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Peter F. Way, Blockdesk (716 clicks)
ETF investing, CFA, portfolio strategy, long/short equity
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How to know when an ETF is on sale? Engage a shopping consultant. On Wall Street, they're known as Market-Makers [MM].

Any good savings savant will tell you that the real values on the sale rack are the best quality items you can find. So look for the ones that have a high reward-to-risk ratio, not just a low price. And don't get fooled by fancy claims of what they were priced at some time ago compared to today's tags. (The "framing" deception.) You need to know what price the experts think the investment could be sold to someone else for in the future. Plus, the real test is to find out what actually happened in the market earlier when the pros had the same sense of proportions that they have today.

The neat thing is that we happen to have a rich Uncle that consorts with those pro people and watches them intently. He sees how they take care of themselves, whenever they might need to make an ETF buy. They're busy folks, and get right out into the traffic anytime they sense an opportunity to make money.

But, boy they don't like to get stuck with a bad buy. So they have some clever methods of seeing to it that it doesn't happen very often. Of course, the protections they use don't come for free. And that is how Uncle knows what they think, day after day, across a range of hundreds of ETFs. What they will pay for protection tells what they think can happen.

He's been doing it for years, so he has a junior library of how good they have been at guessing what each ETF might sell for in the next few months. Some ETFs, they don't understand very well, but others - they can make money on 7 out of 8, or 9 times out of 10, in only a few weeks or months. That is really good money, when you repeat it five or six times a year.

I'm told it all depends on what their big-money customers are likely to do, both buying and selling. Sometimes those "smaht" Ivy-Leaguers get a body part in a price wringer and have to get out of a bad holding before the next investment committee meeting, one that could mean the end of their jobs. Fear is how bargains get made.

Or the widespread Street stories pump up interest in an ETF at a lot of funds, and the buying stampede gets started. Fashion isn't just for the apparel trades. It all happens, and more money gets made in a couple of months' time than the buy-and-holder public earns in a couple of years.

Look, here are some pictures of the price range forecasts the market-makers had in mind, at the time those heavy-dot prices were being quoted. See how, when the price is low in the range, it often rises up past the high end of the forecast? And then when the price is up high in the range, it often comes back down near or past the low forecasts?

(click to enlarge) (used with permission)

It's exactly those round-trips that keep the buy-and-holding long-term speculators locked into single-digit annual rates of return. Instead, by actively shopping at the right times for bargain ETFs, they could be building their portfolio total values at strong double-digit annual rates, several times the single-digits.

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But is this investing, or just trading? Are the stocks or ETFs actually changing in their value while this is going on? Perhaps not. But would a skilled, professional investment analyst intentionally buy or recommend the one of two stocks with essentially identical prospects, just because it had a higher P/E ratio? How long would he keep his job or his clients if he did?

Price is always an essential part of the value equation. In investing, it becomes the principal part of the scorekeeping process. Judging what is likely to happen to an investment's future price should be as integral a part of the capital commitment decision as understanding what fundamental changes should justify future price changes.

A great deal of intellectual capital is regularly, and properly, spent on how those justifications may develop. But to try to improve the odds of the justifications being achieved by lengthening their time horizon of measurement, may often may make them counter-competitive with the more probable shorter-term estimates of human behavior.

Goals, when repeatedly achieved, justifiably have great credibility. Experienced investors know there will be mistakes of judgment made and losses taken in every portfolio. If it takes but two or three months to replace a loss with a win, that is one thing. If it takes two or three years, that is another. Maybe it is a task requiring the finding of a new source of capital for investment.

Here is an abbreviated shopping list from an examination of the behavioral analysis of some two dozen leveraged long ETFs. The summary lines tell of the best, worst, and average prior experiences in each of several dimensions relevant to an investor's capital commitment choice, allowing for personal preference differences.

Included in the analysis, along with those shown, were ProShares Ultra Silver ETF (AGQ), ProShares Ultra Dow 30 ETF (DDM), ProShares Ultra Oil & Gas ETF (DIG), Direxion Developed Markets Bull 3X Shares ETF (DZK), Direxion Daily Energy Bull 3x Shares ETF (ERX), Direxion Russell 1000 Financials Bullish 3X ETF (FAS), ProShares Ultra QQQ ETF (QLD), ProShares Ultra Technology ETF (ROM), Direxion Daily Semiconductor 3x Bull ETF (SOXL), ProShares Ultra S&P 500 ETF (SSO), Direxion Technology Bull 3X Shares ETF (TECL), ProShares UltraPro QQQ ETF (TQQQ), ProShares Ultra DJ-AIG Crude Oil ETF (UCO), and ProShares Ultra Gold ETF (UGL). Those shown in the table are typical of the extremes one might encounter on a determined shopping trip. There are things that shouldn't be touched with tongs, along with a number of usefully attractive alternatives, PLUS, maybe a prize that makes the whole hunt worthwhile.

See if the table has a prize for you.

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If we start off by looking for things that our shopping advisors, the MMs, think have big upside potentials, Direxion Daily Gold Miners Bull 3x Shares ETF (NUGT) jumps out. But it also has the biggest downside, in terms of bad prior experiences, even worse than the big upside. Its Range Index of 54 tells that more than half of the MM's forecast price range is below the current market, and the odds of making a profit buying this low-priced piece of junk on a forecast like today's have been only one out of five (21 out of 100). Losers making those buys parted with 23% of their capital, and spent an average of 53 market days out of a 3-month (63 day) limit trying to get even. No thanks; I should have known it wasn't worth the time to shop here.

Are there any other big-payoff potentials that may be real? How about Direxion Daily Emerging Markets Bull (EDC), a (3x) leveraged long ETF? There's been a fair amount of Street gab about how those markets are bound to be hurt by US consumers not buying like they used to. But the MMs see an upside of near 20%, with only 6% of their forecast range on the downside from here. What's happened in earlier forecasts like this one?

Well, every single one of them, 100 out of 100 has been profitable, averaging 31% gains. Bo-nanza! At holding periods averaging only 6-7 weeks (32 market days) that's an annual rate of over 750% if done 7 or 8 times a year. But wait! It's only been done 6 times in the past 4 years (1079 market days of 252 a year). Still, a +20% forecast when +30% gains have been averaged is pretty encouraging. It may work at least once more. Maybe try it on in the portfolio and see if it fits.

How about something that's not so risky? That ProShares Ultra 20-year US Treasuries ETF (UBT) is tagged with an upside of over +13% -- not bad for a bond fund. Its zero Range Index says they don't see any downside at this point. Past zero forecasts have had worst case draw-downs from cost of -8%, but they must have mostly recovered, since the average payoff has been zero as well. So maybe it's been safe in terms of capital, but with prior buys' average holding periods of 60 days out of a 63 maximum, it's safety that is darn expensive in time. More about the value of time here.

What else did we see this trip? Remember that Direxion Small-cap Bull (TNA), a (3x) leveraged long ETF that had an upside prospect of almost +10%? Its Range Index at 55 is no bargain, but 71 other forecasts in the past 4 years were winners, better than 9 times out of ten, with payoffs averaging +9%. And they had quick turn-arounds in little more than 4 weeks. That gave those buyers returns at a rate almost 200% a year, with many chances for repeats within a year.

Shopping can be exhausting, and we hardly paid any attention to the dozen-plus ETFs that were part of those averages in the table. But I think we've seen the better ones in the crowd. Right now may not be a particularly good time to find bargains, but we may have turned up a couple of interesting things, depending on what your portfolio may be looking for. Time to go home now and put your feet up.

Source: Shopping Secret For ETFs: Buy 'Em When They're On Sale