In this article I made the argument that at that time we really are at a critical juncture in the stock market.  Every once in a while a critical “line in the sand” is drawn and which side of the line the market sits has significant implications for future price direction and for investors in general.  The Feb-March 2018 consolidation is one of those times (at least it seems that way in my market addled brain).

Figure 1 below is the same Figure 1 from the previous article with one more day of data added.  On the last day in the chart the stock market opened sharply lower and the whole thing pretty much seemed to hang in the balance.  From there the market rallied sharply higher for the remainder of the day.Figure 1 – Major indexes bounce (Courtesy AIQ TradingExpert)

This reminds me of one of my favorite phrases:

*That which does not kill us only serves to make us stronger.

For the market is more like this:

Jay’s Trading Maxim #44: That decline which severely tests, but does not violate, a crucial support level only serves to make that support level stronger.

So “Happy Days are here again?”  Well, um, there’s the rub.  With the stock market it’s never fully possible to “declare victory”, because this time could always be different and everything can change tomorrow.  The bottom line is that I do not possess the ability to “predict” what will happen next in the market.  But here is what I do (think I) know.  The Feb-March lows are a crucial “line in the sand”.

So what follows is a handy guide for investors:

*Major Indexes remain above Feb-March Lows = GOOD

*Major Indexes drop below Feb-March Lows = BAD (in fact, possibly VERY BAD)

Since yesterday was something of a victory for the “clinging to the side of the ship” bulls let’s let the bullish flag fly.  Below are two “bullish outlook” charts along with the links to the original articles that appeared on www.McVerryReport.com.

Figure 2 compares the market movement from the breakout in 2013 to previous bull runs.  This chart suggests that the current bull market could still have a long ways to go.Figure 2 – 1950, 1980 and 2013 breakouts (Source: HORAN Capital Advisors)

Figure 3 makes an Elliott Wave argument for the S&P 500 Index to soar from here.

Figure 3 – The case for SPX 3070 (Source: deflationland.blogspot.com)

For the record, I don’t necessarily agree or disagree, endorse nor disavow the analysis in these charts.  I am merely pointing out that as long as support holds – and as long as an investor stands ready to take defensive action if things go south – there is no reason not to focus on “upside potential.”

So Yippee Kyay!

Alright, enough of this bullish revelry.  I need to get back to being paranoid… because the reality remains that the party could end as early as today.

Vigilance, people, vigilance.

Jay Kaeppel

 Disclaimer:  The data presented herein were obtained from various third-party sources.  While I believe the data 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.  The information, opinions and ideas expressed herein are for informational and educational purposes only and do not constitute and should not be construed as investment advice, an advertisement or offering of investment advisory services, or an offer to sell or a solicitation to buy any security.

There are times when the market just moves along from day-to-day and us “junkies” might hang on every move but to the average investor what happens today or tomorrow is really not all that meaningful in the whole big spectrum of things.

And then there are times like now.  As you can see in Figure 1, the major market indexes are struggling and are testing their respective 200-day moving averages.  How this “dance” plays out may have important implications for virtually all stock market investors.

(click to enlarge)Figure 1 – Major indexes “on the edge” (Courtesy AIQ TradingExpert)

First off let me say this: There is nothing “magic” about a 200-day moving average.  It was interesting that the other day when the S&P 500 Index closed below its 200-day average (it was the only major index to do so) roughly 22,367 articles appeared on the internet sounding the alarm.  Now I do pay a lot of attention to moving averages, but more to get a sense of trend than as automatic buy and sell triggers.  Which leads me to invoke:

Jay’s Trading Maxim #81: Contrary to popular belief, a price drop below a “key” moving average does NOT imply the onset of immediate and total Armageddon.

And

Jay’s Trading Maxim #81a: Um, but it could. So best to pay attention.

3 Possibilities

Actually there are a few others but the most likely outcomes – and the implications – are:

1. A reversal back to the upside – If the major averages hold here above their recent lows.  If this happens a strong rally to the upside is a strong possibility. Which is one reason it is too soon to “jump ship.”

2. A breakdown by all major indexes – If a majority of the major indexes break down below their recent lows investors are urged to take defensive measure.  Whether that involves selling shares/funds/ETFs/etc or hedging with options and/or inverse products is up to each investor.

