Buying N Day Lows

Buying the market at N-day lows and holding until a close above the N-day moving average can be a profitable approach. Take a look at the plot above. The plot shows the equity curve for buying SPY at 10 day lows. The method has a win rate of 81% with an average return of 0.8% per trade. There can be long painful waits for the market to rebound above the 10 day moving average as have occurred during recent market crashes. However, this approach appears to be a solid performer and may be suitable to form a portion of a mechanical trading system.

Just Do It

The only way to become confident about your trading is to trade.

The heart of karate is real fighting.
There can be no proof without real fighting.
Without proof there is no trust.
Without trust there is no respect.
This is a definition in the world of Martial Arts.
-- Sosai Mas Oyama

The 3x2 System and the Crash System

The '3x2 System' experienced a major setback during the market crash. It began to recover in October, but has since experienced further adversity. (See the plot above.)



The 'QQQQCrash System' also experienced major problems during the market crash, but has since made a substantial recovery. (See the plot immediately above.) Also note that the Crash system has a greater tendency for more variability in its equity curve.

Conclusion: Active trading can be very powerful, but it is probably best to diversify your methods and markets traded.

International Perspective

The big winner of the past month was Indonesia (IF) which was up 38%. (The image above shows the price change for the past month for various international ETFs.) Among the BRIC countries, China (FXI) did well while Brazil (EWZ), Russia (RSX), and India (IFN) lagged. Russia (RSX) continued in last place with a one month return of -4%. The US market (SPY) was in the bottom third of the selected markets. There is still some value in diversification. (See my post from October.)

Short Term Correlations - Still High

The 20 day rolling correlations of various asset classes to SPY have remained near recent market crash levels. Foreign stocks (EFA) and commodities (DBC) have not yet cycled back into the range of the prior couple of years. (See plots above.) Is there any hope for a sustained stock market rally with correlations between asset classes remaining higher than usual?

The correlation of the SPY to VIX has recently become less negative. It is at levels not seen since early 2008. (See plot above.) Is the panic beginning to fade? Can the market sustain a range bound trade without another crash?

Who Is John Galt?

Then it was said that large, established railroad systems were esential to the public welfare; and that the collapse of one of them would be a national catastrophe; and that if one such system had happened to sustain a crushing loss in a public-spirited attempt to contribute to international good will, it was entitled to public support to help it survive the blow.

Alternate Asset Classes

Managed futures (RYMFX) and gold (GLD) are the exceptions among alternative asset classes in that they have a positive return over the past year. Most alternative asset classes have collapsed with the stock market. Merger arbitrage (MERFX) has experienced a modest loss while long-only commodities (DBC), S&P 500 buy write (BEP), and carry trade (DBV) have generated large losses.

When the gales of November came early

The market move up from the November lows has been impressive. The market has held up well in the face of bad news in the past week. The Thanksgiving trade is doing very well and the seasonality remains strong into mid-January.

Volatility remains high. Can the market continue to rally into the end of the year? Into January? Bigger picture, will the various bailouts allow us to avoid a major deflationary collapse? Even if that can be avoided, will there then be an inflationary collapse?

Can we make it safely to Whitefish Bay...

The ship and the wreck is described here. The Gordon Lightfoot song MP3 can be downloaded here. The song lyrics are here.

Update: Asset Class Rotation

My September and August 'Asset Class Rotation' posts described a simple rotation scheme that buys the top 3 of 5 asset classes each month. The asset classes used were US Stocks, foreign stocks, US REITS, US Bonds, and commodities. The October/November market crash has taken its toll on the equity curve (shown above). However, the rotation scheme did reduce the amount lost. Should any asset allocation scheme include a method to reduce exposure and then increase exposure later?

Update: Dividend Aristocrats

The Dividend Aristocrats have continued to perform better than SPY since late September. (See the plot above.) Will Low Beta/Low R-Squared stocks continue to increase their advantage over the market?

Memento Mori

Time grows short...

Like many people (unless you are very young), I have lost too much in my long term accounts during the market crash. Asset allocation works very well under more usual circumstances, but does not help during a crash. Action must be taken at some predetermined trigger point. The action may be establishing a hedge or just reducing exposure by selling positions. Consolidating assets into fewer accounts should help make the need for action even more obvious.

