A Fair Example of Global ETF Relative Strength

Oct 20, 2010 in Backtest | Relative Strength

We showed a few examples of some very basic relative strength techniques at a recent investor event.

This example was meant to show a case of a relative strength strategy that easily could have been thought of as unbiased at any point in past 10 years -- or right now for that matter.

For simplicity, we have used the global regional ETFs and have simply covered the major parts of the 'developed world'.   We know that emerging markets have been excellent performers over the past 7-8 years -- as have selected other assets like Gold -- but we have intentionally left these out.   We wanted to show something that had some poor performing picks, a few good ones and therefore representative of someone who didn't pick ETFs particularly well but implemented a sound technique to stay with leaders and avoid large underperformers.

Importantly, we believe investors SHOULD decide first which ETFs they would like to be involved with and exclude those they have no interest in on a fundamental basis -- this is value-add to a basic, mechanical technique such as this.   

So for this example we use the World Index as a starting point and seek to just 'cover' the developed regions:

Current Approximate Weightings in Global Indexes are:

1) United States                 42.0%

2) Developed Europe         25.0%

3) Japan                              7.0%

4) Developed Pacific [1]       7.0%

5) Canada                          4.5%

***Emerging Markets       Excluded

[1] Developed Pacific is ~97% Australia/Hong Kong/Singapore and 3% 'other' (New Zealand etc..)

From an indexing perspective, Canada is always kind of the lonely child.   Canada is generally not included within a broader regional ETF -- and is not generally lumped with the United States for a North American ETF.   For conservatism here, I will exclude Canada and use the first 4 only.  These are logical regions in our view.   We get coverage of many different countries within this regional framework so this seems quite fair and hardly something that could not have been thought of many years ago -- or even today.

We will include the first 4 from above and SHY, a <2-year duration U.S. Treasury ETF which will act as a benchmark for positive returns.   If no region of the world is beating 2-year maturity short-term fixed-income -- then SHY will by default be thought to be the highest Relative Strength ETF.  

Here is the result using a 6-mo/3-mo 2-factor relative strength model with monthly re-balancing.

Note all historical results are purely hypothetical and meant to show the mechanics of the backtesting application.  This does not represent investment advice.

Symbol list here is:  SPY,EWJ,IEV,EPP,SHY


Follow us on Twitter:




Stock-Picking vs ETF Relative Strength

Jul 09, 2010 in Relative Strength


The issue with ‘value-add’ in investment management is complicated.  Strong performance by stock-pickers is in many cases due to implementation of a particular strategy (such as strongly overweighting ‘financials’ or ‘foreign stocks’). 

If a manager does a good job in finding good strategies such as ‘financials’ -- that is, financial stocks do well – then do we really care that much about the extra return on top of that of stock-picking?   Remember, stock-pickers who perform in one era don’t often repeat it – usually because their particular ‘strategy’ goes out of favor.  

If we pick 2 managers that have a core ‘financials strategy’ --- and the financials sector goes up 45% --- do we really care that one manager did +48% and the other did +42%?   Your allocation made a lot of money as you captured that 45% gain, on average.   But we could also just do the same thing buying a low-cost financial index ETF and get the same +45% index result and have zero risk of underperformance.  

Core ‘beta strategies’ like this can all be replicated with ETFs at very low cost.  If a portfolio manager or investment advisor is good at picking market segments (good at picking ETFs), then they should be paid a fee for capturing the return of a good idea -- even if they don’t outperform that segment.  An investment advisor that picks good ETFs is adding significant value.      

For a private investor, doing it yourself makes a lot of sense in a world of low-cost ETFs.  You will of course need good, well-structured data in order to make good investment decisions.  Everyone does  -- from high-end hedge fund managers to individual investors to professional investment advisors.   We provide users with good ‘institutional-grade’ analysis apps that focus on precise methods and techniques for helping you with specific, backtested entries and exits on timing investment STRATEGIES (ETFs).