3. A whipsaw – One other dreaded possibility involves both of the above – i.e., the average break down far enough briefly to trigger a defensive action only to quickly reverse back to the upside. This often leaves a lot of investors standing there dumbstruck and unable to pull the trigger to get back in.

Like I said, this is a critical juncture.  Whatever happens, investors need to pay attention and stand ready to, a) do nothing, or, b) take defensive action, or, c) take defensive action and then undo the defensive action and get bullish again (in the event of a whipsaw).

Steady, people, steady….

Jay Kaeppel

Disclaimer:  The data presented herein were obtained from various third-party sources.  While I believe the data 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.  The information, opinions and ideas expressed herein are for informational and educational purposes only and do not constitute and should not be construed as investment advice, an advertisement or offering of investment advisory services, or an offer to sell or a solicitation to buy any security.

A glance at the history of the Presidential Election Cycle in the stock market suggests that we should:

*Not be surprised that the stock market is foundering a bit at the moment

*Not be terribly surprised if things get worse – particularly during the months of June through September of this year

*Anticipate that if the market does take a bigger hit in the months ahead that it may well set the stage for another significant advance into the middle of the mid-term election year.

A Little Presidential Election Cycle History

For our purposes we will start the test on 12/31/1932 and define the cycle as containing the following four years:

*Post-Election

*Mid-Term

*Pre-Election

*Election

First the Bad News: Figure 1 displays the growth of $1,000 invested in the S&P 500 Index (using monthly closing price data) ONLY from the end of January of each Mid-Term Election Year through the end of September of each Mid-Term Election Year (i.e., the latest iteration began on 1/31/2018 and will extend through 9/30/2018).Figure 1 – Growth of $1,000 invested in S&P 500 Index ONLY from Jan31 through Sep30 of each Mid-Term Election Year (1932-2018)

As you can see, the cumulative performance for the S&P 500 Index during the Mid-Term February through September period is a fairly painful -44.3% (for the record, the cumulative gain from buying and holding the S&P 500 from 12/31/1932 through 2/28/2018 was +39,288%, so yes, this qualifies as a period of some serious under performance).

That being said, it should be noted that this Mid-Term Feb through Sep period showed a gain 12 times and a loss only 9 times.  So a “rough patch” is no sure thing. The problem is that when this period is bad, it is “very bad”.  As you can see in Figure 3 later, this period experienced 6 losses in excess of -17.5% (FYI, a -17.5% decline from the 1/31/2018 close of 2823.81 would see the S&P 500 Index hit 2330).

Then the Good News: On the brighter side, Figure 2 displays the growth of $1,000 invested in the S&P 500 Index (using monthly closing price data) ONLY from the end of September of each Mid-Term Election Year through the end of July of each Pre-Election Year (i.e., the latest iteration begins on 9/30/2018 and will extend through 7/31/2019).Figure 2 – Growth of $1,000 invested in S&P 500 Index ONLY from Sep30 of each Mid-Term Election Year through Jul31 of each Pre-Election Year (1932-2018)

Notice any difference between Figures 1 and 2?  This favorable period saw the S&P 500 register a gain during 20 of the past 21 completed election cycles (i.e., 95% of the time), with an average gain of +21.6%, and a cumulative gain of +3,730%.

Figure 3 displays the numerical results for each cycle.

Figure 3 – Unfavorable versus Favorable portions of Election Cycle

Summary

So what does it all mean?  Well, it means a few things. By my objective measurements the overall trend is still “bullish” and a number of “oversold” indicators are suggesting that a bounce of some significance may be at hand.  That being said, if the major market indexes do start to break down below their respective 200-day moving averages investors may be wise to take some defensive action.  If the market does experience a further break between now and the end of September, it may well be “one of the painful kind.”  So if you haven’t already, make your contingency plans now.Figure 4 – Major Market Indexes with 200-day moving averages (Courtesy AIQ TradingExpert)

At the same time, as the end of September of 2018 nears – especially if the stock market has experienced or is experiencing at the time, a significant break – remember that history suggests that that will be a good time to “think bullish.”

Call me a cynic, but my guess is that alot of investors will do exactly the opposite on both counts (i.e., hang on if the market breaks down and then sell as the next bottom forms – Same it as ever was….)

