In this article I wrote about the propensity for the month of October to be more problematic in the late part of a decade.
In this article I highlighted the fact that September tends to be weak when August ends with the Dow in a downtrend.
In this final installment we will put the two together.
The Purpose
I am no fan of just buying-and-holding forever in the stock market. While the market has advanced in the long run, a lot of a buy-and-hold investors success depends on when they start. If you start just prior to a major bear market or at the outset of a long sideways period (1927-1949, 1965-1982, 2000-2012) your results will not likely be what you had expected or hoped for.
Still, a lot of investors are not interested in the difficult game of timing the market. So, this short series is designed to give long-term investors some tools for helping increase long-term returns while still primarily remaining fully invested.
The Components
We will create a model that can read either -1 or 0
*If the current month is October AND the current year ends in “7”, “8” or “9” the Model = -1
*If the current month is September and if the Dow Jones Industrial Average closed August below its 10-month moving average of monthly closing prices the Model = -1
*Otherwise the Model = 0
Investment Rules
*If the Model = 0 we will hold the Dow Jones Industrial Average
*If the Model = -1 we will be out of the stock market (presumably in cash, money market or very short-term treasuries)
The Test
*When the Model = 0 we will assume the strategy gained or lost the amount (price only for these calculations, no dividends) the percentage gain or loss for the Dow that month
*When the Model = -1 we will assume no gain or loss for the month, just a flat result
NOTE: Theoretically dividends earned while in the market and interest earned while out of the market would inflate the results that follow. But I am not recommending an investment strategy per se, just providing food for thought. So, for the purposes of this test we are just measuring the effect of price movement for the Dow.
The Results
*We are running this test using month-end Dow price data from 12/31/1899 through 4/30/2020, a total of 1,444 months
*During this 120.33 year period the Model was -1 only 74 times, or 5% of the time
*In other words, we would be in the market 95% of the time and out only 5% of the time.
What do we gain for being out that 5% of the time?
It’s actually more about what we miss. Figure 1 displays the cumulative growth of equity achieved by holding the Dow Jones Industrial Average ONLY during those months when the Model as -1.
Figure 1 – Cumulative Dow price performance during months when Model = -1
*The net result was a loss of -91.2%.
Cumulative Growth of Equity:
*During Months when Model = 0: +568,172%
*During Months when Model = -1: (-91%)
*On a buy-and-hold basis: +50,191%
By sitting out 74 of 1,444 months we improve buy-and-hold results by a factor of 11.3-to-1.
Figure 2 displays the 10-year cumulative return for each approach.
Figure 2 – 10-Year Rolling % Return for Strategy, inverse strategy and Buy-and-Hold
Figure 3 displays the 10-year cumulative return for the Strategy versus buy-and-hold. Note that during the 1920’s. 1950’s, 1970’s and 1990’s there were time when buy-and-hold outperformed the Strategy.
Still, looking at 10-year rolling returns the Strategy outperformed buy-and-hold 82% of the time.
Figure 3 – Strategy 10-year return minus buy-and-hold 10-year return
Finally, Figure 4 divides the growth of $1,000 invested using the Strategy by $1,000 invested using buy-and-hold. Notice that over time this ratio slopes upper left to lower right. This tells us that getting out of the market every once in awhile using the rules listed above is resulting in a higher return
Figure 4 – Growth of $1,000 invested using Strategy divided by Growth of $1,000 invested using Buy-and-Hold
Summary
So, is this “World Beater, You Can’t Lose” investing? Not at all. Still it does point out that there may be simple ways to improve upon a simple buy-and-hold approach without trying to time every twist and turn in the market.
For the record, the strategy will remain fully invested until at least October of 2027 UNLESS the Dow closes a month of August below its own 10-month moving average of monthly closing prices (which it is presently in danger of doing in 2020), in which case the Strategy would get out of the stock market for the entire month of September before getting back in at the end of September.
Jay Kaeppel
Disclaimer: The information, opinions and ideas expressed herein are for informational and educational purposes only and are based on research conducted and presented solely by the author. The information presented represents the views of the author only and does not constitute a complete description of any investment service. In addition, nothing presented herein should be construed as investment advice, as an advertisement or offering of investment advisory services, or as an offer to sell or a solicitation to buy any security. The data presented herein were obtained from various third-party sources. While the data is believed to be reliable, no representation is made as to, and no responsibility, warranty or liability is accepted for the accuracy or completeness of such information. International investments are subject to additional risks such as currency fluctuations, political instability and the potential for illiquid markets. Past performance is no guarantee of future results. There is risk of loss in all trading. Back tested performance does not represent actual performance and should not be interpreted as an indication of such performance. Also, back tested performance results have certain inherent limitations and differs from actual performance because it is achieved with the benefit of hindsight.
