Category: Ratio

Using SPY as a regime switch

A question that we receive with some regularity is "can I run a backtest that changes strategy based on whether SPY is above or below its 200-day Moving Average?"

The answer is yes. We have a group of backtests that switch between strategies depending on the prevailing regime.  These regime backtests build up on the logic of the Ratio MA backtest and come in 2 varieties:

With these two backtests, when the ratio is above its MA the backtest runs the Regime 1 portfolio / RS strategy (i.e. Risk On).  Conversely, when the ratio is below its MA, the Regime 2 (Risk Off) portfolio is chosen.

If, rather than using a ratio, you want to switch strategy based on whether or not SPY alone is above / below its 200-day MA,  then you can use XZERO as the Regime 2 security.

XZERO is simply a zero return index (i.e. it's a constant), so an MA of the ratio SPY / XZERO is the same as a moving average of SPY itself (see the Parameter Summary comparison at the bottom of this post).

 

Regime RS backtest that uses the SPY 200-day MA to determine the regime

Note:  Moving Averages on ETFreplay are calculated using Total Return.  i.e. the calculation does not just use closing prices but also accounts for the receipt and reinvestment of any dividends and distributions.  The MA is then compared to the Total Return value of the ETF, so that it's like-vs-like; everything is Total Return, not just price.

See:

 

SPY MA Parameter Summary on the left. SPY / XZERO Ratio MA Parameter Summary on the right. The backtest returns are the same.

Instructional video on how to use the Parameter Summary functionality for ETF Backtesting

Instructional video on how to use the Parameter Summary functionality.  #STUDY

to expand video on screen, click the '4 expanding arrows' icon in the bottom right corner of the video screen. Use the settings icon to change to 1080 quality if it seems at all blurry

MA, Ratio & Channel Parameter Summaries

We have added three new Parameter Summaries to the website:

As with the Relative Strength and TRD summaries that we introduced in July, each of the above can be accessed from their respective backtests.


Set the min, max and step / increment for each parameter, then click 'Run Backtests' and the tabulated results will be displayed:


Parameter Summaries are available to all (regular and pro) annual subscribers.


**  studying the guidelines that we published within the orginal Parameter Summaries announcement is highly recommended  **

Uptrending Ratio Indicates Relative Strength ETF - Backtests QUANTIFY It

An uptrend is a series of higher highs and higher lows.   Using a ratio between 2 securities shows which is relatively stronger.   A Relative Strength analysis can quantify which security within a list of MORE THAN 2 securities is strongest.  

So let's look at one current situation.    Emerging markets have shown good relative strength on shorter-term basis.  If this continues then a higher low and higher highs situation could develop (vs SP 500).   That said, SPY has continued to be strong -- both Emerging markets AND US Stocks have been strong this year.   It actually hasn't mattered which you've owned --- so even if you were wrong on thinking a ratio would go up/down, you still made good money either way.    This won't always be the case though.

 

 

Using Market Generated Information For Market Structure: Financial Stock ETFs

Last month we did a blog post on using high-yield bonds as a key indicator.   This month we continue with a focus of using financial stock ETFs as a second indicator.

Many people seem to want to try to simplify everything down to one variable -- often something like a P/E ratio or a moving average.   We think investors should look at a range of important indicators and then take a weight-of-the-evidence approach.   Indeed, we built ETFreplay.com so that you can easily run and update a list of strategies AND do this on a continuous basis and thereby stay in tune with the overall structure of the market.

There is no better information than that which the market itself generates.  A good market participant will learn to read what the market structure is telling you by analyzing its intermarket relationsihps.

Financial companies have business models that make our economy go.  From mortgages and credit cards for individuals to bank loans and payment services for corporations, financial companies are absolutely vital indicators on overall conditions and this is why these companies are regulated closely by government agencies.

It makes sense that when financial stocks are doing well, how bad can the market environment be??   Look back at past recessions and you will see very poor performance of financial stocks.

The backtest below is meant as an INDICATOR -- not a strategy to implement per se.

When financial stocks are beating a known risk-off stable segment like US Consumer Staples,   we will bring our portfolio Beta up above 1.00 by adding a 25% position in SSO  (the 2x S&P 500 ETF).

When financial stocks are underperforming, we will split our holdings into 50% SPY and 50% TLT.   This is the 'risk-off' portfolio.    (Note that in this example -- no matter which regime is in play, the portfolio will hold at LEAST 50% SPY -- think of that as the 'core' portfolio and the other 50% as the 'satellite').

Here are the results.   Make sure to dive-in and immerse yourself in this topic.  Alter the time periods incrementally.   Alter the risk-on risk-off portfolios.   Study sub-period backtests.   What are the good aspects to this backtest?   What are the possible limitations?  

 

12