Jay Kaeppel

Disclaimer:  The data presented herein were obtained from various third-party sources.  While I believe the data 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.  The information, opinions and ideas expressed herein are for informational and educational purposes only and do not constitute and should not be construed as investment advice, an advertisement or offering of investment advisory services, or an offer to sell or a solicitation to buy any security.

Actually just a quick update here to highlight the power of an “adjustment” in an option position.

In this article I highlighted an example trade in the Euro.

Then in this article I highlighted an example of one way to adjust the original position after a quick profit had accumulated.

Now let’s bring it up to date. 2 days later:

*The original option position has gone from an open profit of +$1,320 (or+52%) to a profit of $240 (or+9.5%). In addition, this trade still has a maximum risk of -$2,520 (See Figure 1).

Figure 1 – FXE original position after 2 days of decline from 3/26 short-term top (Courtesy www.OptionsAnalysis.com)

The adjusted option position has an open profit of +$1,070 and the worst case is a minimum profit of +$725 (See Figure 2).Figure 2 – FXE adjusted position (Courtesy www.OptionsAnalysis.com)

Summary

These examples are not intended to highlight any timing ability on my part, especially since they are all entirely hypothetical trades. Also, nothing has been decided yet – i.e., if FXE rallies from here the original trade might well end up outperforming the adjusted trade.

However, the point of these examples is to highlight:

*The potential advantages of trading options instead of the underlying shares

*The potential benefits of adjusting an existing option position

With the original trade the pressure is still on the trader.  First the trader had a 50%+ profit in less than a week and now much of that open profit has evaporated. This is challenging psychologically (albeit part and parcel to trading in general).  Also, there is still a lot of risk associated with this trade – i.e., a loss of $-2,520 is still a possibility if FXE declines in price.

On the other hand, with the adjusted position the pressure mostly “off.” In essence, the trader holding the adjusted position is now playing with the “house money.”  While the adjusted position retains unlimited profit potential, the worst thing that can happen is that the position loses -$345 from here and ends up generating a locked in profit of +$725.

Taking the pressure off, letting a profit run, and enjoying a locked in profit “ain’t bad work if you can get it.”  Fortunately for option traders, quite often, you can.  Which leads me to invoke:

Jay’s Trading Maxim #96: Being able to sleep at night is NOT overrated.

Jay Kaeppel

Disclaimer:  The data presented herein were obtained from various third-party sources.  While I believe the data 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.  The information, opinions and ideas expressed herein are for informational and educational purposes only and do not constitute and should not be construed as investment advice, an advertisement or offering of investment advisory services, or an offer to sell or a solicitation to buy any security.

In this article on 3/20 I highlighted an example trade in the Euro.  More specifically, I highlighted a hypothetical trade using options on ticker FXE that was designed to take advantage of a bullish Elliott Wave count generated by ProfitSource by HUBB (which has a built in algorithm for making such calculations – for better or worse, it is better than what I would come up with on my own).

Figure 1 – FXE with Elliott Wave Count (Courtesy ProfitSource by HUBB)

If you have traded at all then you know that sometimes “ideas” work out great and sometimes they crash and burn, and then of course there is every possibility in between. The real key to long-term success is to have a plan to cover every contingency, i.e., a profit-taking plan for when things work out and a stop-loss plan for when they don’t.

When Things Go Right

The hardest part in achieving trading success is often maintaining the discipline to follow your plan.  I didn’t really list out a full “plan” for the trade in the original article.  The general goal was for FXE to rise to the projected price of $122 a share or higher as projected by ProfitSource.

The original trade setup involved buying the FXE Apr20 115 calls at $3.15.  For the purposes of this trade we will assume that we bought 8 calls for $2,520 ($315 x 8).

As of 3/26/18 FXE had risen from 117.78 to $119.72 and the option position had a profit of $1,320, or 52.4%.  See Figure 2.

Figure 2 – FXE Apr20 115 calls w/open profit (www.OptionsAnalysis.com)

So the current situation raises the interesting question of “what to do when things go right”?  There are several potential courses of action:

1) Do nothing and hope that FXE continues higher to the target price of $122

2) Take the profit and move on

3) Adjust the existing position

In a perfect world, this decision would already be spelled out in a trading plan.  But since we are where we are let’s look at one possibility in terms of “adjusting” this position.

