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Relative Strength Investing Trends: June 2019

This monthly Nasdaq Dorsey Wright update is devoted to information and portfolio strategies for the high relative strength asset class.

What’s Hot…and Not

How different investments have done over the past 12 months, 6 months, and 1 month.  As of 6/24/19:

Past performance is not indicative of future results.

Never before has it been easier for investors to invest in the strongest trends wherever they might be found in the world.  Relative strength offers a disciplined framework for allocating among those trends.  Markets are global and your portfolio should be too.

See disclosures in Appendix A, which includes the ETFs and Indexes used for this performance table.Performance numbers include dividends but do not include all transaction costs. Investors cannot invest directly in an index. Indexes have no fees. Past performance is not indicative of future results. Potential for profits is accompanied by possibility of loss.   

High RS Asset Class

High RS stocks, as an asset class, can move independently of broad indexes.  As of 6/24/19:

See disclosures in Appendix A.

Fund Flows

Total estimated inflows to long-term mutual funds and net exchange traded fund (ETF) issuance collected by The Investment Company Institute.

See disclosures in Appendix A.

Sector and Capitalization Performance

Past performance is not indicative of future results.

See disclosures in Appendix A.

High RS Diffusion Index

As of 6/24/19:

The 10-day moving average of this index is 84% and the one-day reading is 85%.

See disclosures in Appendix A.

Relative Strength Spread

The chart below is the spread between the relative strength leaders and relative strength laggards (universe of mid and large cap stocks).  When the chart is rising, relative strength leaders are performing better than relative strength laggards.  As of 6/24/19:

The RS Spread has risen sharply in recent weeks, reflecting the outperformance of RS leaders compared to RS laggards.  A rising RS Spread tends to reflect a good environment for relative strength strategies.

See disclosures in Appendix A. 

Capital Markets Expectations: “What If We’re Wrong?”

Bob Dannhauser, CFA®, FRM, CAIA® recently provided a great summary of the dilemma facing advisors today---and everyday---as it relates to what assumptions are made about future returns (Investments & Wealth Monitor, May/June 2019):

Take, for example, capital markets expectations, the heart of many portfolio strategies.  Rare is the client who won’t ask about the advisor’s outlook for the markets.  Slightly less rare these days is the advisor who is willing to concede to not really knowing where any particular slice of the market is likely to end up over the short or medium term, as a welcome culture of candor has begun to take hold in the industry.  But expectations of market performance and volatility still form the basis of strategic asset allocation decisions.  Expected returns, volatility of returns, and correlations of performance with other market sectors set the framework to calibrate portfolio expected risk and return. 

But what if we’re wrong?  If we predict 10-year U.S. equity nominal performance of 6 percent annualized and end the year with actual performance of -4.75 percent, were we wrong?  Many clients will suspect that we were, perhaps even after we remind them of the longer-term nature of our original prediction.  Perhaps we should take the lead of a prominent asset manager that suggests, “Given the complex risk-reward trade-offs involved, we advise clients to rely on judgement as well as quantitative optimization approaches in setting strategic allocations to all of these asset classes and strategies.”

Put in more client-friendly language, that might translate to, “I read the reports, looked at the data, and held my finger up in the air---and came up with an allocation.”

…Arguing the theory of market expectations might enthrall academia, but meanwhile, on the front lines of practice, we have a dilemma.  Perhaps we confess that all the data in the world can’t predict what markets will do and that our professional judgement is the thumb on the scale that will determine our strategy.  Or perhaps we argue that we’ve gathered better, more, or different data than anyone else, which justifies confidence in our outlooks.  Or we fall back on the emphasizing to clients the long-term horizon that can mask poor short-term predications, whit the added convenience that it takes an equally long time to fairly evaluate if our long-term expectations were sound.  We remember, however, that the client was unimpressed with the gap between our 6-percent long-term annualized prediction and the year’s actual -4.75-percent return, so we wonder if we’ll be retained long enough for that long-term evaluation.

If long-term averages are used as the basis for predicting future asset class returns, one can understand why an advisor may lack confidence when coming up with a forecast for the next decade.  As shown in the table below, asset class returns have varied greatly from their long-term averages.

Source: FactSet.  All returns are inclusive of dividends and interest, but do not include transaction costs.  Investors cannot invest directly in an index.  Indexes have no fees.  Past performance is not indicative of future results.  Potential for profits is accompanied by possibility of loss.

I concur with Dannhauser that it is a good thing that “a welcome culture of candor has begun to take hold in the industry.”  After all, why try to fool people---nobody can predict the future.  However, what is not discussed in Dannhauser’s article, is why this inherent uncertainty about future returns is actually a strong argument for a trend following approach to asset allocation (at least for some portion of the overall asset allocation).  A trend following approach to asset allocation spends no time trying to come up with a better forecast.  Rather, a trend following approach to asset allocation focuses on making sure that there is a process in place to thoroughly evaluate a given investment universe, rank that universe by the strength of the trends, and allocate accordingly.

To read our white papers on the top of trend following, please click here.

