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Examination Of Momentum Vs. Tranche Investing Models

|Includes: iShares 1-3 Year Treasury Bond ETF (SHY), VEA, VTI

Two investing models that merit considerable attention are the Momentum and Tranche Models. Data tables of each are shown below. The portfolio in this example is made up of ten (10) ETFs plus SHY, the cutoff or circuit breaker ETF. The ten ETFs provide global diversification as they include U.S. Equities (NYSEARCA:VTI), Developed International Equities (NYSEARCA:VEA), Emerging Markets (NYSEARCA:VWO), U.S. REITs (NYSEARCA:VNQ), International REITs (NYSEARCA:RWX), Commodities (NYSE:DBC), Gold (NYSEARCA:GLD), International Bonds (NYSE:PCY), and two treasuries (TLT and TIP).

These 10 ETFs were selected long before either the Momentum or Tranche Models were back-tested. The Tranche Model is undergoing further testing as I write this blog post.

Portfolios are reviewed every 33 days. This period was select for four reasons.

  1. The review rotates the update throughout the month.
  2. We avoid the wash sale penalty.
  3. We avoid short-term trading fees for commission free ETFs.
  4. Whipsaws are reduced compared to what happens with daily reviews.

Each review the portfolio is balanced with the broker statement to make sure all the latest information is included in either the momentum or tranche model spreadsheets.

Momentum Model: The following table is the critical worksheet that comes from the Kipling 8.0 spreadsheet. ETFs are ranked based on three metrics. We look for performance over the past 87 and 145 calendar days. Then a 20% weight is applied to a volatility metric as we seek lower volatility. If readers want more details, they will be provided.

Equal percentages are invested in the top two ETFs that are outperforming SHY. Currently, no ETF is performing above SHY so 100% of the portfolio is invested in SHY or remains in a money market.

The momentum model is straight forward, provided one is using the Kipling 8.0 spreadsheet. Potential performance results can be found in the latter part of this Seeking Alpha article.

Tranche Model: Some investors are reluctant to concentrate their portfolio in only two ETFs and there is always the "luck" of the review date. To address these concerns, the Tranche Model is introduced. Back-testing is currently taking place to test this management model.

In the following table I set the number of portfolio offsets to 12, the maximum number permitted in the tranche spreadsheet. If this is set to one (1) the spreadsheet essentially reverts to the Kipling 8.0. The period between the offsets is set to two (2).

While the Tranche Model recommend the largest holding in SHY, past performance records also recommends holdings in VTI and VEA. These additional recommends is where the Tranche Model deviates from the Momentum Model.

I am currently testing the Tranche Model with five portfolios and am awaiting the results from the extensive back-testing now taking place.

Disclosure: I am/we are long SHY, VTI, VEA.