Adjusting FXE Call Position

For the purposes of this example, we will set the two following priorities:

*Locking in a profit

*Adding more time for FXE to move higher

So we will make the following adjustment:

*Sell 8 FXE Apr20 115 calls @ $4.80

*Buy 4 FXE Jun15 120 calls @ $1.81

*Sell 3 FXE Jun15 124 calls @ $0.43

The particulars appear in Figure 3 and the adjusted risk curves appear in Figure 4.

Figure 3 – FXE Adjusted Trade (Courtesy www.OptionsAnalysis.com)

Figure 4 – FXE Adjusted Risk Curves (Courtesy www.OptionsAnalysis.com)

This adjustment:

*Gives us 56 more calendar days for FXE to move (now long June options instead of April

*Locks in a minimum profit of $725

*Retains unlimited profit potential

An important note for traders: If you entered this trade with the idea of playing for a move to $122 by FXE then the proper course of action might well be to “let it ride”, as the original trade has more profit potential.  The key tradeoff in the adjustment above is giving up some upside potential in order to eliminate the risk of loss (and to extend the trade to a longer time frame).

Whether or not this is the proper move to make is in the eye of the beholder.

Jay Kaeppel

Disclaimer:  The data presented herein were obtained from various third-party sources.  While I believe the data 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.  The information, opinions and ideas expressed herein are for informational and educational purposes only and do not constitute and should not be construed as investment advice, an advertisement or offering of investment advisory services, or an offer to sell or a solicitation to buy any security.

In this article I highlighted an example trade in the Euro.  More specifically, I highlighted a hypothetical trade using options on ticker FXE that was designed to take advantage of a bullish Elliott Wave count generated by ProfitSource by HUBB (which has a built in algorithm for making such calculations – for better or worse, it is better than what I would come up with on my own).

Figure 1 – FXE with Elliott Wave Count (Courtesy ProfitSource by HUBB)

If you have traded at all then you know that sometimes “ideas” work out great and sometimes they crash and burn, and then of course there is every possibility in between. The real key to long-term success is to have a plan to cover every contingency, i.e., a profit-taking plan for when things work out and a stop-loss plan for when they don’t.

When Things Go Right

The hardest part in achieving trading success is often maintaining the discipline to follow your plan.  I didn’t really list out a full “plan” for the trade in the original article.  The general goal was for FXE to rise to the projected price of $122 a share or higher as projected by ProfitSource.

The original trade setup involved buying the FXE Apr20 115 calls at $3.15.  For the purposes of this trade we will assume that we bought 8 calls for $2,520 ($315 x 8).

As of 3/26/18 FXE had risen from 117.78 to $119.72 and the option position had a profit of $1,320, or 52.4%.

So the current situation raises the interesting question of “what to do when things go right”?  There are several potential courses of action:

Do nothing and hope that FXE continues higher to the target price of $122

Take the profit and move on

Adjust the existing position

In a perfect world, this decision would already be spelled out in a trading plan.  But since we are where we are let’s look at one possibility in terms of “adjusting” this position.

Adjusting FXE Call Position

For the purposes of this example, we will set the two following priorities:

Locking in a profit

Adding more time for FXE to move higher

So we will make the following adjustment:

Sell 8 FXE Apr20 115 calls @ $4.80

Buy 4 FXE Jun15 120 calls @ $1.81

Sell 3 FXE Jun15 124 calls @ $0.43

The particulars appear in Figure 2 and the adjusted risk curves appear in Figure 3.

Figure 2 – FXE Adjusted Trade (Courtesy www.OptionsAnalysis.com)

Figure 3 – FXE Adjusted Risk Curves (Courtesy www.OptionsAnalysis.com)

This adjustment:

Gives us 56 more calendar days for FXE to move

Locks in a minimum profit of $725

Retains unlimited profit potential

An important note for traders: If you entered this trade with the idea of playing for a move to $122 by FXE then the proper course of action might well be to “let it rise”, as the original trade has more profit potential.  The key tradeoff in the adjustment above is giving up some upside potential in order to eliminate the risk of loss (and to extend the trade to a longer time frame).

Jay Kaeppel

Disclaimer:  The data presented herein were obtained from various third-party sources.  While I believe the data 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.  The information, opinions and ideas expressed herein are for informational and educational purposes only and do not constitute and should not be construed as investment advice, an advertisement or offering of investment advisory services, or an offer to sell or a solicitation to buy any security.