The current Scientific American Mind contains an interesting article on procrastination and how to avoid making it a habit.

Is resveratrol the key to aging? Is it a part of 'The Horizon'? (ref. Rambaldi) <o>

Update: Simple Mechanical System

The simple mechanical system I described back in August has avoided disaster during the recent market crash. Take a look at the equity curve above. The system trades IWM and produces similar results for the both the long and short sides. Coupled with a reasonable position sizing/risk management approach, the method might be usable as a base for an automated trading approach.

Update: Half Pair Trading

The Half Pair/Unilateral Pairs trading concept continued to do well during the recent market crash. IWM trading based on the IWM/SPY ratio managed to be on the right side of the market during the crash. The equity curve plot and the current plot of the IWM/SPY ratio (red) are included above. The ratio plot includes the moving average of the ratio (green) and the number of standard deviations the ratio is above or below the moving average (purple).

This concept still seems to be very powerful. The only problem is to find a number of pairs that are working in the current environment.

Thanksgiving Trade

I am a bit late posting about the Thanksgiving trade which buys the market the week prior to Thanksgiving and exits the market in the third week of January. (This may have been fortuitous as entering on November 19 would currently put the trade 2.5% under water.)

Over the last 20 years, the trade has been a winner 80% of the time with an average return of 2.6% per trade. The standard deviation was 4% and the win/loss ratio was 1.5. A chart of the equity curve and a bar chart of the return for each of the last 20 years is included above. The method has been reliable with only small losers with the notable exception of 2007 where the trade lost 7.2%. 2003 was a recent big winner returning 9.1%. In light of the devastating market plunge the past two months, can we dare to hope for a year end rally?

Time for a Maverick Move?

First the October crash and snap back rally. Then the November crash to new lows. The various government bailouts are not helping and major bankruptcies are looming in the near future. Volatility remains extremely high and nothing except treasuries are working on the long side. Is it time for a maverick move? Are we so doomed that it is time to buy (at least for a trade)? Or, are we in such a precarious position that the real cascade down is about to begin?

3x2 Method Crash

The 3x2 method succumbed to the October crash. The method had been doing extremely well into late September having moved back to near the prior equity high. A good illustration of the lesson that any method needs a risk control overlay that reduces exposure as market volatility becomes extreme.

Consumerism Dead?

There has been a BIG drop in retail sales. Circuit City has filed for bankruptcy protection. Best Buy has cut its earnings forecast amid the 'most difficult climate' in its history. Citigroup has announced massive layoffs and an increase in credit card interest rates. Will consumer behavior be changed over the long term? If there is such a change, is there any hope for the economy and the stock market? A substantial portion of the economy is based on morons continuing to buy over priced junk.

Copper

Copper prices may be trying to stabilize. If copper can start to go back up, perhaps we will begin to see the early stages of a stock market recovery.

Used Vehicle Prices Falling

The Manheim Used Vehicle Value Index took a big hit in October. We have not yet reached the lows seen in early 2003. A continued rapid drop will eventually lead to a reversal which will an early indication of increasing consumer sentiment.

Green Acres

Are the agricultural commodities (DBA) a buy after the commodities collapse? DBA contains equal parts corn, wheat, soybeans, and sugar. DBA seems to be attempting to stabilize over the last few weeks. The October 24th edition of the Commitment of Traders Report shows the commercials at a 12 month high for corn, wheat, and soybean contracts. There should eventually be renewed interest in these commodities. Aren't some ethanol producers still in business?

Short Term Correlations

The short term correlation between the SP-500 (SPY) and long term treasuries (TLT) has moved back up toward the top of its recent range. We may be near an inflection point. Will money move back into treasuries or continue to move into stocks? (The plots show the 20 day rolling correlation of the two indicated assets.)


The correlation between the SP-500 (SPY) and treasury inflation protected bonds (TIP) has continued to increase toward zero as the TIP price has plunged. Is this a TIP buying opportunity? The correlation has not been this close to zero since October 2007 where TIP rallied.


The correlation between the SP-500 (SPY) and commodities (DBC) has gone unusually positive from an unusually negative level back in July. Is this a big picture buy signal for DBC as it is usually not so highly correlated to the stock market? If the stock market continues to rally can commodities stabilize?


