Dow Jones RBP Large-Cap 130/30 Index Strategy Is Working

The Dow Jones RBP 130/30 Index is formed using the universe of 750 stocks in the Dow Jones U.S. Large-Cap Index (formerly known as the Dow Jones Wilshire U.S. Large Cap Index). To construct the index, Dow Jones first adds to the Dow Jones U.S. Large-Cap Index hypothetical short positions for the 30% of stocks with the lowest RBP Probabilities. It then “doubles down” on high RBP Probabilities by using the hypothetical proceeds of this short sale to buy additional shares in the 30% of stocks with the highest RBP Probabilities.

The effect is double the exposure to the 30 stocks with the highest RBP Probabilities and zero exposure to the stocks with the lowest RBP Probabilities. Thus, the DJ RBP 130/30 will outperform the DJ U.S. Large-Cap to the extent that high RBP Probability stocks outperform low RBP Probability stocks.

Below is a year-to-date chart of the DJ RBP Large-Cap 130/30 Index versus its benchmark and universe, the DJ U.S. Large-Cap Index. Clearly the two are very highly correlated, however we can also can see that the 130/30 consistently performs slightly better than the benchmark and that the difference in performance between the two indexes grows steadily as time goes on. This is evidence that the RBP strategy is working – and that it has successfully identified, ex ante, those stocks in the universe with the best and worst performance potential. Year-to-date the DJ RBP Large-Cap 130/30 Index has returned 10.88%, while the universe from which it is drawn has returned only 3.80%.

While the 130/30 strategy employed by some hedge funds, mutual funds and ETFs are effectively leveraged due to their use of short selling, we can also see that the outperformance of the DJ RBP Large-Cap 130/30 is not due simply to leverage. The DJ RBP Large-Cap 130/30 outperforms both during declining markets (January through mid-March) as well as rising markets (mid-March to present). If the outperformance were due leverage, we would expect to have seen larger declines in the first part of the year as well as larger increases in the second part.

The chart is also striking in the way it suggests that superior returns can be attained using the RBP methodology while maintaining the same market exposure as the DJ U.S. Large Cap Index, which is a highly diversified collection of the largest companies in the country.