I read a discussion of securities analysis described in a paper titled “Random Walks: Reality or Myth” in the November 1967 issue of Financial Analysis Journal. According to the author, Robert Levy, his technique produced a 20% per year return over the 5-years covered in a simulation. It looked at hundreds of stocks and included complex Buy/Sell rules. I decided to adapt the method to rank 10 ETFs (11 including the S&P 500) and simplified it to select only the top ETF. Under the modified system, one would hold the highest ranked ETF until another replaced it at the top level. In short, this is a momentum methodology that looks at current price relative to past prices and picks a winner each day.
I examined the following ETFs:
-iShares Russell 2000-SmallCap (IWM);
-iShares Select Dividend (DVY);
-Industrial Select Sector SPDR ETF (XLI);
-Consumer Discret Sel Sect SPDR® ETF (XLY);
-Energy Select Sector SPDR ETF (XLE);
-Financial Select Sector SPDR ETF (XLF);
-iShares Nasdaq Biotechnology ETF (IBB);
-Health Care Select Sector SPDR® ETF (XLV);
-iShares U.S. Aerospace & Defense ETF (ITA);
-Technology Select Sector SPDR ETF (XLK)
-S&P 500 (SPY)
ETF PERFORMANCE (Assumes investing in the highest ranked ETF and rotating into the highest ranked ETF throughout the year.)
2016: +24%* vs S&P 500: +10% thru 30 Nov. with 18-Trades.
2015: +5%* vs S&P 500: -0.7% with 19-Trades.
2014: +28%* vs S&P 500: +11% with 4-Trades.
*I found a systemic error in my analysis. Corrected numbers are higher than previously reported. – 13 Feb 2017.
It would be nice to examine the technique for 30-years instead of 3, but it is too data intense (and too much work – my IT department is very lazy). I am reasonably convinced on the basis of the 3-year simulation.
13 February 2017
I have added the following ETFs: MATERIALS SELECT SECTOR ETF (XLB); UTILITIES SELECT SECTOR ETF (XLU); iShares Core MSCI EAFE (IEFA); and SCHWAB EMERGING MRKT ETF (SCHE) to the analysis. Additionally I have revised the Momentum system to make it more responsive and back-tested assuming one owned the 3-highest ranked ETFs rather than just the top ranked ETF. Preliminary Back-testing of a system based on owning the top 3-ETFs throughout the year follows:
*2016: 20% Gain (S&P 500 gain of +11%)
*2015: 4% Gain (S&P 500 loss of 1%)*2014: 14% Gain (S&P 500 gain of +11%)
* Revised 3/13/2017. Yes, the previous calculations were too good to be true. I made a rookie mistake. If one is using 3-ETFs, and comparing it to the S&P 500, the results of each of the 3-ETFs must be averaged, not simply added.
In practice, these returns may not be possible since it would involve a lot of trading. On the other hand, the Technology ETF (XLK) was the top ranked ETF at the start of 2016; simply buying and holding XLK would for all of 2016 have produced a 22% gain. Buying Financial ETF (XLK) in early October when it became a top-3 ranked ETF would have produced 17% gain thru the end of the year. The Utilities ETF (XLU) produced a 14% gain when it was ranked in the top-3 at the beginning of the year before dropping out of the top 3 in mid-March. In summary, while I don’t expect to make these extreme gains in the future, I think beating the S&P 500 is doable.
My plan: I will hold the 3 Top Ranked ETFs and rotate into
the 3 Top Ranked ETFs when the ranking changes. I plan to use the daily ETF
Momentum Bar Chart to limit trading to the top-3 ETFs to those that have a
clear advantage rather than following every change in top-3 guidance. I may at
times own the top 4-ETFs.
Here’s an example of the ETF Momentum Bar Chart:
The top ranked ETF (XLF in this example) will receive a 100%. The rest are then ranked based on their momentum relative to the leading ETF.
While momentum isn’t stock performance per se, momentum is closely related to stock performance. For example, over the last 6-months (Oct thru mid-February 2016), Financials (XLF) have outperformed the S&P 500 by nearly 20%.
In 2017 Technology (XLK) was ranked in the top 3 Momentum
Plays for 52% of all trading days in 2017 (if I counted correctly.) XLK was up
35% on the year while the S&P 500 was up 18%.
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