The ETF Sector model took a beating this week, but we weren’t alone. The 3.4% drop in the SPY was the largest one week drop going back to May 2012. Concerns about global deflation and the large drop in oil continues to weigh heavy on this market. The model issued the follow changes for Monday:
Sector: Sell FAS at the market on the open 12/15/2014
Sector: Buy TMF at the market on the open 12/15/2014
While TMF may be extended based on a short-term basis, the position change will leave us with a more defensive posture and give us better overall positioning should the markets continue to sell-off.
This Week’s Strategy Lesson: Trend Strength Indicator (Part 2)
Last week we talked about a little about how the Trend Strength Indicator works and how it can identify trends. The trend strength information is then fed into the ETF models to identify which ETFs we should hold and when to rotate in and out of positions.
This week we are going to walk through a case study from the sector model where we had two ETFs in a close sparring match to see which would hold onto one of our venerated portfolio positions.
Technology vs Real Estate
Entering 2014, the ETF Sector model was in technology (TECL). This position had a firm handle on one of our top three slots. Meanwhile, real estate (DRN) was languishing in the rankings with a negative TSI score.
However, a strong January and February performance from DRN and a more sideways move from TECL left the two ETFs with a very similar TSI score heading into March.
From there we had our first lead change. The built in “fudge factor” prevents position changes from simple small lead changes, but when the TSI scores diverge sufficiently, it will signal a change. March 6th, that divergence triggered a move out of TECL and in DRN. We closed out our TECL position on the 7th for an impressive 18% gain.
However, it would be a month of a couple position changes before one of the two ETFs would re-find a clear trend and go onto greatness.
Between March 7th and March 20th DRN and TECL crossed paths again just enough to trigger a position change. With any rules based system, there are times when the rules are tuned better to the current market conditions and times when they aren’t perfectly in-sync.
As we can see from the chart above, the two ETFs weren’t really able to find a trend and lead changes, while small, were just enough to trigger the position changes.
It is important to note that we have some of the benefit of hindsight to know that DRN would eventually take a decisive lead, however, we could not have known that in March. So we followed the model through this period of indecision knowing that if a true trend breakout would occur, the model will have us in the right position, eventually at least. On April 7th, we made a switch back into DRN that would prove the fateful move.
The chart above is the percent change performance of the two ETFs. During the March chop we ended up closing out of those trades with small losses in the neighborhood of 6%. But when DRN broke out of the congestion, we were in it and we went on to hold onto that trade for the next four months and saw it reach a 25% profit target.
There are few key “moving parts” in our ETF strategy. Each of these parts play a key role in determining our positions, position sizing, frequency of turnover, and ultimately our performance. Tops among this list of these moving parts is the TSI, and it is the major part it plays in determining which ETF we will hold next.
The Current Condition of the Model
TMF moved into the top three slots this week as markets sold off across the board, led by energy and oil, which coincidentally find themselves at the bottom of our ranking. Healthcare and Semiconductors, despite the selloff, remain highly ranked. The model issued the following changes for next Monday:
Sector: Sell FAS at the market on the open 12/15/2014
Sector: Buy TMF at the market on the open 12/15/2014
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