2018 sure was a great year for the stock market.  For almost a month anyway.  Since then, not so much.  And on the heels of last week’s selloff a lot of pundits and prognosticators are suggesting more loudly that the Great Bull Run is dead. And maybe they are right.  But maybe not.

It is almost always a mistake to hang your hat on one indicator to guide your actions going forward.  But at the same time, sometimes one indicator generates a signal so clear it perhaps should grab your attention.  Let’s look at one that is on the verge of sending an important signal.

The VixRSIRatio Indicator

This is an indicator that I developed a number of years ago by basically – I am going to use some highly technical terms here to describe the process I followed so please try to stay with me – mashing together several other indicators from other people.  If you are interested in the actual calculations they appear at the end of the article.  For now, just know that I refer to it as VixRSIRatio.  As I follow it, it gives meaningful signals very infrequently.  But that is OK as the signals it does give often prove to be useful.

For our purposes we will apply it to ticker SPY – an ETF that tracks the S&P 500 Index. The rule is simple:

*A “Bullish Alert” occurs when VixRSIRatio drops to -210 or below and then turns up.

That’s it. Now please note the use of the phrase “Bullish Alert” and the lack of the words “You”, “Can’t” and “Lose”, as well as the lack of the phrase “by putting all of your money in the market at the exact moment a signal occurs.”

This is key.  Also note that there is nothing “magic” about the value -210. Nothing scientific about it. It just seems like a useful cutoff.  Now let’s look at the “Bullish Alert” signals in recent years.  They appear in Figures 1 through 4.Figure 1 – Jay’s VixRSIRatio; 2014-2018 (Courtesy AIQ TradingExpert)

Figure 2 – Jay’s VixRSIRatio; 2010-2013(Courtesy AIQ TradingExpert)

Figure 3 – Jay’s VixRSIRatio; 2006-2009 (Courtesy AIQ TradingExpert)

Figure 4 – Jay’s VixRSIRatio; 2001-2005 (Courtesy AIQ TradingExpert)

As you can see in Figures 1 through 4:

a) Readings below -210 tend to be followed by – at the least – decent trading opportunities.

b) Often these readings presage significant market advances

c) And alas, sometimes the signals come too soon and/or are not followed by much of an advance.

The Here and Now

As of 3/23/18 the VixRSIRatio for ticker SPY stood -354.  So clearly “Buy Alert” is at hand.  So the obvious question is “What comes next”?  Will it be a, b, or c above?

As always, time will tell.

Calculations

In a nutshell, VixRSIRatio combines Larry Williams’ Vixfix indicator with Welles Wilder’s 3-day and 14-day RSI indicators to create two more indicators – VixRSI3 and VixRSI14.  We then divide VixRSI3 by VixRSI14 and invert the whole thing (so that we get an indicator that gives negative readings when the market goes down).

Now you see why I put this at the end….

Below is the code for AIQ Expert Design Studio

############## Larry Williams Vixfix #################

xx is 15.

hivalclose is hival([close],22).

vixfix is (((hivalclose-[low])/hivalclose)*100)+50.

############ Welles Wilder RSI 3-day ##############

Define days3 5.

U3 is [close]-val([close],1).

D3 is val([close],1)-[close].

AvgU3 is ExpAvg(iff(U3>0,U3,0),days3).

AvgD3 is ExpAvg(iff(D3>=0,D3,0),days3).

RSI3 is 100-(100/(1+(AvgU3/AvgD3))).

############ Welles Wilder RSI 14-day ##############

Define days14 27.

U14 is [close]-val([close],1).

D14 is val([close],1)-[close].

AvgU14 is ExpAvg(iff(U14>0,U14,0),days14).

AvgD14 is ExpAvg(iff(D14>=0,D14,0),days14).

RSI14 is 100-(100/(1+(AvgU14/AvgD14))).

############Jay’s VixRSIRatio ##############

VixRSI3 is expavg(vixfix,3)/expavg(RSI3,3).

VixRSI14 is expavg(vixfix,3)/expavg(RSI14,3).

VixRSIRatio is -((((VixRSI3/VixRSI14)-1)*100)-50).

Jay Kaeppel

Disclaimer:  The data presented herein were obtained from various third-party sources.  While I believe the data 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.  The information, opinions and ideas expressed herein are for informational and educational purposes only and do not constitute and should not be construed as investment advice, an advertisement or offering of investment advisory services, or an offer to sell or a solicitation to buy any security.

