Bear Market Theme: S&P 500 vs. Energy Sector Strategy

A strategy that has been working very well for trading the S&P 500 since the beginning of our current bear market in late 2007 is playing the relative performance between the S&P 500 (SPY) and the energy sector (XLE).

The graph below shows a simple leader/laggard strategy (red) versus the S&P 500 buy & hold (blue) from 10/2007: go long the SPY at today’s close if XLE lagged the SPY today, and go short the SPY if XLE led.

[click to enlarge]

[logarithmically-scaled]

This strategy predicted 60% of days correctly with winners 1.2x larger than losers.

I call this a theme (implying that it’s temporary) because prior to the start of this bear market it didn’t provide any consistent edge. See graph below of the same strategy from 1999.

[click to enlarge]

[logarithmically-scaled]

The theme has been strong enough for the last year that I’ll be tracking it on the State of the Market report.