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After my series on portfolio protection by sectors (click here for the conclusion), a reader asked if there was a clue that my timing indicator was a good one. This article compares three market-timing indicators: a technical one ("Golden Cross"), a fundamental one ("EPS Estimate"), and a macro-economic one ("Unemployment").

Here are the definitions of the signals:

  • "Golden Cross" is bullish when the 50-day simple moving average of SPY is above, or equal to, its 200-day simple moving average. Else, it is bearish.
  • "EPS Estimate" is bullish when the S&P 500 current year EPS estimate is above, or equal to, its value three months ago. Else, it is bearish.
  • "Unemployment" is bullish when the U.S. unemployment rate is below, or equal to, its value three months ago. Else, it is bearish.

The first table shows the results of a long position in SPY when, and only when, the indicators are bullish last 15 years (1/2/1999 - 1/17/2014):

Timing Indicator

Tot.Return

Ann.Ret.

Drawdown

Volatility

Buy and Hold

95.46%

4.6%

-55.4%

23.8%

Golden Cross

223.5%

8.1%

-17.0%

14.1%

Unemployment

257.5%

8.84%

-27.2%

15.2%

EPS Estimate

273.2%

9.2%

-20.2%

14.6%

The second table shows the results of holding the short S&P500 ETF SH when, and only when, the indicators are bearish. It is more relevant when using the indicators to hedge instead of going out of the market.

Timing Indicator

Tot.Return

Ann.Ret.

Drawdown

Volatility

Death Cross

19.6%

1.2%

-47.0%

32.7%

Unemployment

60.8%

3.2%

-45.5%

29.3%

EPS Estimate

32.9%

1.9%

-41.4%

32.3%

Readers who want to verify my numbers or check the current values can find instructions here, then ask me in private message the code of indicators. I will be happy to give it for free.

Similar results can be obtained with other pairs of ETFs for major stock indexes: DIA/DOG for the Dow Jones, IWM/RWM for the Russell 2000, QQQ/PSQ for the Nasdaq 100.

Conclusion:

The main advantage of market-timing is not improving the return, but cutting drawdowns and volatility. The fundamental indicator was the best over the last 15 years for simple market-timing, whereas the macro-economic one was better for timed-hedging. However, it is a relatively short period of time, and results are close: I won't conclude that one indicator is definitively better that others. Compared with "buy-and-hold", any of these indicators has done a good job in reducing risks.

Source: Market Timing: 3 Indicators That Work