A huge question mark these days is “Which way the dollar”?  Figure 1 displays ticker UUP – an ETF that tracks the U.S. Dollar.  The top clip shows the weekly bar chart and the bottom clip shows the daily bar chart.  Both charts also show the current Elliott Wave count as calculated by ProfitSource by HUBB.Figure 1 – Ticker UUP (Courtesy ProfitSource by HUBB)

As you can see in the top clip, the weekly count appears to be close to completing 5 waves down with the daily count suggesting there is a little further to go on the downside.

Now here is one important thing to note: Elliott Wave counts don’t always work out as drawn (even if using an objective mathematical methodology like HUBB’s that I personally like a lot). Shocking, right?  So let’s take a look across “currency land” and see where things stand at the moment.Figure 2 – FXA (Courtesy ProfitSource by HUBB)

Figure 3 – FXB (Courtesy ProfitSource by HUBB)

Figure 4 – FXC (Courtesy ProfitSource by HUBB)

Figure 5 – FXE (Courtesy ProfitSource by HUBB)

Figure 6 – FXY (Courtesy ProfitSource by HUBB)

The Euro (ticker FXE)

Because it is the most heavily traded, let’s focus on the Euro. In Figure 5 we see that the EW count is projecting a move to at least 122 for ticker FXE by Apr 6.  With the caveat that this is NOT a recommendation, let’s look at two ways to play such a move.

Play #1 – Buy 100 shares of FXE

As I write, FXE is trading at $117.78, so to buy 100 shares would cost $11,778. A rise to $122 a share would produce a gain of $422, or +3.6%.

Play #2 – Buy a Call option on FXE

There are a lot of options to choose from, and there is NOT one best choice. Buying out of the money costs less and gives you more leverage but also has the highest likelihood of expiring worthless.  So we will consider an in-the-money call options as something of a “stock replacement” strategy.

Buy 1 Apr20 FXE 115 call @ $3.15

This trade costs $315 to enter (versus $11,778 to buy the share).  The particulars appear in Figure 7 and the risk curves in Figure 8.

Figure 7 – FXE call (Courtesy www.OptionsAnalysis.com)

Figure 8 – FXE Call (Courtesy www.OptionsAnalysis.com)

This trade has a “delta” of 92.83, which means that it will emulate a position of long 93 shares of FXE.  The breakeven price is $118.15.  If FXE is at any price below that at option expiration this trade loses money.

If FXE reaches $122 this call will be worth at least $700, a profit of 122% on an investment of $315.  Of course, if FXE falls apart instead the entire $315 could be lost.

Summary

Does the U.S. Dollar have another down leg in the offing?  And if so, will currencies such as the Euro rally?  It beats me.  As such, remember that I am not “recommending” this trade nor suggesting that it will generate a profit.

But if he U.S. Dollar experiences one more down leg there is an opportunity for traders. The key – as always – is to consider the trade off between reward and risk.

Jay Kaeppel

Disclaimer:  The data presented herein were obtained from various third-party sources.  While I believe the data 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.  The information, opinions and ideas expressed herein are for informational and educational purposes only and do not constitute and should not be construed as investment advice, an advertisement or offering of investment advisory services, or an offer to sell or a solicitation to buy any security.

“Sell in May” was first popularized by Yale Hirsch of The Stock Trader’s Almanac over four decades ago. At this point there are several versions of this method – Sell at the end of April, sell after the 3rd day of May, sell at the end of May, sell after April 1^st when the MACD indicator turns negative, and so on.

The Alpha Dow Method

In this piece we will focus on one of the simplest versions – six months in the market, six months out, no exceptions to the rule.  This particular version of “Sell in May” – which I will refer to as the “Alpha Dow Method (or ADM for short) – was introduced to me by Dr. Jerry Minton of Alpha Investment Management, Inc. and it doesn’t get much simpler.  The rules are:

*Buy and hold the Dow Jones Industrial Average from November 1^st through April 30^th.

*Buy and hold the Barclay’s Intermediate Treasuries Index (which hold treasuries of the 3-yr. to 7-yr. variety) from May 1st through October 31^st.

The Data Used

The first month for which I have data available for both indexes is January 1973, so we will start our test there.  Please note that from January 1973 through September 1987 we use price only data for the Dow and total return data for the Barlcay’s Index.  Starting in October 1987 we use total return data for both the Dow and Barclay’s.  As such, it should be noted that all returns presented are strictly hypothetical and not based on any actual trading.

