways to profitably trade the ETF signals. Our “Basic” model is still the best one we have found for maximizing profits from the system, but we have enough room in the performance that we can have systems that prioritize different qualities.
Just as with a highly tuned sports car, you are not only interested in its top speed, but also how it handles turns or braking or its “drivability.” So to with trading, volatility and drawdowns are the traditional ways of seeing how a system handles instead of just looking at its red-line performance.
Properties of Targets
The target systems we designed each have three separate targets and we modeled them where you take off 1/3rd of your total initial position when you reach each target. This reduces the amount of profits you give back to the market when it pulls back from new highs, but it also reduces your market exposure if it continues to climb higher.
These types of targets will reduce the volatility of your equity. At times you will only have 2/3rd or 1/3rd of you initial exposure. This is apparent in the equity curve comparisons between the basic and the stops & targets versions of the models. The basic model tends to put in higher highs during run-ups and then put in lower lows on pull-backs relative to the stops & targets model.
Targets will also tend to reduce your overall profits from big market swings while increasing your overall profits from smaller moves. A lot depends on the particulars of each trade, though. A trade that goes up to your first or second targets and then immediately has a severe pullback will perform better with targets. To a certain extent, arriving at the right targets levels is a numbers game where you are trying to come up with broad levels that make sense most of the time.
Properties of Stops
Stops have similar effects as targets, reducing the volatility of your equity and maximum drawdown of your trades. To catch and stick with the broader trends, though, you really have to give your trades plenty of room. We took a very non-aggressive approach concerning our stops.
Many will view the 15% stop in the Sector Plus model and 10% stop in the Country Plus model as far more liberal than they are used to. And absorbing a loss like that never feels good. Fortunately, these stops were rarely hit and should be viewed more as an insurance policy than active mitigation of losses.
We also didn’t employ trailing stops. Some of this was due to the complexity of modeling and comparing multiple trailing stop scenarios, but a lot of it was due to the fact that we wanted to stick with trades as they went up and looking at the data, we knew a lot of trades were worth sticking with.
Personalized Trading Preferences
We are now supporting two trading styles with the ETF Plus models. We like the way both of them perform and give traders the flexibility to trade the model in different ways. But this doesn’t mean these are the only ways to trade it.
We are offering these two methods as proven ways to effectively trade the model, but that doesn’t mean there aren’t other effective ways. Maybe you prefer to use tighter stop and targets. Or just use stops and no targets, or vice-versa. Or any number of other styles. The right answer for you might be different than for another trader. Only you can decide what is right for your trading.
Live Webinar
Last Thursday we had an extended monthly webinar explaining in greater detail how to trade the new stops and targets model. We highly recommend that if you were unable to attend live, that you check out the recording of the event that will be made available on the website.
The Current Condition of the Model
For the Sector model, we remain in SOXL, ERX, and DRN. All three have been performing outstandingly, sitting on huge gains, though DRN has pulled back off its recent highs. TECL has moved into fourth place but is still lagging our top three positions in “Av Ret.” No position changes are imminent in the sector model but stay tuned to the daily updates should there be any changes.
Here is a summary of the weekly performance of all the ETFs that the strategy monitors:
Best wishes for your trading,
James Kimball
Trader & Analyst
MarketGauge