The relative strength strategy is NOT a guarantee.  There may be times where all investments and strategies are unfavorable and depreciate in value.  Past performance is not indicative of future results.  Potential for profits is accompanied by possibility of loss.  The information contained herein has been prepared without regard to any particular investor’s investment objectives, financial situation, and needs. Accordingly, investors should not act on any recommendation (express or implied) or information in this material without obtaining specific advice from their financial advisors and should not rely on information herein as the primary basis for their investment decisions. Information contained herein is based on data obtained from recognized statistical services, issuer reports or communications, or other sources believed to be reliable (“information providers”). However, such information has not been verified by Dorsey, Wright & Associates, LLC (DWA) or the information provider and DWA and the information providers make no representations or warranties or take any responsibility as to the accuracy or completeness of any recommendation or information contained herein. DWA and the information provider accept no liability to the recipient whatsoever whether in contract, in tort, for negligence, or otherwise for any direct, indirect, consequential, or special loss of any kind arising out of the use of this document or its contents or of the recipient relying on any such recommendation or information (except insofar as any statutory liability cannot be excluded). Any statements nonfactual in nature constitute only current opinions, which are subject to change without notice. Neither the information nor any opinion expressed shall constitute an offer to sell or a solicitation or an offer to buy any securities, commodities or exchange traded products. This document does not purport to be complete description of the securities or commodities, markets or developments to which reference is made. You should consider this strategy’s investment objectives, risks, charges and expenses before investing. The examples and information presented do not take into consideration commissions, tax implications, or other transaction costs.

Media Center

Invesco DWA Momentum ETFs

Arrow DWA Funds and ETFs

First Trust DWA UITs and ETFs

AdvisorShares

Virtus Investment Partners

Dorsey Wright SMAs and UMAs

Dorsey Wright White Papers

Other Relative Strength Sources

Brush, John S. "Eight Relative Strength Models Compared." Journal of Portfolio Management (1986).

Berger, Israel, Moskowitz. "The Case for Momentum Investing." AQR Capital Management. 2009.

Jegadeesh and Titman. "Returns to Buying Winners and Selling Losers." Journal of Finance (1993). 

O'Shaughnessy, James P. What Works on Wall Street. McGraw Hill, 1997.

Appendix A

The information contained herein has been prepared without regard to any particular investor’s investment objectives, financial situation, and needs. Accordingly, investors should not act on any recommendation (express or implied) or information in this material without obtaining specific advice from their financial advisors and should not rely on information herein as the primary basis for their investment decisions. Information contained herein is based on data obtained from recognized statistical services, issuer reports or communications, or other sources believed to be reliable (“information providers”). However, such information has not been verified by Dorsey, Wright & Associates, LLC (DWA) or the information provider and DWA and the information providers make no representations or warranties or take any responsibility as to the accuracy or completeness of any recommendation or information contained herein. DWA and the information provider accept no liability to the recipient whatsoever whether in contract, in tort, for negligence, or otherwise for any direct, indirect, consequential, or special loss of any kind arising out of the use of this document or its contents or of the recipient relying on any such recommendation or information (except insofar as any statutory liability cannot be excluded). Any statements nonfactual in nature constitute only current opinions, which are subject to change without notice. Neither the information nor any opinion expressed shall constitute an offer to sell or a solicitation or an offer to buy any securities, commodities or exchange traded products. This document does not purport to be complete description of the securities or commodities, markets or developments to which reference is made. Past performance is not indicative of future results. Potential for profits is accompanied by possibility of loss. You should consider this strategy’s investment objectives, risks, charges and expenses before investing. The examples and information presented do not take into consideration commissions, tax implications, or other transaction costs.  Each investor should carefully consider the investment objectives, risks and expenses of any Exchange-Traded Fund (“ETF”) prior to investing.  Before investing in an ETF investors should obtain and carefully read the relevant prospectus and documents the issuer has filed with the SEC.  ETF’s may result in the layering of fees as ETF’s impose their own advisory and other fees.  To obtain more complete information about the product the documents are publicly available for free via EDGAR on the SEC website (http://www.sec.gov).

The returns shown in the Sector and Capitalization Snapshot are price returns only.

1PowerShares DB Gold, 2MSCI Emerging Markets Index, 3DJ U.S. Real Estate Index, 4S&P Europe 350 Index, 5Green Haven Continuous Commodity Index, 6iBoxx High Yield Corporate Bond Fund, 7JP Morgan Emerging Markets Bond Fund, 8PowerShares DB US Dollar Index, 9iBoxx Investment Grade Corporate Bond Fund, 10PowerShares DB Oil, 11Barclays 20+ Year Treasury Bond, 12S&P 500 Index, 13PowerShares QQQ, 14Dow Jones Industrial Average

“High RS Index” is a proprietary Dorsey, Wright Index composed of stocks that meet a high level of relative strength.  The volatility of this index may be different than any product managed by Dorsey, Wright.   The “High RS Index” does not represent the results of actual trading.  Clients may have investment results different than the results portrayed in this index.  Performance for both the High RS Index and S&P 500 is price returns only.

What's Hot...and Not Disclosures

The performance above is based on total returns, but does not include transaction costs. This example is presented for illustrative purposes only and does not represent a past recommendation. Investors cannot invest directly in an index. Indexes have no fees. Past performance is not indicative of future results. Potential for profits is accompanied by possibility of loss.

High RS Asset Class Disclosures

The performance above is based on pure price returns, not inclusive of dividends or all transaction costs. This example is presented for illustrative purposes only and does not represent a past recommendation. Investors cannot invest directly in an index. Indexes have no fees. Past performance is not indicative of future results. Potential for profits is accompanied by possibility of loss.

Fund Flows Disclosures

This example is presented for illustrative purposes only and does not represent a past recommendation.

High RS Diffusion Index Disclosures

The index above is based on pure price returns, not inclusive of dividends or all transaction costs. This example is presented for illustrative purposes only and does not represent a past recommendation. Investors cannot invest directly in an index. Indexes have no fees. Past performance is not indicative of future results. Potential for profits is accompanied by possibility of loss.

Relative Strength Spread Disclosures

The index above is based on pure price returns, not inclusive of dividends or all transaction costs. This example is presented for illustrative purposes only and does not represent a past recommendation. Investors cannot invest directly in an index. Indexes have no fees. Past performance is not indicative of future results. Potential for profits is accompanied by possibility of loss.

The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of Nasdaq, Inc.

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