The Results

Let’s start with the picture then look at the numbers.

Figure 1 displays growth of $1,000 invested using the Alpha Dow Method (blue line) versus simply buying-and-holding the Dow Jones Industrial Average (red line).Figure 1 – Growth of $1,000 using the Alpha Dow Method (blue) versus buying-and-holding the Dow Jones Industrial Average (red); 12/1972-2/2018

In sum, cumulative gains from 12/31/72 through 2/28/18 were:

*The Alpha Dow Method = +18,819%

*Dow Jones Industrial Average = +5,229%

*Barclays Treasury Intermediate Index = +1,725%

Again, please note that these are hypothetical numbers based on index data and not on real trading.

While cumulative gains are important, from a trading standpoint it is also essential to have an understanding the ebb and flow of returns over different periods of time. So let’s look separately at 1-yr, 5-year and 10-year returns.

Figure 2 displays the data from look at all rolling 12-month returns.

Figure 2 – Rolling 12 month returns

Key things to note: Average annual gain of 13.3%, a 12-month gain 88%of the time (versus only 76% for buy-and-hold) and outperformed buy-and-hold 54% of the time.

Figure 3 displays the data from look at all rolling 5-Year returns.

Figure 3 – Rolling 5-year returns

Key things to note: Average 5-year gain 30% higher than buy-and-hold (90.1% versus 68.9%), a 5-year gain 99.8% of the time (versus only 92% for buy-and-hold) and outperformed buy-and-hold 77% of the time.

Figure 4 displays the data from look at all rolling 5-Year returns.

Figure 4 – Rolling 10-year returns

Key things to note: Average 10-year gain 44% higher than buy-and-hold (277.4% versus 192.5%), a 10-year gain 100% of the time (versus only 92% for buy-and-hold) and outperformed buy-and-hold 96% of the time.

Summary

This blog does not make “recommendations” so I am not suggesting that you adopt this particular strategy.  As always, past performance does not guarantee future results. The stock market gained over 5,000% during the past 45 years and the bond market was in the thrall of declining interest rates for most of the past 30 years. A different environment in future years could lead to very different results.

Still it is interesting to note the impressive trade off between performance and simplicity.

Jay Kaeppel

Disclaimer:  The data presented herein were obtained from various third-party sources.  While I believe the data 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.  The information, opinions and ideas expressed herein are for informational and educational purposes only and do not constitute and should not be construed as investment advice, an advertisement or offering of investment advisory services, or an offer to sell or a solicitation to buy any security.

Sometimes an idea sounds very sensible but doesn’t end up looking so great in practice.  And some ideas work out great in practice (caveat: at least for awhile) but don’t necessarily make a lot of sense.

Today, let’s consider one in the latter category.

First off, did you know that there is an investment “category” known as “European Small-Cap Dividend”?  Neither did I.  But there is.  That might just be because the marketing people stay up late thinking up new “investment categories”, but no matter.  There is an ETF by the ticker symbol of DFE.  It is the WisdomTree Europe Small-Cap Dividend ETF.

This ETF holds a portfolio that tracks an index known – not coincidentally – as the WisdomTree Europe SmallCap Dividend Index.  According to www.ETFDB.com (a terrific website by the way for ETF investors), “The WisdomTree Europe SmallCap Dividend Index is a fundamentally weighted index that measures the performance of the small-capitalization segment of the European dividend-paying market. The Index is comprised of the companies that compose the bottom 25% of the market capitalization of the WisdomTree Europe Dividend Index after the 300 largest companies have been removed. Companies are weighted in the Index based on annual cash dividends paid.”

Got that?

Overall Performance

Ticker DFE started trading in July 2006 and overall results have been, um, “meh.”  Figure 1 displays the growth of $1,000 invested in DGE on a buy and hold basis versus the S&P 500 Index.Figure 1 – Buy-and-Hold DFE versus SPX (7/2006-2/2018)

For the record, (using monthly total return data) buying and holding since July 2006:

*DFE gained +124% versus +174% for SPX

*DFE median 12 months = +9.2% versus median 12 months = +14.4% for SPX

*DFE maximum drawdown = -65.7% (ouch!) versus -50.9% for SPX

So no great shakes right?  But a weird thing happens if we break out certain months.

