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Low Risk yet Reasonable Return Strategies Using Long Term Stock Market Timing Indicators

|Includes:iShares Intermediate Credit Bond ETF (CIU), CSJ, DBA, DBB, DBC, DBE, DBP, EEM, EFA, EWZ, FXB, FXC, FXE, FXF, FXI, FXY, GLD, GSG, HYG, IEF, IWM, IWN, IWO, IWP, IWR, IWS, JNK, LQD, MBB, MDY, PCY, SHY, SLV, SPY, TIP, TLT, UDN, UUP, WIP

What? Are you Madoff? These days, anything related to 'low risk' or 'steady' returns generates skepticism. It is very understandable and perfectly reasonable for investors to have such a feeling, given what have happened in the financial industries.

However, if an investor does follow sound and safe investment principles consistently and disciplinarily, yes, Virginia, there is a hope! In the following, we will show how one could achieve a 10% return in the past 9 years by simply incorporating Buffett or Shiller long term stock market timing indicators in your investing.

The idea is simply that, when the stock market is significantly undervalued, one should fully invest in the stock market; when the stock market is significantly overvalued, one should sell the stocks and fully invest in bonds using some fixed income strategies. The proxy to invest in stock market is Wilshire 500 total return index while the strategies for fixed income investment are Alpha Dynamics for Multi Sector Bonds. This strategy evaluates 32 multi-sector bond mutual funds every quarter based on their trailing one year’s Alphas and then select top 3 three funds for next quarter investment. The quarterly rebalancing frequency allows investors to avoid the short term redemption fee charged by brokerages or fund companies. It switches to Cash (13 week treasury bill) when none of the funds has positive 1 year alpha.

The following table illustrates the performances for the two portfolios from 12/31/2000 to 11/20/2009

  Annualized Return Standard Deviation Maximum Drawdown
Buffett Indicator based Bond as Cash 12.73% 1.21 11%
Shiller Indicator based Bond As Cash 10.38% 11.1% 20%
Wilshire 5000 Total Return -0.58% 22.2% 56.6%

A portfolio with much longer history (from 12/31/1990 to 11/20/2009) using Shiller’s metric and alpha based high yield bond fund quarterly switch strategy shows a similar result (9.75% annualized return).

The above are just some of examples to show that if one is patient enough and avoids the hype in a long term period, he/she will be rewarded with  low risk reasonable returns.

Disclosure: No Positions.

Stocks: CIU, CSJ, DBA, DBB, DBC, DBE, DBP, EEM, EFA, EWZ, FXB, FXC, FXE, FXF, FXI, FXY, GLD, GSG, HYG, IEF, IWM, IWN, IWO, IWP, IWR, IWS, JNK, LQD, MBB, MDY, PCY, SHY, SLV, SPY, TIP, TLT, UDN, UUP, WIP