Snapshot of an ETF Relative Strength Strategy Using Bond ETFs (Starting Point End of 2007 -- near inception date of JNK -- and INCLUDES the credit crisis that hit Junk Bonds in 2008). 



Follow us on Twitter:


Try the Relative Strength App It's free.



The IBD 100 is Essentially A Relative Strength Index

Jul 08, 2010 in Relative Strength


The Investors Business Daily (IBD) 100 is at its core a Relative Strength backtest of the IBD stock universe. Note that IBD's method is to also use its larger market BUY and SELL signals and these do not show up in the chart below.

If you use fixed-income ETFs in your ETFreplay.com screening/backtesting lists -- you effectively automate the 'Buy-Sell' signals by naturally rotating into the higher relative strength bond ETFs as stocks breakdown and bonds rally. We suggest using intermediate or short-term bond ETFs in your lists. Long-dated treasury ETFs can suffer from very high volatility -- and a key concept is to avoid highly volatile securities UNLESS they offer high expected returns. This is unlikely the case for most bond ETFs -- bond ETFs best attribute is their stability in times of turbulence.

Note also that while the IBD 100 is compared to the S&P 500 below, it does often own foreign stocks that trade on U.S. exchanges. While we cannot calculate the volatility of the IBD-100 since we don't have the data series, we suspect its volatility is far greater than the S&P 500. Remember that when volatility is HIGHER, you would EXPECT larger relative drawdowns.


This image captures the cumulative return of the IBD 100 index up through June 18, 2010 (note the massive drawdown in 2008).





ETF rotation made easier to view and analyze with new ETF App

Jun 13, 2010 in Relative Strength | Video

ETF rotation is the focus of this video -  showing how our portfolio ranks summary 'app' Portfolio Screener Ranks-- can be used as an easy way to visualize leadership in custom ETF lists created by the user.

This video shows this new functionality by using recent news involving Bill Gross of Pimco and how relative strength LEADS the news.


Follow us on Twitter:



ETF Relative Strength Update:

Jun 04, 2010 in Relative Strength

US equities had led all asset classes for many months headed into late April. When global volatility picked up on the problems in Europe, this caused global equity correlations to rise. Since rising volatility is a negative contributor to expected equity returns, we forecasted a move down in the relative strength rankings for US equities relative to bonds and gold.

We highlighted a move to gold that triggered in our Relative Strength Application at the end of April. Gold has already shown its worth as gold had a positive return in May of +3% (+1100 basis points vs S&P 500) despite possible deflationary conditions in the Eurozone.

Our ETF Screener models tell us how money is flowing and US Treasury bond ETFs continue to lead the ETF relative strength rankings and are attractive on pullbacks. Because long-duration treasuries are quite volatile and don’t offer much yield, we prefer the 3-10 year treasury maturities. The chance of a large drawdown with an average duration in the 5-7 year range is quite low because of the very structure of intermediate bonds. We can look at history as a guide on this and see that while there were very large drawdowns in long-dated treasuries during the 2009 bond-market correction, the mid-term treasuries were significantly safer. So while a continued ‘flight-to-safety’ trade benefits long-duration treasuries most, we think investors should always consider risk in relation to return. And so for risk reasons, our preference is for intermediate treasury ETFs (for example IEI, IEF, BND).

This is a common situation ETF investors should get used to --- where you can like an area of the marketplace but choose to simply avoid the highest volatility ETF’s within that segment in order to control portfolio risk and target Sharpe Ratio (risk-adjusted returns).

Controlling drawdowns is a significant aspect to money management and is a primary reason we created ETFreplay. The very first application we built was a portfolio management module in order to help investors understand volatility and that implication for drawdowns. Remember this basic rule: the higher the volatility, the higher the drawdown.

On the negative side of the ETF Screener models, global forces have continued to aggressively sell equities. As seen below, the broad FTSE All-World Ex-US ETF (VEU) has so far experienced an -18.8% high to low drawdown over the last 6 weeks.