Seasonally Favorable Months for DFE

First the caveats: The results that follow are derived with the benefit of hindsight so no assumption should be made that they will hold true ad infinitum into the future. Also – as always – I am not “recommending” that anyone adopt what follows as a strategy. It is presented simply as “information” regarding an interesting (and quite frankly – unexplainable) trend.

*Favorable months for DFE = Feb/Mar/Apr/Jul/Dec (i.e., hold DFE only during same 5 months every year)

*All other months are considered “Unfavorable” (i.e., do NOT hold DFE during these months)

Figure 2 displays the growth of $1,000 invested in DFE ONLY during the “Favorable Months” of February, March, April, July and December (blue line), versus holding the S&P 500 Index during those same months (red months).Figure 2 – Growth of $1,000 invested during “Favorable Month” ONLY; DFE versus SPX (7/2006-2/2018)

For the record, during the “Favorable Months”:

*DFE gained +379% versus +221% for SPX

*DFE median 12 months = +17.1% versus median 12 months = +7.5% for SPX

*DFE maximum drawdown = -6.7% versus -13.4% for SPX

What about the “unfavorable” periods?  DFE has lost over -50% during those months since 2006 as shown in Figure 3.

Figure 3 – Unfavorable months for DFE (7/2006-2/2018)

Summary

So is there a viable strategy here?  The answer to that question would appear to be “it’s in the eye of the beholder.”  The results to date of investing in “Europe Small-Cap Dividend” stocks during 5 favorable months look pretty good.

But does it make sense?  I leave it to you the reader to decide for yourself.

Jay Kaeppel

Disclaimer:  The data presented herein were obtained from various third-party sources.  While I believe the data 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.  The information, opinions and ideas expressed herein are for informational and educational purposes only and do not constitute and should not be construed as investment advice, an advertisement or offering of investment advisory services, or an offer to sell or a solicitation to buy any security.

When semiconductors go, they really ”go.”  Unfortunately, when they tank, they really “tank”.  Even a quick glimpse of Figure 1 makes this quite obvious.  Figure 1 displays ticker SMH – an ETF that tracks and index of semiconductor stocks.  It displays a lot of “swooping” and “soaring” – with a distinct emphasis on (searing?) “soaring” in recent years.Figure 1 – Ticker SMH

So the obvious questions are:

a) “Are things a bit overdone on the upside?”

b) “What comes next?”

Unfortunately, because I am not very good at “predicting” things, I personally can provide only my stock answers of:

a) Maybe (OK, probably)

b) It beats me

But let’s not stop right there.  Let’s consider the seasonality of semi stocks.

FSELX Bull/Bear Months

For testing purposes we will use ticker FSELX (Fidelity Select Electronics) which started trading in 1986.

We will refer to the November 1^st through May 31^st period as the “bullish” months, and;

To the June 1^st through October 31^st period as the “bearish” months.

Figure 2 displays the growth of $1,000 invested in ticker FSELX only during the “bearish” months since the fund started trading in 1986.Figure 2 – Growth of $1,000 invested in FSELX June through October (1986-2017)

$1,000 invested in ticker FSELX only during June through October declined -64% to $363.

Figure 3 displays the growth of $1,000 invested in FSELX only during the Nov. 1 through May 31^st period every year (blue line) versus simply buying and holding FSELX.Figure 3 – Growth of $1,000 invested in FSELX only during November through May (blue) versus buy and hold (red); (1986-present)

For the record:

*$1,000 invested in FSELX only during Nov 1 through May 31 grew +12,951% to $130,514 by the end of February 2018 (the gains to date during March 2018 are not included here).

*$1,000 invested in FSELX on a buy-and-hold basis grew by +4,638% to $47,383 during the same period.

Will semiconductor stocks (and correlated funds and ETFs) continue to rally through the end of May?  Stock answer time again: it beats me.  For the record, the March/Apr/May period combined has seen FSELX post a net gain 26 times in 32 years (81% of the time).

Jay Kaeppel

Disclaimer:  The data presented herein were obtained from various third-party sources.  While I believe the data 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.  The information, opinions and ideas expressed herein are for informational and educational purposes only and do not constitute and should not be construed as investment advice, an advertisement or offering of investment advisory services, or an offer to sell or a solicitation to buy any security.