The correlation between the SP-500 (SPY) and gold (GLD) has recently spiked toward zero. Can gold move to back to a significant negative correlation if the stock market pulls back from here?

Alternate Asset Classes

There are very few alternate asset classes that have worked over the past year. Total return/hedged equity funds (HSGFX) are down moderately over the past year. Risk arbitrage funds (MERFX, ARBFX) are also down moderately. Long only commodity funds (DBC) soared into mid-year, but have since collapsed. The carry trade (DBV) went from modest losses at mid-year to big losses recently. One thing which seems to be working is managed futures (RYMFX). Take a look at the chart above to see a comparison of the mentioned funds over the past year.

Diversification

The recent market doom makes diversification difficult as all of the various asset classes have tended to become highly correlated. Perhaps expanding into wagering on thoroughbred racing is a way to go. The data analysis task is very similar to stock trading analysis and the outcome of the races should not be correlated at all to the stock market. Wagering also has the advantage that it is not influenced by news or political actions. It is just a matter of acquiring data and finding a place to wager over the Internet.

International Intrigue

For the past month there was a large spread between the best and worst performing international market The Malaysian stock market (EWM) has outperformed the other 27 markets in the list above. Russia (RSX) comes in last as it did last month. In my post one month ago, we saw Russia (RSX) and Brazil (EWZ) at the bottom of the list and they have have maintained their poor performance through the following month. Spain (EWP) and Switzerland (EWL) were at the top of the list last month and have maintained their positions toward the top of the list in the most recent month. I will have to do some testing to see if there is reasonable potential rotating into the top few markets each period. (And, perhaps shorting the bottom few markets.)

Knock Out!

Knock out! The market is down!

Light At the End of the Tunnel?

There was a monster stock rally today (11%) and the VIX actually pulled back from 70 to 55! Can we see the light at the end of the tunnel or is it just an approaching train? Taking a look at the Dow-Jones Industrials, what has happened after a single day rally of 7% or more? The table above summarizes the results for the close one, two, five, and ten days after purchase. There does not seem to be any real bias up or down over the periods examined. The two day hold returns an average of 1.56%, but it is not quite statistically significant. The variability of the results is high and there have been very good and very bad results in the past. Be careful out there.

A New Hope?

Is there any hope for the market? The Friday late day rally off of the lows was encouraging. Several areas such as small capitalization stocks (IWM +5%), REITs (ICF +11%), and financials (XLF +10%) did very well. However, the VIX closed at 70 up another 9% on the day. Can a rally survive more than a few hours without a substantial decrease in volatility?

Fear Factor

The stock market crash continues and the fear grows. The VIX is now over 60 and has not been this high since the crash of 1987. See the charts above. There does not appear to be any rally potential until the volatility begins to decrease. Conditions are treacherous and there are few (if any) examples of similar situations.

This could be a major long term buying opportunity. Which is your greatest fear? Not preparing a plan to take advantage of the opportunity, or losing additional money?

Market in Flames - T2108

The TeleChart T2108 indicator is now at the lowest level since the period around the October 1987 crash. T2108 is the percent of stocks above their 40 day moving average. We are at a value 4.06 this evening. The lowest value was 0.47 on October 20, 1987. See the plots above. Prior T2108 posts here and here.

Time for a Trip to the Junkyard?

The credit crisis has hit bond funds hard. Even investment grade corporates (LQD) have spiked lower in the last few weeks. LQD is yielding 5.5% and is selling at a small discount to NAV. Junk bonds (COY, CYE) are yielding 14-15% and are selling at a 20% discount to NAV. (See the chart above.)



The COY/LQD ratio is below the level of six years ago. (See the red line on the chart above.) Are we approaching the time to begin buying junk bond funds? The junk bond funds have a higher correlation to the stock market than to the investment grade bond market. When the markets begin to stabilize, junk bonds will greatly out perform the investment grade bonds. Note the move up in COY/LQD from 2002-2003 in the chart above. Is a yield of 15% and a discount of 20% enough compensation for the risk of beginning to buy now? Or, is the better course to begin buying the investment grade bonds?