Summary: risk budgeting is a very important aspect to portfolio management . For sophisticated investors, discussing return without the context of risk is meaningless. Our backtest portfolio app allows users to simulate risk budgets by entering ETF weightings and viewing various market segments (as represented in ETFs) relative to some common major benchmarks, whose properties are well understood.



Follow us on Twitter:




New Relative Strength Backtest 'App' Added To Site. Check it out.

Apr 26, 2010 in Backtest | Relative Strength

We have added an innovative new relative strength backtest application to the site.

Click Here: ETF Relative Strength Backtest App



For a video tutorial on this 'app' click here: Relative Strength Tutorial"

Follow us on Twitter:



Global Asset Class Rotation

Mar 30, 2010 in Backtest | Relative Strength | Screener

This is to highlight some specific thoughts on the important topic of global money flows and its implications for investors.   ETF’s have caused a major shift as they allow cheap ways to access new markets.  It is our belief that this innovation will cause the discussion to increasingly become ‘which MARKETS should I own?’ – and less about ‘which stocks should I own?’

Below are some performances of a few of the major ETFs over the past three years.  I am starting at a very high level here and then working towards my ultimate point of coming up with a process for interpreting global money flows.  (Note that all returns posted here make the proper dividend and distribution adjustments as total return is absolutely essential in any professional discussion of performance)

The point of this slide is to simply highlight that even if trading long-only, a well-executed high-level rotational strategy could have produced strong, consistent returns.

The next image highlights how a combination of 80% bonds and 20% emerging markets has performed over the past 3 years.  Most investors think myopically about returns.   The discussion of returns, without the context of risk, is meaningless to professional investors.  

Note how despite a massive volatility spike in the overall marketplace, the standard deviation of daily returns for our 80/20% portfolio was quite low.   This assumes no rebalancing.  Value could have easily been added over this return with a relatively simple re-balancing rule.

This brings us to the Sharpe Ratio. The important aspect the Sharpe Ratio framework brings is to factor in ‘drawdown potential.’   If you own securities with higher relative volatility, the high to low moves will be larger and cumulative negative returns become increasingly difficult to overcome.  By thinking in terms of a sharpe ratio rather than returns-only, you will inherently adjust for the ever-present possibility of drawdown.  You cannot fully know the risk that awaits -- but you can at least think in terms of reward/risk.

To make this practical and to keep this from becoming a dissertation, I will just simply show one way to de-compose the Sharpe Ratio into a multi-factor model that allocates toward the segments of the market that show strong combinations of high relative strength and lower relative volatility.  This model uses two timeframes to calculate return and one part volatility.   It is considered a statistical model, a subset of the APT framework – and can more easily be thought of as ‘risk-adjusted relative strength.’

Below is an image of the model as it stood on June 30, 2007.  I can 'roll back' the model to any historical date through the calendar control in the top right corner.  Global asset classes are color-coded for ease of understanding what is showing strong relative strength.  International equities and select US equity segments were leading the market on a risk-adjusted basis during the middle of 2007.  Though not shown in the image, you can go to the site and view what was lagging (hint: housing and financial segments).

Fast-forward 1-year through setting the calendar control to June 30, 2008.  At this point, the screen is dominated with fixed-income ETFs. One way to interpret this is that global money is flowing INTO bonds.  These kinds of shifts are likely not whipsaws as you might find with the US-based Sector SPDRs --- which can have violent rotations even within a secular bull move.

This was one example of a global asset flow shift.  I could run this ETF Screener 50 times, run the results through our Backtest ETFs page and then post all of those images here.  But to truly understand this, it is better to interact with the data yourself.   It takes time to understand complex financial relationships and it is nearly impossible to see this in just one-dimensional snapshots in time through some images.   Change the model inputs, vary the timeframes.  This tool is meant to enable users to interact with each other at a fundamentally higher (risk-adjusted) level of conversation.


Follow ETFreplay